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July 4, 2016

Funny Old Game

by Amareos.

It has been a tough week or so for Russia. Having nearly been forced out early from the Euro 2016 football championship for bad crowd behaviour, on Monday their team was soundly beaten 3-0 by Wales: a unexpectedly poor on-the-pitch performance that resulted in Russia exiting the competition at the first round. Then on Tuesday the IOC upheld the earlier IAAF decision to apply a general ban on Russian track and field athletes from competing in this year’s Olympics in response to the recent doping scandal[1]. However, the bad news does not stop at sport. Also on Tuesday the EU announced that the sanctions imposed on Russia over the Ukraine crisis and the annexation of Crimea would be extended for a further six months (until January 2017).

The decision to extend the economic sanctions, first imposed on Russia in July 2014, still requires formal ministerial approval. However, this is largely viewed as a formality despite growing support amongst some leading EU politicians – notably Italian PM Renzi and German foreign minister Steinmeier – for the sanctions to be eased in order to facilitate greater economic cooperation between the two blocs.

All this comes at a delicate time for the Russian economy, which is still struggling to recover from the deep recession triggered by the dual contractionary effects of slumping crude oil prices (Russia is the world’s largest oil exporter[2] and third largest producer) and the economic sanctions[3].

The severity of the recession that hit Russia is clearly highlighted in the sentiment data we track at Amareos. As shown in the exhibit below, public perceptions towards Russian economic growth collapsed in 2014. Even with the doubling in crude oil prices observed since January, which has provided a much-needed cyclical boost, economic growth sentiment has still not returned to pre-recession levels.

Exhibit 1. Russian Economic Growth Sentiment



This is a pattern subsequently borne out by the official GDP data. According to the latest national accounts, the Russian economy is still contracting in y/y terms (-1.2% in Q1[4]); albeit a notable improvement on the peak rate of contraction recorded last year (-4.5%).

While the extension of economic sanctions constitutes an unhelpful ongoing headwind for the Russian economy, not all recent developments have been negative. The strong inflationary impulse generated by the RUB devaluation has subsided as stability has returned to the exchange rate. This has provided scope for the Russian central bank to this month resume its easing cycle, trimming the benchmark one-week repo rate by 50bp to 10.5%. Given that real interest rates in Russia remain fairly high – certainly in comparison with the economy’s potential GDP growth rate (see below) – further growth-supportive monetary easing seems likely.

Also positive is the strong performance of the Russian equity market, up more than 23% year-to-date, which generates a positive wealth effect. Driving this rally has been a marked improvement in sentiment– see exhibit below – clear validation that in the weird and wonderful world of finance it is not what happens per se that drives markets, but what happens relative to expectations[5] i.e. less bad (economic news) equals good.

Exhibit 2. Russian Equity Sentiment versus Price

Russian 2


Looking beyond the immediate cyclical horizon the greatest challenge facing Russia is in the area of structural policies. In light of poor demographic trends and a rapidly aging population, there is a broad consensus amongst economists and investors that significant reforms are urgently needed to boost Russia’s flagging potential economic growth rate[6].

When Putin returned for his second stint as President in 2012 he publicly acknowledged the need for improvement on this front by releasing his “May Decrees”[7]However, rather than signalling what many hoped would be a serious reform drive, it now appears that it has become a box-ticking exercise whose primary purpose is to enable Putin to show progress by emphasizing compliance percentages ahead of the 2018 Presidential election. Even more concerning, with parliamentary elections just months away (September 18), the prospect of any reforms being implemented before then is practically non-existent.

Shocked by the extent of public protests after the last parliamentary elections (charges of election tampering were the catalyst for the protests) the primary goal of Putin right now is to ensure the election delivers the desired result[8], namely United Russia – the parliamentary party led by Prime Minister Medvedev – remaining the dominant party in the Duma whilst avoiding a repetition of the 2011 protests.

Delaying badly-needed structural reforms that risk alienating already hard pressed voters (notably retirees) is one component. Another is the use of subtle political tactics, such as changing both the parliamentary election process and its timing (it was brought forward from December) to tip the balance in his favour. So far this approach appears to be working. Despite Untied Russia having lost support in the opinion polls few doubt that the make-up of the Duma will be radically changed by September’s election and yet indicators of social unrest in Russia remain low (see below).

Exhibit 3. Russia – Social Unrest Sentiment Indicator

Russian 3


That said, history shows the Russian electorate can be a rather fickle entity. Just last year the winning candidate in an online vote to nominate a mayor in one Siberian town was a cat named Barsik[9]; he beat six human candidates!

Politics, just like football, is a “funny old game” indeed.

*Sentiment Analytics are based on MarketPsych indices. 

[1] Individual Russian athletes will be able to participate if they can prove they have a clean record see:

[2] With around three quarters of their oil production shipped overseas Russia overtook Saudi Arabia last year according to BP’s annual statistical review of world energy markets.

[3] Former Russian finance minister Kudrin estimated the cost of the sanctions was up to 1.5 percentage points of annual GDP see:

[4] The Russian Federal State Statistics Service estimated that GDP contracted 0.6% q/q in Q1. However, this is not official because the agency stopped producing seasonal and calendar day adjusted GDP data after 2011.

[5] See:

[6] A country’s potential growth rate is the rate of expansion in economic activity that maintains price stability.

[7] See:

[8] Desired by Putin, of course.

[9] See:

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