Foreign Trade in 2014 and the Tenge Exchange Rate: Neither Strengthen nor Devalue

Note: The forecast that oil prices would rise by the end of 2014 did not come true: in the second half of 2014, oil prices fell sharply.

This piece was prompted by Zharas Akhmetov's post on industry.

The topic of devaluing or strengthening the tenge is on everyone's mind right now. We are also talking a lot about the decline in industrial output and what it will lead to.

I would like to say a few words about our country's foreign trade.

Let's begin with exports. In the first six months of 2014, Kazakhstan exported goods worth $41.8 billion, of which 83.4% were mineral products, including 79.8% oil and gas. Add to that 7.6% for metals and metal products, and the total is 91%: that is how much of our exports comes from subsoil use. All other goods account for the remaining 9%, the largest shares being animal and plant products (read: grain) at 3.3% and chemicals and petrochemicals at 3.1% (the products of Kazphosphate and various mixtures that are exported as petrochemicals).

Total exports fell by 2% compared with last year. Strangely enough, the main declines were in metals (25%) and chemicals (9%). Oil exports stayed at last year's level even though production declined. What accounts for this is unclear. If we knew how inventories had changed, we could draw more accurate conclusions. As it is, I assume that exports were held at last year's level by drawing down existing stocks. My assumption that last year's inventories were being sold off is also supported by the fact that in January–February 2014 exports were 21.4% higher than in the same period a year earlier, whereas afterwards they only declined. Over the four months from March to June 2014, exports fell by 12.1% compared with the previous period, and the downward trend continues.

My conclusion on exports: we are entirely dependent on oil and other minerals, and any decline in oil prices will hit our exports and economy very hard. Oil has fallen from $110 to $100 since last year; that 10% will be felt significantly by the end of the year, bearing in mind that in 2013 the oil price decline came in the first half of the year (in April 2013 the price also dropped to $100).

Imports are more complicated.

In the first six months we imported $19.2 billion of goods, 15.3% less than in the same period last year.

Russia is Kazakhstan's main source of imports, accounting for 32.6% of the total. China follows with 17%, then Germany with 5.7%. From Germany and other countries we mainly import goods that Kazakhstan does not produce, such as machinery and equipment. From Russia, by contrast, we import goods that compete with Kazakhstan's own: food products, petrochemicals, gasoline, metals and construction materials.

Looking at the structure of imports, the largest category is machinery and equipment, at 43.6% of all imports, of which 30% comes from the CIS (read: Russia). Chemicals and petrochemicals account for 14.6%, of which the CIS supplies 36%; food products for 10.2% (Russia's share is 60%!); metals for 9.6% (Russia, 46%); and mineral products (read: gasoline) for 7.1%, of which 90% comes from Russia.

In other words, for key consumer goods we are completely dependent on Russia.

Notably, over the six months, imports of mineral products from Russia dropped sharply compared with last year (by 63%). I think this is due to two factors:

1. Most likely, deliveries of Russian oil to Pavlodar were stopped (I think they switched to swaps), which immediately showed up in imports from Russia. Even if only 2 million tons of oil were dropped, that amounts to almost $700 million.

2. The ban on imports of Russian fuel and the monopolization of imports by KazMunayGas alone led to a sharp cut in fuel supplies from Russia; we are, in fact, seeing the resulting shortage now.

The main conclusion: our imports depend heavily on Russia, and a weaker ruble will be strongly felt by our producers.

We mainly import machinery and equipment, so, given the devaluation, this will hit our investment projects hard, especially their payback periods.

Now a brief general conclusion that should interest everyone:

There is no point in strengthening the tenge. With exports and industrial output falling, putting additional pressure on non-export producers through competition with Russian manufacturers makes no sense, since the promises on economic growth have to be kept.

There is also no point in devaluing the tenge. It would fuel inflation, hurt investment projects and ultimately weigh on economic growth, though only in the following years.

Objectively, the exchange rate could be affected by the following factors:

• A sharp fall in the oil price. This is unlikely, given the crisis in the Middle East and the slow easing of sanctions on Iran. I think oil prices should start rising toward the end of the year with the heating season.

• A sharp depreciation of the ruble amid the political crisis. This too is unlikely: certain shifts have already occurred, and I think Russia and everyone else will keep fluctuating in this semi-sanctions mode for a long time.

So my conclusion is that the tenge exchange rate will hold at its current level, certainly until next year, and after that we will see in January 2015, based on the 2014 results.