A Drop in Oil Prices will Affect the Russian Economy

In December, amid a dramatic drop in global prices on oil Christine Lagarde, Managing Director of the IMF noted that falling oil prices would have a favorable effect on the global economy.

That opinion is shared by many economists: the economic theory maintains that high prices on energy carriers mean high costs for enterprises. The thing is that "with growth in global prices on energy carriers, resources appreciate, that is, enterprises' costs are getting higher. In this particular case the curve of the aggregate supply shifts upwards and to the left as at any level of output costs are getting higher. As in the short-term prospect, wages do not get adjusted completely, the economy moves on to a new equilibrium with incomplete employment. Prices are getting higher, while production falls due to a reduction of real balances. As there is unemployment, in the course of time wages decrease and the economy returns to the initial equilibrium. The monetary and fiscal policies' adjustments may promote the aggregate demand, thus reducing the rate of unemployment, but pushing higher the rate of inflation.

A classical example of such an unfavorable shock of supply was the world energy crisis of the 1970s when substantial growth in prices due to operations of natural monopolies through a multiplicative effect resulted in growth in costs, primarily, in the oil and gas sector, as well as in production of goods which technologically depend on oil. As a result, the rate of inflation in the 1972–1974 period rose 4 times over (fr om 3% to 12%). Also, a similar appreciation of prices was observed with growth in oil prices in the 1978–1980 period»1.

According to the estimates of the Oxford Economics Institute, a depreciation of a barrel of oil by $20 results in a 0.4% growth in the global economy within 2-3 years. According to the data of the research carried out by the Oxford Economics in respect of 45 countries, the highest advantage fr om a drop in oil prices is received by developing countries which import oil; a small advantage is received by a large number of developed countries, too, where the share of oil import in GDP is lower. However, according to the Oxford Economics oil exporters will be in disadvantage due to a drop in oil prices; it is to be noted that countries wh ere revenues from the export of energy carriers are spent, rather than saved will be hit the hardest. Such countries, for example, include Russia and Venezuela. In particular, in Russia oil and gas account for a larger share of export and budget revenues. At the same time, in the present conditions of the crisis saving of oil and gas revenues is rather complicated.

So, according to the estimates of the Gaidar Institute in 2015 in case of realization of the scenario wh ere the average annual level of oil prices falls to $80 and $70 a barrel (that is below the average annual level for many years) the foreign trade component of economic growth rates justified by the dynamics of oil prices will move to the negative zone (see also Fig. 1).

Note. The base scenario of the forecast suggests that in 2015 GDP growth rates and oil prices amount to 0.5% and $90 a barrel, respectively; it is to be noted that that scenario is not a base one in terms of the prospects of economic development of Russia in 2015 and considered as such exclusively for the purposes of our calculations.

The moderate scenario suggests that in 2015 GDP growth rates and oil prices amount to 0% and $80 a barrel, respectively.

The pessimistic scenario suggests that in 2015 GDP growth rates and oil prices amount to -0.8% and $70 a barrel, respectively.

Fig. 1. Foreign trade growth rates of GDP, % of the previous year, 1999–2015.

So, while growth rates of the global economy may accelerate as a result of a drop in oil prices, the Russian economy faces a recession. Though it is needless to say that that recession apart from unfavorable trade conditions will be justified by other external factors (worsening of the geopolitical situation and economic sanctions) and even to a greater extent, domestic factors (poor quality of institutions, lack of factors of economic growth, undiversifiable economy, depreciation of the ruble and other).

Maria Kazakova, PhD (Economics), Deputy Head of the Department of Research of Budget Stability

1 See S.G. Sinelnikov-Murylev, М.V. Kazakova, P.А. Kadochnikov. The Analysis of Structural and Conjunctural Component of the Tax Load in the Russian Economy (Nauchnye Trudy No.129). М.: The IET, 2009. pp. 57–58.