Russia

Highlights

• The economy has slowed in 2019. After growing by 2.3 per cent in 2018, the economy expanded by just 0.7 per cent year-on-year in the first half of 2019, with the slowdown explained by declining energy exports and the impact of rising inflation on household consumption.
• The macroeconomic situation remains stable. Helped by the ongoing conservative fiscal policies, fiscal and current account surpluses remain healthy. Pre-emptive increases in policy rates by the Central Bank of Russia (CBR) towards the end of 2018 helped contain the inflationary impact of an increase in value-added tax (VAT). A more neutral policy stance is now being adopted in order to support growth.
• There was some progress in the past year in the area of structural reforms, mainly in the form of an ambitious investment plan. The government unveiled plans to spend 25.7 trillion roubles (US$ 390 billion) on physical and social infrastructure over the next five years.

Key priorities for 2020

• Reforms to improve the business environment need to be undertaken. Priorities include reducing the state’s role in the economy, addressing physical infrastructure gaps and implementing business-friendly measures to enhance private-sector competitiveness.
• Asset quality and concentration risks in the banking sector need to be addressed. Efforts to consolidate the sector need to be sustained, while steps should be taken to address the high concentration of assets in large state banks and the persistently high level of non-performing loans (NPLs).
• Planned public investments need to be well targeted to contribute to growth in the long term. Areas that need improvement include coordination among public institutions and inclusion of stakeholders in the planning and implementation phases of public investments.

Main macroeconomic indicators %

Macroeconomic performance

The economy is slowing down after moderate expansion in 2018. The economy grew by 0.7 per cent year-on-year during the first half of 2019, following growth of 2.3 per cent in 2018. Weaker external demand, lower oil prices and a stronger rouble since the start of the year have negatively affected net exports. Ongoing international sanctions and continuing tight fiscal policy constrained public and private investment, while household consumption growth was sluggish due to declining real wage growth and a two percentage point increase in VAT, which was introduced in January 2019.

Fiscal and current account surpluses have been maintained despite declining oil prices, thanks to conservative macroeconomic policies. Driven by the decline in oil prices, a stronger rouble and weaker external demand, the current account surplus has started to decline after peaking in March 2019. Meanwhile, the government has continued to abide by the fiscal rule that was adopted in 2017, which mandates transferring oil revenues in excess of the threshold, corresponding to US$ 40 per barrel to the National Wealth Fund. Budget performance has improved following advancements in tax collection and changes in tax regulations that came into force in January 2019, which include a VAT increase of two percentage points.

The CBR has loosened monetary policy in response to softening inflation and growth. The inflationary impact of the VAT increase has been more modest than expected, having been contained by policy rate increases towards the end of 2018. Having peaked in March 2019 at 5.3 per cent, inflation has been declining as a result of weak real household incomes and a stronger rouble. Declining inflation and weaker expected output led the CBR to cut its policy rate by a total of 125 basis points since June 2019.

Growth will remain moderate in the absence of comprehensive structural reforms or a change in the sanctions regime. The growth outlook is expected to improve slightly, starting with the second half of 2019, thanks to more supportive monetary policy and a stronger fiscal impulse. However, private investment is likely to remain weak, given the continuing negative impact of sanctions imposed by the European Union and the United States of America, and exports are likely to be held back by the weaker global trade environment. A growth rate of 1.1 per cent is expected for 2019, followed by 1.7 per cent in 2020. The key risk to the outlook is the possibility of more severe sanctions being imposed.

Major structural reform developments

The government is increasingly developing domestic industries in order to hedge against the impact of international sanctions. This has manifested itself in the increased pursuit of import substitution policies, albeit with mixed success. With the aim of reducing transactional dependence on the US dollar, the government signed a deal with China in June 2019 to settle trade transactions in national currencies. It also made agreements with foreign banks to use the national payment service in order to bypass US sanctions affecting the Society for Worldwide Interbank Financial Telecommunication system. A bill requiring internet service providers to route internet traffic through servers in the country was introduced, enabling the government to prevent access to foreign servers.

The government announced a major investment programme aimed at implementing 13 “National Projects”. The National Projects were a key element of the decree signed by the President in May 2018 and comprise strategy documents laying out key development targets for the period 2019-24 in the social, economic and environmental sectors. The projects have an estimated cost of 25.7 trillion roubles (US$ 390 billion) over the period 2019-24. Around half of the projects’ costs are planned to be borne by the central government, with the rest shared by regional governments and the private sector.

The authorities continued their efforts to consolidate the banking sector. In the past year, the government has continued to close down badly managed and under-capitalised banks, and more than 500 banks have been closed down since 2013. Meanwhile, the government continues to provide funding and capitalise the large private banks it has taken over, two of which (Otkritie and BN Bank) were successfully merged in January 2019. However, the consolidation process has led to an increasing concentration of the banking sector in state hands, with around 60.0 per cent of bank assets being owned by state-owned or state-controlled banks. While the system-wide capital adequacy ratio is stable at around 12.0 per cent, asset quality remains a problem, with the NPL ratio standing at 10.4 per cent in March 2019, while fast-growing unsecured household credit is raising concerns.

Pension reforms introducing a higher retirement age were launched in January 2019 but have been controversial. The reforms increased the retirement ages for men and women to 65 and 63, respectively. The changes were introduced to address fiscal pressure arising from demographic issues, but met widespread protest. This resulted in some softening of the measures, including a reduction in the proposed retirement age for women to 60.

The authorities made efforts to improve the business environment. In collaboration with the business community, the authorities have prepared a Transformation of Business Climate Plan that aims to ease tax administration, utilities registration, business establishment and resolution and customs processes. In addition, in June 2019, the government adopted a “regulatory guillotine” reform aiming to significantly reduce the number of business regulations. Progress in the business environment is reflected in an improvement in the country’s ranking in the World Bank Doing Business 2020 report, moving from 31st to 28th place out of 190 countries.

Russia Country Assessment