Policy Research in Macroeconomics

What next for the economy of Russia?

The last weekend saw the media of all sorts full of images of Russian military might on the move, be it soldiers in uniform, ships conveniently in camera range of the coast or armoured vehicles. The Crimea already had both Russian bases and soldiers present but there seems little doubt that there are more of them and they are now present outside the bases. However such military expansionism has already had an impact on the Russian economic situation and back on the 4th of February I pointed out that there were serious challenges ahead for it:

But the economic future looks troubled. Whilst the Bank of Russia claims it is on a path to 5% consumer inflation we note that monetary policy is lax and there has been a credit boom. As we wonder if bust will follow boom we see that the currency has got caught up in the emerging markets furore and added to the expansionary policy setting. Yet so far there is little sign of production or consumption responding to this.

Where are we now?

This morning has seen the release of the latest HSBC purchasing managers index (PMI) for manufacturing in Russia and here are the main points.

PMI remains below 50.0 for fourth successive month

Strongest decline in new orders since May 2009

Employment falls for eighth month running

The reading of 48.5 may only be a slow contraction but it indicates that 7 out of the last 8 months have shown a contraction and the detail tells us this:

Weighing on the headline figure in February were lower output, new orders, employment and stocks of purchases.

Looking further ahead also shows signs of future trouble:

New orders fell for the third month running in February. Moreover, the rate of decline was the fastest since May 2009, with new contracts at consumer goods producers falling sharply. The volume of new export orders declined for the sixth month running, and at a stronger rate than in January.

Also if we consider the stated objective of the Bank Rossii or Bank of Russia above there will have been concerns about this:

Inflationary pressures rose in February, mainly linked by firms to the effect of the weaker ruble on the price of imported raw materials.

So manufacturing in Russia is struggling unlike many of its western neighbours as, for example, today’s Euro area February PMI was 53.2 and the UK’s 56.9.  So there is an element of missing out here. Also if we examine the picture for services there appears to have been a slow down there too. We await new data in a couple of days but here is last month’s:

but the latest figure of 50.2 signalled a near-stagnation in growth of total services output….. resulting in the Composite Output Index slipping into contraction territory at 49.6.

Thus we see that before the recent escalation of events in the Crimea and Ukraine the outlook for the Russian economy was negative. Indeed the Bank of Russia told us so at its policy meeting on the 14th of February:

Russian economy’s growth rates remain low while industrial output continues to stagnate. Meanwhile, business confidence indices show the lack of improvement in producers’ sentiments. Weak investment activity is caused by the overall economic uncertainty and lower profits in the real sector. Fueled by growth in retail lending and high growth of real wages, consumer demand is still a major driver of economic growth. The aggregate output of goods and services remains somewhat below potential.

It also posted a warning:

Major sources of uncertainty for this forecast are inflationary risks related to accelerated price growth at the end of 2013 and observed currency depreciation.

A currency crisis

As Russia was already facing a pick-up in inflationary pressure it would not have welcomed the start of trading today. The Rouble fell to 36.9 versus the US Dollar and passed 51 versus the Euro setting new lows for the Rouble in both cases. This posed a problem for the Bank of Russia as its managed exchange rate policy was supposed to be on its way to this:

 In the context of the ongoing transition to the floating exchange rate by 2015 Bank of Russia has step-by-step cut the amount of target FX interventions.

I guess it was mulling this all weekend as it intervened immediately today and estimates are that it spent the equivalent of 4 billion US Dollars quickly and we can see for ourselves that it was ineffective. Of course in such a situation a central bank might call on the other G-8 central banks to help out. But whilst I am sure Vladimir Putin has the chutzpah to give this a go, we can be equally sure than the answer would be no! So the Bank of Russia found itself forced to announce this:

The Bank of Russia Board of Directors decided to temporarily increase the Bank of Russia key rate to 7.00% effective from 11:00 Moscow time 3 March 2014. The decision is aimed at preventing the risks for inflation and financial stability arising from the recent increase in financial market volatility.

Actually this did not do the job either in currency terms, so the Bank of Russia has continued to intervene to support the Rouble and is estimated to have spent more than 10 billion US Dollars. How much ammunition does it have?

The international reserves of the Russian Federation amounted to $493.4 billion as of 21 February 2014.

So this type of ammunition locker is well stocked for now although using some of it has not helped much so far.

What about the stock market?

As central bankers around the world have increasingly prioritised stock markets as a measure of their claimed policy success, the Bank of Russia will have observed today’s plunge with a frown. The Micex equity index dropped sharply and is down by just under 9% at 1316 as I type this. Not quite the all-time highs which some other nations have been celebrating is it? And of course there will be knock-on effects elsewhere.


If we look at the current situation we see that it is operating to further exacerbate the economic issues that Russia was already experiencing. The grand state planning of the Sochi Olympics did not seem to provide much of an economic boost and now as it faces its own hangover so does the Russian economy. The struggles have been given a further downwards push as we wonder one more time what is the meaning of the word temporary? It is somewhat against the media tenet of the time to be discussing stagflation but Russia seems to be embarking on a new phase of it.

As ever there is the Matrix style blue pill which Vladimir Mau, rector at the Russian Presidential Academy of National Economy and Public Administration and Presidential Economic Council member provides via the TASS news agency:

Ukraine troubles no brake on Russia’s economic growth, expert says

If we move to a wider international perspective we can see that the price of a barrel of Brent crude (pushing above US $111) and the price of gold have responded. Personally I think that those with foreign currency denominated mortgages in Eastern Europe will be watching the Swiss Franc to Euro exchange-rate closely. As it is at 1.212 now, will the Swiss National Bank as it tends to intervene before the 1.20 floor/cap.

This article is cross-posted from the website (3rd March) of Mindful Money, for which Shaun Richards is independent economist.

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