01.02.23 Review

Rising Budget Optimism: January’s economic activity was boosted by large end-of-year funding injections by the government

The central bank’s business climate indicator for January, based on a large-scale survey of businesses, remained on par with December’s levels. Assessments of the business environment for January looked bleaker than they had been just a month before, and any growth occurred predominantly as a result of positive forecasts for the near future. However, if we look at the data across different industries, the dynamics varied greatly. What is particularly surprising is the sharp increase in negativity regarding the current state of the mining industry, and the increased positivity and what might even be termed extreme optimism regarding the production of capital goods. The latter may be associated with both import substitutions and the expansion of defence industry output. In any case, the end-of-year increase in budget spending no doubt played an important role in this positive outlook regarding the state of the Russian economy. However, when budget revenues fall and the government stops injecting money into the economy, the business climate is very likely to change.

In January, the consolidated value of the central bank’s business climate indicator remained at the same level as was calculated in December (+2.4). While in December this figure had been positive due to an improvement in the forecasts for business conditions, in January it was being propped up by an improvement in expectations for the short-term. This was despite the fact that estimates regarding production volumes in most industries were on the decline, especially in the auto retail and mining industries. The indicator had reached these levels back in September, although it has since had to go through the serious shock caused by mobilisation, only to recover to its previous values where it has remained stable over the last two months. S&P Global’s estimates for the state of production are similar: January’s business activity index (PMI) for the manufacturing sector was the same as in December, due to increasing orders and improving logistics. 

Bank of Russia business climate indicator, 2022–2023

Current evaluations of business conditions remain positive in the agriculture and capital goods industries. The latter has been making significant gains for several consecutive months now, this is surprising given the country’s industrial stagnation. This trend may be explained either by the process of import substitution (whereby domestic equipment is replacing its foreign counterparts) or by the dramatic increase in production within the defence industry. Interestingly, this industry has the highest estimates of product demand among all sectors of production.

Industrial activity in January fell in all sectors of industry, as well as in transportation, storage, and the auto trade. The main victim has been auto retail, which has been hit hard by the exodus of foreign manufacturers from Russia. Although it was only a month ago that car dealers were expressing some optimism about their future (Re: Russia analysed December’s business survey here), analysts from the Bank of Russia now assert that there has been ‘a significant contraction in demand as (automobile) prices remain high.’ In 2022, the prices of products from AvtoVAZ, UAZ and Chinese companies skyrocketed, despite the fact that many models have fewer features than before. For example, in January 2022, the Lada Largus cost 829,900 rubles, its current price sits at 1,300,900 rubles. The UAZ Patriot with a manual gearbox has risen in price from 1,084,000 rubles to 1,530,000.

Taking all this into account, it should be noted that companies currently appear to be  more positive about the future of production output than they were in December. For example, the construction industry, which was feeling extremely pessimistic in December, is now hoping for a quick recovery thanks to the extension of the state program of subsidised mortgages for new builds. The industry hopes this will help to revive demand in the primary market.

Across almost all sectors of industry, demand estimates  were bleaker in January than they had been in December. The most noticeable slump occurred in the mining sector. The value of the index used to assess current business conditions did not merely fall — it outright collapsed, plummeting from –1.8 to –8.7. Oil and gas companies are also feeling the weight of the new sanctions applied to Russian exports. Re:Russia covered how the falling oil and gas revenues drove down the ruble’s exchange rate here.

Despite all of this, the most negative balance sheet can still be found in retail trade, even though the industry saw a slight improvement in its performance last month (For Re:Russia’s explanation on how supermarket revenues in real terms are failing to catch up with inflation as a result of falling real incomes, see here). Research firm NielsenIQ has demonstrated that in 2022, real consumer spending on FMCG decreased by 3.4% year-on-year. This has also been affected by mass emigration from Russia. Supermarket chain ‘Azbuka Vkusa’ first complained about the ‘exodus of their target audience’, and now the X5 Group, which operates the cheaper Pyaterochka and Perekrestok supermarkets, has followed suit, releasing a similar statement.

Over the next three months, businesses in most industries are hoping for a growth in demand. The most optimistic outlooks can be seen among construction companies. Among manufacturing enterprises, demand expectations have improved for those producing capital and intermediate goods. Companies focused on consumer demand are not quite so optimistic.

In January, price expectations rose slightly for the first time in five months. According to a survey by the Bank of Russia, industry representatives that have the most restrained estimates of current demand (construction, wholesale and retail trade) are trying to cap price growth despite an increase in their operating costs. Moreover, according to a poll from ‘inFOM’ (which was commissioned by the central bank), ordinary citizens’ inflationary expectations fell in January. After several months of deterioration, there was finally some improvement in credit conditions in January. However, this change was marginal and did not affect all industries.

In sum, the business climate indicator’s sharp slump in October was not indicative of the beginning of a second wave of the economic crisis (an event predicted by economists as a result of depleted reserves), but rather a reaction to the announcement of mobilisation, which created a sense of extreme uncertainty among businesses. The indicator’s December–January’s recovery should also be viewed through the prism of one particularly important detail: budget spending is at its greatest at the end of the year (‘partly due to the fact that it also includes next year’s spending,’ Finance Minister Siluanov was recently quoted as saying). The impact of this stimulus may run out as early as February, and a drop in current budget revenues as a result of sanctions against Russian oil and oil products will create pressure of a totally different nature.

The values of the business climate indicator consist of the modified difference between the responses ‘the situation has improved’ and ‘the situation has worsened’. The composite indicator is formed from two components — an assessment of the current business climate and an assessment of the expected future business climate. Business executives are asked for their assessments of changes in demand and output at the time of the survey and over a three-month period. Separately, the central bank calculates composite indices for demand and output. The survey covers about 14 thousand enterprises across all major sectors of economic activity. Indicators for previous periods are prepared using comprehensive data, taking into account surveys received after the preparation of operational data.