26.01 Review

Parallel Landing: The Russian economy is showing signs of both a slowdown in price growth and a decline in business activity

December was the first month of slowdown in the pace of consumer price growth,with the monthly increase decreasing to 0.73% after an average of 0.89% for the three previous months. However, not all commodity groups were equally affected by the slowdown. The decline in inflation was a consequence of a sharp tightening of monetary policy. However, at the same time, the first signs of economic slowdown appeared. The Central Bank's business activity index decreased, with the main contribution to this decline coming from the deterioration in assessments of current production volumes and services by almost 4 percentage points (-2.16 after +1.6). Low credit availability, cost pressures, and persistent labour market tensions will be the main factors putting pressure on businesses in the near future. The main contradiction in the Russian economy over the coming months, as we have repeatedly noted, is that against the background of a sharp tightening of monetary policy to fight inflation, the government does not intend to and cannot significantly reduce expenditures. As a result, inflationary pressure from the budget will persist, while high interest rates will limit growth opportunities for sectors of the economy not related to budgetary demand. This situation carries the risk of stagflation — simultaneous slowdown in output and relatively high price growth.

December was the first month of a slowdown in the pace of price growth after a three-month inflationary wave with average monthly price gains of 0.89% (resulting in double-digit annualised inflation figures) — after an average of 0.35% in the spring and 0.42% in the summer months of 2023. In December, the price increase was 0.73%, indicating continued elevated inflationary pressure, according to a detailed review of consumer price dynamics recently published by the Central Bank. The slowdown in price growth is more characteristic of goods with high sensitivity to the exchange rate (meaning that the impact of the exchange rate on prices, which occurred after the summer devaluation of the ruble, is almost at an end). In contrast, for goods independent of this factor (i.e. those that do not have an import component), the slowing of price growth is not as pronounced. Inflation for such goods remains close to 10% in annual terms. The main factor driving price growth in this commodity group is high domestic demand, allowing companies to pass on their costs to prices, according to Central Bank analysts. Therefore, for example, in regional terms, the slowdown in price growth has so far been evident in only half of Russian regions.

In general, the emerging trend reversal is the first consequence of the sharp tightening of monetary policy: on 15 December, the key rate was raised to a 'crisis' level of 16% per annum. According to Rosstat data, producer prices also declined in December, for the first time since June, when their rapid growth began. However, the next effect of the fight against inflation is expected to be a significant slowdown in economic growth. The Central Bank's recent monitoring of business activity indicates the first signs of this.

At first glance, the final business climate indicator decreased not significantly, from 7.8 to 6.8 percentage points. However, the biggest contribution to this decline was made by the deterioration of assessments of current business conditions by enterprises. The value of this indicator became negative again (-0.47 — this means that there were slightly more managers surveyed who reported a deterioration of the situation than those who gave a positive answer). The change in this indicator, in turn, led to a decrease in assessments of the volumes of production of goods and services by almost 4 percentage points (-2.16 after +1.6 the previous month). 

At the same time, for the third consecutive month, the estimates of price changes have also been decreasing. The indicator, the positive value of which indicates that more managers reported an increase in prices than a decrease, dropped to 15.6 points. In the first half of 2023, its value averaged 12.3, and from July to November, it was 18.2. However, the expectations of enterprises regarding both demand and price growth remain at a high level. When forming business plans for 2024, survey participants, on average, assume an annual inflation rate of 9.5%, which is more than twice the Central Bank's forecast (4-4.5%).The highest inflation expectations are among businesses in trade, construction and the service sector. The Central Bank promises to 'take into account' these pro-inflationary risks when conducting monetary policy.

The proportion of enterprises claiming an increase in production costs has also decreased slightly: in September–November, the indicator was above 40 points, and now it stands at 36.3. Among the factors contributing to cost growth are the rising prices of components, fuels and lubricants, and logistics, as well as the increase in the cost of servicing loans, which is a direct consequence of the sharp rise in the key rate.

Meanwhile, capacity utilisation in the fourth quarter of 2023 once again reached an all-time high of 81%, while labour availability reached its lowest since the beginning of 2020. Due to a serious shortage of engineering and technical personnel, difficulties arose in equipment adjustment, according to Central Bank analysts. In the first quarter of 2024, enterprises in key sectors of the economy plan to increase their workforce, and some are willing to revise salaries for certain categories of employees. Workforce tensions are persisting and are fuelling the growth of salaries. At the same time, the availability of credit has been declining for several consecutive months. The January survey shows that credit activity is supported only through preferential government programmes.

The main contradiction in the Russian economy in the coming months, as Re:Russia has repeatedly written, is that, against the backdrop of a sharp tightening of monetary policy to fight inflation, the government is neither willing nor able to significantly reduce expenditures. As a result, inflationary pressure from the budget persists, while high interest rates will limit growth opportunities for sectors of the economy not tied to budgetary demand. This situation brings with it the risk of stagflation — a simultaneous slowdown in output and relatively high price growth.

The values of the business climate indicator are the modified difference between the responses 'The situation has improved' and 'The situation has worsened'. The summary indicator is formed of two components — assessment of the current business climate and assessment of the expected business climate. Business managers are asked how they assess changes in demand and production volume at the time of the survey and over the course of the next three months. Separately, the Central Bank calculates composite indices for demand and output. On average, in 2023, surveys included 14,798 enterprises of key economic activities (with respondents ranging from 14,400 to 15,300 each month). Indicators for previous periods are reflected based on complete data, taking into account surveys received after the preparation of operational information.