17
ECONOMICOUTLOOK
Failingmarket
november 2014
international
construction
>
Failingmarket
The Russian constructionmarket was lookingweak even before its actions in the Ukraine triggered a
flight of capital and economic sanctions.
Scott Hazelton
reports.
T
he Russian economy was heading for
disappointing economic growth even
before relations with theWest deteriorated
over the Ukraine. It is now faltering amid
declining net exports, slack investment activity,
targeted economic sanctions, and the threat of
further andbroader sanctions.
Russia is overly dependent on energy exports
(70.6% of export earnings in 2013) to drive
domestic growth. Energy prices are expected
to remain relatively weak but stable at current
levels in the near-to-medium term as geopolitical
tensions in producing regions are offset by the
impact of moderate global demand, even as
alternative supplies of energy are rapidly coming
on stream. In addition,Russian interest rates have
been raised to help stem the flow of capital from
the country and relieve some of the downward
pressure on theRuble.
However, GDP growth in the first quarter of
2014 was just +0.9%, and the flash estimate put
GDP second quarter growth at +0.8%, implying
stagnation.
Stubbornlyhigh inflation,partlydue toaweaker
Ruble, is cutting household purchasing power.
And with the Ruble and equity prices losing
ground in2014, the threat of further andbroader
economic sanctions due toRussia’s annexation of
the Crimea, and perceived Russian intervention
in Ukrainian affairs is only worsening the
environment.
The erosion of business confidence has caused
investment activity to contract. Estimates are
that net capital outflow in the first half of 2014
hit US$ 74.4 billion, compared with US$ 62.7
billion for all of 2013. IHS Global Insight has
cut itsGDP growth forecast in2014 from+0.5%
to a decline of -0.5%. We have further reduced
growth in 2015 to +0.9% from +1.7%, and in
2016 to+1.5% from+2.5%.
In response, President Putin has decided to
tap the National Wealth Fund—intended to
address shortfalls in the Russian pension system
expected to worsen because of unfavourable
demographics—to fund infrastructure projects
and jump-start economic growth.
Through the medium term, Russian economic
growthwill continue todepend ondevelopments
in world-market prices for fuels and other basic
commodities. Further brakes on robust growth
include the underdeveloped domestic banking
sector and heightened investor aversion to risk in
Russia.
Should the tensions withWestern powers over
Ukraine escalate, recession could extend beyond
2014. In themedium term, however, growth can
return to around +3.0%, settling below that after
2020.
Providing investment capital for the medium
and long terms will be critical for propping up
economicgrowth,yetthe investmentenvironment
has become increasingly unattractive.
Someof themost important industrial branches
in bothmanufacturing and the natural-resource-
extraction sector are facing effective capacity
constraints because of an extended period of
insufficient investment.
In natural-resource extraction in particular,
which comprises 25% of the entire Russian
economy, real growth has slowed markedly and
exploitation is increasingly capital intensive, yet
the Russian environment for investment will
remain relatively unattractive, and the perception
of risk inRussiawill remain acute.
Construction risk
Indeed, international tension, finances and a
lack of transparency in business practices create
a relatively high risk for construction companies
in Russia. The first chart shows the risk
associated with a long-term investment project
inRussia comparedwith other EasternEuropean
economies.
The construction risk score is an indication of
long-term investment risk, including such factors
as ability to repatriate earnings, enforce contracts,
protect intellectual andphysical property and the
stability of the workforce and prices.The “cross-
hairs” indicateglobal average riskandgrowth.The
size of the circle indicates the size of themarket.
Russia quite clearly offers significantly higher
risk with below-average growth prospects, not
just globally but also for the Eastern European
region. Only beleaguered Ukraine offers worse
prospects for construction companies.
Real incomes had benefitted from strong
growth in nominal wages due to a relatively tight
labour market. Residential spending increased
+7% in 2013 and the momentum into 2014
suggests growthnear+8%.However, inflationhas
heated up and consumer confidence has eroded.
Residential construction will retreat significantly
in2015 and average just +2.6%over the next five
years.
Spending on non-residential structures
contracted -4.2% in real terms in 2013, with
institutional construction faring the best, while
commercial construction had the weakest
performance.
IHS Global Insight anticipates non-residential
construction spending will decline a further
Construction growth, risk andmarket size
10
15
-5
-4
-3
0
1
5
20
25
30
Global Median
35
40
CONSTRUCTION SPENDINGGROWTH 2013 - 2018
FIVE-YEARCONSTRUCTIONRISK SCORE
●
Hungary
●
Ukraine
●
Czech Republic
●
Russia
●
Bulgaria
●
Slovakia
●
Romania
●
Poland
-2
-1
