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Economic Prognosis
March is here, and Vlast economic weekly brings you its economic prognosis for the coming month. We will look at the following questions: What will happen to the dollar and ruble on the Russian currency market? How is inflation in Russia? Where are world oil prices going? What is in store for the dollar and euro internationally? But first. let's look at the main economic news from February.
The biggest economic event in February was the meeting of the G7 finance heads and Russian Finance Minister Alexey Kudrin in Essen, Germany. The meeting's importance stems from the determination made there of world monetary policy. A lot depends on that in Russia, which exports oil for dollars and accumulates its stabilization fund in those dollars. It is proud of its constantly growing gold and currency reserves and is steadily increasing imports thanks to the rising ruble while worrying that the strengthening of the national currency will hurt the competitiveness Russian industry. The Russian public is being almost forcibly taught to keep its savings in the national currency now.
The main topic at the meeting was the Europeans', especially the Germans', dissatisfaction with the world currency markets in their present forms. First, the Europeans suggest that the fall of the yen against the euro, now in progress, will bring the U.S. dollar down significantly in relation to the euro. European authorities think that that will do major damage to competitiveness in the euro zone. Second, EU economics ministers say that the common operation with currency now is speculators borrowing yen in Japan to take advantage of the extremely low interest rates there and loaning them out in Europe and the United States for much higher interest. It is assumed that those purely speculative operations are completely unrelated to the normal functioning of the world currency market and could lead to a currency and debt crisis. Therefore, Japan should raise its interest rates immediately to remove the stimulus for speculators who are moving money out of the country. Third, Germany is insisting that hedge funds, which place investors' money is stocks, bonds and foreign currency, be brought under closer control by the G7, since their actions are dictated exclusively by the desire to make a fast and big profit, and not the interests of the economic stability and national currencies of the countries the are operating in (and the sums are huge – 11,000 hedge funds control $1.5 trillion).
The U.S. is not entirely in agreement. Although they too say that the Chinese and Japanese should stop artificially suppressing the growth of their currencies, they are les concerned about their competitiveness than the Europeans. America has long been importing goods from Asia in extremely large volumes and is used to having a huge trade balance deficit as well. It has been clear just as long that that deficit was very well offset by the equally grandiose influx of money from the same Asian countries, which made it possible to hold the cost of long-term credit down to a relatively low level while the dollar remained relatively strong. In addition, the U.S. and Great Britain are resistant to excessive regulation of hedge funds because they will not withstand heavy regulation and will simply cease operations. (They have already stated that they will not tolerate being treated like “the pariahs of the financial market.”) Japan is continuing to insist that it has the right to an independent currency policy and to set the exchange rate of the yen at its own discretion. And it is not in any hurry to raise its interest rates, saying that there is practically no inflation in the country (Japanese prices have only recently begun to rise after many years of deflation) and making credit more expense would be senseless, since it would only impede the comeback of Japanese industry after its long decline.
Be that as it may, with all of its contradictions, the G7 finance chiefs were able to adopt a joint statement in which it was noted that “exchange rates should reflect economic fundamentals. Excess volatility and disorderly movements in exchange rates are undesirable for economic growth. We continue to monitor exchange markets closely, and cooperate as appropriate. In emerging economies with large and growing current account surpluses, especially China, it is desirable that their effective exchange rates move so that necessary adjustments will occur.” The ministers also stated that they would “pursue the issue” of hedge funds further.
The word financial market should understand that the G7 wants to increase its role in currency affairs. The organization was founded once upon a time to discuss exchange rates, and only certain differences among members prevent from taking immediately action to correct the situation on the free currency market, where speculators prevail. The market is well aware of what will happen if the G7 ever comes to an agreement: the dollar will fall faster and the yen more slowly. The market has taken certain measures with that in mind, and the dollar fell to $1.32 per euro by the end of the month.
1. What will happen on the Russian currency market?
We predicted that the Central Bank would, out of concerns over high inflation, stop lowering the rate of the ruble so quickly, and the dollar would cost 26.7 rubles. And that is what happened. The American currency fell rather rapidly last month in Russia. On February 1, the official Central Bank exchange rate was 26.48 rubles to the dollar, and on March 1, it was 26.14 rubles. The Central Bank was clearly showing it was fighting inflation with all the means available to it and was not artificially supporting the U.S. currency by printing more rubles or buying up dollars as they entered the country. The government has indicated unofficially that the Central Bank could take the decisive measure in the fight against price growth by agreeing to raise the exchange rate of the ruble sharply and open the door to even more imported goods on the Russian domestic market. The government has little reason to be dissatisfied with the Bank in February. It cannot be said that the rise in the ruble was not radical enough. The Economist published its latest Big Mac Index in February, based on the price of that product in various countries. Calculated on the basis of that index, the price of a dollar in Russia is 15.1 rubles.
The IMF has no grounds to find fault with the Central Bank either. The Bank showed that it was prepared to give up its policy of simultaneously holding down inflation and the exchange rate of the ruble, deciding to concentrating on inflation. The government and the Bank have already indicated that the new policy is bearing fruit. Inflation for the first two months of the year is significantly lower than in the same period last year.
Our prognosis: If the dollar falls below the psychologically important 26-ruble mark, the Central Bank may be in for some criticism for reducing Russian competitiveness. So the dollar will remain above 25.9 rubles this month.
2. How will prices be in Russia?
We predicted that, in accordance with a tradition of many years' standing, consumer prices in February would grow no less than 1 percent after the January spike. That prediction can be considered fulfilled. Government and Central Bank preliminary estimates (final data will be available only much later) show that inflation in Russia in February will be no less than 0.8 percent, that is, close to 1 percent, and not so much lower than January's 1.7 percent. It would seem that there is not much to be happy about here if inflation has topped 2 percent in the first two months of the year, whereas it would be a whole year's worth in the EU or U.S. Nonetheless, the authorities are taking undisguised pleasure from it. They suggest that price growth is obviously slowing down and that, with indicators such as those from the first two months, inflation will come to less than 8 percent for the year. Thus, they will reach their target 6.5-8 percent (although, as in every February, they have conveniently forgotten the lower range).
Inflation statistics from January, released by Rosstat in February, show that price growth for foodstuffs has significantly slowed. They rose by 0.9 percent in January 2007, as compared to 2 percent in January 2006. Non-food prices rose by the same 0.4 percent this January as last. Paid services to the public rose by a heftier 4.7 percent (but compare last year's 6.2 percent). Metro fare rose by 9.1 percent and a combination pass for all municipal public transportation rose by 6.5 percent. Surveys show that the public feels that prices rose significantly more than 10 percent (although official data indicate 9 percent).
Our prognosis: In March, official inflation will be about 0.6 percent, and if it is less, no one will believe it.
3. Where are world oil prices going?
We predicted that investment funds – the main players on the world oil market – would remain nervous in February and oil would continue to cost over $60 per barrel. That also was the case. Investment and hedge funds, shaken after prices fell below $50 per barrel in mid-January, behaved extremely nervously and sold at every chance. For example, oil prices went down $2 per barrel at one time on February 12. Oil cost less than $60 for most of the month, and sometimes under $57. Only at the very end of the month did it top $60 for a short time, but the funds were spooked again on the last day of the month and prices fell back to $60. The weather in the U.S. was all they were basing on. When it got cold and snowed, prices went up. But then the funds remembered that America has very good oil reserves, so there is no oil crisis expected. They remembered that winter ends. And prices fall.
Saudi Arabia's unwillingness to go along with other OPEC members' proposals to reduce production quotas also effected oil prices. World market participants doubt that the quota will be reduced at the March 15 OPEC conference. They have concluded that, in the second quarter of the year, when demand falls seasonally, there will be plentiful oil.
Our prognosis: The lack of enthusiasm among speculators will lead to oil prices of $55-59 per barrel.
4. Where is the dollar going against the euro?
We predicted that the euro will cost no more than $1.32, since the American economy is looking perky lately. And that's how it was. The month ended with the euro at $1.32, and the European single currency was significantly lower most of the time.
Even when the Dow Jones Index lost 416 points on February 27, when the Shanghai exchange plummeted by 9 percent, the dollar was not particularly harmed. U.S. authorities indicated that the sell-off of American stocks was completely irrational and out of line with the real condition of the country's economy. And the American market began to grow confidently the next day.
Currency speculators tried to capitalize on the meeting of G7 finance minister in February. At first they thought the final document was worded in weak expressions. It was not stated outright that Japan should raise its interest rate and the exchange rate of the yen, which were the things the European countries were insisting on before the meeting. Thus the G7 was less strongly inclined toward its traditional aspiration of regulating the world currency market and, in particular, artificially lowering the rate of the dollar. The dollar rose and stopped at $1.29 to the euro. But then the market decided that the G7 was interested in imposing order and would try make exchange rates reflect countries' balance of payment conditions. Since the U.S. has an enormous balance of payments deficit, its currency should take a dive. The dollar got cheaper, moving down to $1.32 per euro.
Our prognosis: Since currency speculators began doubting the future of the dollar, the euro will rise in March to over $1.28.
Sergey Minaev
All the Article in Russian as of Mar. 05, 2007
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