Riding out the Russian winter
An interview with Sanna Kurronen, Analyst, Nordea Markets
With Russia facing a deep and prolonged recession, we look at the impact on companies in the Nordic and Baltic regions.
We spoke to Sanna Kurronen, an analyst at Nordea Markets specialising in Russia, to hear about the sudden reversal in the country’s economic outlook, and examine how geopolitical changes can have knock-on effects on country and bank risk.
Why has the Russian economy gone from strong growth to recession?
The biggest challenge that the Russian economy faces is the price of oil, which has halved in the past year. Roughly two-thirds of Russia’s exports are in oil and gas, so it’s been hit hard by the falling prices. The Central Bank of Russia (CBR) has already predicted that GDP will decline by 4.5% in 2015. We do expect the price of oil to creep back up over the medium term, but possibly not fast enough to help turn around the economy.
Russia is also under sanctions from the EU and the US, because of the situation in Ukraine. That is affecting its ability to import goods, and the ability of its banks to raise finance.
As a result, we have seen the Russian rouble (RUB) lose value, which is making foreign products around 30% more expensive. The CBR initially responded to the fall in value by pushing interest rates up from 10.5% to 17% — although it has subsequently eased back to 15%. The initial move was seen as an attempt to combat inflation — but clearly the CBR is aware of the impact that high interest rates will have on companies’ ability to raise finance and on consumer spending.
What is the impact on companies that trade with Russian counterparties?
That will depend on the industries that companies engaged in business with Russia are in, and where they are from. For instance, Russian trade accounts for a much greater proportion of Finnish trade than Swedish trade. Russia has also banned European food imports in response to the EU sanctions, which affects countries such as Finland significantly.
In general, the current situation makes trading with Russia far harder. Some Russian companies and banks may face shortages of currencies — particularly US dollars. So if you were expecting your exports to be paid for in dollars, you might well experience delays. To counteract that, some companies might look at trading in RUB, and using FX hedging to cover their risks of the rouble continuing to weaken. But this can be an expensive option.
In the longer term, the difficulties Russian companies face getting access to foreign finance will become significant. It is not just risky companies that will be affected: even strong companies — those that are reliable trading partners — need access to finance.
But while Russian country risk, counterparty risk and even bank risk will be higher over the coming months, we do not see a major crisis on the horizon: the big state-owned banks and big state-owned companies will continue to get support from the Russian government.
Overall, Russia’s foreign debt is low, at 4% of GDP, and the CBR has already shown that it is willing to cut interest rates when possible, and to minimise the chances of major flights of deposits.
How long do you think the recession in Russia will last?
The answer to this depends on what happens to the oil price.
From what we can tell at the moment, OPEC looks set to maintain current production rates, which makes a significant rebound in oil prices unlikely. This seems to be driven by OPEC’s desire to limit the threat of shale gas and fracking. By pushing the oil price down, these forms of production become less economical.
So we believe that oil production volumes are likely to remain high for now, although prices will start to rise again later this year. If that happens, we would expect the current recession in Russia to last for somewhere between a year and 18 months.
As for the sanctions, there’s little sign that they will be lifted this year. The Russian Central Bank has predicted the sanctions will be in place until 2017, and our analysis concurs.
Of course, the political situation can change quickly, but there are no indications that the Russian government is about to change tack. The Russian government has told its citizens that it is not involved in Ukraine. That makes a change of strategy unlikely anytime soon.
How should Nordic companies prepare for future business with Russia?
Given the current uncertainties, it makes sense to hold back investment plans. The situation is very fluid and companies need to be prepared for changes. We have already seen for instance IKEA Russia temporarily stop sales of kitchen furniture and appliances, as the drop in the rouble prompted a pre-Christmas shopping frenzy. Even the world’s most profitable company, Apple, had to suspend online sales momentarily.
That said, many companies will take the view that these types of crises are something that has always happened and will always happen somewhere in the world. Depending on your attitude to risk, it could be a good time to expand your Russian trade: investment costs are certainly lower than normal. Some Russian businesses may be desperate for international trade, so you could be in a strong bargaining position to secure better payment terms.
Ultimately, what companies need to learn from the situation in Russia is the importance of taking a holistic view of risks in international trade, whether related to currency, bank, country or counterparty. Your central policy teams should formulate and maintain a strategy on Russia — and its neighbours, whose economies may be affected — based on your exposure and your attitude to risk. Then examine all the options available to you, from changing your terms of business, to using trade finance tools, or foreign exchange hedging. Apply your policies consistently and communicate any changes across the company.
To find out more about the unfolding financial situation in Russia, see our briefing updates on the Nordea eMarkets Nexus.