Russian Economy in Analytical Banking Amazon

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					                      Published in “Analytical Banking Magazine”, July-August, 2010, pp. 16-19.

Russian Economy in the First Half of 2010

Center for Strategic Analysis of Rosbank: M. Ershov – head of the project, V. Lokhmachev, V. Tatuzov,
A. Tanasova

The Russian economy continued further recovery after the crisis. However the Russian banking
system is characterized by multidirectional trends. In the future, development of the credit sphere
will depend on both - objective (macroeconomic) factors and, to a large extent, hardly
predictable subjective aspects in behavior of market participants. High dependence of Russian
economy and banks on external factors showed itself again in 1H 2010.

          The current economic situation abroad (primarily in the United States and the euro
region) is characterized by instability1. This affects fluctuations in the changes of some
macroeconomic indicators in the Russian Federation. According to estimates by the International
Monetary Fund, "Sovereign risks in parts of the euro area have materialized, threatening to spill
over to other regions and re-establish an adverse feedback loop with the economy."2
          Despite the persisting risks, the situation in the Russian economy in the 1st half of the
year (1H) generally looks positive y-o-y. In recent months, with the exclusion of seasonal and
calendar factors, growth in real GDP recovered after its fall in 1Q2010 (Figure 1).

                                     Figure 1. Increase in Real GDP
                   (with the exclusion of seasonal and calendar factors, y-o-y, %)

          Source: estimates by the Ministry for Economic Development of the Russian Federation (MED)

  "The observed global crisis is primarily attributed to fundamental structural factors in the leading economies…
One should take into account a high probability of persistence of global recessionary processes and their further
deepening," was noted by CSA of ROSBANK in the spring of 2009. See The Bankovskoye Delo, 2009, No. 5, pp.
    IMF, GFSR, July 2010.


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Improvement in Industry and Other Sectors

        Economic growth in 1H was to a large extent promoted by acceleration in industrial
production and trade (Figure 2).
                        Figure 2. Increase in Main Indicators in Real Terms
                                                   (y-o-y, %)

        Source: estimates by MED, Rosstat

        With the exclusion of seasonal and calendar factors, growth in the industry was observed
in March-May3. The highest growth rate was in manufacturing (primarily in machinery
manufacturing and production of transportation vehicles). According to the World Bank,
statistics for April 2010 show that "manufacturing becomes the driving force for economic
growth, while growth in non-tradables, by all appearances, is gaining momentum."4
        Manufacturing was growing under the influence of some changes in investment demand.
The observed increase in investment (after a notable drop in January-February) led to higher
indicators in this sphere based on the general half-year results (Figure 2).
        Macroeconomic recovery led to improvement in financial performance by the
nonfinancial sector. According to Rosstat, profits of nonfinancial entities grew from Rub 1,3 bln
in January-May 2009 to Rub 2,4 bln in January-May 2010.

  With the exclusion of seasonal and calendar factors, according to estimates by MED, after a three-month growth
June saw a slight decrease in industrial production (-0.4%, June/May).
  World Bank. Russian Economic Report, June 2010, p. 5.


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           Favorable macroeconomic trends also promoted decrease in unemployment level from
9,2% in January to 6,8% in June 5after its growth in late 2009 – early 2010 . However, 2Q2010
was characterized by deceleration in the rate of increase in real household income and by
continuing drop in construction (in spite of some improvement in residential construction)
(Figure 2).
           The anti-recessionary and other measures led to high federal expenditures and a
considerable budgetary deficit. However, the Federal Law "On the Federal Budget for 2010 and
the Planning Period of 2011 and 2012" forecasted for this year a lower income level and a higher
deficit level than is evidenced by facts (Figure 3). The budget was forecasted on the assumption
of an oil price of 58 USD/barrel and a GDP growth rate of 1.6%. This year, actual
macroeconomic situation is more favorable than was planned when the budget was adopted,
which may make it possible to achieve a lower budgetary deficit at the year-end.

                  Figure 3. Federal Budget Revenue and Expenditures (% of GDP)

        * Benchmarks specified in Federal Law No. 308-FZ of December 2, 2009 (adopted by State Duma of the
Federal Assembly of the Russian Federation on November 20, 2009). At the July 29, 2010, meeting of the
Government of the Russian Federation, these benchmarks were revised to reduce budgetary deficit to 5.4%.
        Source: Ministry for Finance

           Increasing budgetary expenditures stimulated acceleration of growth in money supply
(M2). In this connection, over a period of years energy prices have remained the most important
factor for changes in M2. For instance, a relatively high rate of growth in M2 can be observed
from the fall of 2009 to the present day (Figure 4). In 1H2009, on the other hand, rate of increase
in M2 was negative due to the recessionary drop in energy prices. The year 2008 also saw an
accelerated growth in M2 (before the decrease in energy prices in the fall).

    Source: Rosstat (According to the International Labor Organization method, %)


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    Figure 4. Monthly Rate of Increase in Money Supply M2 and Oil Prices in 2009–2010 (%)

         Source: CBR, MED

         High rate of increase in M2 did not lead to high inflation in January–June this year.
Taking into consideration the time lag, however, one cannot rule out an increase in the consumer
price index (CPI) in the course of several quarters6.
         In June 2010, the producer price index (PPI) for industrial goods (Figure 5) appreciably
decreased as compared with June 2009. This year, however, its changes are characterized by
instability: due to the global processes, a fast growth in PPI in February–May gave way to a drop
in June.

 See "ROSBANK CSA: Inflation under the Crisis: What is the News?", Analytical Banking Magazine, No. 3, pp.


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                          Figure 5. CPI and PPI in 2009–June 2010
                            (%, as compared with December 2009)

                  Source: Rosstat

       The securities market remained approximately at the December 2009 level, in spite of its
considerable fluctuations: as a whole the market grew in February – April and decreased in

Foreign Trade, International Reserves, Capital Flows

       In 1H2010, economy growth was promoted by a generally comparatively favorable
foreign trade environment. Average prices of Urals crude were quite high in May–June (73–74
USD/barrel), yet by about 10% lower than in April (81.5 USD/barrel). In 1H2010, average oil
prices increased (y-o-y) by about 60% (49 USD/barrel – in 1Н2009). Growth in oil prices to a
large extent promoted expansion of exports and increase in export surplus (Figure 6). Net
outflow of private capital that could be observed in 2009 (- $57,2 bln) and 1Q2010 (- $14,7 bln)
gave way to capital inflow in 2Q2010 (+$4,5 bln).


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   Figure 6. Foreign Trade Indicators of the Russian Federation in 1H2009 and 1H2010

               Source: estimates by CBR

       A generally comparatively favorable foreign trade environment to a large extent
promoted strengthening of real exchange rate of the Russian ruble against the basket of
currencies of Russia's foreign economic partners (9,5%, June/Dec).
       This strengthening can also be explained by depreciation of the euro (Figure 7). While
one could see a steady increase in the nominal and real exchange rate of the Russian ruble
against the euro, the situation regarding the US dollar was multidirectional (however,
depreciation of the Russian ruble was insufficient to neutralize competition in terms of imports).
       On the other hand, taking into consideration that US dollars are used for invoicing the
greater part of raw material supplies and some part of manufacturing, depreciation of the Russian
ruble against the US dollar will generally lead to a growth in export revenue, while stimulating


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  Figure 7. Indices of Nominal and Real Exchange Rate of the Russian Ruble against the
                                     euro and the US dollar

       Source: CBR

       In addition, inflow of export revenue in 1H2010 promoted growth of international
reserves from $439 bln (as of 1.1.2010) to $461 bln (as of 1.7.2010).
       On the other hand, some negative processes abroad (expenses in the United States and the
euro region) to some extent affected the Russian economy in 1H2010:
       - in 1Q, with the exclusion of the seasonal factor, saw a decrease in real GDP and some
       other indicators, as well as significant capital outflow;
       - decrease in oil prices and fluctuation of PPI could be seen in some periods;
       - relative devaluation of the international reserves accumulated in euros, etc.
       However, based on the six months results, the Russian economy continued to recover
successfully after the crisis. Although the global risks did not have radical effect upon the
Russian economy in 1H2010, their effect cannot be fully ignored in the future.


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        Conflicting Trends in the Banking Sector

        January–May saw a slight increase in lending for both households and corporate entities
(Figure 8). This is a positive sign, as opposed to earlier period (from late 2008) when there was a
decrease or stagnation in bank lending.
Figure 8. Rate of Increase in Some Banking Indicators in January–May 2009 and January–
                           May 2010 (%, as compared with December 2009)

                               3,8                              ~
                   1,1               1,8                                        January-May 2009
                                                                                January-May 2010


               Loans to       Loans to      Overdue claims   Reserves for
              households     nonfinancial                     credits and
                               entities                      other placed
                                                                f unds

        Source: CBR

        Over the 5 months of 2010, growth of overdue claims considerably slowed down (y-o-y
basis). However, the share of overdue claims in overall credits continued to go up, having
increased from 5.1% as of January 1, 2010, to 5.6% as of June 1, 2010.
        With a slight growth in assets, banks' own funds (capital) decreased7 (Figure 9).

 Capital decreased due to, among other reasons, partial repayment by Sberbank of a subordinated loan provided by


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    Figure 9. Rate of Increase in Banking Assets and Capital in January–May 2009 and
                 January–May 2010 (%, as compared with December 2009)

                     Source: CBR
       In addition, there was a continued growth in household deposits and funds attracted from
entities. This tendency has positive growth rate in recent three months (Figure 10).
                  Figure 10. Funds Attracted from the Nonfinancial Sector
                       (Increase as compared with December 2010, %)

                 Source: CBR

       This growth continued in spite of decreasing interest rates that approximated the
decreased rate of annual inflation (about 6%).
       The banking system is also noted for some other positive trends:
       - bank liquidity level remains steadily high;
       - capital adequacy ratio (H1) remains high, in spite of its decrease to 19.2% in May;
       - credit-deposit ratio stabilized at about 1;


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         In addition, y-o-y growth in banking profit could be observed as of June 1, 2010 (Figure
                     Figure 11. Profit of the Banking Sector (Rubles in billions)

                           Source: CBR
         However, as of April 1, return on assets and return on equity (ROA and ROE) were lower
than in the pre-crisis period and y-o-y (Figure 12).
                Figure 12. Return on Assets (ROA) and Return on Equity (ROE)*

* Indicators are calculated as ratio of financial result (before tax) over 12 months before reporting date to average
amount of assets (own funds (capital)) of credit institutions over the same period.
Source: CBR
         In general, the banking sector is characterized by a high level of uncertainty due to the
         - low consumer demand for credit caused by an unstable situation in the labor market and
in the social and economic sphere as a whole;
         - insufficient stability of positive trends in the changes in some macroeconomic;
         - insufficient number of medium-term and long-term projects;


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       - unpredictable behavior of entities in the banking service market at the microlevel;
       - external risks due to economic instability in the United States and the euro region
(including a threat of the "second wave" of the crisis and a threat of relapse into recession in
some leading countries).
       On the whole, at present the Russian banking system is characterized by multidirectional
trends. In the near future, development of the credit sphere will depend on both - objective
(macroeconomic) factors and, to a large extent, hard-to-predict subjective aspects in behavior of
market participants. In the long term, the Russian banking system retains high potential for
positive development.


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