The Russian Economy Explained – A 3-Part Series (Part 3)
Originally posted in November 2015. Updated in November 2016.
The final installment of our three-part series on Russia consists of an examination of their current monetary policy, exchange rate policy, and fiscal policy.
Before you start on part 3, don’t forget to check out the first two parts in our three-part series on Russia. Part 1 gives an overview of the economy with an analysis on their economy beginning in 1991 after the fall of the Soviet Union, up to present day, including information on assets and risks to their long-term growth as well as forecasts on GDP and inflation. Part 2 details Russia’s Balance of payments, current account, exports and imports.
In the third and final part of a three-part series on Russia, we look at the Central Bank of Russia’s monetary policy, detailing their responsibilities to the Russian Federation and their attempts to stop inflation after the weakening of the ruble in late 2014. It will also delve into Bank Rossii’s exchange rate policy and their attempts to stabilize the quickly depreciating ruble as well as cover the government’s fiscal policy as they attempted to curb the increase of the budget deficit going into 2016.
Monetary Policy in Russia
The Central Bank of Russia (Bank Rossii), founded in 1990, has several responsibilities in compliance with the Russian Constitution and Russian Federal Law: maintaining the value and stability of the ruble, overseeing Russian financial institutions (including acting as a lender of last resort), managing Russia’s foreign reserves and foreign exchange, and setting short-term interest rates, which is one of the main instruments of the bank’s monetary policy implementation.
Low oil prices and sanctions shocks to the Russian economy resulted in the ruble losing 46% of its value against the U.S. dollar in 2014, prompting policies from the Bank Rossii aimed at stabilizing the financial system. Bank Rossii raised its key interest rate in December 2014 by 650 basis points to a lofty 17% to curb runaway inflation caused by the weakened ruble (core inflation reached 11.2% in December 2014, year-on-year). Bank Rossii spent USD 27.2 billion in October 2014 and USD 11.9 billion in December of the same year on interventions to support the ruble.
Russia’s Central Bank gradually reduced interest rates over the course of 2015, starting the year at 17.00% and reduced to 11.00% by July. Interest rates were kept steady for nearly a year until June 2016 when they were cut by 50 basis points to 10.50%. In making the decision to cut interest rates, the Central Bank indicated that authorities were more confident about the evolution of inflation and noted the positive results of a drop in inflation expectations and decreased inflation risks against a backdrop of their slowly but surely recovering economy.
Since then there has been a noticeable drop in inflation, which drove the Bank to cut rates in September 2016 from 10.50% to 10.00%. Authorities did however state that in order to cement a sustainable fall in inflation, “the current value of the key rate needs to be maintained till end-2016 with its further possible cuts in 2017 Q1-Q2.” Considering its decision, the Bank remains confident that with a still relatively-tight monetary policy, inflation will fall to 4.5% in Q3 2017 and decrease further toward its 4.0% target at the end of 2017. The bank also indicated that it will hold off from further monetary easing until the first or second quarters of 2017.
Exchange Rate Policy
On 10 November 2014, Bank Rossii un-pegged the ruble from a dual-currency (U.S. dollar and euro) basket band, ending two decades of exchange rate controls and moving Russia to a free-float exchange rate system. The Central Bank also ended the regular interventions with the ruble, but signaled that it remained committed to intervening in support of the Russian currency in case there were risks to financial stability. As the ruble continued to slide against the greenback because of falling oil prices and higher uncertainty among investors, the Central Bank decided to continue intervening in the foreign exchange market, costing the Central Bank hundreds of millions per day.
The value of the ruble first began to fall in early 2014 after several years of an exchange rate of roughly 30 RUB per USD, as the country was acutely affected by weak economic growth, high geopolitical risks following the annexation of Crimea and the outbreak of war in Ukraine. However, it was with the collapse of oil prices at the end of 2014 when the ruble’s value could not defy gravity and thus began its free fall against the U.S. dollar, with the currency bottoming out at 68.5 RUB per USD on 16 December. Throughout 2015, the Russian ruble has been on a roller coaster. High volatility and strong fluctuations in oil prices have weighed heavily on the country’s currency. The beginning of 2015 saw strong volatility in the foreign exchange market, but the Russian currency stabilized within a corridor of 50 to 60 RUB per USD at the end of the first half of the year. There was another episode of strong volatility at the outset of second half of the year and, on 24 August, the Russian currency closed the trading day at 70.9 RUB per USD, which was even lower than the aforementioned low point of the December 2014 ruble crash and represented a new all-time low. The sharp drop in August was primarily a response to falling oil prices and rising fears regarding the effects that the shockwave caused by China’s stock-market crash could have on the global economy. The ruble closed 2015 at 72.9 RUB per USD—a 30% loss in value compared to the end of 2014.
Fluctuations of the Russian ruble are largely driven by the price of oil, which along with gas, is Russia’s main commodity export. The currency took a dramatic fall to an all-time low of 82.4 RUB per USD on 21 January 2016, as oil prices fell to lows not seen in over a decade. It has gradually stabilized between 60 and 70 RUB per USD as the economy has improved and oil prices have crept back up since January 2016.
Since the country’s 1998 debt crisis, a nearly decade-long environment of favorable commodities prices (particular in the energy sector), a relatively weak ruble and tight fiscal policy allowed Russia to run budget surpluses from 2001 to 2008 until the global financial crisis hit.
Russia depends heavily on its energy exports. In fiscal year 2008, oil and gas revenues reached a peak, accounting for half of the Russian federal budget. However, since the global financial crisis hit the country in 2009, the Russian economy began to run fiscal deficits. In 2012, 2013 and 2014 Russia ran budget deficits representing -0.02%, -0.7% and -0.6% of GDP, respectively. The exception was the year 2011, when the Russian budget incurred a 0.8% of GDP surplus.
Low oil prices and a collapse in domestic demand and imports as the economy fell into recession decimated fiscal revenues in 2015. In fact, the impact of low oil prices on Russia’s fiscal revenues raised questions about the country’s long-term economic prospects as well as fiscal sustainability. With the decline of energy prices and the Russian government's dependence on energy revenues to fund its budget—revenues from oil and natural gas represented around 52% of the Russian budget—forced the Russian government to rethink its fiscal policy. The Finance Ministry announced in early September 2015 that it had decided to suspend the fiscal rule—a law designed to limit government spending.
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 aimed 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 context of weak economic growth and oil prices at just half the level observed in 2014, Russia faced the opposite problem.
Because the budget rule limits government spending to long-term historical oil prices, if the law were to continue into 2016, it would have implied a reference price higher than the one that was forecast for 2016—which was an average USD 50 per barrel.
Officially, the fiscal rule was suspended temporarily. Some advisors, among them former-Finance Minister Alexei Kudrin, 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 paved the way for a more accommodative fiscal stance in an effort to mitigate the low oil prices and weaker economic growth.
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 fiscal deficit ended at 2.8% in 2015.
Russia has two fiscal buffers, the Reserve Fund and the National Welfare Fund (NWF), both of which have been under pressure as a result of deteriorating economic conditions. The Ministry of Finance indicated that the budget deficit projected for 2015 (RUB 2.7 trillion, equivalent to 3.8% of GDP) would be covered by the country’s Reserve Fund, rather than by raising debt. Unfortunately, the government was unable to sustain that deficit due to the inability to fund it. Due to international sanctions, the government has been unable to borrow from abroad. The government allowed for increased discretionary use of NWF resources in December of 2014 in order to help stabilize the financial system. The Russian government had no choice but to continue to draw down on the NWF.
What’s next for Russia?
Russia’s ongoing geopolitical concerns involving Ukraine and the resultant sanctions from the west has taken a toll on the economy in the last few years. Their heavily commodity dependent economy, especially the energy sector, has been hit hard as commodity prices have plunged globally. This has heavily impacted Russian exports and a snowball effect has begun to take effect, rolling over and flattening other parts of the economy. Although many downside risks in relation to the Russian economy are evident, it still has a lot going for it.
As was outlined in the conclusion to part 1, Russia is the largest nation in the world in terms of land mass with a little bit of everything in terms of geology - mountain, forest, and coastline. Because of its landmass it has extensive mineral and energy resources available to it, the largest reserves in the world in fact, making it one of the largest producers of oil and natural gas globally. It also plays a prominent role in many global organizations such as the UN, the G20, and the Council of Europe to name just a few, and therefore, it has a lot of reach and power to make things happen on a global scale in its favor.
So, where do they go from here? In 2010, Russia joined the BRICS association, a group of five nations dubbed the five greatest emerging markets, however Russia’s decline in recent times has been mirrored by many of the other members of the group. Questions abound as to whether they are slated to be a potential emerging economy forever or soon rise up to become a world economic super power. Only time will tell.
Anthony Halley and Senior Economist Ricardo Aceves contributed to this piece.
Originally posted in November 2015. Updated in November 2016.
Date: November 4, 2015
TagsTurkey OPEC Exchange Rate oil prices G7 UK Tunisia Colombia precious metals Inflation Euro Area India Forex Gold Consensus Forecast Major Economies Healthcare Germany Nordic Economies Asia Oil Infographic Italy Eastern Europe Russia Economic Growth (GDP) China United Kingdom MENA France Mexico Precious Metals Commodities TPP Brexit USA Banking Sector Brazil Canada Vietnam Energy Commodities Iran Latin America Japan Australia Ukraine Sub-Saharan Africa Greece Company News European Union Cryptocurrency South Africa Agricultural Commodities Emerging Markets Investment Base Metals Commodities Africa Portugal Trade Bitcoin Unemployment rate United States Housing Market Spain Argentina IMF Commodities Venezuela
Thailand is projected to grow 3.9% in 2018 and 3.7% in 2019. Read more: https://t.co/kLVPmKymwv
53 minutes ago
1 hour ago
Myanmar will be the fastest-growing economy in the ASEAN region in 2018 with 7.1% growth. Read more: https://t.co/ehIi3MrGZc
1 hour ago
2 hours ago
2 hours ago
- The Story of Steel
- Latin America is the World Leader in eCommerce Growth Despite Serious Challenges
- What the TPP means for trade in Latin America
- Elections in Russia: Analysis and Implications
- 2018 & 2019 Economic Outlook for the Top Oil Producing Countries
- Nearly a Third of Latin Americans Have No Right to a Pension
- A Look at Healthcare Models Around the World
- The Poorest Countries in the World
- Newly-elected Chilean President Sebastian Piñera faces a myriad of challenges - economic and otherwise
- The Economic Effects of Trade Protectionism
- Regional Disparity: The Dark Side of Inequality in Latin America
- Coal: The story of the world's most abundant fossil fuel
- Gold: The Most Precious of Metals (Part 3)
- Venezuela's Electoral Conundrum
- Trump's 1st Year: 95 Analysts Surveyed on U.S. Economy
- The Latest on China and What's in Store for 2018
- An in-depth look at the Eurozone’s booming economy and the challenges that lurk in the shadows
- China’s growing influence on the Latin American economy
- Top Economics & Finance Blogs of 2018
- How Latin America emerged from recession in 2017
- Is this the beginning of the end for Bitcoin?
- Risks and Opportunities for 2018 - Daniel Lacalle
- Emerging Markets 2018 Economic Outlook
- The role of FDI in Vietnam’s socio-economic development
- Increasing poverty in Latin America takes a breather thanks to improving economic dynamics
- What will be the most miserable economies in 2018?
- The World's Top 10 Largest Economies
- Is Spain doing enough to address its high youth unemployment rate?
- Has Latin America gone far enough in reducing barriers to international trade?
- Commodities Outlook: Oil, Natural Gas, Coal, Lead & Tin
- 21 experts tell us what the future looks like for cryptocurrencies and blockchain
- Turkish lira plummets to all-time low on Erdogan’s monetary feud and tense U.S.-Turkey relations
- Copper: The first metal mastered by man
- The Mercosur-EU Free Trade Agreement: Obstacles & Opportunities
- Nigerian Economy Still Treading Water Thanks to Oil Sector
- Elections in Chile: What the results could mean for the economy
- QE’s Untold Story: A Chart That Fed Correspondents Need To Investigate
- Holland’s fragile one-seat majority government targets economic growth at the expense of fiscal sustainability
- South Africa: Economy at a tipping point?
- Latin American Commodities: What’s behind the increase in demand and prices?
- Is the UK really "shackled to a corpse"?
- Spain-Catalonia: 7 economic experts weigh in on how the situation will affect the outlook
- How well is Spain's labor market doing since the crisis?
- Which countries will have the highest and lowest inflation in 2017?
- How vulnerable is Latin America to economic crises today?
- Iron ore facts and common questions answered
- The bulging economic costs of obesity
- How much investment is needed to salvage Latin America’s crumbling infrastructure?
- A Look at the Potential Impact of Brexit on the Dutch Economy
- Emerging Markets Are Kicking Into Higher Gear In 2017
- Why is foreign direct investment in Latin America falling again?
- Are Central Banks Nationalising the Economy?
- Bounty or burden? The impact of refugees on European economies is far from clear
- What’s the future of U.S.-Latin America trade relations?
- Taxes or cutbacks? Latin America's challenge of sustaining spending without causing debt to skyrocket
- Are uranium prices making a comeback?
- Taxing the Economy: Achieving a Delicate Balance
- How will Latin America’s upcoming lengthy election cycle affect the reform agenda and credit ratings?
- How will emerging market economies perform in 2017?
- Chilean Economy in Focus: Interview with Senior Economist of the Chamber of Commerce of Santiago
- CEOs Rank Top Economies for Growth Opportunities
- The Mobile Ecosystem & Latin America's Economy
- Prospects and Challenges for the Global Economy: Interview with Tim Cooper from BMI Research
- How will the Fed reduce its balance sheet & and how will the ECB end QE? - 19 economic experts weigh in
- Thoughts on "unwinding" QE from Frances Coppola
- The Fed and ECB at a crossroads: Unwinding QE
- Spain: The economy that continues to silence the critics
- Latin America: The Most Unequal Region in the World
- The History of OPEC: Has it been a Success?
- FocusEconomics Announces 2017 Analyst Forecast Awards Winners
- Latin America’s rising unemployment bucks nearly decade long trend
- Escape from the Central Bank Trap by Daniel Lacalle
- China's economic rebalancing act: What to look out for in 2017
- Driving Growth in Latin America: Challenges & Priorities
- Is the Global Economy Rebalancing?
- Commodity exporters face challenging times
- Recent Global Events Facilitate Mercosur-Pacific Alliance
- 23 economic experts weigh in: Why is productivity growth so low?
- Mexico's outlook as Trump nears 100-day mark
- Interview with Oxford Economics Senior Economist on implications of the possible outcomes of the French Presidential Election
- The anxiety of the small saver in a world of negative interest rates
- Brexit negotiations. Between Uncertainty and Urgency
- An Economic History of the EU from El Blog Salmón
- Baby Boomin': Implications of high population growth in Latin America
- Survey of International Economists Predicts a Le Pen Defeat in French Elections, Says Macron has Best Economic Plan
- Spain in a global context: developed economy with some challenges
- How much is crime costing Latin America?
- Predictions & Estimates from Economist Daniel Lacalle
- What economy will the new Dutch government inherit?
- “The data is not a true reflection of reality in India” Interview with Société Générale India Economist
- What are the prospects for Emerging Economies in 2017?
- What to expect in Asia for 2017
- Top Economics & Finance Blogs of 2017
- Latam to Resume Moderate Growth in 2017 but Important Risks Plague Outlook
- 4 Key European Elections That Will Impact the Economy in 2017
- How are security concerns and political chaos affecting Turkey’s economy?
- Global growth to edge up in 2017
- Set to breach targets again? Debt and deficit outlooks for Southern European Eurozone countries in 2016 & 2017
- What does Donald Trump mean for the U.S. economy?
- How will emerging markets perform in 2017?
- The economic impact of a break in U.S.-Philippines ties
- Trump election: Base metals surge due to infrastructure plan
- 5 updates on the Venezuelan economic crisis
- Canada: When your neighbor’s house is on fire…
- Short-term pain before long-term gain? A look at French labor reform and economic growth
- Asia: Unremarkable growth & unfulfilled promises?
- How India's latest monsoon is affecting the economy
- Innovation in Latin America: Potential Goes Untapped Due to Weak Economic Conditions
- Russian economy update in wake of OPEC deal announcement
- The Wisdom of the Crowds and the Consensus Forecast
- Can the peso predict the U.S. election results?
- There's no end in sight to the Venezuela crisis
- A Look at the European Union Political Calendar
- Survey of international economists shows uncertainty surrounding elections damaging U.S. growth prospects
- FocusEconomics partners with leading online statistics provider Statista
- China: Recent postive economic data may be papering over the cracks
- Sub-Saharan Africa's 2016 & 2017 growth rates
- The Italian Dilemma: Weak banks pose risk to already faltering domestic demand
- How much money do migrants from Latin America send home?
- The U.S.' (Not So) Mysterious Case of the Missing Men
- What to expect from the G20 economies by 2020
- The Pain in Spain: Robust GDP growth cannot mask the persistent structural deficit