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How Will Russia's Economy Survive 2016?



A global excess of cheap oil and poor governance have left Russia in a deep economic slump that shows few signs of abating soon.

The country's 2016 federal budget is calculated based on oil prices at $50 a barrel. Even at that level, the government runs a 3 percent deficit. With oil prices already below $30 a barrel at the beginning of the year, concerns have emerged over the ability of the Russian government to make ends meet in 2016. The economy, expected to be stagnant in 2016 after an economic decline of nearly 4 percent of GDP in 2015, may nosedive.

When the government's budget was voted on by parliament last December, the Russian central bank put the risk scenario at $35 a barrel of oil, while the Ministry of Finance put its "stress scenario" at $25 to $40. No one expected that these scenarios would come into play a month later. So much of Russia's federal budget depends on oil revenues—over the past several years oil has brought in approximately two-thirds of tax receipts—that a lower-than-expected price of the commodity endangers public sector salaries and social payments, as well as the budgets of all ministries.

Earlier this week the minister of finance announced that he had started a procedure to revise the federal budget at $40 a barrel. The ministry may well re-revise at $30 a barrel soon. What do such revisions imply?

A recent PIIE blog post briefly describes the effects on public expenditures. The first usually comes in the form of freezing public sector salaries and pensions. As inflation in Russia currently runs over 10 percent, this freeze effectively means the population suddenly becomes poorer. Next comes a reduction in social expenditures for schools, universities, and health care. These sectors then have to deal with smaller budgets while delivering the same service. Third come reductions in infrastructure spending. Russia has already announced a 60 percent cut in previously planned infrastructure projects, leaving untouched only spending on the 2018 World Cup. Now infrastructure budgets may be cut more drastically.

But in a country like Russia, where 55 percent of economic activity is in state-owned enterprises (see recent Policy Brief), the business sector is in peril, too. First, reduced government revenues mean struggling state-owned enterprises cannot receive assistance. Second, since the 2014 Western sanctions on the Russian banking sector, a number of large private businesses have also depended on government handouts. Such assistance will be severely limited after the budget is revised.

The government has two options to deal with the revenue shortfall. One is to offer potential investors some assets for sale, for example shares in state-owned banks or oil companies. This option has indeed been discussed publicly by government officials recently but in practice would run into difficulties given Western sanctions on both sectors. Also, Russia has not sold any state assets to private investors since President Putin re-entered the Kremlin in 2012.

The second option is to dig deeper into the government's reserve fund and hope for better times soon. The fund has approximately $41 billion left. This may be sufficient until late in the year—a similar amount was used in 2015 to supplement the government's budget. But $41 billion in reserves is probably not enough to last until next year if commodity prices stagnate. What then?

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