Sanctions and oil output cuts slow growth


SENSITIVE RISK for entreprise

  • Economic risk

  • Business environment risk

  • Political risk

  • Commercial risk

  • Financing risk

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GDP USD1,577bn (World ranking 11, World Bank 2017)
Population 145mn (World ranking 9, World Bank 2017)
Form of state Federation
Head of state Vladimir Vladimirovich PUTIN (President)
Next elections 2021, legislative
  • Abundant natural resources, in particular oil and gas
  • 21 years of continued current account surpluses (including the crisis years 2009 and 2015-2016)
  • Low public debt
  • Comfortable foreign exchange reserves
  • Far-reaching structural reforms still outstanding
  • High vulnerability to global oil price shocks
  • Prone to capital flight
  • Exchange rate remains vulnerable to volatility and sudden depreciation
  • Prolonged recession has adversely affected corporate profitability
  • Poor rule of law and high level of perceived corruption
  • Geopolitical risks: Conflict with Ukraine and serious dispute with the West over that conflict (including sanctions and counter-sanctions). Also involved in Syria crisis

Meager growth outlook

Real GDP growth markedly decelerated to just +0.5% y/y in Q1 2019, after it had risen to +2.7% y/y in Q4, which had taken annual growth to a six-year high of +2.3% in 2018. The supply-side breakdown revealed sharp output declines in Q1 for real estate activities (-3.5% vs. +0.3% in Q4), administrative & support services (-2.8% vs. +2.9%) and wholesale and retail sales (-3% vs. +2.2%). The latter was significantly due to the wholesale cluster as large traders increased stocks ahead of the VAT hike at the start of 2019. But the expansion of retail sales has also been impacted by the VAT rise, slowing from +2.7% y/y in Q4 to +1.9% in Q1 and +1.5% in April-May, thus not boding well for consumer spending in H1 2019. Meanwhile, industrial production growth experienced a roller­coaster ride. After surging from +2.1% y/y in Q1 to +4.6% in April, it fell back to +0.9% in May. And the manufacturing PMI fell to an 11-month low of 48.6 points in June 2019. Industrial activity has been slowed by weaker external demand; lower oil production due to output cuts agreed by OPEC, Russia and other major oil exporters; and higher financing costs, in part due to new U.S. sanctions introduced since 2018. Going forward, economic growth is expected to remain subdued and come in at about +1.3% in full-year 2019 and +1.5% in 2020.

In the medium to longer term, ongoing Western sanctions and, perhaps more importantly, persistent structural rigidities are likely to continue to curtail Russian growth prospects. These include the high dependence of the economy on commodities, notably the extraction of hydrocarbons, but also the large footprint of the state in the economy, as well as a still weak business environment. The hydrocarbons sector accounted for approximately 60% of merchandise exports and 30% of government revenues in 2018, much higher shares than in the year 2000. And the IMF has recently estimated that the Russian state has a share of 33% in GDP and 38% in formal value added. One reason is that state-owned enterprises continue to have a predominant role in the economy. Regarding the business environment, the World Bank’s Worldwide Governance Indicators 2018 survey suggests that regulatory quality (rank 141 out of 206 economies), rule of law (rank 163) and percep­tions of corruption (rank 173) remain areas of serious concern in Russia. Moreover, there has been hardly any improvement in these areas over the past decade and Russia is now trailing peer countries.

Prudent economic policies

Cautious and well-tuned economic policies provide some cushion against new sanctions in the near term. These include monetary policy credibility, diligent fiscal policy and export diversification. Furthermore, the Russian government is supposedly pursuing the de-dollarization of the economy. A reduced dependence on the USD would lower the vulnerability to external shocks; however, implementation is not easy and will take time.

In the aftermath of the currency crisis and the resulting surge in inflation in 2014-2015, the Central Bank of Russia (CBR) embarked on a credible inflation targeting regime under Governor Elvira Nabiullina. Monetary policy was gradually eased in line with falling inflation until mid-2018. When inflation expectations began to rise again due to the anticipated VAT hike in 2019, policy interest rates were pre-emptively hiked from September 2018. Then, in June 2019, the CBR changed course again and cut its key policy interest rate by 25bp to 7.50%, citing slowing inflation and the weak economic growth in H1 2019 for its move. Crucially, the policy rate is still well above the inflation rate (5.1% y/y in May). Governor Nabiullina has also shut down many nonviable banks, though more needs to be done on this end. Overall, the CBR enjoys today a high degree of independence and credibility, especially as compared to peer countries.

Nonetheless, currency risk remains on the agenda, although an equally steep RUB depreciation as in 2015 (-59% vs. the USD on average) is highly unlikely until end-2020. But after rebounding by +13% in 2017, the RUB lost -8% again in 2018 and -4% in H1 2019, mainly responding to sharp oil price moves or disturbing political events, including new sanctions.

Fiscal policy has been diligent in recent years. In the wake of the currency crisis and recession in 2015-2016, Russian authorities have prioritized financial stability over economic growth. Public spending growth has remained modest (+2.5% peak in 2017, +0.9% in 2018) so that government expenditure in Russia is still fairly moderate as compared to other countries, accounting for around 35% of GDP. This is, for example, similar to the ratio in China but lower than in South Africa (39%), Poland (41%), Hungary (47%) or the EU average (46%). Russia’s fiscal balance shifted back into a surplus in 2018 (+2.8% of GDP) and should also post (smaller) surpluses in the next two years. At the start of 2019, the government increased the VAT rate from 18% to 20%, a step in the right direction in order to diversify its fiscal income base and reduce its vulnerability to global commodity prices. And in H1 2019, Russia has issued more debt than needed, apparently in a pre-emptive stockpiling as the threat of further U.S. sanctions is looming. Overall public debt is still low, estimated at 14% of GDP in 2018, and should remain in check in the next few years.

External liquidity position solid, by and large

Despite the oil price slump in 2014-2016, Russia’s current account remained in surplus, though it narrowed to +1.9% of GDP in 2016. As oil prices recovered, the surplus widened to +7% of GDP in 2018. We expect solid, albeit somewhat smaller external surpluses to be maintained in the next two years.

Meanwhile, annual net capital outflows of the private sector increased again from a low of -USD19bn in 2016 to -USD63bn in 2018, perhaps in response to the new U.S. sanctions. While the 2018 figure is well below the -USD153bn of net outflows experienced in 2014, it is above the long-term average of -USD47bn – hence, close monitoring is appropriate.

Official foreign exchange (FX) reserves have continued to recover and stood at around USD405bn in May 2019, up from the temporary low of USD308bn in April 2015. Current FX reserves are comfortable in terms of import cover (14 months). In other terms, reserves cover more than 300% of the estimated external debt payments falling due in the next 12 months (>125% is assessed as comfortable).

Gross external debt stood at USD469bn in Q1 2019, which is moderate in relation to GDP (less than 30%) and export earnings (around 100%). The debt-service ratio is forecast at a manageable level of about 20% in both 2019 and 2020.

Trade structure by destination/origin

(% of total)

Exports Rank Imports
China 9%
22% China
Germany 8%
12% Germany
Turkey 5%
5% Belarus
Belarus 4%
4% Italy
United States 4%
4% France

Trade structure by product

(% of total)

Exports Rank Imports
Petroleum, petroleum products and related materials 48%
10% Road vehicles
Iron and steel 7%
7% Other industrial machinery and parts
Non-ferrous metals 5%
6% Articles of apparel & clothing accessories
Coal, coke and briquettes 4%
6% Electrical machinery, apparatus and appliances, n.e.s.
Fertilizers other than group 272 3%
5% Medicinal and pharmaceutical products

The payment behavior of domestic firms is often poor and the businesses themselves have complex legal structures. Payment terms are not fully regulated and Russian counterparties try to renegotiate conditions, requesting postponement of payments or ignoring contractual obligations.

  • Low

  • Medium

  • Sensitive

  • High

  • Payments

  • Court proceedings

  • Insolvency proceedings

Courts can be fairly efficient when a debt is certain and undisputed, but legal proceedings may otherwise be complex (no default judgments, no fast track proceedings above EUR 4,000 even if the debt is certain and undisputed) and cannot be avoided through Alternative Dispute Resolution methods(which is not relied upon) or through foreign courts (since Russian courts apply extremely strict jurisdictional exclusivity rules).

Insolvency proceedings ought to be avoided. A debt renegotiation mechanism isindeed available, although it is unused in practice. Liquidation is therefore the default procedure, but unsecured creditors would have very limited chances of recovering their debt.

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Collection complexity Russia

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Euler Hermes

Economic Research Team

Manfred Stamer

Senior Economist for Emerging Europe and the Middle East     

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