Russian Economic Comment

Recent inflation data released by Rosstat has suggested an easing in CPI inflation from +14.7% m-o-m in July, down from the annual increase of +15.1% y-o-y registered in June. Furthermore, the weekly consumer inflation estimates indicate that the headline number could turnout to be flat or even negative in August. However, on a less positive note, June producer price data showed an increase of +28.1% y-o-y, suggesting that input prices remain at elevated levels. Recent official data releases have correlated well with the PMI-based data. For example, output price indices in both the Manufacturing and Services PMI surveys have declined in July, while input prices rose in the manufacturing sector and declined in the services sector. On the whole, the current official +10.5% CPI target for 2008 is assessed to remain overly optimistic, with our own projections suggesting an end-of-year inflation outturn of +13.0%.

Responding to the recent rise in inflationary pressures, the Central Bank of Russia (CBR) has raised its refinance rate four times by +25bps this year to 11%. In an attempt to further constrain these overheating inflationary pressures, we look for the CBR to continue its recent policy of raising interest rate settings, together with sanctioning a formal revaluation of its rouble currency basket.

The sharp rise in prices over the past year has already resulted in a slowing in real disposable incomes over the last six months, together with a softening in retail sales growth. However, in contrast the Russian Services PMI has seen a modest strengthening so far this year, with the headline index moving up from 54.8 in January to 58.3 in July.

On the external front, the tightening in global credit conditions has dampened the ability of Russian companies and banks to attract capital from abroad, with the general rise in international investor risk aversion impacting negatively on the level of foreign direct investment (FDI). Moreover, the deteriorating global financial environment, together with the elevated domestic inflation profile and rising interest rate profile appears to have impacted negatively on Russian capital investment spending. In particular, for most of 2007 and going into early 2008, capital investment growth in Russia has averaged around +20% y-o-y. However, the last couple of months has seen the pace of investment growth fall back to +10.8% y-o-y in June. While a pick-up from the recent lows is widely expected in the near-term, long term prospects for investment activities have become somewhat less favourable.
 

VTB Bank Europe Research