Russia, Oil and Economic Problems
Alongside with Iran, Venezuela and other oil exporter countries, Russia heavily depends on crude oil export revenue. On 3rd of March, Central Bank President Elvira Nabiullina said if average oil price stays at $45 this year, government revenues will fall by $ 160 billion.
“It is a rather large sum. Considering that Russia’s overall exports amount to about $500 billion, you can imagine the impact of declining crude oil prices on our balance of payments and economy,” Nabiullina told reporters in Moscow today.
Russia’s federal budget was based on crude oil price averaging $ 100. Oil and gas revenues accounted 50 percent of federal budget revenues and about 65 percent of country’s all export. Today’s oil price is between 50 to 60 dollar per barrel (WTI 50$, Brent 60$) down by than half from their pick at 107$ in June 2014. During last decade we have seen oil price tumbling, it happened during finance crises in 2008 and earlier as well. Questions are: when will oil prices recover? And has the Russian government ability to tackle existing problems before prices recover? Before answering these questions, we should analyze some factual data on crude oil prices and assess Russia’s current economic problems.
Oil and Its Future
People are making theories on low oil prices. Some say that sunny Saudi Arabia wants ruin Shia Iran, which needs high-priced oil to balance its budget. Others argue that with low price Saudis are trying to bankrupt shale producers in USA. Lately, president Putin declared that there is a conspiracy aimed to undermine Russia’s economy and the government. Yet, oil prices drop is not driven by a single event; it is driven by combination of events, which cannot be controlled by a single country or group of people. Crude oil market was always volatile and unpredictable.
Despite economic growth in USA, which was 2.3 percent last year, oil prices declined. Reasons are plenty: growth in Chine is slowing down, Japan has negative growth and it’s minimal in Euro Zone, USA citizens prefer low mileage cars and USA government is taking other conservative measures to slow demand.
On the other hand, crude oil output is growing. In USA, it is driven by hydraulic fracking and horizontal drilling. Last year, USA oil output increased by 15% year to year from 2013 to 2014, at the same time, import declined by 4 percent. Price deference between WTI and Brent is around 10 dollars, which is unusual on this level of oil prices. The reason is surge of oil output in USA by shale companies. USA crude oil commercial and SPR reserves has been steadily increasing to record high for last three decades. Commercial reserves are at 468 million barrel, SPR at 691 million barrel. Because of oil oversupply, in near future, USA will come to the point when the government has to decide lifting oil export embargo. Otherwise, government will risk killing shale production. This will be a big hit on USA energy independence. If government lifts embargo, in that scenario, some of USA crude oil will be sold on international market, which will contribute to escalation of war for a market share and oil supply glut will be bigger. That will send prices lower and produce big problems for countries like Russia.
In November of the last year, OPEC member countries met in Vienna. Aim of the meeting was cutting production to prop up oil prices. However, Saudi Arabia, which is the Cartel’s biggest oil producer, refused to cut production. Saudis declared that they would not cut production even if prices go down to 40 $. They promised to defend their market share and fight the price war with other oil producers, including shale and oil sands.
Another fact that can influence oil prices can be dispute settlement between the West and Iran and subsequent removal of sanctions. Iran has a capability to significantly increase crude oil production. If West and Iran reach agreement, it can add almost one million barrel to the international market. This will have notable impact on world oil prices.
Russia’s Internal Problems
Falling oil prices coupled with western sanctions are not the only problems that Russia is experiencing. Inflation rate is up to 17%, forcing consumers to spend less money. Economic data published recently, showed sharp decline in retail sales and drop in real wages. The government prediction that Growth Domestic Product will decline by 3% this year seems optimistic. Many international organizations and experts think that GDP will shrink by 4% or even more. Capital outflow reached $ 151 billion in 2014; this is higher than during financial crises five years ago. Depleting international reserves (according to Central bank of Russia, on January 1st, 2014, Russia’s international reserves were 509 billon USD; on March 13, 2015, they shrank to 351 billion USD) is another worry for Russian authorities. Because of sanctions, Russian companies are cut off from international money, and government has to refinance their debts, which is about $ 100 billion USD to be paid until the end of this year. These are only some of Russia’s.
It would not be fair to blame only low oil prices and sanctions for economic downturn in Russia. Bureaucracy and corruption are destroying Russia’s economy internally. Both problems are related to lack of structural reforms. Structural problems are among obstacles that put brakes on Russian economy. During last financial crises, five years ago, modernization of economy and structural reforms were one of most frequently used words by the Cabinet members and parliamentarians. However, after oil prices recovered, this agenda has been forgotten, neither modernization nor structural changes have occurred in the aftermath of the last financial crises.
Today, according to Russian establishment, the worst times are over, and there are some signs of stabilization in economic and financial sectors. Yet, the most often used word still is subsidies, which means that some sectors are still straggling. Despite optimistic predictions of Russian authorities, there is no a clear picture of the future of Russian economy. Future will show if president Putin has a will and ability to make changes in Russian bureaucratic and corrupted system. With his approval rate in the clouds, he has a good chance to go for it.