Russia’s False Dawn
Robert Kahn, Steven A. Tananbaum Senior Fellow for International Economics
Bottom Line: Summer has seemingly brought a new optimism about the Russian economy. Russia’s economic downturn is coming to an end, and markets have outperformed amidst global turbulence. But the coming recovery is likely to be tepid, constrained by deficits and poor structural policies, and sanctions will continue to bite. Brexit-related concerns are also likely to weigh on oil prices and demand. All this suggests that Russia’s economy will have a limited capacity to respond to future shocks.
Recovery’s Green Shoots
Summer has seemingly brought a new optimism about the Russian economy. Markets have soared: the ruble is the best-performing emerging market currency this year, up over 20 percent since late January against the dollar, and equities have posted double-digit gains. Russian markets have benefited from a range of macroeconomic and technical factors—a moderate pickup in oil prices, a search for yield by investors punished by low or negative interest rates in the industrial world, and a sense that the worst effects of the sanctions are in the past. Also, perhaps counterintuitively, sanctions themselves have provided support for asset prices by limiting (until recently) new issuance from Russian corporations and the government and reducing the supply of investible assets as maturing bonds are repaid. Last month’s decision by the central bank to cut interest rates for the first time since August 2015, and the hope of more cuts to come, has further boosted demand for domestic assets while reducing pressure for appreciation of the ruble. More recently, Brexit concerns had little impact on Russian markets, as the country was seen as largely insulated from global financial market contagion following its turn inward in recent years.
At the same time, there are recent signs of stabilization in the economy. Growth in the first quarter was down 1.2 percent compared to last year, consistent with a bottoming out of the economy in early 2016. Activity has been boosted by improved consumer spending, as well as a shift toward domestic demand and away from imports. Capital outflows also have slowed significantly, helped by firmer oil prices, and the fiscal deficit has been contained (see figure 1). A number of market analysts are predicting that growth will turn positive in the second half of the year, producing full-year growth in 2017 on the order of 1.5 percent after three years of recession. Both the International Monetary Fund (IMF) and World Bank also have recently upgraded their forecast and complimented the government and central bank for their strong macroeconomic policy management—including a flexible exchange rate regime, banking sector capital and liquidity, sensible fiscal policies, and regulatory forbearance to keep lending going.
Adding to the optimism is a growing expectation that European sanctions will be eased when they are next up for renewal at the end of 2016. During the June 2016 decision by the European Council to renew the financial, energy, and defense sanctions for another six months, council members reportedly disagreed over the future course of sanctions policies and many members felt that full compliance with Minsk II, the political framework for addressing the conflict between Russia and Ukraine, was not going to be an effective test for future decisions on sanctions.
These are the building blocks of an improving outlook. But I have a less sanguine view: Russia’s recovery may not be enough to bring the country out of its protracted economic crisis. Read more »