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. Last Updated: 07/27/2016

A Key Indicator Drops to 1998 Low

Economic growth in the manufacturing sector failed to expand in November for the first time since 1998, as both output and demand slowed, a survey of manufacturers showed Monday.

According to Moscow Narodny Bank's benchmark Manufacturing Purchasing Managers' Index of 300 manufacturers, growth in the sector stopped due to fewer orders, rising costs and a lack of working capital.

The index, designed to give a single snapshot of the sector, posted a level of 50, meaning no change in the manufacturing climate from October, when the figure was 51.6. The index was last at 50 in November 1998.

Economists polled Monday said the four-year low raises concerns about the health of the manufacturing industry and could foreshadow a slowdown in overall economic growth, although it was unlikely to be felt in the immediate future.

"While the recent fall in output growth and weaker domestic demand conditions signal a reversal of momentum in the expansion of activity in Russia's manufacturing sector during the final quarter of 2002, it seems reasonable to assume that GDP growth for 2002 as a whole will reach 4 percent," MNB economist Paul Timmons said in the report. However, he said the data showed the trend could spread to other areas of the economy as soon as next year.

"Rising domestic energy costs continue to fuel growth in the prices index, suggesting that concerns regarding input price inflation will result in pressure on profit margins and further depress employment conditions," he said.

Manufacturers surveyed reported job losses for the third straight month.

Russia has enjoyed two years of favorable economic conditions -- high oil prices, political stability -- "but it remains, institutionally speaking, very weak," said Roland Nash, head of research at investment bank Renaissance Capital.

"So at some point over the next 12 months things are very likely to become worse rather than better," Nash said.

He said the economy is still unable to adjust quickly to shocks such as ruble appreciation or a sharp drop in oil prices.

Manufacturing -- once the backbone of the Soviet economy -- is now the sector most vulnerable to such shocks, as it has been the slowest to evolve over the last decade.

Other major sectors, like natural resources, food processing and services, have undergone more significant changes and have progressed reasonably well, Nash said.

"[On the manufacturing sector] the jury is still very much out," Nash said.

Peter Westin, chief economist at Aton, said the latest figures raised concerns over industrial costs. He noted, however, that the weakening of the dollar against the euro could offer some protection for local producers.

"Most imports come from European countries, so a stronger euro makes them more expensive and acts as an additional protection barrier for Russian producers," Westin said.

Furthermore, the overall economic picture could be positively influenced by other factors like investment growth or even an expansion in the agricultural industry, which currently amounts to only 7 percent of GDP, compared to 40 percent to 50 percent in the Baltics and East European countries, Westin said.

"Foreign investments can't decline further. They inevitably need to rise. Next year I will eat my hat if investments don't grow. I think that the consumer sector will benefit most from the new investments," Westin said.

Anton Struchenevsky of Troika Dialog said there were a number of one-off factors that have hit manufacturers that are unlikely to be repeated, such as an elimination of tax breaks on investments that essentially raised companies' tax burden. "Next year, no changes are planned, so an improvement in performance can be expected once everyone adapts to the new system," he said.

Prime Minister Mikhail Kasyanov is apparently unfazed by the decline in manufacturing activity. He told a conference Monday in Berlin that Russia's per capita income will hit European Union levels within a decade.

"Over the past three years, Russia has embarked on a path of steady, gradual economic growth," Kasyanov was quoted by Interfax as saying.

Staff Writer Victoria Lavrentieva contributed to this report.