Russian budget: 2020 deficit on track to widen

Russian budget fulfilment turned out tighter than expected, with RUB1.8 tr deficit on the federal level for 10M10, which only a minor widening compared to RUB1.7tr reported for 9M20 (the initial 9M20 estimate has been slightly improved due to a downward revision in expenditures). Remember, the headline balance is distorted by a RUB1.1 trillion one-off proceeds from the Bank of Russia (as per the handover of a 50% equity stake in SBER, Russia's largest lender). Net of this transaction, the 1020 federal budget deficit would have been RUB2.9 trillion, a material deterioration from the RUB3.2 trillion surplus seen in 10M19 (Figure 1). We have the following observations:

• The reasons for restrained fulfilment in October lie purely on the non-fuel revenue side (Figure 2). The latter showed a 50% YoY uptick in October after just 4% YoY increase in 9M20. Around two-thirds of that increase is attributable to the better performance of local consumption-related taxation, such VAT and excise, and we take it positively and supportive of our above-consensus October retail trade expectations. The rest seems to be related to the RUB211 bn dividend payment from SBER to government, its 50%+1 shareholder. Given the signs of moderation in the activity recovery starting in October and no further support from dividends, we expect budget revenue trend to stabilize by the year-end.
• On the expenditure side, there were no surprises, with federal spending growth stable at 25% YoY in 10M20, and around 2/3 of that increase (Figure 3) targeted at healthcare, direct social benefits and transfers to the regional budgets (which are also responsible for healthcare and social spending). This is part of the 4% GDP fiscal stimulus (including 2.5% GDP, or RUB3.0 trillion of extra spending) announced earlier.
• Assuming a continuation of 10M20 revenue and expenditure trends until the year-end, the federal deficit is set to widen materially to RUB4.5-5.0 trillion, or 4.0-4.5% of GDP for the full year. The main bulk of the expected deficit will be covered by borrowing, which has already taken place. First, year-to-date, the Finance Ministry borrowed gross RUB 5.1 tr and net RUB4.4 tr through placing local currency bonds (OFZ, Figure 4) among local banks and other investors.
• This is different from the previous years when non-residents made up to two-thirds of the OFZ market growth. Second, today Minfin placed Eurobonds with volumes likely to reach EUR2 bln, or slightly under RUB0.2 tr. In addition, in January-November Minfin used RUB0.2tr from the National Wealth Fund, in line with the fiscal rule. This means that Minfin already has the necessary funds to cover the deficit this year, and the widening in the deficit in November-December should be net-positive for ruble liquidity in the banking system.
• For next year, the guidance is for consolidation at the federal level, which in our view is inevitable given the need to address the unsustainably high $80/bbl breakeven level, yet given the signs of stalling in the post-Covid recovery in 4Q20 and the upcoming parliamentary elections scheduled for September 2021, the intensity of this consolidation could be challenged. The room for looser than expected fiscal policy is technically confirmed by the suspension of the fiscal rule, the presence of RUB1.1 tr spending backlog and extra cash on the interim Treasury accounts, as well as proposal to ease the regulatory requirements for market borrowing at the regional level. The latter would mean potential decoupling between the balances of the federal and regional budget, which are currently linked through the practice of nearly 100% of the regional deficits to be covered by the transfers from the federal budget (Figure 5).