07.02.23 Review

Between a Rock and a Hard Place: the vast majority of Russian businesses report rising costs, but low demand prevents price increases

According to a recent operational survey by the central bank, the vast majority of businesses from various sectors faced significant cost increases in 2022. Higher prices for imported materials, components, equipment, and raw materials, as well as the need to overhaul supply chains, were the primary factors behind this increase. Many businesses have had to raise wages in order to remain competitive in the face of labour shortages. However, few companies have been able to fully pass on rising costs to their customers as a result of falling demand. Some businesses, such as those in the extractive industries, have been constrained by the terms of old contracts. The most popular measures introduced by businesses to avoid collapse have been product simplification and a reduction in product range. According to the survey, costs will continue to rise throughout 2023 as the same factors continue to put pressure on businesses, but this will be at a slower rate. On the contrary, the rise in prices in some sectors may pick up speed.

According to the results of an operational survey conducted by Russia's central bank, 86% of Russian businesses experienced significant cost increases in 2022. This growth was most rapid in April and May, after which it slowed down. According to the central bank experts behind the report, cost growth was recorded at 36% in the second half of the year, a slight decrease on the level recorded in 2021. The median cost increase for the entire year was 11.1%. Rising costs were only partially passed on to consumers by businesses. The median increase in sales prices, according to the survey, was 5.6%. 

In general, businesses across a variety of sectors were having to deal with the same problem: they needed to quickly adapt to sanctions alongside an unstable ruble and stagnant demand. However, the central bank's survey revealed some important industry-specific trends. 

In 2022, 85% of industrial enterprises reported cost increases. The overall industry's median cost increase was approximately +11.9%. The main factors driving this increase in the mining sector were changes to equipment suppliers and a shift in logistics as Russia refocused towards new markets (turning away from the West and towards the East). Contract terms and falling demand, on the other hand, limited the ability to transfer these growing costs onto prices. One Irkutsk oil and gas company reported a 2.5-fold increase in costs to the central bank. However, it was forced to maintain sales price stability. The manufacturing industry has had to find new suppliers both domestically and in Asia. Some businesses began to produce their own components in order to combat new supply chain issues. Production simplification was another of the anti-crisis measures introduced. Some enterprises reduced their product range, while others changed their specifications. Businesses whose suppliers had been forced to look for new contractors due to the breakdown in relations with Western partners were less affected by cost inflation. 

84% of retailers reported an increase in costs. The average estimate for this increase stands at 9.1%. One of the central reasons for this increase was increased import and logistics costs. High competition and falling demand hampered the cost-to-price transition (Re: Russia wrote about low economic activity in retail here). Many businesses (particularly in rural areas) have had to revise their product lines in favour of cheaper Russian-made goods. In Siberia, some businesses have filled the gaps in their product lines with Chinese goods. 

In the service sector, 87% of businesses reported a cost increase. The median value of this increase was 11.5%. Prices for consumer goods, rent, and utilities have also risen. As with retail, limited consumer activity has prevented businesses from passing 100% of the cost increases on to consumers. Businesses had to economise: beauty salons switched to less expensive products; cinemas reduced their screen count and cancelled shows. 

In construction, 77% of businesses surveyed by the central bank experienced rising costs. According to this figure, this industry was the least affected. However, the median increase was 11.9%. The main cause was a rise in the price of imported materials. At the same time, overall cost growth was mitigated by falling timber and metal prices. Due to high prices, war-induced uncertainty, and a tightening of preferential mortgage terms, the ability to pass these cost increases onto prices was severely limited, as it was in other sectors. 

Costs rose in 88% of agricultural enterprises, according to the same survey. The median increase was 11.4%. Higher prices for seeds, fertilisers, plant protection products, fodder, vitamins, veterinary drugs, machinery, and components largely determined the increase in costs. Because of the drop in the value of the ruble in the immediate aftermath of Russia’s full scale invasion of Ukraine in February, some businesses were forced to pay 30-50% more for imported seed for the spring sowing season than they would have in 2021. According to the central bank experts behind the report, the increase in sales prices was mitigated by the high gross yields of most crops. 

92% of businesses in the logistics sector saw an increase in costs. The average increase was 11%. Fuel, spare parts, and machinery have all increased in price. Wages have increased. A rise in insurance rates has also had an effect. According to the central bank survey, logistics and transportation companies, unlike other industries, were able to compensate for rising costs by raising their prices. For example, the cost of delivering goods to Russia's new main export and import hub, the Far East, has risen by more than a third due to a lack of carrying capacity on the Eastern Railway line. 

According to those surveyed, costs will continue to rise in 2023, but this will begin to plateau. The greatest contribution to this increase, as in 2022, will come from raw material, component, and equipment prices. Furthermore, logistics costs are expected to continue rising as a result of rail tariff indexation. Finally, the majority of companies polled intend to raise wages (Re: Russia has previously discussed why wages in Russia have begun to rise faster than productivity). Those who were unable to raise sales prices in 2022 are planning to do so by 10-20% this year.