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RUSSIAN ECONOMY IN trends and outlooks Table The scenario of delayed exit from the crisis 2007 2008 2009 2010 2011 Oil price (Urals, USD/barrel) 72.52 93.9 60.7 40 50 Real GDP growth rate, % 8.10 5.60 7.90 4.10 2.00 2.Nominal GDP (billion rubles) 32987 41668 39016 40965 44709 GDP deflator, % 13.53 19.62 1.67 9.48 7.00 6.Nominal GDP (billion USD, at the average annual rate) 1290 1680 1232 1241 1424 Growth rates of fixed investment, % 21.10 9.80 16.20 8.70 1.90 0.Rates of growth in households real income, % 10.40 6.50 2.30 2.10 0.50 1.Rates of growth in real retail sales, % 15.20 11.00 5.50 0.50 1.40 0.Federal budget revenues (% GDP) 23.58 22.26 18.80 15.80 15.50 15.Federal budget revenues (billion rubles) 7779 9276 7337 6472 6930 Federal budget expenditure (% GDP) 18.14 18.17 25.34 24.14 21.00 19.Federal budget expenditure (billion rubles) 5983 7571 9887 9887 9390 Surplus / deficit () of the federal budget (% GDP) 5.44 4.09 6.54 8.34 5.50 4.Balance of the Reserve Fund as of the year end (billion rubles) 4028 1831 0 0 Balance of the National Welfare Fund of the Russian Federation as 2584 2769 2949 3017 of the year end (billion rubles) Export (billion USD) 354 472 303.3 245 278 Import (billion USD) 225 293 192.7 169 202 Trade balance (billion USD) 129 179 111 76 76 Current account balance (billion USD) 102 47.5 32 33 Capital account balance (billion USD) 72.3 138.8 45.2 35.0 10.0 5.Balance of payments (billion USD) 173 45 3.4 12.5 18.3 14.Private sector foreign debt (billion USD) 400 451.9 425.4 390.4 380.4 385.Private foreign debt/GDP ratio, % 31.0 26.9 34.5 31.4 26.7 24.International reserves of the Central Bank of Russia (billion USD) 476 427 439.0 437 460 Change in the USD/RUR nominal exchange rate, % 5.93 3.01 27.74 4.17 4.85 0.Nominal RUR/USD exchange rate (Rb/USD) 25.57 24.80 31.68 33.00 31.40 31.Euro/USD exchange rate (USD/Euro) 1.371 1.468 1.39 1.35 1.4 1.Nominal RUR/Euro exchange rate (Rb/Euro) 35.06 36.41 44.13 44.55 43.96 43.Bicurrency basket exchange rate (Rb) 29.84 30.02 37.28 38.20 37.05 36.Change in real effective ruble exchange rate, % 4.20 5.10 5.60 4.05 7.00 4.Index of real effective ruble exchange rate (June 1998 = 100) 112.7 118.5 111.9 107.3 114.8 120.Interest rate on loans in rubles (% annually) 10.0 12.2 15.3 12.4 10.7 10.Growth rates of consumer price index, % 11.9 13.3 8.8 8.4 7.0 6.Wide monetary base (as of the year end (billion rubles) 5513 5579 6467 6599 7292 Growth rates of wide monetary base, % 33.74 1.19 15.93 2.04 10.49 11.2 as of the year end (billion rubles) 13272 13493 15698 16049 17862 2 growth rates, % 47.54 1.67 16.34 2.24 11.30 11.Money multiplier 2.41 2.55 2.43 2.43 2.45 2.Monetization of GDP (2/GDP), % 40.2 32.4 40.2 39.2 40.0 40.In case of the scenario of inertial exit from the crisis, the received quantitative values of the dynamics of the main indices of the social and economic development of Russia and those of the monetary field point to the fact that positive rates of growth in real GDP will not exceed 3.54.5% until the end of 2012. The higher rates of growth in real GDP (4.3%) are observed in 2010 (to a great extent due to a lower base in 2009), however, the economic growth will slow down later. By the end of 2012, the real GDP of Russia will exceed the 2008 level Section Monetary and Budgetary Spheres by the mere 2.5%. At the same time, with the growth of the ruble real exchange rate and decline of the population of the Russian Federation taken into account per capita GDP in Russia (at the current rate) will exceed the 2008 level by 1520% in 2012.

Renewal of the economic growth is ensured both by stable oil prices within a range that is comfortable for the Russian economy and a renewed influx of foreign capital to Russia which situation permits financing Russian companies investment needs.

According to the forecast, in the 2010-2011 period growth of the domestic consumer demand will lag behind investment activities. It can be explained by the fact that unlike the situation which prevailed before the 2008-2009 crisis the level of employment in the economy is expected to go down as industries in the period of exit from the crisis seek to raise labor efficiency by reducing the number of their personnel or hiring new workers at a slow rate, and, thus, increase production capacities. In our opinion, substantial growth of demand in labor and, as a consequence, growth of real wages and consumer activities is possible only starting from the year 2012.

At the same time, in the 2010-2011 period households real wages will not only be preserved, but also increase by 8.3% which situation is related to a substantial growth in pensions and households savings.

Though oil prices are expected to be at a quite comfortable (but not high enough) level (it will not cause a currency or financial crisis) the situation in public finances within the framework of the scenario in question remains rather complicated. With the above precondition regarding preservation of fixed expenditure of the federal budget in the amount determined by the Federal Law on the Federal Budget in the Year 2010 and Planned for 2011 and 2012 Period observed, the federal budget will remain in deficit within the entire period under review. The Reserve Fund is sufficient enough to finance the federal budget deficit only in 2010.

As resources from the National Welfare Fund are not expected to be used for financing the budget deficit, accumulations in the National Welfare Fund will amount to 66,5% of GDP.

An important condition of renewal of both positive growth rates of investments (in real terms) in capital assets and real growth of GDP is a return by Russian companies and banks to the international capital market, as well as maintaining of sustained influx of direct foreign investments to the Russian Federation. According to the calculations, to ensure the preset rates of growth in investments a sustained net influx of foreign capital to Russia should begin not later than in the second half of 2011 and it should be in the amount of up to 15-20 billion rubles a year.

It is to be noted that in the period under review growth in negative balance of the services account, as well as factor payments and interest payments is anticipated. Accordingly, in the 20112012 period reduction in the current account surplus of the Russian Federation to USD 10-30 billion is expected.

As it is believed that in switching over to the inflation targeting regime the Central Bank of Russia will reduce its participation in the foreign exchange market the international reserves of the Bank of Russia will grow rather slowly. By our estimate, by the end of 2012, the volume of such reserves will amount to USD 530540 billion, which value is below the maximum level registered in the 20072008 period.

The balance of payments surplus in the period till the year 2012 will ensure stability of the ruble exchange rate to the currency basket (preservation of the USD/Euro ratio in the bicurrency basket at the level of 0.55: 0.45 is expected). Changes in exchange rates of USD and RUSSIAN ECONOMY IN trends and outlooks Euro to the ruble are determined mainly by a change in mutual quotations of the reserve currencies on the international market. Growth in volatility of the ruble exchange rate to USD and Euro as a result of weakening of the Banks of Russia impact on the exchange rate has no effect on the overall annual values of the exchange rate as alternate fluctuations offset one another.

At the same time, reduction in the annual growth rate of the consumer price index to 6.5 7.0% will permit to slow down to a great extent the rates of real appreciation of the ruble. In particular, by the end of 2012 the real effective ruble exchange rate will appreciate by maximum 10% and 17% on the figure registered at the end of 2007 and that at the end of 2008, respectively. Accordingly, the positive dynamics of Russian export volumes is expected to be preserved in a situation of stagnating prices on raw materials on international markets. Imports will grow faster than exports throughout the entire period under review. However, due to a lower level of consumer activities import volumes in 2012 are unlikely to exceed the 2008 record high figures.

The model suggests serious changes in the monetary field of the Russian economy. Firstly, as was stated above the model points to a substantial reduction (below the double digit value) in the rate of inflation to 6.57.0%.

Secondly, change in the regime of the Banks of Russia monetary policy means that the Bank of Russia will be more active on the government securities market (it can be explained by the fact that apart from resources from the Reserve fund and external borrowings the Bank of Russia will need more funds to finance the federal budget deficit), in refinancing commercial banks against securities it will acquire in its portfolio (for instance, corporate bonds) and in provision of long-term secured loans (with a maturity of minimum one year) to commercial banks.

Change in the main methods of the monetary authorities policy is to result in growth in real interest rates in the economy. In the 20102012 period, the real interest rate on loans (with a maturity of up to one year) to non-financial private sector will be within the range of 1.52.0%. Meanwhile, the money multiplier (the ratio of M2 to the reserve funds) is anticipated to be preserved at the current level of around 2.45. In other words, in the period under review no such active growth in credit expansion of the banking sector as was observed prior to the 2008 crisis is expected.

Summing up the outputs of the analysis of the scenario of inertial exit from the crisis, it is important to point out its specific features which are as follows:

1. Renewal of the volume of real GDP and investments (in real terms) in capital assets up to the pre-crisis level is possible only at the end of 2012.

2. Ensuring of such volumes of investments in capital assets as would be relevant to the respective GDP growth is possible in as situation of stable oil prices in the range of at least 6065 USD/barrel and in case of return by Russian companies to the international capital market.

3. Mandatory switchover to new mechanisms that ensure the Central Banks of Russia money supply is required as well as growth in real value of money in the economy.

4. Factors behind the federal budget deficit still prevail; the Reserve Fund will be spent up completely, while accumulations in the National Welfare Fund grow at a very low rate.

5. The inflation rate will substantially go down in a situation where the real effective ruble exchange rate slowly appreciates and the money supply and monetization of the Russian economy grow fast.

Section Monetary and Budgetary Spheres Taking into account the actual situation in the first quarter 2010, the scenario of rapid exit from the crisis is quite probable though the scenario of inertial exit from the crisis has been selected as the base one so that direct comparisons against the scenario of the Ministry of Economic Development of Russia and federal forecasts for 2010 and 2012 could be made.

Increase in average prices on oil (Urals) to 80 USD/barrel in 2010 and 100 USD/a barrel in the 20112012 period (in the fourth quarter 2009 and the first quarter 2010 oil prices amounted to about 7075 USD/barrel) will permit the Russian economy to grow by 5.5% as early as 2010, while in the 20112012 period growth in real GDP is to amount to 3.54.5% a year (though growth rates will eventually slow down). By the end of 2012, real GDP will be 5% higher than that in 2008. In 2012, per capita GDP (expressed in USD at the prevailing exchange rate) will increase up to USD 15,000, that is, a 2025% increase on the 2007 figure.

As regards dynamics of investments in capital assets, households real income and retail sales, the scenario in question does not differ much by the main trends from that of inertial exit from the crisis, however, in the 20102011 period the overall growth rates of all the indices will be substantially higher.

Under this scenario, despite higher prices on international commodity markets, the federal budget revenues are insufficient for the planned expenditures to be financed in full, either. In the 20112012 period, the federal budget deficit will decrease to about 11.5% of GDP, however, replenishment of the Reserve Funds will not take place even in a situation of higher prices on oil (100 USD/barrel).

A favorable foreign economic situation within the framework of the scenario in question permits to ensure stability of the balance of payments of the Russian Federation. Throughout the entire period under review, the balance of payments as well as its both components are in surplus. In particular, the balance of payments is in the range of USD 7090 billion a year, while the annual influx of private capital to the Russia amounts to USD 55 billion.

Under the scenario in question, the Bank of Russia cannot escape a substantial growth in international reserves as result of a return to the policy of containment of ruble nominal appreciation. Thus, by the end of 2012 international reserves of the Bank of Russia will amount to USD 650660 billion and surpass the 2008 level.

In the 20102012 period, the nominal Rb/USD exchange rate will appreciate to 26.0 27.0 rubles for a USD, that is, a 15-20% increase on the level registered at the end of 2009. At the same time, though the inflation rate (according to the consumer price index) keeps going down it is still higher (7.07.5%) than that in the scenario of inertial exit from the crisis. As a result of that, there will be a sustained real appreciation of the ruble, and by the end of the real effective exchange rate of ruble will exceed by nearly 25% the 2008 level.

As in the scenario in question the Central Bank of Russia is expected to switch over to the inflation targeting regime and use of interest rates as a main operating instrument (though a particular attention will still be paid to the foreign exchange market), the real value of money in the economy will grow as well. By our estimate, the real interest rate on loans with a maturity of one year to the non-financial sector will amount to 1.52.0%. At the same time, monetization of the economy will increase to 47.3% of GDP.

Thus, the main difference between the scenario of rapid exit from the crisis from that of inertial exit from the crisis is as follows:

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