The World Bank in Russia Russian Economic Report1

The World Bank in Russia Russian Economic Report1

The World Bank in Russia Russian Economic Report1 Public Disclosure Authorized Recovery and Beyond Public Disclosure Authorized № 29 Spring 2013 Public Disclosure Authorized WORLD BANK http://www.worldbank.org/eca/rer http://www.worldbank.org/russia 1 The report was prepared by a World Bank team consisting of Sergei Ulatov (Senior Economist), Stepan Titov (Senior Economist), Mikhail Matytsin (Consultant), and Olga Emelyanova (Research Analyst), under the direction of Kaspar Richter (Lead Economist and Country Sector Coordinator for economic policy in Russia). Gregory Kisunko (Senior Public Sector Specialist) and Stephen Knack (Lead Economist) authored the focus note on national and regional trends in regulatory burden and corruption in Russia. John Baffes (Senior Agricultural Economist) provided the box on the global oil market, Alvaro Gonzalez (Lead Economist) the box on the survival of firms, Maya Public Disclosure Authorized Gusarova (Public Sector Specialist) and Maria Ovchinnikova (Research Analyst) the box on the open budget index, Lawrence Kay (Сonsultant) the assessment on credit, and Theo van Rensburg (Senior Economist) the assessment on the global outlook. We are grateful for advice from and discussions with Michal Rutkowski (Country Director for Russia), Yvonne Tsikata (Director for Poverty Reduction and Economic Management in the Europe and Central Asia Region), Elisabeth Huybens (Acting Sector Manager for Russia, Ukraine, Belarus, and Moldova), Lada Strelkova (Country Program Coordinator for Russia), and Carolina Sanchez (Lead Economist and Regional Poverty Coordinator). Table of Contents Executive Summary .................................................................................................. 2 I. Recent Economic Developments ............................................................................. 4 Growth — slowing down .......................................................................................... 4 Trade and Capital Flows—lower current account surplus, lower capital outflows .................. 8 Jobs – lower unemployment and poverty .................................................................. 11 Money, Exchange Rate and Credit —policy rates stable as inflation remains high and consumer lending continues ................................................................................................ 16 Government Budget — from loosening to moderate consolidation ................................... 18 II. Economic Outlook ............................................................................................. 21 Prospects — recovery postponed ............................................................................. 21 Policies – recovery and beyond ............................................................................... 24 III. Trends in Regulatory Burden and Corruption ........................................................ 28 A. National Trends ............................................................................................. 28 B. Regional Comparisons ...................................................................................... 31 C. Conclusions ................................................................................................... 34 Annex. Russian Federation: Main Economic Indicators, 2007-2013 .................................... 36 2 Executive Summary At first glance, Russia’s economy looks strong. While the global economy was losing momentum and the euro area stuck in recession in 2012, growth in Russia was solid thanks to firm consumption. Indeed, the economic expansion in Russia was faster than in Brazil, South Korea and Turkey, something that was unthinkable only two years ago. The achievements are not limited to growth. In 2012, the current account was strong thanks to a large surplus in the trade balance. Capital outflows declined, allowing the Central Bank of Russia to add again to its stock of reserves. The budget was balanced, and the government started to replenish its reserve funds that were depleted during the crisis. While average public debt in advanced economies exceeds 110 percent of GDP, Russia’s public debt is no more than 10 percent of GDP. Unemployment dropped to record lows and wages grew at a solid pace. Annual inflation reached its lowest level in two decades. Strong labor markets and price stability reduced poverty: the number of poor people in Russia declined to 16.4 million in the third quarter of 2012, which was almost two million less than a year ago. However, a closer look reveals weaknesses. High oil prices accounted for a fair share of the recent achievements. The oil price nudged up further from record highs in 2011. High oil prices translated into strong export receipts, buoyant fiscal revenues, and rapid increases in public wages and transfers. Both the non-oil current account deficit and non-oil fiscal deficit remained close to record highs, underlying the economy’s reliance on oil. In addition, economic growth dropped to half the level of the decade up to the 2008 crisis. Industrial output declined in early 2013 for the first time since 2009. Fixed investment remains dependent on public funds, and foreign direct investment is subdued. Inflation increased in the second half of 2012 and is set to remain stubbornly high in early 2013, weighing on consumption. Russia is also stagnating in global economic rankings. Measuring the size of the economy in current dollars, Russia improved globally from the 18th to the 8th position between 2000 and 2008, and remained in this position in 2012. By 2014, growth in Russia is set to be lower again than in Brazil, South Korea and Turkey. Improving growth prospect will be difficult with further increases in oil prices unlikely, capacity utilization approaching pre-crisis peaks, unemployment at a record low, an aging and shrinking workforce and declining oil production in the absence of large investments and new discoveries. In order to revive and modernize the economy and reduce its dependence on natural resources, policymakers face two challenges. First, Russia has to manage macroeconomic policies so as to ensure economic stability in the face of domestic and external vulnerabilities. This implies three policy priorities: sticking with prudent spending plans and saving oil revenues that come in over and above budget; focusing monetary policy on low inflation to keep inflationary expectations in check; and strengthening banking supervision and taking additional measures to mitigate emerging risks in consumer lending. Second, Russia has to step up structural reforms so as to lift the growth potential. Today’s moderate growth reflects Russia’s moderate potential growth rate, as indicated by low unemployment and high capacity utilization, along with a weak external environment. Reviving growth requires, among others, reducing the state’s footprint on the economy and improving the investment climate; confronting the challenges of the aging and shrinking of the population; and strengthening governance through more transparency, better regulations and more effective control of corruption. Table 1: Russia’s Economic Outlook 2012 2013 proj. 2014 proj. Growth (%) 3.4 3.3 3.6 Consolidated budget balance (% of GDP) 0.4 -1.0 0.0 Current account balance (% of GDP) 4.1 2.6 1.3 Capital account balance (% of GDP) -2.1 -1.7 -1.1 Oil price assumption (WB Average, US$ per barrels) 105 102 102 Source: World Bank staff projections. 3 I. Recent Economic Developments Growth — slowing down Russia’s economy grew 3.4 percent in 2012, down from 4.3 percent in 2011. The economy slowed in the second half of the year due to weak net exports, negative base effects, and destocking at the end of the year. More than four years after the global financial crisis hit, the world economy remains sluggish. Industrial production lost momentum throughout last year, exports expanded only at a moderate pace, and imports even declined for three month during autumn 2012 (Figure 1). High-income countries continued to struggle as they restructured their economies and took steps to restore fiscal sustainability. While developing countries showed greater resilience, their growth also weakened steadily during 2012.2 Figure 1: (a) World import and export volumes (percent, yoy growth, sa, US$) and world industrial production volumes (percent, yoy growth, sa); and (b) GDP growth (percent, yoy) 20 12 15 8 10 5 4 0 0 -5 -4 -10 -15 -8 -20 -12 -25 3Q 06 3Q 07 3Q 08 3Q 09 3Q 10 3Q 11 3Q 12 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Russia OECD HI Imports Exports Industrial product. EU Emerging Other Emerging Source: OECD, World Bank, World Bank staff calculations. Against the backdrop of a difficult external environment, growth in Russia moderated in 2012. Growth peaked in the third quarter of 2011, and reached 4.3 percent in 2011. It declined throughout 2012, in part due to negative base effects in the second half of 2012, and eased to 3.4 percent in 2012. Nevertheless, growth in Russia was stronger than in Brazil, South Korean and Turkey. These countries were growing significantly faster than Russia only two years ago. However, preliminary estimates suggest that year-on-year growth fell to around 2 percent in the fourth quarter of 2012, which is the lowest rate in three years. Growth declined mainly due to weaker performance of investment. Inventories were flat as the restocking cycle after the crisis came to an end, and fixed investment expanded only moderately as business remained cautious about

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