KEY RATING DRIVERS
The affirmation reflects the following factors:
Russia has strong sovereign and external balance sheets. The current account is in surplus, while the general government is close to balance. General government debt ended 2012 at just 10.4% of GDP, the lowest ratio in the ’BBB’ category, while sovereign net foreign assets were 24% of GDP. The Central Bank of Russia’s (CBR) international reserves exceed USD500bn (24% of GDP). Sovereign wealth funds (the Reserve Fund and the National Wealth Fund) held USD171bn (8.5% of GDP) in June, providing a buffer against external shocks.
The economy is slowing. Real GDP growth slumped to an unexpectedly low 1.2% yoy in Q213, and Fitch expects full-year growth of no more than 2%. The slowdown has highlighted structural economic issues and a lack of growth-enhancing reforms. However, Fitch does not believe recent weakness entails a fundamental re-evaluation of Russia’s growth potential. We expect activity to pick up in H213, before reaching 3% in 2014-2015, slightly below the average for sovereigns at Russia’s income level and well below pre-2008 growth rates.
Inflation is above the upper limit of 6% set out by the CBR, largely on non-monetary factors, and is now falling towards the target. The CBR has prioritised lowering inflation over stimulating growth, and while Russia’s track record on inflation is weaker than peers, it is improving. The CBR has minimised intervention in the rouble and is allowing a freer float, allowing the exchange rate to absorb external shocks, which Fitch views positively.
Slower growth is pressuring the public finances, and non-oil revenue is underperforming the budget. Having recorded a balanced federal budget in 2012, the deficit will reach 0.8% of GDP in 2013 (consolidated deficit of 0.3% of GDP). The government no longer expects to balance the federal budget by 2015. Government spending remains as stipulated under the oil-price-based fiscal rule introduced in 2012. The effort to build up the Reserve Fund using oil revenues is being scaled back.
Fitch expects the current account (CA) will be close to balance by 2015, as the CA surplus narrows from 3.7% of GDP in 2012. Capital outflows are likely to persist, as a by-product of the investment environment. As the surplus shrinks, there is potential for more pressure on the rouble in case of terms of trade shocks.
Governance is a relative weakness. The legal and business environment continues to deter investment, with inward FDI below the ’BBB’ average and investment in line with the median. The government is carrying out reforms designed to improve Russia’s ranking in the World Bank’s Ease of Doing Business survey from 112th place in 2013.
While overall growth in lending to the private sector is moderate, Fitch is concerned about pockets of fast-growing lending, notably to households. However, the CBR has taken several actions to slow consumer lending, with these measures likely to have an effect in 2013.
RATING SENSITIVITIES
The Stable Outlook reflects Fitch’s assessment that upside and downside risks to the rating are currently well balanced. Consequently, Fitch’s sensitivity analysis does not currently anticipate developments with a high likelihood of leading to a rating change.
The main factors that, individually or collectively, could lead to positive rating action are:
A reduction in vulnerability to oil price shocks, either via fiscal reform or gradual building of the Reserve Fund as a buffer.
A longer track record of lower inflation and management of the flexible exchange rate regime would reduce vulnerabilities to external shocks.
The main factors that, individually or collectively, could lead to negative rating action are:
A steep and prolonged oil price fall that had a material impact on the economy and the public finances. Oil accounts for half of federal budget revenues.
Fiscal slippage that damaged the long-term sustainability of the public finances, for example by drawing on the Reserve Fund to finance the budget even at elevated oil price levels.
A prolonged period of growth underperformance.
KEY ASSUMPTIONS
The ratings and Outlooks are sensitive to a number of assumptions:
Fitch assumes that growth recovers from the present depressed level and that the government and monetary authorities avoid stimulus measures that would endanger macroeconomic stability or the sustainability of the public finances.
Fitch assumes that oil prices do not diverge significantly from the agency’s base-case projection of USD100/barrel on average over 2014-2015.
Fitch assumes that Russia continues to enjoy broad social and political stability.
Fitch assumes there will be progress in deepening fiscal and financial integration at the eurozone level in line with commitments by policy makers. It also assumes that the risk of fragmentation of the eurozone remains low.
