15.12.23 Review

The 'Victory Budget' May Get Hit by the Electric Car: Oil prices are increasingly at odds with the government's optimistic forecasts

The Russian budget in 2024 will face serious challenges if the negative scenario for oil prices continues to unfold. Global demand is falling further behind forecasts due to the weakness of the global economy. Increasing energy efficiency and the rise in electric car sales are also putting pressure on demand. Meanwhile, oil production is growing faster than anticipated, despite Saudi Arabia and Russia continuing to cut production in an attempt to stabilise prices. The increase in production in the United States and other countries has led to a decrease in the OPEC+ share in the global market. The use of production cuts as a tool to manipulate prices is proving increasingly ineffective.In case export revenues deviate from the optimistic forecast on which the budget is based, Russian authorities are preparing a plan to increase taxes for businesses. The problem is that in the conditions of high rates and reduced borrowing opportunities, the main sources of investment for entrepreneurs are their own funds and the budget. Tax increases, i.e. the redistribution of money between business profits and the budget, will not become a significant factor in economic growth.

Global oil demand is increasingly falling behind forecasts. Just a month ago, the International Energy Agency (IEA) anticipated that by the end of the year, demand would exceed 102 million barrels per day. In the December forecast, the estimate has been revised down to 101.7 million. The main reason for the revision is the weakness of the global economy. More than half of the predicted decrease in demand is attributed to Europe, where, according to the forecast of the European Commission, ten economies, including the largest one — Germany, are expected to go into the red this year. The IEA experts also note that pressure on demand is being exerted by the increase in energy efficiency and the growth in sales of electric cars. Oil production is also growing faster than forecasts. For the USA, the world's largest oil producer and consumer, the forecast has been raised to 20 million barrels per day. Brazil and Guyana are also supplying record volumes. And, supplies from Iran are increasing rapidly. As a result, world production this year may increase by 1.8 million to reach 101.9 million bpd. 

In order to deprive Russia of windfall profits from oil sales, enabling it to wage war with Ukraine, it is not necessary to completely cut it off from the global market – this would only lead to price increases and a global crisis. It is sufficient for the oil market to transform from a seller's market into a buyer's market. In other words, the increase in prices due to supply cuts should not compensate Russia and Saudi Arabia for their losses from reduced volumes. In this case, prices will go down, and the price ceiling for Russian oil will work more efficiently.

As Re:Russia previously reported, an increase in oil production outside of OPEC+ (primarily in the United States) could lead to this effect. The diminishing effectiveness of OPEC+ efforts became apparent at the end of November when the organisation announced an additional production cut of 2.2 million barrels per day in the first quarter: 1 million from Saudi Arabia, 0.5 million from Russia, and the rest from other countries. In response, oil did not rise but fell from $84 to $83 per barrel of Brent. Since then, the price has decreased by another $5. By the end of the year, the OPEC+ share in the global market is likely to fall to 51%, the lowest level since the creation of the expanded cartel in 2016.

The Russian budget for 2024, which Finance Minister Anton Siluanov has called a 'victory budget', is based on a Brent barrel price of $85, which corresponded to the price of oil when the budget was adopted. The current trend is making the government's forecast less realistic. In early December, the price of a Brent barrel dropped below $75, and a Urals barrel is priced at less than $60. In November, low prices and a 200,000-barrel-per-day reduction in supply led to a 17% decrease in revenue from the export of oil and oil products compared to the previous month, ultimately reaching $15.2 billion—the lowest value since July. The 2023 budget will no longer be significantly affected. The government expects that it will be executed with a deficit of 2%, thanks to the growth of non-oil and gas revenues, which increased by 28% year-on-year over the first ten months. Next year, however, problems may already arise.

If the reduction in production is becoming less effective as a lever for prices, despite the still, albeit slow, growing demand, what will happen if demand stalls? The Telegram channel MMI predicts: 'Exactly what happened in 1985: Saudi Arabia will recognise that the auction of unprecedented generosity on its part was inappropriate and will start to regain market share’. They continue to emphasise that 'Plans for sequestration of budget expenditures should start to be developed now, otherwise, it's either a prolonged double-digit inflation and a stable decline of the ruble or a 20% interest rate hike’. The MMI analysts believe this scenario is almost inevitable because of the slowdown in the global economy and the boom in electric car sales. 

Indeed, the global economy in 2024 may perform worse than expected. For example, the Organisation for Economic Cooperation and Development (OECD) downgraded its forecasts in a recent report. After a 2.9% growth this year (expected 3%), the growth in 2024 may be 2.7%, which would be the lowest result since the global financial crisis, with the exception of the first year of the pandemic. According to the International Energy Agency's forecast, the growth in demand may slow down by half, reaching 1.1 million barrels per day. As for the sales of electric cars, their growth rate has slowed slightly this year (in particular, due to the reduction in solvent demand in Europe), but continues to be impressive. Most experts expect them to occupy half of the global car market by 2030.

If the negative scenario comes to fruition, the 'victory budget' will face significant challenges. In preparation for this, Russian authorities are likely developing a plan to increase the tax burden on businesses, which has been under discussion since the beginning of the year. The head of the Russian Union of Industrialists and Entrepreneurs (RSPP), Alexander Shokhin, said in early December that raising the corporate income tax would be a better solution than unpredictable measures such as windfall profit taxes or exchange rate export duties, which the government had previously employed. However, even this move will not be painless for the economy. As Re:Russia has previously reported, with high interest rates and reduced borrowing opportunities, the two main sources of investment have become enterprises' own funds and the budget. Therefore, the redistribution of money between the budget and corporate profits will not have a significant impact on the economy's growth potential.