Bearish service: the service sector in Russia is on the decline
The service sector in Russia is shrinking, according to the latest survey of S&P Global purchasing managers in September. The PMI index for this sector turned out to be one of the worst indicators in the last three years. All this indicates a serious slowdown in the economy already in real time, since services are a current rather than a leading indicator. Experts believe that the reason is the high rate and, as a result, a decrease in consumer activity. At the same time, analysts note that the scale of the recession may be somewhat exaggerated. If it is really that large, it may also turn out to be a strong disinflationary factor.
The number of customers has dropped
For several months, the PMI index was in the red for industry, while the situation in the service sector was less certain. In September, the situation changed: another report showed a result of 47 points (indicators above 50 points mean an increase in business activity, below — a fall). For comparison, the August result was neutral (50 points). The third consecutive monthly decline in new orders in September contributed to the drop in production. The rate of reduction accelerated and became the fastest since the end of 2022. Companies often noted that the decline was caused by a decrease in the number of customers and their declining purchasing power.
It is worth noting that the report was not entirely negative. Although the decline in new sales persisted, Russian service providers continued to hire additional staff in September. The pace of job creation was generally steady and accelerated, becoming the highest since January 2024.
At the same time, costs grew at the fastest pace in five months. Nevertheless, the desire of companies to remain competitive has led to a slowdown in the growth of prices for finished products. In addition, according to the results of the third quarter, Russian service companies recorded a reduction in the volume of outstanding work for the first time in 11 months. In addition, Russian service providers remained optimistic about the annual production prospects in September. Confidence in the future increased compared to August, but remained below the average trend over the entire observation period. It is reported that the optimism was associated with hopes for greater stability of economic conditions and an increase in the number of customers.
Overall, the survey was not the most encouraging. A decline in business activity in services is a sure signal of problems in the broader economy. To some extent, this indicator is more characteristic than industrial activity, since it can fall and grow rapidly, while services have a certain level of inertia. Does this mean that the recession in the sector — and in the economy as a whole — has been established for a long time?
The trend is obvious
According to Vladimir Eremkin, a senior researcher at the IPEI Structural Research Laboratory of the Presidential Academy, the observed value can hardly be attributed to a simple fluctuation.
— The reason for this drop lies in a decrease in consumer demand, which is affected by inflation (and the price growth rate in services is several times higher than in goods) and a tight labor market. It is unlikely to expect a stable recovery in the index values above 50 in the near future, since the economy as a whole is moving towards stagnation in the absence of significant incentives.
— Although the values of the PMI indices are volatile, we can rather talk about a trend than a fluctuation, since the temporary increase in the index in August to 50 (the boundary separating growth from recession) occurred after two months of its being in the recession zone (June-July), — says Olga Finam, Head of the Macroeconomic Analysis Department. The white one. — However, an encouraging factor is that companies have increased hiring, which usually corresponds to their more positive expectations regarding future demand, and the survey notes an increase in business confidence compared to August.
As noted by Sergey Drobyshevsky, chief researcher at the Gaidar Institute, a specific numerical value of the index does not always indicate the real scale of the recession, although these points correlate with each other.
— According to our estimates, the economy is now returning to a long-term growth trajectory after overheating, so a decline in the PMI index below 50 may last several months. However, it does not mean a transition to recession.
According to Anton Tabakh, chief economist at Expert RA rating agency, the service sector is likely to be under pressure in the coming months.
— There are several reasons: the suppressed demand, the accumulated price increase, and the expected tax increase. It may slightly increase demand at the end of the year, due to a "shift to the left," but then the failure will be even deeper, Tabakh believes.
Disinflationary factor
To what extent is the drop in the PMI index a symptom of the ongoing cooling of the economy, that is, a deflationary factor that can lead to falling prices and provoke the Bank of Russia to lower its key interest rate?
The effect may be twofold, Belenkaya believes, but inflation should slow down in the short term.
— The S&P Global review notes that "although companies sought to shift increased costs to customers, competition and sales promotion efforts deterred their attempts to raise selling prices." That is, weak demand limits the ability of businesses to shift rising costs into higher prices, which, in turn, should help slow down inflation. But if weak demand is expected for a long time, then at the next stage there may be a reduction in the supply of goods and services from businesses, in which case inflationary pressure may increase again, or an even lower level of demand may be required to contain it," the Izvestia interlocutor explained.
It is unlikely that inflation will slow down significantly, even despite a noticeable weakening in demand, Eremkin adds.
— Business costs are rising, mainly due to the shortage of the labor market and the need to raise wages, which is one of the key items of expenditure for the service sector. At the same time, further acceleration of inflation will be constrained by the limited ability of businesses to shift increased costs to consumers due to weakening demand and increasing competition.
According to Anton Tabakh, all other things being equal, this will help slow down inflation, since prices for services have recently increased significantly faster than goods. At the same time, it is not worth talking about equal conditions, since the effect of tax innovations on services is unclear).
Indeed, the service sector will be under a heavy burden, as in an already difficult environment, higher taxes will put serious pressure on business profitability," Eremkin explains.
— It is likely that next year the least competitive companies will leave the market and some of them will move into the shadows. Rising costs, declining consumer activity, higher taxes, and high competition combined will create conditions for only the most efficient to survive.
At the same time, according to Drobyshevsky, the VAT increase will have the least negative impact on the service sector compared to other industries operating on the domestic market.
— Due to the non—tradable nature of services and their lack of direct competitors and substitutes, a higher VAT rate can be shifted to a greater extent into prices and, thus, additional costs of the sector will be covered by consumers, - the expert believes.
As Tabakh noted, the sector faces quite difficult times next year.
— There are many businesses in the service sector that are subject to the payment of preferential and regular VAT, as well as the abolition of social security benefits. With a simultaneous decrease in demand, their incomes will be under great pressure.
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