As far as the inflation battle is concerned the US must be discussed invariably, even if there is a bank holiday on the other side of the Atlantic. And the latest developments are plausibly buoyant. The Fed chair made it abundantly clear at Jackson Hole that inflation is still too high, but policy makers will be driven by the “totality” of data. When one considers Friday’s job report, which showed an uptick in unemployment rate and Thursday’s inflation data that presented us with slowing price rises then it is not unreasonable to expect a pause in rate hikes come the next meeting in a little over two weeks’ time. Add to that the Chinese government’s attempt to administer the latest shot of adrenalin in the arm of the economy by cutting bank reserve ratio, easing borrowing rules and restrictions for home buyers, and we are confronted with a significantly ameliorating investment environment despite the sedated expansion of the Chinese service sector. So far, so good but future data releases will ostensibly keep shaping the mood.

As for oil, this week’s salient issues are the OPEC+ action and US inventory data, which will be released a day later than usual due to yesterday’s Labour Day holiday. Russia’s Deputy Prime Minister promised to shed light on last week’s discussions with Saudi Arabia on production constraints for October and potentially beyond in coming days. It is widely expected that the cuts will be rolled over hence the resilience in crude oil prices, which could receive an additional boost in case of yet another sizeable drawdown in US stockpiles. The recent sluggish performance of distillates is somewhat puzzling; however, it is more likely to be a violent bout of profit-taking as last week’s hurricane failed to cause any meaningful disruption in refinery operation than a structural change in the underlying fundamental outlook in the middle of the barrel.

GMT +1	Country	Today’s data	Expectation
09.00	Euro zone	HCOB Composite PMI Final August	47
15.00	US	Factory orders MoM July	-2.5%

 

Grim Russian Prospects

Wars are expensive and damaging from every aspect of life. The human, social, political, and economic costs can be immeasurable. Statistics are dreadful. The post-9/11 conflicts in Afghanistan, Iraq, Pakistan, Syria, Yemen, and other war zones resulted in more than 900,000 direct and around 3.7 million indirect deaths, the Watson Institute estimates. There have been 38 million people displaced. Afghanistan is facing famine whilst Iraq’s government fails to provide basic human security for its citizens. Economies of the countries involved are struggling at best and are in freefall at worst as the investment climate is anything but auspicious. The damage caused make recovery an arduous task.

Recent global conflicts foresee a bleak outlook for Russia. According to estimates, Russia spent 3.5 trillion roubles on the war in 2022. At current exchange rate it is $36 billion. Military expenditure doubled in 2023 to $100 billion, a third of the total public expenditure. It could exceed 5% of the country’s GDP, the highest since the collapse of communism. The IMF estimates that the country’s economy will grow 1.5% in 2023 after a contraction of 2.1% last year. In other words, it will not reach the pre-invasion level this year. Headwinds are created by the loss of human capital, sanctions, and the country’s exclusion from global financial markets. Consequently, Russia’s output in the medium-term will be 7% lower than estimated before the conflict broke out, the prognosis goes.

The country’s budget deficit inflated to 2.82 trillion roubles in the first seven months of 2023, from a surplus of 557 billion roubles in the comparable period of 2022. The reading is 1.8% of the GDP, the finance ministry estimates. Current account surplus in the January-May period stood at $66 billion, down from $227 billion a year earlier and is projected to stay at this level in 2023, barely 30% that of the 2022 level. The country’s trade balance is also seen considerably below last year’s readings.

These are, indeed, ominous signs caused by the invasion, yet what is on display is that the country’s stock market defies economic gravity and remains astoundingly resolute. The major stock index is showing a year-to-date return of 50%, which, under the circumstances, is more than head-scratcher. It is actually one of the best performers of 2023, easily beating the MSCI All-Country index or any major US stock indices. This, however, is likely to turn out to be an illusion.

This stellar performance has nothing to do with wealth creation or confidence in the country’s economy. The strength is due to the freezing of inflows and outflows of foreign assets. Those who had money in Russian equities prior to the invasion have not been able to liquidate and take their money out of the country. Secondly, the rouble weakness also helped. Given Russia’ status as a significant commodity exporter the weak domestic currency aided greatly to boost companies’ profits and inflate the value of their stocks.

The reality is far from inspiring. The country has been cut off the global financial system, a big portion of central bank assets has been frozen, western sanctions are reportedly working and deprive the Kremlin of much needed energy revenues and human capital is experiencing a mass exodus. In July, Vladimir Putin signed a decree, which transferred the shares of foreign shareholders of a brewery owned by Carlsberg and a dairy firm owned by Danone to the agency responsible for state property. It is effectively nationalization or appropriation of assets of foreign investors. Several international oil companies have written off assets and service companies wound down operations. Investors’ trust and confidence have been broken, if not irrevocably then for a long time. In the words of a Yale academic, Vladimir Putin is cannibalizing the country’s economy in his increasingly hostile and confrontational stance towards his foes.

The bleak economic outlook will have an inevitable impact on Russia’s golden goose, the oil industry, albeit domestic firms are weathering the storm, at least for now. Financial results for 1H 2023 show that Russian oil and gas producers registered significant falls in revenues because of western sanctions and subdued prices but still managed to record decent increases in net profits enabling them to increase capex, pay dividends and continue investing in strategic projects, Energy Intelligence points out. Nonetheless, the absence of western oil companies, lack of access to technological innovations and know-how and deteriorating economic climate will have an adverse impact on the country’s oil sector long after the war ends, even if Russia will keep relying on the support of friendly nations. It is, indeed, an expensive and damaging undertaking to wage a war.
 

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