Russia 110314 Basic Political Developments

National Economic Trends

Increase in oil revenue amid unrest in Arab world gives Russia some breathing room

By Will Englund, Thursday, March 10, 8:16 AM

The stepped-up flow of petrodollars into the government’s coffers relieves what had been a worrisome budget deficit and lessens the urgency of reform. Good relations with the West — and especially the “reset” with Washington — are not quite so pressing when the economy here is in good shape.

Russia is benefiting tangibly from the turmoil in the Middle East and North Africa. Urals crude sold for $113 this week, up from $75 a year ago. Of that, $76.50 goes into the Russian treasury. And the spike in oil income has compensated for growing weakness elsewhere. It arrived just as Gazprom — the natural-gas giant that until recently was a potent weapon in Russia’s foreign policy — has seen its clout in Europe washing away amid a flood of competition.

An emboldened Prime Minister Vladimir Putin was in Brussels in late February angrily lecturing the Europeans on energy policy and the uprisings in the Arab world. After months in which Moscow and Washington have tried to put their differences over Georgia on a back burner, President Dmitry Medvedev two weeks ago accused the country of threatening the security of the 2014 Winter Olympics, to be held in Sochi, near the border of a breakaway region of Georgia.

Earlier this year, Russia’s warming relations with Poland went sour over the handling of the investigation into the plane crash that killed Poland’s president and other top leaders this past spring.

But with increased oil revenue also comes the danger of complacency. Bureaucrats, defense contractors, pensioners and workers in construction and finance all stand to gain from the money coming in, along with the oil companies. But the cash also feeds corruption, encourages increased financial opacity and discourages attempts to shake up the system — all of which could spell trouble for Russia down the road.

“All of the dominant groups in Russia get a share of the increased oil revenue,” said Alexander Auzan, an economist and adviser to Medvedev. “Yet it contradicts their long-term interests.”

Largest oil producer

It’s a powerful prop for the status quo — which Auzan and others say is unsustainable.

But as Sergei Guriev, head of the New Economic School in Moscow, pointed out, any change is going to involve a cost for someone, so why take the risk if the money is flowing in?

Russia is currently the world’s largest oil producer. When the price last spiked, in 2007, Moscow was flooded with money and people close to Putin were suggesting that Russia was genuinely self-sufficient and had no need to engage more deeply with the West. The economic crisis the following year brought that talk to an abrupt end, and Medvedev began pushing for a Western-oriented program of modernization and diversification away from dependence on energy exports.

The Kremlin moved to stimulate the economy in 2008 by increasing government salaries and hiking pensions by 35 percent. Now it is stuck with those increases. With oil revenue providing 40 percent of the Russian budget, the Gaidar Institute for Economic Policy here has calculated that at any price less than $105 a barrel the government will be in the red.

That tempers any inclination toward hubris, said Daniel Treisman, a political scientist at UCLA who follows Russian developments. The Kremlin was looking at a difficult financial crunch, with parliamentary elections coming late this year and a presidential election next March, so the timing of this rise in revenue is more a relief than a goad to aggressive behavior.

“We don’t need high prices,” said Leonid Grigoriev, an economist and former World Bank adviser. “We need good relations, a long-term market and reasonable prices,” which he put in the $70-to-$90 range.

Russia will not turn its back on the West, by any means, he said. But, especially in an election year, its leaders may be more vocal in pointing up differences with the West. In 2010, Russia had enough problems at home that it was actively trying to avoid them abroad; now, with money to address domestic issues, that caution may not be so evident.

Treisman, like many others, did not think much would ever come of Medvedev’s modernization plans — it’s not the sort of change, he said, that can be ordered from the top down. But the oil bulge makes the Westernization of the Russian economy less likely. It helps big companies — which, Grigoriev said, already dominate the economy to a much greater extent than in other developed countries — and it hurts small ones, where jobs and creativity tend to be nurtured.

Information technology firms, with high labor costs, will suffer, Guriev said, and they are central to Medvedev’s vision for the future of Russia.

Part of what got Putin so riled up in Brussels was Europe’s treatment of Gazprom, a gigantic state-owned operation that at one time had unchallenged sway in the European energy market. Gazprom was a powerful tool in the Kremlin’s hands, useful when threatening Ukraine and a reminder to the rest of Europe that Russia had to be given its due.

But that was before American companies began extracting cheap natural gas from shale deposits, and before developments in liquefied natural gas (LNG) technology made inexpensive transportation by ship possible.

Qatar set up a new LNG port to ship gas to the United States, but when it couldn’t compete there it turned to Europe instead. Today, Europe can buy gas cheaper from Qatar than it can get by pipeline from Russia. European companies have been renegotiating their contracts with Gazprom — downward — and the European Union has insisted that Gazprom divest itself of its pipelines.

Russia will still sell gas to Europe, said Pierre Noel, an energy expert at England’s University of Cambridge, “but the pricing regime is changing.” Gazprom, he said, will eventually have to change with it.

But the turmoil in North Africa has temporarily masked even Gazprom’s difficulties. When the Libyan gas pipeline across the Mediterranean was shut down, Italy, which is Gazprom’s second-biggest customer, relented for now in trying to renegotiate its contract.

If production in Algeria, a much bigger supplier than Libya, were to be disrupted, that would make Gazprom a power to be reckoned with again.

englundw@washpost.com
Budget runs a surplus in January-February

http://www.bne.eu/dispatch_text14455

Troika Dialog

Federal budget revenues reached R1.5 trln ($50.7 bln) in 2m11, while expenditures were at R1.45 trln ($49 bln), the budget thus running a surplus of R52.8 bln ($1.7 bln) in January•February. Due to a seasonal decline in revenues and increase in expenditures last month, the budget ran a deficit of R94.7 bln ($3.2 bln), in drastic contrast to the R147.5 bln ($4.9 bln) surplus in January. The budget deficit explains why liquidity in the financial system remained high in February and the amount of banks' voluntary reserves (which include current accounts and deposits with the Central Bank and OBRs) shrank by only R145 bln to R1,756 bln at month end.

We reiterate our view that the breakeven oil price for the budget is around $105/bbl Urals. If it remains at its current high level and the government does not increase expenditures over the planned level, the budget's performance will improve substantially in 2011 over 2010. This will support the process of disinflation in the country.

Evgeny Gavrilenkov

http://www.bne.eu/dispatch_text14455

Renaissance Capital

According to the Ministry of Finance, the preliminary budget deficit was 2.5% of GDP in February. For 2M11, the budget had a surplus of 0.7% of GDP. Government spending was approximately the same as in January-February 2010, totalling RUB1.45trn, which implies that government spending is likely to be distributed unequally throughout the year, as it was last year. In this regard, Minister of Finance Alexey Kudrin asked for cooperation from the Federal Treasury in evening out the distribution of expenditures during 2011.

Despite a significant rise in the oil price (up approximately 40% YoY in February), 2M11 oil and gas revenues were up just 15% YoY to RUB700bn. We explain this by the lagging nature of the main components of budget income: February's export duty was based on the oil price until mid-January, and February's natural resource tax was calculated from the oil price before February. At the same time, these taxes already reflect the rapidly declining rouble/dollar exchange rate. We believe high oil prices will start to register in tax payments in March-April. In March, the mineral extraction tax will reflect the average oil price for February (only $102/bbl). The March export duty will be based on the oil price until mid-February (only $96/bbl).

According to the Ministry of Finance, income from sources other than the Federal Tax Service and Federal Customs Service amounted to RUB100bn. Adjusted for income from Reserve Fund management, this figure was RUB50bn, reflecting the net transfer of import duties from other participants in the Customs Union.

In 2M11, net borrowing amounted to RUB230bn. The Ministry of Finance is trying to support its borrowing programme via regular deposit placements, but nonetheless the ministry is continuing to withdraw liquidity from the banking system. In February, it took out approximately RUB70bn, or RUB600bn in 2M11. Therefore, we continue to believe that the Ministry of Finance will play a major role in containing inflation through the course of 2011, as it did in the 2000s.

January import growth reported at 41% y/y

http://www.bne.eu/dispatch_text14455

Alfa Bank

According to trade balance statistics released by the CBR on Friday, imports grew by 41.0% y/y in January, substantially exceeding the 8.0% y/y growth seen in January 2010 and the 29.7% y/y reported for FY10. This figure calls into question even our bullish 20% y/y import growth assumption, but it adds credence to our modest 3% y/y GDP growth forecast despite the recent spike in oil prices.

While the January trade balance rose to $17.3bn from $15.4bn in December, reflecting higher oil prices, this strong figure masks an excessive increase in imports. The 41.0% y/y growth is the fastest rate since August 2010, when imports rose by 53.7% y/y. It is also surprisingly fast for January, a month that usually sees seasonally low business activity; another surprise is that the fast growth coincided with a very poor investment and consumption trend. We therefore do not take this growth rate as a good proxy for this year's growth rate and expect import growth to decelerate in the coming months. Even so, it suggests that our 15% y/y import growth expectation under a conservative $75/bbl annual oil price assumption, and our 20% y/y forecast under $95/bbl, may be too optimistic.

Another consideration is that the higher-than-expected import growth could offset the positive impact of high oil prices on the Russian economy. We previously assumed that given the consensus forecast of $93/bbl for 2011, GDP growth would accelerate to 4.0% y/y from the 3.0% y/y we expect based on our $75/bbl assumption. However, if import growth remains at 30-40% y/y in the coming months, it could limit the increase in GDP growth coming from high oil prices.

Natalia Orlova