Statement at the Conclusion of the IMF’s 2010 Article IV Consultation Mission to the Russian FederationPress Release No. 10/244
June 15, 2010
An International Monetary Fund (IMF) mission, headed by Poul Thomsen, visited Russia during June 2-15, to hold discussions for the 2010 Article IV Consultation.1 The discussions focused on the lessons from the global economic crisis for Russia, and on economic policy priorities as Russia is moving from crisis management to policies for sustained economic growth. The mission met with Deputy Prime Minister and Finance Minister Kudrin, Central Bank of Russia (CBR) Governor Ignatiev, other senior officials, and representatives of financial institutions, corporations, and think tanks.
The Russian authorities responded forcefully to the global crisis. The CBR provided substantial ruble liquidity, and intervened in the foreign exchange market to slow the depreciation of the ruble, significantly reducing its foreign reserves. Meanwhile, the prudent past policy of taxing and saving much of the oil windfall had left significant scope for counter-cyclical fiscal relaxation, despite the easing in the years immediately preceding the crisis, and the government increased the non-oil deficit by nearly 7 percent of GDP in 2009. Thus, policymakers boldly used the large room for maneuver afforded by Russia’ huge international reserves and low public debt.
Russia is now transitioning from stabilization to a slow rebound. All components of demand are increasing. However, growth is becoming consumption-led, reflecting in part the recent 45 percent increase in pensions. But while the current rebound is still dependent on policy support, a self-sustained recovery is set to gradually take hold. As a result, GDP growth is projected to reach 4¼ percent in 2010 and inflation is expected to remain relatively subdued, reaching 6 percent at end-year. Still, with limited prospects for further increases in oil prices over the medium term, the strong growth in investment that powered the pre-crisis growth is unlikely to materialize again anytime soon. This suggests that Russia will emerge from the crisis with notably lower potential growth.
Looking ahead, realizing Russia’s growth potential will require a decisive break with past policies. While Russia’s large reserves still provide safeguards, failure to tighten fiscal and monetary policies and reinvigorate banking and structural reforms would result in low medium-term growth.
Withdrawal of the fiscal stimulus should start already now, in 2010, and gain pace in 2011-12. With cyclical conditions set to normalize—and with lower potential growth—the authorities should plan on fully reversing the increase in the non-oil deficit in coming years. The expansion of the federal government’s non-oil balance implied by the 2010 supplementary budget is, therefore, regrettable, and the prospect of another supplementary budget in the fall is worrisome. The longer-term target for the non-oil budget deficit of 4.7 percent of GDP implied by the authorities’ fiscal framework remains appropriate.
Reduction of the fiscal deficit will require a reinvigoration of public sector reforms. The government budget has become increasingly inflexible as three-quarters of the increase in the non-oil deficit compared to its pre-crisis level reflects permanent measures, including an increase in pensions by 4½ percent of GDP. Non-statutory spending by the federal government amounts to only about 9 percent of GDP, which suggests that reversing the increase in the non-oil deficit of 7 percent of GDP will not be possible without comprehensive public sector reforms. Cross-country comparisons suggest that significant savings can be achieved in health and social protection without compromising service delivery. Moreover, the pension system needs to be made financially viable through reforms, including a gradual but major increase in the retirement age. Finally, to strengthen budget implementation, the fiscal policy framework needs to be bolstered, by eschewing the use of supplementary budgets and firmly anchoring fiscal policy on targets for the non-oil balance.
Monetary policy should be focused on inflation control, in the context of a flexible exchange rate policy. The increased flexibility of the exchange rate during the past year is welcome. However, the CBR’s determination to give priority to inflation reduction will be tested to the extent that the normalization of cyclical conditions increase upward pressures on the exchange rate. We believe that the CBR must not only lock-in recent gains in reducing inflation, but target a further reduction in 2010-11, to below 5 percent; anchoring inflation at a low and stable level will help mobilize long-term investment resources domestically. In this regard, we agree with the CBR that the monetary policy easing cycle could now be paused.
Despite improvements in recent years, there is still a significant need for improving provisioning standards and expanding the supervisory authority of the central bank. Strengthening the loan classification and provisioning system is essential to gaining a full understanding of banks’ capital adequacy. Doing so may reduce reported capital adequacy—and in that case, undercapitalized financial institutions should be recapitalized, restructured, merged, or closed. To the extent that better provisioning leads to healthier loan portfolios over time, the banking system would be better positioned to support economic growth over the medium term. Loans remaining under regulatory forbearance will require close monitoring and an eventual return to stricter standards. The CBR should be afforded greater supervisory powers, in particular authority to conduct consolidated supervision including over connected lending.
The key structural reform priority is to improve the investment climate. Civil service and public administration reforms, as well as privatization, would curtail the pervasive influence of government on economic decision making. Reform of the judiciary would help assure investors that property rights will be protected and that the playing field for investors will be level. Finally, WTO accession holds the promise of making the investment environment more predictable and rules based.
1 Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with its member countries, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.