Russia Fiscal


Russia suspends fiscal rule in response to lower oil prices and ongoing economic crisis

In the midst of a deep economic crisis that has been exacerbated by lower oil prices and international sanctions, the Russian government is gradually undoing the fiscal policy that it had spent the past decade building. The Finance Ministry announced in early September that it had decided to suspend the fiscal rule—a law designed to limit government spending. The decision was yet another sign that the current environment of low oil prices is forcing Russian authorities to rethink their fiscal policy.

The fiscal rule went into effect in 2013 to prevent the government from wasting windfall oil revenues and instead divert them into rainy-day funds. The rule also aims to limit government expenditure to projected non-oil revenues, oil revenues calculated using long-term historical oil prices, and a fiscal deficit of at no more than 1.0% of GDP. At the time the rule was created, Russian authorities were concerned that the income generated from rising oil prices would encourage pro-cyclical spending. However, within the current context of weak economic growth and with oil prices at just half the level observed in 2014, Russia now faces the opposite problem.

Because the budget rule limits government spending to long-term historical oil prices, if the law were to continue to be implemented in 2016 it would imply a reference price higher than the one that is forecast for next year—the government expects oil prices to average USD 50 per barrel in 2016.

Officially, the fiscal rule has been suspended temporarily. Some advisors, among them former-Finance Minister Alexei Kudrin, have voiced support for suspending the rule, at least for a year. Moreover, in addition to the suspension of the fiscal rule, the government also announced a transition from a three-year budget plan to one-year budgeting. The three-year budget plan was designed to force the government to take a medium-term approach and avoid making unsustainable pledges. All in all, the changes to the budget process suggest that the government is paving the way for a more accommodative fiscal stance in an effort to mitigate the low oil prices and weaker economic growth expected next year.

Some analysts suggest that, with sizeable reserves and low public debt, Russia can afford to run a modest fiscal deficit without imperiling fiscal sustainability. The government expects a budget deficit of around 3.0% of GDP this year. However, recent data showed that the plunge in oil prices and lower tax receipts as a result of a shrinking economy pushed the federal government to a deficit of 3.1% of GDP in the period between January and August. This contrasts the 2.0% of GDP surplus registered in the same period last year. Analysts surveyed by FocusEconomics have taken these developments into account and expect the fiscal deficit to reach 3.6% of GDP this year. It is not yet clear how large of a budget deficit will be tolerated in 2016, although the finance ministry had previously set a target of 2.4% of GDP. The majority of analysts also believe that the fiscal shortfall will narrow and reach an average Consensus of 2.2% of GDP in 2016. There are analysts that remain skeptical, though.

Alexey Pogorelov, Research Analyst at Credit Suisse stated:

“Going forward, the government will find it challenging to reduce the federal budget deficit due to the upcoming parliamentary elections in September 2016. On the positive side, the government suspended the budget rule in September, which opens the door for more aggressive spending cuts. We forecast the federal budget deficit will be 3.4% of GDP in 2015 and 3.0% of GDP in 2016. The main financing source for the deficit will remain the Reserve Fund. We cannot rule out some front-loaded expenditures in 1H 2016.”

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Russia Fiscal Chart

Russia Fiscal September 2015 0

Note: Balance of the Federal Budget as % of GDP.
Source: Russia Ministry of Finance.

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