24/5/2015: Russian Economy: Weaker April Signals Renewed Risks

When I remarked recently on some less negative than expected developments in Russian economy over Q1 2015, I noted that these were fragile signs of potential stabilisation and that the risks remain to the downside. April industrial production appears to signal the same. April industrial production numbers are down 4.5% y/y and manufacturing is down 7% - the rates of decline that are significantly sharper than recovered over 1Q.

Remember that Russian GDP fell 1.9% in 1Q 2015 y/y, based on preliminary estimates - a decline that is shallower than what was expected by the analysts. Overall output (GDP at factor cost) fell slightly more sharply - by 2.3% over the same time, while domestic demand (Consumption + Investment) fell at just under 7%. The gap between output and domestic demand declines can be in part explained by imports substitution going on across a number of sectors, such as food, agriculture, industry and manufacturing, plus improved trade volumes also driven by ruble devaluation.

The decline in industrial production and manufacturing signals a feed through from collapsing investment to production sectors, as well as continued weakness in consumption and strengthening of the ruble. More significantly, ruble firming up is not helping imports substitution-driven demand. CBR has now returned to buying forex and selling ruble in order to, both, increase its reserves and also sustain lower ruble. Higher ruble valuations hurt fiscal balance and at the same time inducing weaker external balances. As the result, CBR is now regularly purchasing USD100-200 million daily and is raising cost on banks' access to repo facilities.

All in - just another reminder that the Russian economy is not out of the woods yet. For all the positive developments in recent months, the situation remains fragile and structural drivers for growth are still lacking, so any recovery, if sustained, will have to come from either external demand factors (oil prices, commodities prices, etc) and/or imports substitution effect supported by lower CBR rates.