Swedbank Baltic Sea Analysis No. 30 16 Dec 2011 RussiaPolitical turbulence and significant economic pressuresgoing forward Charges of cheating and manipulation in the December 5 parliamentary elections have led to major protests and a loss of confidence in political leaders. Putin is likely to be elected president next March, but with great uncertainty whether the road there will be paved with repression or a renewed commitment to modernizing politics and the economy. Declining support for Putin and Medvedev shows that promises of stability are no longer a winning political strategy. This could undermine Medvedev’s future position as prime minister. The Russian economy is benefiting short-term from the election campaign and expansive fiscal policies that go with it. We expect lower growth in the next two years as the global economy slows and fiscal policy has to be tightened. As a result, we are revising our forecast downward to below 4% in 2012 and 2013. Relatively high oil prices will lessen the need for austerity, but the Russian economy remains vulnerable. The biggest risk comes from a combination of a rapid slowdown in the euro zone and declining global commodity prices. Political turbulence domestically is also a threat to the business climate. Russia is on the brink of membership in the World Trade Organization (WTO). Although Russian companies will initially see tougher competition, consumers will benefit and in the long term Russian competitiveness and growth potential will be strengthened. Business conditions continue to improve, but from low levels. In the last six years Russia ranks among the 25 countries that have made the biggest improvement in the ease of doing business, according to the World Bank’s “2012 Doing Business,” confirming the progress also noted in Swedbank’s Baltic Sea Index. Economic Research Department, Swedbank AB (publ), SE-105 34 Stockholm, tel +46 (0)8-5859 7740e-mail: firstname.lastname@example.org Internet: www.swedbank.se Responsible publishers: Cecilia Hermansson +46 (0)8-5859 7720 Magnus Alvesson +46 (0)8-5859 3341, Jörgen Kennemar +46 (0)8-5859 7730 ISSN 1103-4897
Duma election – stability no longer an electionwinning strategyUnited Russia – Vladimir Putin and Dmitry Medvedev’s party – lost Putin and Medvedevnearly a fourth of its support in the parliamentary elections in early are losing support…December, despite accusations of election fraud. Though it remainsthe largest party, it can no longer dominate politics as it has in thepast. Perhaps the most important message was that the favoritismshown by authorities to United Russia did not produce the expectedresults and that Russian voters are realizing they have a greaterimpact on the political process. This could lead to a higher turnout inthe presidential election in next March and give the campaign somereal political significance. In other words, Putin may be forced toactually make a political case for his candidacy.Among the other parties, “A Just Russia” and the Communist Party … but the opposition inmade the biggest progress, nearly doubling the votes they received. the Duma is fracturedA Just Russia is a social democratic party that previously supportedUnited Russia and Putin. The Communist Party is the largestopposition party and heir to the Soviet Communist Party. The LiberalDemocratic Party, a populist, nationalist party led by VladimirZhirinovsky, also increased its support, while Yabloko, the only liberalparty in a Western sense, attracted fewer than 5% of the voters. Witha cut-off of 7% to be represented in the Duma, only the four largestparties made it. United Russia, with nearly 53% of the mandates, thusretained a majority.Duma election results (preliminary), 2011 and 2007(% of valid votes) Yabloko, 3.4 Patriots of Liberal Russia, 1.0 Democratic Party, 11.7 2011 0.9 8.1 1.6 7.7 A Just Russia, 13.3 United 11.6 2007 Russia, 49.3 64.3 Communist Party, 19.2 Source: Central Election CommitteeThe election was followed by considerable protests, especially in Charges of electionmajor cities. There were widespread reports of election fraud, with the fraud led to majorOrganization for Security and Co-operation in Europe (OSCE) stating proteststhat it had seen “frequent procedural violations and instances ofapparent manipulations, including serious indications of ballot box2 Swedbank Baltic Sea Analysis No. 30 • 16 December 2011
stuffing.” The first spontaneous demonstrations in Moscow wereestimated at around 10 000 people and were met by riot police andarrests. The protests have since grown in scope. In a statement,President Medvedev said he accepted the protests as a Democraticright, but at the same time characterized many of the protesters as“confused.”It is too early to say whether the protests are the beginning of a Need for furtherbigger movement that leads to more extensive political reforms. democratic reformThere are few direct parallels with the political turbulence in theMiddle East, since democratic principles are more developed andingrained in Russia. With increased centralization of political power,the growing influence of oligarchs and tight control over the media,the situation is more reminiscent of Ukraine prior to the OrangeRevolution. At this point the discontent seems to be concentrated inlarge cities. The leading politicians are maintaining control over thegovernment apparatus and have access to the state’s considerablefinancial resources. In addition, many of the richest oligarchs areclosely allied with United Russia and have little interest in politicalupheaval.There has been speculation that political concessions will have to be Medvedev’s politicalmade, however. Since much of this discontent arose after Putin and future may be inMedvedev decided to swap positions as president and prime minister, jeopardysignaling that the elections were basically meaningless, there is apossibility that Putin may be forced to replace Medvedev. AlexeiKudrin, the former finance minister known for supporting tight fiscalpolicies as well as his long relationship with Putin, has recentlyannounced his intention to create a new liberal party. As it is hard tointerpret Russian politics, it is uncertain whether the Kremlin isinvolved or Kudrin genuinely wants to create a political alternative.Many observers believe that it is a first step to position Kudrin as afuture prime minister.The protests and discontent will have an effect on the presidential Putin will probably winelection. To date four candidates have decided to run: Putin (United the presidentialRussia), Gennady Zyuganov (the Communist Party), Sergey Mironov election, but in what(A Just Russia) and Mikhail Prokhorov (independent oligarch). way?Though it is considered unlikely that Putin will lose the election, thiscould affect the campaign and the promises made. There is a risk thatPutin will counter the growing dissatisfaction with increased controland repression. This would move Russia even further from Europe’spolitical tradition. The parliamentary elections showed, however, thatRussian voters are no longer as interested in stability as a politicalalternative. Thus, there is an opportunity to resurrect the goal ofmodernization and liberalization Medvedev outlined in the lastpresidential election. But it is uncertain to what extent Putin believesthis would give him the greatest chance of getting reelected.In the short term the political upheavals will not have a major impact Short-term electionon economic policy. We could see more proposals benefiting voters, budgetbut a relatively large stimulus has already been put in place. Inaddition to raising public sector wages and pensions, social insurancefees are being reduced from January 2012. The need to pleasevoters could mean that the tax hikes scheduled to be instituted at thesame time to offset the loss of revenue will be put off until after theSwedbank Baltic Sea Analysis No. 30 • 16 December 2011 3
election. In the longer term the issues of pensions, healthcare andeducation have to be addressed. There has been little discussion ofthem in the election campaign.Slower growth after the election – risks are piling upThe Russian economy has continued to grow at a decent pace during Unemployment is anthe first three quarters of 2011, averaging slightly over 4% at an important factor inannual rate. Domestic demand in the form of consumption and consumptioninvestment has been the biggest contributor to growth. Real wageincreases have been positive since the beginning of the year andunemployment has trended lower. The World Bank has shown thathousehold spending in Russia is highly dependent on unemployment(Russian Economic Report, the World Bank, September 2011). TheRussian labor market is adapting to an economic chock mainlythrough wage changes. This means that households consider lowerwages to be temporary, while an increase in unemployment isperceived as permanent. When wages are cut, households aretherefore more likely to dip into their savings and when theunemployment rate goes up they tend to cut back on spending. Witha relatively stable job market, household spending has been animportant driver of growth and retail sales have continued to expandat an accelerating pace.Unemployment, real wage growth and retail sales, 2005- 2011(Unemployment and annual growth, %) 20 10 9 15 8 10 7 Percent of labor force Annual change in % 6 5 5 0 4 -5 3 Retail trade 2 -10 Real wages 1 Unemployment rate (rs) -15 0 Jan-05 Oct-05 Jul-06 Apr-07 Jan-08 Oct-08 Jul-09 Apr-10 Jan-11 Oct-11 Sources: Ecowin and Rosstat.The labor market and household income have been supported by High oil prices facilitateexpansive fiscal policies. Since 2007 the budget deficit (excluding oil expansive fiscal policyrevenue) has grown from about 3% of GDP to about 13% in 2010.High oil prices have facilitated an expansive fiscal policy. As a result,the reserve fund, which is supposed to compensate for falling budgetrevenue if oil prices drop, has not increased significantly despite anaverage oil price of $111/barrel as of November 2011 (compared with$79/barrel in 2010 and $62/barrel in 2009). At the same timespending on pensions and wages has risen as a share of total publicexpenditure. These forms of “permanent” spending are difficult toslash in the short term, which will make it hard to switch fiscal gears4 Swedbank Baltic Sea Analysis No. 30 • 16 December 2011
after the election. Furthermore, there is a growing risk of anescalating budget deficit if oil prices quickly fall.Currency reserves, budget deficit (excl. oil) and price of oil, 2007 - 2011(US$ billion, % of GDP and $/barrel) 160 16 2009 2010 140 Reserve Oil price 14 2011p Fund Non-oil budget ($/barrel) 120 def icit 12 Percent of GDP 100 10 2008 US$ bn 80 8 60 6 2007 40 4 20 2 0 0 q1-08 mar-09 sep-09 mar-10 sep-10 mar-11 sep-11 Sources: Ecowin and Rosstat.With inflation falling in 2011 the Russian central bank has been able In an uncertainto keep policy rates unchanged. Slower price increases are mainly economy, monetarythe result of falling food prices, however, and when the effect of last policy remainsyear’s poor harvests fades at the same time that public spending unchangedcontinues to expand during the first half of 2012 prices could startincreasing again. In addition, the credit expansion to households andbusinesses continues. Lower price increases and a weaker rublehave also, made Russia more competitive this fall. There is a risk thatinflation picks up during next spring, but this is moderated by aslowdown in the global economy. Thus it is likely that the Russiancentral bank will take a wait-and-see approach in coming monthsbefore revising monetary policy.Inflation, real exchange rate and the ruble 150 20 140 15 130 10 Change in % 120 Index 5 110 0 100 Rubel basket (monthly, USD, EUR, rs) -5 90 Real exchange rate Inf lation (annually, rs) 80 -10 Jan-05 Oct-05 Jul-06 Apr-07 Jan-08 Oct-08 Jul-09 Apr-10 Jan-11 Oct-11 Sources: Ecowin and Rosstat.Swedbank Baltic Sea Analysis No. 30 • 16 December 2011 5
Russias economic prospects in the next two years have worsened Weaker growthsignificantly. GDP grew by 4.8% at an annual rate in the third quarter, prospects are partlydriven by strong consumer spending and expansive fiscal policy. Now offset by stable energythe global slowdown is bound to cool off the Russian economy again. pricesNot least, the growing concerns about Europe’s financial markets willaffect Russian banks and capital flows, and exports to the euro zoneare likely to weaken. Even if oil prices fall compared with 2011, weexpect them to remain relatively high, which will moderate the effectson the Russian economy from the global slowdown.GDP growth and its components, 2010- 2013(Annual growth and contribution, %) 11.0 9.0 7.0 5.0 4.5 4.5 4.8 4.4 5.0 4.1 3.8 3.7 3.8 3.6 3.6 3.7 3.8 3.5 3.4 3.1 3.0 1.0 -1.0 -3.0 -5.0 2010 Q1 2010 Q3 2011 Q1 2011 Q3 2012 Q1 2012 Q3 2013 Q1 2013 Q3 Final consumption Gross investments Net export GDP Sources: Rosstat and Swedbank.For the next two years we are revising our growth forecast for Russia Slower growth in thedownward to between 3% and 4% on an annual basis (see table on next two yearsnext page), compared with nearly 4.5% in our previous forecast.Household demand is expected to remain strong during the first half-year of 2012 before fiscal policy is tightened. Together with weakerglobal demand, this will hurt the labor market and income growth.With deteriorating global prospects and growing uncertainty, weanticipate that private businesses will reduce their rate of investmentcompared with the previous forecast, which can’t be fullycompensated by the public sector. Given the slowing economy,inflation pressures will remain weak in 2012, supported by a modestlystronger ruble. In 2013, when the price of oil, according to ourforecasts, falls even further, we expect growth to decelerate further.6 Swedbank Baltic Sea Analysis No. 30 • 16 December 2011
Key macroeconomic indicators, 2008- 2013(Annual change, %, unless indicated otherwise) 2008 2009 2010 2011 2012 2013 proj. proj. proj.Gross Domestic Product 5.5 -8.0 4.0 4.2 3.9 3.7Of which: Private Consumption 10.6 -4.8 3.0 4.8 3.3 3.4 Gross Investments 10.6 -14.4 6.1 4.6 6.9 5.5 Exports 0.6 -4.7 7.1 2.4 2.8 3.2 Imports 14.8 -30.4 25.6 16.5 5.1 2.3Inflation (%, ave) 14.1 11.7 6.9 8.6 7.0 7.5Inflation (%, eop) 13.3 8.8 8.8 8.0 6.2 8.6Unemployment rate (% of labour force, eop, ILO) 7.8 8.2 7.2 6.5 7.0 7.0Current account (% of GDP) 6.2 4.0 4.0 4.5 2.5 2.0Fiscal deficit (% of GDP) 3.5 -5.9 -6.5 -2.5 -2.0 -2.5Government debt (% of GDP) 7.8 10.9 12.0 10.0 10.0 10.5Rouble (basket USD/EUR) 35.4 36.1 35.2 35.5 35.0 36.5Oil prices (USD/b) 97.0 62.0 78.5 112.0 103.0 96.0 Sources: Rosstat and Swedbank.Our forecast scenario is surrounded by significant risks, largely on the Significant negativedownside. The Russian economy is increasingly dependent on forecast risks, of whichcommodity markets and in particular energy prices. It has been the price of oil andestimated that Russia would need an average oil price globally of sovereign debt crisis in$110/barrel to balance its budget (Carnegie Investment Bank). This is Europe are the biggestnearly double the level estimated in 2008. This means that a largerprice drop for oil would require significant budget cut-backs and havemajor consequences for Russias growth prospects. The commoditymarkets are tightly linked to global development, so a worseningsovereign debt crisis in Europe that spreads to the global financialmarkets would probably have a significant effect on Russian banks,with a risk of increased capital outflows. The domestic risks for theeconomy are largely attributable to political developments. There aresignificantly fewer signs of overheating than in 2008, but at the sametime political conditions are uncertain and an escalation of politicalprotests could lead to increased repression, and thus less desire toinvest both externally and domestically.Long-term growth prospects are cautiously positiveDespite that economic development in the coming years is Increased tradeovershadowed by significant domestic and external risks, Russia has opportunities willtaken a number of steps to become more competitive in the long term. benefit foreign, andOne of the first items on the agenda of the newly elected Duma could eventually domestic,be ratifying membership in the WTO. Joining the trade group would companiesopen up a considerable market for foreign companies, with lowercustoms duties and obstacles to trade. Retailers in particular havesignificant potential, although markets tied to infrastructureinvestment are also huge. This will especially benefit foreigncompanies that can set up operations in Russia, while Russiancompanies will face greater competition and price pressure. Thebenefits for Russian consumers could be substantial, however. In thelonger term it is likely that the greater competition and integration willalso benefit Russian businesses through higher productivity andefficiency. At that point they will be able to take advantage of boththeir proximity to a large domestic market and opportunities tocompete internationally.Swedbank Baltic Sea Analysis No. 30 • 16 December 2011 7
Conditions for Russian business will also continue to improve. In its The business climate“Doing Business 2012” report, the World Bank ranked Russia among is also makingthe 25 countries that have made the biggest improvements in the progressease of doing business since 2004. This is confirmed by Swedbank’sBaltic Sea Index in the latest Baltic Sea Region Report (October2011). Although Russia still ranks among the least business-friendlycountries in the world, progress has been made in a number of areas.Among other things, an electronic contract register has beenintroduced and obstacles to property sales and import restrictionshave reduced. There is still plenty of room for improvement in termsof the business climate, especially as regards fighting corruption andenergy supplies, as well as strengthening protection for investors. Magnus AlvessonEconomic Research DepartmentSE-105 34 Stockholm Swedbank Baltic Sea Analysis is published as a service to our customers.Telephone +46-08-5859 7740 We believe that we have used reliable sources and methods in email@example.com preparation of the analyses reported in this publication. However, wewww.swedbank.se cannot guarantee the accuracy or completeness of the report and cannotLegally responsible publishers be held responsible for any error or omission in the underlying material orCecilia Hermansson, +46-8-5859 7720 its use. Readers are encouraged to base any (investment) decisions onMagnus Alvesson, +46-8-5859 3341 other material as well. Neither Swedbank nor its employees may be heldJörgen Kennemar, +46-8-5859 7730ISSN 1103-4897 responsible for losses or damages, direct or indirect, owing to any errors or omissions in Swedbank Baltic Sea Analysis.