Upfront Optimism: Russia's business climate indicator has started to decline after an abnormal surge

In May, the business climate indicator, which is calculated by the Central Bank on the basis of a large-scale business survey, rebounded from its abnormal peak in April, when it reached its highest value since the early 2010s. Nevertheless, the composite indicator and its components remain high. Moreover, May's decline was the first in six months. This development can predominantly be explained by the government’s generous budgetary injections and special budgeting procedure for 2023, with a large-scale 'advance payment' of budgetary expenditure. In April alone, the budget deficit increased by 1 trillion rubles, compared with the annual plan of 2.9 trillion rubles. In May, however, expenditure may be lower. The economy is not yet getting enough support from the other driver of growth — private domestic demand. If the government starts to flatten its revenues and expenditure, this may lead to a further dip in optimism.

In May, the Central Bank’s business climate indicator stood at 7.9 points. This is lower than in April, when the indicator set a multi-year record by reaching 9.4 points, but is still higher than in March, when it stood at 7.4. Both components saw a gradual improvement at the end of 2022 but took an incredible leap at the beginning of 2023. Estimates of the current situation shifted from -6 points in the fourth quarter of 2022 to -1.4 in the first quarter of 2023, while expectations for the future increased from 7.6 points to 12.4. Estimates for April and May were even more positive and exceeded the peaks of 2021, when the economy was recovering from covid and growing at a rate of around 6% p.a. It bears remembering that the value of the index is relative: it captures developments in relation to the previous period. We are thus talking about a dramatic change in sentiment among entrepreneurs and managers. The reasons for this anomaly are most likely related not only to high budget expenditures, but also to the special budgeting procedure introduced for 2023, which involves a large-scale 'advance' of budget expenditure. As a result, companies in the chain of related orders and investments have experienced an unusual financial situation. In April, the government once again drastically increased its spending: the budget deficit rose by 1 trillion rubles at once — against a target of 2.9 trillion for the year.

The value of the current appraisal indicator fell to 2.3 — after standing at 3.4 in April. This is still relatively high: from 2014 to 2021, this indicator was almost always negative. In May, assessments of current business conditions were mixed, with a negative trend in services, industrial production and agriculture and a positive trend witnessed among construction, logistics and trade. Moreover, the value in construction is at the highest level in 15 years. However, as Natalia Zubarevich, an expert on regional economics, highlights, this can be easily explained by an analysis of construction growth on a region-by-region basis. Growth is observed in Moscow, where incomes are, as usual, high, as well as in the Southern Federal District and the Far East. Thus, the optimism demonstrated by builders may be primarily related to the implementation of national infrastructure projects targeting new trade corridors, as well as construction work caused by military operations and their aftermath. Thus, according to the authors of the Telegram channel MMI, 'partial reconstruction of what was destroyed and active construction of barrier lines' is crucial for the sector, just as it is in the manufacturing sector. Near-zero values were recorded in mid-2021.

Expectations fell in May in all aggregated sectors. The biggest declines were seen in trade and services. Improvement was recorded in manufacturing, and the most positive outlook was retained by producers of investment goods.

Central Bank business climate indicator, 2022-2023

Production estimates declined markedly in industry and mining, retail trade and water supply. Manufacturing industries as a whole did not see much deterioration, but this was at the expense of producers of intermediate goods. The estimates of manufacturers of investment goods and, in particular, consumer goods deteriorated substantially. At the same time, both maintained high expectations when it came to future output.

The balance of demand estimates declined, but remained in the positive zone it had reached last month for the first time since the war began. The most notable declines in demand were seen in mining and wholesale trade. Construction and logistics saw an increase in demand. Expectations for future demand were generally positive. However, the degree of optimism was higher last month. A marked deterioration in expectations has been observed in mining and trade.

The data released by the Central Bank may indicate that the economy is beginning to slow down. 'The momentum has slowed, but there continues to be growth,' said Kirill Tremasov, director of the Central Bank's Monetary Policy Department and founder of the Telegram channel MMI. This dynamic can be explained by the fact that, apart from broad budget injections, the economy has not received support from another driver of economic growth — private domestic demand. In April, there were signs that there might be some contribution from a revival of the household consumption sector. The Central Bank’s experts wrote in their April Regional Economy Survey that traders and service providers had hoped that consumers would increase their spending. However, this apparently did not occur to a sufficient extent. If the government starts to reduce its spending in order to equalise budget expenditures and revenues, this may lead to a further downturn in optimism. At the same time, the values of the composite indicator and its components remain abnormally high.

The values of the Central Bank's business climate indicator consist of the modified difference between the responses 'the situation has improved' and 'the situation has deteriorated'. The composite indicator is made up of two components: an assessment of the current business climate and an assessment of the expected business climate. Business executives are asked once a month about their assessment of changes in demand and output at the time of the survey and over the next three-months. Separately, the Central Bank calculates composite indices for demand and output. The survey covers some 14,000 enterprises across all major sectors of economic activity. Indicators for previous periods are reported on the basis of complete data, taking into account questionnaires received after the collection of operational information.