Economy takes double hit

Twin blows hit the Russian economy this week as GDP plunged by 8.8 per cent in January compared to the same period a year before, while Gazprom pessimistically rewrote its investment budget on the basis of oil at $25 per barrel.
Natalya Orlova, chief economist at Alfa Bank, said the drop was not unexpected - given the decline in manufacturing, metal firms cutting production 30 per cent and many automakers going down to a three-day week.
"Given the 16 per cent drop in industrial output in January, the 9 per cent drop in GDP is not surprising," said Orlova, who predicts that GDP will shrink 3 per cent this year. "It can not be explained by [the January] holidays, as this figure is year-on-year."
Some economists played down the significance of January data due to the holiday at the beginning of the month, coupled with the extended leave many workers were forced to take.
"It was January so the first 10 days are off," said Ronald Smith, chief strategist at Alfa Bank. "Take that number with a grain of salt. It does not mean we are going to see that number for the whole year."
However, the fall is broadly is line with the government's own forecast, which puts the expected GDP drop at 2.2 per cent this year.
"We are in the midst of the worst economic crisis since the 1930s, so it isn't surprising that there is a bit of a crunch," said Roland Nash, chief strategist at Renaissance Capital.
Gazprom has also reacted to the negative economic environment, with Kommersant reporting Wed­nesday that the gas monopoly has rewritten its investment budget for oil at $25 per barrel. A Gazprom spokesman denied that any exact figures had been mentioned.
"We do have calculated options but it is too early to consider them by management or board. We will do that after we see the results of the first quarter," Sergei Kupriyanov said, Reuters reported.
Economists praised any potential decision to readjust to a more conservative budget, saying it was the safe option in an uncertain environment.
"If I were an oil producer I would want to use a very conservative assumption but that doesn't mean the price will be $25," said Martin Gilman, a professor at the Higher School of Economics. "If you are putting real money into the ground you want to consider a low-ball number."
Rather than $25 being Gazprom's actual forecast for oil prices this year, it is simply a planning number which is seen as a possible low in the short term.
"If it does go down to $25, I'm sure it won't be there very long," said Nash. "There is a fear that there is too much oil around but in the longer term there is definitely not enough, so the oil price will be much higher."
These prudent predictions are likely to hamper investment in the next couple of years and Kommersant reported that Gazprom will continue its core projects but reduce investment by 200 billion rubles ($5.6 billion). Lower investment in the short term could cause oil prices to soar when the global economy recovers but, due to the fall in commodity prices, the amount of projects on hold will be minimal as the monopoly will be able to make savings from its suppliers.
"They are talking about renegotiating their contracts and getting 30 per cent to 50 per cent discounts," said Smith.
Oil prices will play an important role in Russia's recovery due to its dependence on raw materials and the economy could still grow if prices exceed the government forecast of $41 per barrel.
"If oil prices don't drop, then I don't see any reason why the economy will continue to contract throughout the year," said Gilman.
President Medvedev criticised the government last week for being too slow in response to the crisis but Finance Minister Alexei Kudrin said his ministry will submit the new budget by March 8.
A proposed increase of 500 billion roubles ($14 billion) in spending, coupled with a massive fall in oil revenues, will lead to a budget deficit of around 8 per cent.
"Most of the rise in the budget deficit has to do with declining revenues," said Yaroslav Lissovolik, chief economist at Deutsche Bank. "[The deficit] was less of a decision and more of an inevitability due to low oil prices."
Prime Minister Vladimir Putin also said that spending on health, education, housing and agriculture would continue to be a priority. Lissovolik said that the government should be supporting infrastructure projects to boost growth.
"The composition of spending is the weak point of the current budget because they mostly target increases in current spending," he said. "This kind of composition is not that favourable to obtaining higher growth rates."
The deficit will be funded by money built up during the oil boom, with 2.7 trillion roubles ($75 billion) coming from the Reserve Fund and 255 billion roubles ($7 billion) from the National Welfare Fund, Kudrin said. The Reserve Fund will be depleted within two years at this rate and then Russia would be dependent on foreign capital markets if it continues to run a deficit.
However, the forecast of several economists is that the real economy will start recovering by the second half of the year, providing the rouble and oil price do not collapse further.
"I was encouraged by the exchange rate, but the policies have got to be right, money has got to be tight and they've got to bring inflation down," said Gilman.