Putin swears off stimulus as policy mix moves toward 'orthodoxy'

[MOSCOW] It was by no means the showstopper of President Vladimir Putin's annual call-in with Russians, complete as it was with digs at the US and justice dispensed on live television.

Two days after Bank of Russia governor Elvira Nabiullina urged reforms and warned against the "big illusion" of using inflation to propel growth, Mr Putin said last week that he won't turn on the taps to pump the economy with cash even as a recession drags on. The president is channeling his central banker in what's now standard fare for Russia after the worst oil crash in a generation jolted the world's biggest energy exporter.

"Russia faces economic challenges that require close cooperation between the central bank and the government," said Piotr Matys, a strategist for emerging-market currencies at Rabobank in London.

"The Russian central bank has already eased the burden on the economy by cutting rates substantially and providing local banks with liquidity. It would be beneficial if such measures were accompanied by efforts from the government to significantly accelerate the pace of structural reforms."

The message is getting through. After deploying a stimulus package estimated as the largest among Group of 20 nations during the crisis in 2009-2010, Mr Putin has held back this time, letting the economy adjust though a weaker exchange rate and spending cuts.

That's left Russia with a mix of fiscal and monetary policy deemed by Morgan Stanley to be among the "most orthodox" in a region stretching from eastern Europe to Africa, an assessment based on factors from the dynamics of public debt to the outlook for real interest rates.

'Economy's Structure'

Long a critic of the US Federal Reserve as the world's dollar printing press, Mr Putin said for the first time that spending cutbacks will extend to defence and security, which together with social outlays account for almost 60 per cent of this year's expenditure. The central bank has repeatedly warned that the budget presents risks to its inflation outlook.

What's "most important is not to print money but to change our economy's structure," Mr Putin said.

"The main issues are how to attract investment, make our economy more efficient, and ensure demand - in other words, how to raise people's incomes."

Ms Nabiullina's prescription for Russia is similar. It includes a "responsible" macroeconomic policy, "structural reforms" and developing the capital market.

Not even oil at US$100 a barrel would lift medium-term gains in gross domestic product beyond a range of 1.5 per cent to 2 per cent, Ms Nabiullina said last Tuesday, calling the challenge of unlocking economic growth "purely an internal problem."

Russia Adjusts

Long vulnerable to swings in commodity prices, Russia is adapting. The share of oil and gas revenue in budget income plunged to 34 per cent in the first quarter, compared with more than half in 2014. Russia has surged by 61 spots in the World Bank's Ease of Doing Business Index since 2013 to 51st this year.

The Bank of Russia believes it's doing its part by focusing on inflation. First deputy governor Ksenia Yudaeva last week called the shift to slower price growth one of the "most important structural reforms" for the country because it's a "basic condition to create long money."

For a central bank that until 1995 directly extended loans to fund the federal budget deficit and parts of the economy, Russian monetary policy has seen a "major transformation toward orthodoxy," Morgan Stanley economists said in an April 13 report.

'Moderately Tight'

As the currency crisis was deepening in late 2014, the central bank shifted to a free-floating exchange rate and then jacked up its key rate to 17 per cent in the middle of the night in Moscow to stabilize the ruble.

After five rate cuts last year rolled back most of the emergency increase, the Bank of Russia has remained on pause since July and even warned last month that its "moderately tight" policy may last longer than previously planned.

There was nary a criticism of the central bank from Mr Putin on Thursday. While pointing to forecasts that the economy will contract by 0.3 per cent this year, he saw "grounds for optimism," with growth set to resume and reach 1.4 per cent in 2017.

Unlike some of the biggest emerging economies like Brazil, which Barclays Plc said earlier this year showed signs of suffering from "fiscal dominance", the central bank and the government in Russia are moving in sync. Fiscal dominance refers to a situation in which a central bank is forced to purchase government debt and finance deficits through inflation.

'Quite United'

"Their line has been quite united in the last 12 months," said Vladimir Miklashevsky, a strategist at Danske Bank in Helsinki, referring to Mr Putin and Ms Nabiullina.

"They both start being vocal about real economic problems, and it's great."

With Russia in recession for a second year, the government has done little to back up talk of reform with action. That changed ever so slightly on Thursday, when Mr Putin said former Russian finance minister and investor favorite Alexei Kudrin would be given a greater role in advising on economic policy.

Mr Kudrin, who left the government in 2011 because of a public feud with then-President Dmitry Medvedev over military spending, as finance minister presided over budget surpluses between 2000 and 2008.

"Should Kudrin once again start playing a fairly important role in the Kremlin's administration, it would be a positive signal that perhaps the pace of structural reforms will accelerate significantly," Mr Matys said.

That "in turn would reduce Russia's reliance on oil and would strengthen economic fundamentals and would put Russia on the path of sustainable growth over the long-term horizon."

BLOOMBERG