Stalling output growth rings alarm on industry

The recent decline in industrial output has raised doubts about the strength of Russia’s recovery. The drought and heat have been partially to blame, but economists warn some problems run deeper than that.

Russian industrial output growth has declined from 12.6% year on year in May to 9.7% year on year in June, and then to 5.9% year on year in July. UniCredit Chief Economist, Vladimir Osakovsky, worries that a further decline in August would suggest this segment of the economy is slowly falling back into recession.

“We do expect that the Russian economy is likely to slow in the second half of this year, so this slowdown of manufacturing production is partly in line with our forecasts. We do admit that the pace of the industrial recovery will slow because of the fading low base effect, some technical factors, but also due to persistent stagnation of investment demand or a reversal of fiscal stimulus.”

The weak demand growth for Russian made goods can partly be attributed to the increase in the value of the rouble on the back of rebounding crude prices in 2009. But the Russian currency has weakened 0.3% over the course of this year, with plans by the Central Bank to wind back its management of the currency, as its moves to a freer market position, having some warning of greater volatility ahead.

Theoretically a stronger rouble would see imports become more competitive, and Russian manufactured exports, in particular, less so. But the simple fact of the matter is that the vast bulk of Russia’s exports are either energy exports – for which prices have been relatively stable, with crude oil trading in a 10% range around $78/bbl almost all year – or resources commodities – for which prices have generally reached a peak earlier in the year. Agriculture, Russia’s third largest export earner, is being hammered by drought. The rebound in Russian imports has largely been driven by consumer items and big ticket technological purchases, which generally Russia doesn’t produce.

The decline in industrial output growth comes as lending growth remains sluggish. Yaroslav Lissovolik, Chief Economist at Deutsche Bank Russia, warns that the two could combine to undermine the economic recovery in general, and the industrial and manufacturing sector in particular.

“If banks see that the growth rates are not that strong, they might be more reluctant to give out loans. So this growth in lending that we started to see a couple of months ago, it could be undercut by this stagnation in terms of growth performance. And this is, I think, the bigger concern, because then, potentially, you can have a vicious circle, whereby slower growth leads to slower lending – this in turn leads to slower growth as well.”

The size of Russia’s industrial and manufacturing sector means it alone is highly unlikely to generate talk of a double dip recession, of the type being bandied about in the EU and US. But the weak industrial production figures underline concerns that Russia’s economic rebound could be longer and slower than policymakers would like, with any diversification away from energy and resource exports similarly lacking traction.