The oil price slump is trouble for countries relying on its export. Russia is among them. During 2010-2015, about 50% of the state budget income was related to the oil sector (See Figure 1). With the turbulence in the oil market, the Russian government deficit is widening, as income from oil export is decreasing (See Figure 2). Recession creates additional pressure on the state budget.
Due to low levels of government debt (See Figure 3) and substantial reserves, accumulated during a high oil price period, the commodities price slump will not create big fiscal troubles for the Russian government in the short term. Reasonable Ministry of Finance measures, such as budget cuts, are also vital in preserving fiscal stability. However, Russia may face a challenge without expenditures cuts, especially if quasi-sovereign liabilities are realized and the low oil price period is prolonged.
Figure 1: Russian state budget revenues decomposition, bln Rubles. Source: Ministry of Finance of the Russian Federation
Figure 2: Russian Government Budget Balance as the percent of GDP. Source: tradingeconomics.com
Figure 3: Russian government debt to GDP ratio. Source: IMF
Russian government debt is at low levels compared to other BRICS economies. Now, it is about 18% of GDP, while South Africa is 50.1%, China is 43.9%, India is 67.2%, and Brazil is 73.7% of GDP, according to the IMF. Russian public debt has been reduced significantly from 2000 due to favorable oil prices, which also allowed an increase in government expenditures and accumulation of substantial reserves, such as the Reserve Fund and the National Wealth Fund. The Reserve Fund, in the beginning of June 2016, was $38.6 billion and the National Wealth Fund, at the same time, was $72.99 billion, or 3.2% and 6.1% of GDP, respectively, according to the Ministry Of Finance.
There are quasi-sovereign debts risk. In contrast to the sovereign debt, the corporate debt of Russian companies has increased substantially during the same period. In my previous article, you can find data for external debt of the Russian corporate sector. As major Russian corporations, such as Gazprom, Rosneft, Sberbank, VTB, and RZD, are state-owned, there is a risk of the contingent liability for the Russian government.
It is hard to estimate the exact amount of such liabilities, as many can pay their debts. (You can see how external debt has reduced during 2015 in my article.) State-owned enterprises debt may increase Russian government debt by about 10% of the GDP, according to a Deutsche Bank research paper. These risks may be realized with the prolonged period of low oil price that will have a negative effect on the performance of Russian companies and banks. The Russian Vnesheconombank is a nice example. Total hole in its assets, due to bad loans and ineffective investments, may account for about 2.8% of GDP.
The Russian government must cut expenditures. Today, a primary source of financing the budget deficit is the Reserve fund. It has contracted by 50% during May 2015 and May 2016, from about $76 billion to $38.6 billion. Even if the Ministry of Finance goal of 3% of the GDP deficit is achieved, The Reserve Fund, which accounts for 3.2% of the GDP, will be exhausted in about a year. As for the National Wealth Fund, the possibility of its use for financing the deficit is unclear. Anyway, as it accounts for about 6.1% of the GDP, it could be exhausted in two years of 3% deficit.
Another source of income for the state budget is privatization. The Ministry of Finance's plan for privatization proceedings during 2016-2017 is about 1-1.5 trillion rubles or about 1.8-2.8% of GDP. Obviously, these sources are short-lived. To preserve fiscal stability, the Russian government must cut expenditures. The Ministry of Finance has already proposed to cut them by 1% of the GDP year by year during 2017-2018. In 2016, expenditures have already been cut by 10%. Low GDP growth (I expect it not to exceed 2%) and high interest rate on Russian sovereign debt (an average ruble-denominated yield is 9-10%) leave limited room for increased debt levels. Still, it is unclear if the Russian government would cut expenditures.
If the fiscal consolidation is implemented and oil price stabilizes at its current levels, Russian Eurobonds may be an attractive investment. If there is a clear message from the Russian government about its commitment to preserve fiscal stability and the oil price stabilizes, Russian 10-year Eurobonds with 4.65-4.9% yield may be an attractive investment.
Oil price stabilization is needed for general economic performance, which will guarantee current levels of government income and prevent turning state-owned enterprise debts into sovereign debts. Yields across developed markets are at historical lows, or even in the negative zone. Russia has considerable foreign reserves and current account surplus. If the Ministry of Finance's plan for fiscal consolidation is realized, there will be low risks of unsustainable debt growth.
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