September 2015 | Edition No. 34 Main messages 1 The adjustment to - PowerPoint PPT Presentation

Balancing Economic Adjustment and Transformation Russia Economic Report September 2015 | Edition No. 34

Main messages 1 • The adjustment to the 2014 terms-of-trade shock continued amid a Russia’s recession tense geopolitical context marked by international sanctions. deepened with a • Growth dropped in H1 to -3.5 percent as the contraction in domestic severe impact on demand, especially consumption, accelerated. households • Real wage and income erosion increased poverty and HH vulnerability. • The transition to a free float eased pressure on external balances and 2 The policy response measures to support the financial sector contained systemic risks. was successful in • The anti-crisis plan cushioned effects of a difficult fiscal consolidation. stabilizing the • Key challenges of lowering inflation, completing the fiscal adjustment economy and continuing financial market restructuring remain. • Adverse external conditions and policy uncertainty pose challenges to 3 Growth prospects are growth, projected at -3.8 percent in 2015 and -0.6 in 2016. negative and shared • Two alternative oil price scenarios address high external volatility. prosperity • Poverty is projected to increase in 2015 to 14.2 percent from 11.2 in achievements reverse 2014 – the first significant increase since the 1998-1999 crisis. 4 • The economic adjustment process keeps risks to financial stability and Economic policy has fiscal sustainability high amid difficult global economic conditions. to balance the current • Russia faces a dual−demographic and economic−transformation . adjustment and long- • Successful policies will require a combination of fiscal and regulatory term transformation disciple, and institutional capacity building.

Recent Economic Developments: Weathering the Storm

Main messages 1 • The adjustment to the 2014 terms-of-trade shock continued amid a Russia’s recession tense geopolitical context marked by international sanctions. deepened with a • Growth dropped in H1 to -3.5 percent as the contraction in domestic severe impact on demand, especially consumption, accelerated. households • Real wage and income erosion increased poverty and HH vulnerability. • The transition to a free float eased pressure on external balances and 2 The policy response measures to support the financial sector contained systemic risks. was successful in • The anti-crisis plan cushioned effects of a difficult fiscal consolidation. stabilizing the • Key challenges of lowering inflation, completing the fiscal adjustment economy and continuing financial market restructuring remain. • Adverse external conditions and policy uncertainty pose challenges to 3 Growth prospects are growth, projected at -3.8 percent in 2015 and -0.6 in 2016. negative and shared • Two alternative oil price scenarios address high external volatility. prosperity • Poverty is projected to increase in 2015 to 14.2 percent from 11.2 in achievements reverse 2014 – the first significant increase since the 1998-1999 crisis. 4 • The economic adjustment process keeps risks to financial stability and Economic policy has fiscal sustainability high amid difficult global economic conditions. to balance the current • Russia faces a dual−demographic and economic−transformation . adjustment and long- • Successful policies will require a combination of fiscal and regulatory term transformation disciple, and institutional capacity building.

Sounding the Depth of Russia’s Recession GDP growth, y-o-y and q-o-q sa, Percent 5 3 1.2 1.2 0.1 0.4 0.0 0.5 0.9 (0.3) 1 1.5 0.8 0.4 0.5 0.3 0.3 -1 0.3 (0.7) -3 (1.6) (2.0) -5 GDP growth, y-o-y GDP growth, q-o-q, sa

Russia’s Adjustment to the Terms -of Trade Shock Gross Domestic Income Growth, y-o-y, Percent 20.0 15.0 10.0 5.0 0.0 -5.0 -10.0 -15.0 -20.0 real GDP growth terms-of-trade effect

Real Effective Exchange Rate Adjustment to Oil Prices Led to Lower Domestic Demand Real Effective Exchange Rate and Oil Price (Brent), Q4=2007 = 100 120 150 140 115 130 110 120 105 110 100 100 90 95 80 90 70 85 60 80 50 Real Effective Exchange Rate (4Q 2007 = 100) Oil price (Brent), (4Q 2007 = 100)

A Substantial Improvement in Net Exports only Partly Offset the Output Contraction Demand Composition of Growth 15 5 -5 -15 -25 Consumption Gross Fixed Capital Formation Change in inventories Export Import Stat error GDP growth

Consumption Fell Fastest since the 1998 Crisis Demand Composition of Growth 15 5 -5 -15 -25 Consumption Gross Fixed Capital Formation Change in inventories Export Import Stat error GDP growth

→ Consumer Demand Dropped as Double -digit Inflation Eroded Real Wages Real wage growth, y-o-y, Percent, Russia’s CPI inflation C omponents 25 25 20 20 15 10 15 5 10 0 5 -5 -10 0 1401 1402 1403 1404 1405 1406 1407 1408 1409 1410 1411 1412 1501 1502 1503 1504 1505 1506 1507 1508 -15 2009 2010 2011 2012 2013 2014 2015 Core inflation CPI inflation Food inflation Non-food inflation Services inflation Total Tradables non-Tradables Public

→ Declining Real Incomes Significantly Increased Poverty Rates and Vulnerability of Households Contribution to Real Incomes Growth, Government Anti-Crisis Plan By y-o-y, Percent Category of Expenditure, Billion rubles 10 8 160 6 296 4 2 0 -2 320 -4 1550 -6 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 2009 2010 2011 2012 2013 2014 2015 Others Business and property Bank recapitlization Support to the economy Public wages and transfers Market wages Social support Support to the regions Total

The REER Adjustment Had an Uneven and Limited Impact on the Tradable Sector Growth in Tradables, y-o-y, Percent Investment Growth by Sector, H1 2015, y-o-y, Percent 20 30 23.1 18 20 14.9 15 9.6 10 10 -5.9 -10.7 -27.3 -14.1 0 5 0.2 -10 0 -20 -5 -20.6 -30 -10 -15 2008 2009 2010 2011 2012 2013 2014 H1 2015 Agriculture Mineral extraction Manufacturing

Investment Fell as Firms Reduced Inventories Demand Composition of Growth 15 5 -5 -15 -25 Consumption Gross Fixed Capital Formation Change in inventories Export Import Stat error GDP growth

→ Business Confidence Deteriorated due to Weak Domestic Demand and Policy Uncertainty Business Confidence Surveys in Key Constraints to Manufacturing, Manufacturing Rosstat Business Survey, Percent 1 4 Lack of financial resources 0 3 -1 2 High interest rates -2 1 -3 0 -4 High policy Uncertainty -1 -5 -2 -6 High tax level -3 -7 -4 -8 Weak domestic demand -9 -5 0.0 10.0 20.0 30.0 40.0 50.0 60.0 Business Confidence PMI Jan-Jun, 2015 Jan-Jun, 2014

Growth and Poverty Outlook: High Uncertainty Prevails

Main messages 1 • The adjustment to the 2014 terms-of-trade shock continued amid a Russia’s recession tense geopolitical context marked by international sanctions. deepened with a • Growth dropped in H1 to -3.5 percent as the contraction in domestic severe impact on demand, especially consumption, accelerated. households • Real wage and income erosion increased poverty and HH vulnerability. • The transition to a free float eased pressure on external balances and 2 The policy response measures to support the financial sector contained systemic risks. was successful in • The anti-crisis plan cushioned effects of a difficult fiscal consolidation. stabilizing the • Key challenges of lowering inflation, completing the fiscal adjustment economy and continuing financial market restructuring remain. • Adverse external conditions and policy uncertainty pose challenges to 3 Growth prospects are growth, projected at -3.8 percent in 2015 and -0.6 in 2016. negative and shared • Two alternative oil price scenarios address high external volatility. prosperity • Poverty is projected to increase in 2015 to 14.2 percent from 11.2 in achievements reverse 2014 – the first significant increase since the 1998-1999 crisis. 4 • The economic adjustment process keeps risks to financial stability and Economic policy has fiscal sustainability high amid difficult global economic conditions. to balance the current • Russia faces a dual−demographic and economic−transformation . adjustment and long- • Successful policies will require a combination of fiscal and regulatory term transformation disciple, and institutional capacity building.

Russia’s External Conditions Remain Adverse World Merchandise Trade Volumes Gross Capital Flows, US$ Billion Log Index 1991 = 100 35000 140 135 30000 130 125 25000 120 20000 115 110 15000 105 10000 100 95 5000 90 1991m01 1992m01 1993m01 1994m01 1995m01 1996m01 1997m01 1998m01 1999m01 2000m01 2001m01 2002m01 2003m01 2004m01 2005m01 2006m01 2007m01 2008m01 2009m01 2010m01 2011m01 2012m01 2013m01 2014m01 2015m01 0 2010 2011 2012 2013 2014 2015 South Caususes Central Asia Central Europe and The Baltics Ukraine Russia Turkey

Russia’s Short -term Outlook is Negative Real GDP Growth Projection, y-o-y, Percent 3.4 3 1.7 2 1.3 1.5 1 1.3 0.6 0 -0.6 0.0 -1 -2 -3.2 -3 -3.8 -2.8 -4 -4.3 -5 2012 2013 2014 2015 2016 2017 Lower-bound scenario Baseline scenario Upper-bound scenario