Russian Economic Report 28: Reinvigorating the Economy
October 8, 2012
MOSCOW, October 8, 2012 -- Just at a time when Russia’s output level exceeded the 2008 pre-crisis highs, the economy appears to be setting on the course of low growth. Despite external headwinds, Russia’s economy performed well in the first half of 2012. However, the economy is slowing down in the second half of 2012 due to rising inflation, weakening domestic demand, and sluggish external demand, says the World Bank’s Russian Economic Report №28 launched today in Moscow.
The Russian economy had a good first half of the year, with strong domestic demand as the main driver of growth. Key economic indicators were near or at record levels: the current account surplus stayed high and the Central Bank of Russia added to its reserves, helping to bolster market confidence. While many countries in Europe were struggling with large public debt and high fiscal deficits, Russia’s public debt was no more than 10 percent of GDP and the fiscal balance was in surplus. Inflation and unemployment rates both declined to the lowest level in two decades. As people’s purchasing power improved and unemployment fell, fewer people were in poverty than at any time since the beginning of the economic transition in early 1990s.
However, a significant share of these accomplishments has been tied to high oil prices. Boosted by supply constraints rather than strong global demand, the price of Urals averaged US$113.7 per barrel in the first half of 2012, just slightly below Brent. High oil prices have translated into strong export receipts, buoyant fiscal revenues, and fast credit expansion.
“Despite a modest rise the oil prices, we project growth in Russia to decline from 4.3 percent in 2011 to 3.5 percent in 2012, and stay at 3.6 percent in 2013. Compared to our June forecast published in the Global Economic Prospects, this represents a downward revision of 0.4 percentage points in 2012 and 0.5 percentage points in 2013,” said Kaspar Richter, World Bank Country Sector Coordinator for Economic Policy in Russia and the main author of the Report. “The revision reflects the poor agricultural harvest and a weaker-than-expected global environment. Difficulties with filling vacancies, a weak grain harvest, and recent increases in administrated utility prices will continue to exert upward pressure on prices in Russia in the near term. However, private consumption will remain the main growth driver supported by low unemployment. Even though capacity utilization is close to pre-crisis levels, private investors are likely to be cautious until global sentiment has improved and the economy regains dynamism. The government will find it difficult to step up public investment in view of still large non-oil budget deficit.”
Even such growth is at risk if the Eurozone and the global economy fail to improve, or oil prices recede from their recent highs. With businesses struggling to fill vacancies, capacity utilization approaching pre-crisis peaks, and oil prices projected to stay flat, new growth momentum will be difficult to come by. In addition, an aging and shrinking workforce and declining oil production could dampen growth over the next decades.
“The weak outlook means that strong, three-pronged policy action is essential to reinvigorate the economy. First, economic policies have to ensure stability. The recent increase of the interest rate was an important step in this direction. Second, Russia has to build buffers against the external volatility. This means replenishing the reserve fund, moving towards inflation targeting, and strengthening banking supervision,” said Michal Rutkowski, World Bank Country Director for the Russian Federation. “Finally, the government has to unleash the growth potential of the economy. This means a better business climate resulting in more private investments, and higher competitiveness leading to the diversification of the economy away from oil and gas, and raising productivity. The government also needs to improve poor transport connectivity in line with its longer-term economic policy goals. Making headway on this agenda will enable Russia to lift growth above 4 percent and more.”
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The report was prepared by a World Bank core team consisting of Sergei Ulatov (Economist), Stepan Titov (Senior Economist), Mikhail Matytsin (Consultant), and Olga Emelyanova (Research Analyst), under the direction of Kaspar Richter (Lead Economist and Country Sector Coordinator for economic policy in Russia). Jung Eun Oh (Transport Economist) authored the focus note on urban transport, John Baffes (Consultant) provided the box on the global oil market, and Dilek Aykut (Senior Economist) provided the assessment on the global outlook. Advice from and discussions with Michal Rutkowski (Country Director for Russia), Yvonne Tsikata (Director for Poverty Reduction and Economic Management in the Europe and Central Asia Region), Benu Bidani (Sector Manager for Russia, Ukraine, Belarus, and Moldova), Lada Strelkova (Country Program Coordinator for Russia), and Carolina Sanchez (Lead Economist and Regional Poverty Coordinator) are gratefully acknowledged.