RUSSIA'S QUARTERLY GDP DROP WORST EVER: HAS IT

C O N F I D E N T I A L SECTION 01 OF 02 MOSCOW 002141 SIPDIS STATE FOR EUR/RUS, EEB/IFD TREASURY FOR TORGERSON, WRIGHT DOC FOR 4231/MAC/EUR/JBROUGHER NSC FOR MCFAUL E.O. 12958: DECL: 08/20/2019 TAGS: ECON EFIN RS SUBJECT: RUSSIA'S QUARTERLY GDP DROP WORST EVER: HAS IT BOTTOMED OUT? REF: MOSCOW 02064 Classified By: A/ECON JStepanchuk for reasons 1.4 (b) and (d) 1.(C) Summary: Russia reported its worst quarterly drop in GDP ever in the second quarter of 2009, with a year-on-year decrease of 10.9%. Stocks tumbled as a result. Nevertheless, whereas just a few months ago the consensus view was that there would be a severe "second wave" of the financial crisis in the second half of 2009, expectations of a recovery this year are growing. Most analysts now believe Russia has hit bottom, that the second half of 2009 will not be as bad as he first half, and that 2010 will see very low, albeit positive, growth rates, barring a large drop in oil prices. Nevertheless, the absence of structural reforms and continued reliance on commodity exports will put Russia behind other developed economies and emerging markets in terms of growth and investment. End Summary. Worse Than Expected GDP Results... -------------- ¶2. (SBU) Russia turned in its worst quarterly economic result ever after the economy contracted by 10.9% year-on-year (YoY) in the second quarter of 2009. This was worse than the 10.4% YoY preliminary estimate in July from the Ministry of Economy, in part because of a greater drop in inventories than in 1Q09. The news sent stocks tumbling below the 1000 mark on Russia's main exchange, RTS. The ruble reacted strongly to both the GDP numbers and GOR's growing budget deficit (reftel). Alfa Bank reported that volatility increased dramatically and the ruble dropped by 1.5-2.0% vs. the basket over the course of 20 minutes, adding, "which in our view confirms that the market is concerned over Russia's growing budget deficit." ...But Future Not as Bad -------------- ¶3. (SBU) Russia's poor quarterly results were not much worse than expected, however, and many analysts believe that the Russian economy has hit bottom. Troika's chief economist Yevgeniy Gavrilenkov wrote: "The trends in GDP are in line with our expectations, and we reiterate our view that the economy will start growing (though moderately) in 2H09. The revival will be supported by increasing gas exports, restocking and gradually improving crediting." Expectations of a recovery in 2H09 are becoming the consensus among economists. Whereas Gavrilenkov forecast a GDP decline of around 5.0% this year, Aleksandra Yevtifyeva of VTB Capital estimated the drop in GDP for 2009 at a more modest 4.2%, implying an even stronger bounce back in 2H09. 4.(C) The public reports cited above echoed what our contacts have been telling us privately. Chief Economist at Merrill Lynch Julia Tsepliaeva told us that "the bottom was found" and "we're past the worst part." She pointed to customer sentiment, industrial production, and increasing inventories as signs of a recovery, which she attributes less to government stimulus and more to increasing oil prices. HSBC Chief Economist Aleksandr Morozov said that there would be a recovery on the back of the real sector, but that the financial sector would not be an engine for growth. He thought that 1H10 would still see declining GDP, but only on the magnitude of 1-2%. According to most analysts, the largest looming threats to recovery are the ever-present possibility of a large decrease in oil prices, a worsening global economic situation, and, specific to Russia, the growing number of non-performing loans held by banks (reported septel). Comment -------------- 5.(C) Russia's financial crisis was an opportunity to fix many of the country's structural economic problems, and many analysts initially expected such changes. Instead, the GOR has been depleting its Reserve Fund in order to minimize any popular dissatisfaction with the government while leaving inefficient market mechanisms in place. As a result, Russia's economy is as dependent on commodity prices as it ever was, but the next boom-and-bust cycle will likely find the GOR without the financial cushion in the form of the Reserve Fund that it had this time around. Most financial experts tell us that the next few years in Russia will see MOSCOW 00002141 002 OF 002 "underperforming" GDP growth rates in the range of 3-4%, substantiating concerns in some quarters of the GOR that Russia will continue to lag behind most developed economies in terms of growth and other emerging economies in terms of investment. End Comment. RUBIN