Russian Economics - Moderate Capital Flight Helped Ruble Rebound in 2Q20

The 2Q20 balance of payments data helps us understand how the ruble was able to rebound in the quarter. While buoyant oil prices certainly helped the ruble, more important was that the capital outflow was quite moderate, at least compared with other crisis periods, for example in 2008 and 2014.The current account remained in surplus in 2Q20, though the surplus was quite modest at $0.6 bln, versus $9.9 bln a year earlier. Goods exports fell 33% y-o-y to $67.9 bln, driven lower by a 52% plunge in the export of oil and oil products, which in turn was caused mainly by a drop in the Brent price to an average of $33.6/bbl from $68.5/bbl in 2Q19, as well as a decline in oil and oil product export volumes due to the OPEC+ deal. Non-fuel exports declined by a more moderate 7.6% y-o-y to $40 bln, or 59% of total goods exports. While the decline was not all that steep, it reflected a decrease in physical volumes of Russian non-fuel exports and was quite negative for Russia's manufacturing sector.In 2Q20, goods imports shrank 13.5% y-o-y to $53.6 bln, a relatively moderate drop given the roughly 17% y-o-y contraction in retail sales in the period. All in all, the trade surplus narrowed to $14.3 bln in 2Q20, down from $39.4 bln a year earlier.The decrease in services exports in 2Q20 was a quite sharp 51.3% y-o-y, to $7.7 bln. However, the decline in imported services was an even steeper 60.3% y-o-y, to $9.8 bln. In both cases, the decline owed largely to the collapse in inbound and outbound travel due to the quarantine measures. Though the balance of services remained negative in 2Q20, it improved to a deficit of just $2.1 bln versus $9 bln a year earlier. Thanks to the ruble's depreciation and the contraction in economic activity, the income payments balance (which includes interest payments, dividends and wages) improved as well, the deficit shrinking to $11.6 bln from $20.6 bln in 2Q19.Importantly, the capital outflow from Russia was relatively modest in 2Q20. Including both the public and private sectors, it amounted to only $13.5 bln, which was even lower than in 1Q20. While this was a much worse result than the net $6.7 bln inflow in 2Q19, it was much better than what was seen in 2008 and 2014. The next table shows the balance of payments in 2Q20, as well as in 4Q08 and 4Q14, the peaks of the crises in the corresponding years. In 2014, geopolitical tensions began to mount in March, but the most severe sanctions were introduced at the end of summer, which is also when the oil price started to collapse. This is why the peak came in the fourth quarter.As can be seen, in 4Q08 and 4Q14 the CBR used much more of its reserves to protect the ruble than it did in 2Q20. The central bank's attempts to stem the losses in those years ended up failing, and the ruble ultimately weakened. It seems that the spending from Russia's international reserves simply stimulated capital outflow from the country, as investors (including those residing in Russia) used the opportunity to switch from the ruble to foreign currency.In contrast, the ruble ended 2Q20 stronger (71.2 versus the dollar) than where it began the quarter (78.8). Its far better performance was attributable both to exchange rate policy and the confidence of investors in Russia's macroeconomic stability.The next table summarizes the macroeconomic conditions in 2008, 2014 and 2020. In both 2008 and 2014, the CBR was managing the exchange rate (though in 2014 it was trying to control the pace of the ruble's depreciation rather than maintain a target). In those years, the Russian economy was very vulnerable to foreign capital flows (especially in the banking sector). The budget was also highly dependent on oil prices.The situation has changed dramatically since the 2014 crisis. Russia's fiscal discipline markedly improved with the implementation of the budget rule, which essentially forces the economy to operate as if the actual oil price is at the so-called base level (which was $40 bbl/Urals in 2017, then raised 2% per year, reaching $42.4/bbl Urals in 2020). The budget rule sets an implied oil price target for the economy, leaving the exchange rate in a free-floating regime. This is done via transactions in the forex market, which are arithmetically linked to the oil price. The breakeven oil price for the federal budget was $51/bbl Urals at the beginning of the current crisis. We note that since 2014 Russian companies and banks have substantially reduced their dependence on foreign capital. The share of ruble-denominated foreign debt has increased to 30.5% in 2020 from 25.6% in 2014 and 22.2% in 2008. Investors' confidence in Russia's macroeconomic stability has grown as a result of all these measures, so the capital outflow this time around was extremely low compared with 2008 and 2014. In 2020, the ruble has been relatively stable and the inflation risks are much lower than in past periods of crisis. This has allowed the government and the CBR to focus on supporting the economy by increasing budget expenditures and cutting the key rate, actions it was unable to take in the past.All in all, the ruble still faces risks, including those of a geopolitical nature. The ruble's recent depreciation from 68.3 versus the dollar in the beginning of June to 71.8 in the beginning of July is a good illustration of this. However, the exchange rate has clearly become far more resilient than it was in 2008 and 2014. We expect a current account surplus of $26 bln this year in our base-case scenario, in which Brent averages $45/bbl.