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The Weak Links in Economic Recovery: Russia's Latest Manufacturing Index Shows Signs of Weakening Business Activity

Growth of Russia's manufacturing industries slowed dramatically last month after picking up pace in the first quarter, the latest monthly data shows. Input price inflation eased to an eight-month low, while employment only rose marginally for the seventh month running, according to the Purchasing Managers Index (PMI) data for Russia, published on Tuesday by HSBC and economics consultancy Markit. Business activity in the Russian manufacturing sector fell at the same rate as during the crisis of 2008. Experts see this as an indication that most businesses are weary of the growing volume of costly pre-election commitments undertaken by Russia's politicians.

The April PMI index for Russia slipped to 52.1 points from 55.6 in March. PMI indicators above 50 points represent growth while those below 50 points signal a contraction in business activity. Recent Russian figures therefore indicate that the pace of growth in manufacturing activity fell sharply from the March level, which amounted to the largest growth since December 2008. The PMI of manufacturing industries in Russia was compiled based on five key indicators including new orders, inventory levels, production, supplier deliveries and the employment environment.

Russia recorded the sharpest fall in its PMI index in the wake of the global economic downturn in December 2008, according to the report. Since then, new business had been growing for the thirteenth month in a row, albeit at a slower pace in April. The pace of growth last month was also the weakest since last November, further evidence that the volume of new export orders has declined for the first time in five months, the report said. The deterioration in the expansion of new orders also triggered a slower rise in production in April. However, the authors said, the pace of expansion was slightly faster than the historic average for the survey as slow gains in employment led to the sharpest fall in backlogs for five months.

Detailed figures for sub-indices showed that input prices rose sharply in April, with the rate of inflation continuing to run above its long-run average despite slowing to an eight-month low. Rising raw material and energy prices have also been putting pressure on production costs. This has forced manufacturers to hike their output prices in response to rising costs, and the rate of charge inflation remained above the long-run average despite easing to a nine-month low, the report said. Inflation accelerated in April for the first time in three months to match the fastest pace since October 2009 as higher food prices and gasoline shortages fanned cost pressures, Bloomberg reported on Thursday. The inflation rate climbed to 9.6 percent from 9.5 percent in March, the State Statistics Service said Wednesday. Consumer prices rose 0.4 percent from a month earlier, compared with 0.6 percent in March. Inflation in the year to date was 4.3 percent, compared with 3.5 percent in the first four months of 2010. Russians see inflation, the fastest growing among the so-called BRIC countries, as the biggest challenge facing the country, according to a recent poll by state polling agency VTsIOM.

Igor Nikolayev, director of strategic analysis at consulting firm FBK, said the PMI data suggested that growth was contracting as the country draws closer to elections. "The bigger issue for businesses is the uncertainty that comes with elections," Nikolayev said. "The problem is not about who gets elected eventually as there is already an element of unpredictability in the actions of the politicians." Russian politicians have been piling up certain social and financial obligations in an effort to broaden their appeal and please the electorate ahead of parliamentary elections in December and presidential elections next March, Nikolayev said. "At first they raised payroll tax to 34 percent and now they promise to reduce it. They raised the excise duties on petrol and created shortages of oil, and so on and so forth. As a result, businesses are jittery. They are delaying new investments in fixed capital while also reducing the volume of orders," Nikolayev said.

On the upside, the current strength of business conditions was sufficient to generate a further rise in manufacturing employment in April, extending the current sequence of hiring growth to seven months, the report says. Russia's unemployment rate has been falling steadily since reaching an historic high of 14.6 percent in February of 1999, according to the State Statistics Service. The number of Russians unemployed stood at 7.1 percent in March - a 13.4 percent decline compared to the same period last year. However, as new orders rose more slowly, the rate of job creation has eased to a marginal pace, the authors of the report said.

Weaker new business flows also led to a moderation in the growth of purchasing activity by Russian manufacturers in April. This alleviated pressure on suppliers somewhat, as average input delivery times lengthened to the weakest extent since December 2009. "A decline in new export orders is worrisome, as it usually points to the direction of change in overall manufacturing growth momentum in the coming months," Alexander Morozov, Chief Economist at HSBC Russia and CIS, said. "At this point, we expect export demand weakness in Russia to be temporary, as we are observing strong growth momentum in manufacturing in other key world economies." What has changed, however, is that the impact of export demand and manufacturing growth on Russian GDP growth has declined, he said. "It raises the importance of a growth pick-up in other sectors in order to sustain overall growth momentum in the economy," Morozov said. "Despite the registered ease of inflationary pressures, they remain elevated. With the year-on-year PPI growth rate currently exceeding 20 percent, there are little grounds for complacency about inflation."

Russian industrial production rose an annual 5.3 percent after a 5.8 percent increase in February, the Federal Statistics Service figures show. Compared to the yearly average of 8.2 percent gained in 2010, industrial production has remained weak as growing producer prices continue to hamper investment while restraining output even as demand for commodities picks up. Morozov predicted that the value of PMI in the manufacturing industries in Russia will average 52-53 points, closer to the PMI for April boosted by consistent industrial growth of between four and six percent. "That suggests that the manufacturing sector will grow more slowly than in 2010, and even slower than before the global economic crisis," Morozov said.

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