The Russian Challenge

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The Russian Challenge An Enfeebled Economy Underlying problems The influences dragging down Russian economic performance are of different kinds: structural, conjunctural and geopolitical. The structural problems limit the trend rate of growth of potential output in the medium term – say, roughly, the next five years. They are: • The decline in the working-age population; and • The ways in which the Putinist social and political order limits competition, efficient investment and innovation. The conjunctural problems are largely generated outside Russia, and are of uncertain duration. They tend to reduce Russian economic activity levels below their (already limited) potential. They are: • The end of quantitative easing in the United States, pulling investment funds away from emerging markets; • The rapid rise of shale oil and gas production in the United States and Canada, putting downward pressure on world hydrocarbon prices; • The weakness of the eurozone economies (Europe as a whole takes about half of Russian exports) and some slowing of Chinese growth; and linked with these tendencies: • The fall in the oil price; and • The fall in the exchange rate of the rouble against the euro and the US dollar (and practically all other currencies except the Ukrainian hryvna). The geopolitical impediments to Russian economic growth are: • The fact that Russia is engaged in a war in Ukraine; • The economic sanctions imposed on Russia as a result; • Russian counter-sanctions, notably the embargo on food imports from countries imposing sanctions; • The move, propelled by Western sanctions but acquiring a life of its own, towards import substitution; and • An accompanying turn away from liberal economic reform and in favour of the (often corrupt) organs of law enforcement and security. Two fundamental concerns The two structural problems are different in kind from the others listed. The first is demographic: the decline in the economically active workforce that is due to last for some time into the future. The ‘medium’ variant of Rosstat’s projections of working-age population (which incorporates an estimate of net migration) suggests it will diminish by a little over 4 million between 2015 (84.1 million) and 2020 (80.0 million). 60 The number of young entrants to the workforce is falling precipitously, and this is only partly offset by net immigration. The immigrant workers are predominantly from other CIS countries and mostly lowskilled. Their numbers may, moreover, prove to be lower than official statisticians have anticipated. As the rouble has tumbled, the attractions of working in Russia have declined. Many Central Asian migrants are said to be heading for home. Such demographic changes, raising the ratio of dependants to workers, are not necessarily incompatible with strong economic growth. If one source of growth, labour inputs, diminishes modestly, an increase in the growth rates of capital stock and of labour productivity can counteract that influence on output. Unfortunately, since 2012 investment has been going down. That is for conjunctural reasons, which will be considered below. But Russia’s rate of fixed investment, at around 21 per cent of GDP, has long been modest for an ‘emerging’ economy. And a principal reason for that is to do with what might be called the Putinist system. As the rouble has tumbled, the attractions of working in Russia have declined. Many Central Asian migrants are said to be heading for home. There are different accounts of the economic workings of this system. One centres on Russian decision-makers’ alleged ‘addiction’ to the misappropriation of naturalresource rents, primarily from oil and gas, and in particular their use of these rents to subsidize inefficient production units and their workforces inherited from Soviet times. 61 The Russian economy certainly exhibits a more extreme sensitivity to the oil price than those of other major oil and gas exporters. This showed up in the unusually large fall in Russian GDP in 2008–09 (7.8 per cent). It is currently revealed in the exchange-rate fall against the dollar in the year to February 2015: more than 40 per cent in the case of the rouble, against 19.5 per cent for the Norwegian krone and almost zero for the Saudi riyal, which comfortably 60 Rosstat demographic pages at http://www.gks.ru. 61 Clifford G. Gaddy and Barry W. Ickes, ‘Russia after the Global Financial Crisis’, Eurasian Geography and Economics, 51 (2010), No. 3, pp. 281–311, and Bear Traps on Russia’s Road to Modernization (London: Routledge, 2013). For a three-sector analysis see Richard Connolly, Troubled Times: Stagnation, Sanctions and the Prospects for Economic Reform in Russia, Chatham House Russia and Eurasia Programme Research Paper, February 2015. Chatham House | 17
The Russian Challenge An Enfeebled Economy maintained its peg of SAR3.75=$1. 62 It appears that confidence in the Russian economy is exceptionally sensitive, for an oil-exporting nation, to the price of oil. The approach followed here is a more general one, and close to the mainstream view of many Russian reformers: 63 that competition, investment, innovation and enterprise throughout the economy are heavily handicapped by a weak rule of law, leaving most business people vulnerable to attacks by ‘the authorities’, often in collusion with better-connected business rivals. The exceptions are precisely those better-connected rivals: businesses that have special relations with powerful political cronies at local, regional or national level (depending, broadly, on the scale of the business). The authorities, in this connection, are the law-enforcement agencies, and they are commonly backed up by purchasable courts. This is the phenomenon of asset-grabbing. It is common and is not confined to small business. 64 Another ingredient of the system has the same roots: the capacity of the state to intervene directly in what would otherwise be everyday market activities. Inspectors of various public services, for example, collect bribes when supplying electricity connections, certifying workplace safety, or checking fire precautions and the like. In the absence of a strong rule of law and protection of property rights, incentives to invest and innovate are weakened. So is competition; the famous ‘level playing field’ is highly uneven. This state of affairs did not prevent growth when oil prices were rising, though it will have made it less than it could have been. As Boris Titov remarked, ‘When oil prices are falling, the protection of property becomes the key question.’ 65 In short, when conjunctural and geopolitical factors are tending to depress economic activity, the limitations imposed by the system are no longer covered up. And the general sense that business is developed subject to the will of the authorities (in alliance with well-connected incumbent companies) is likely to have a depressing effect on enterprise. One way of testing this conjecture is to look at the findings of Global Entrepreneurship Monitor (GEM). 66 GEM organizes surveys that ask representative samples of the population aged 18–64 such questions as whether they own an established business (defined as one from which they have drawn an income for at least 42 months), whether they have personally provided funding for someone else to start a business and whether they own a new business (defined as one from which they have been drawing income for between three and 42 months). The results indicate a rather low level of enterprise. Of the 69 countries surveyed in 2012, Russia was 67th by the number of entrepreneurs per hundred respondents of the working-age population. 67 Table 2 shows some 2013 GEM measures of entrepreneurial activity for Russia and a few other countries. China is included as a fellow emerging economy still under communist rule, the US as a mature, high-income country, and Chile and South Korea as countries recently under authoritarian rule that have begun to be considered democracies. Table 2: Measures of entrepreneurial activity, Russia and selected countries, 2013 (% of population aged 18–64 owning established or new businesses) Country Owning established business Owning new business Russia 3.4 2.8 China 11 8.9 US 7.5 3.7 Chile 8.5 9.6 S. Korea 9 4.2 Note: For definitions of ‘established’ and ‘new’ see the accompanying text. Source: GEM Key Indicators, http://www.gemconsortium.org/key-indicators. The fundamental problem of corrupt state involvement in the operations of business is part of a system in which informal networks and understandings carry more weight than formal rules, and the formal rules are themselves often inconsistent, so that it is difficult to conduct any organized activity without risk of prosecution, if the informal rules of the game permit prosecution. Described simply as ‘Sistema’ by Alena Ledeneva, 68 it has the consequence of making members of the political elite, even those conventionally 62 Exchange rates from www.xe.com. 63 For example, Sergei Aleksashenko, ‘Ekonomika Rossii k nachalu epokhi “posle Putina”’ [‘The Russian economy towards the beginning of the ‘post-Putin’ era’], Pro et Contra, Nos 3–4 (63) (2014), pp. 104–18. See also Alexei Kudrin and Evsey Gurvich, ‘A new growth model for the Russian economy’ (Helsinki: BOFIT Policy Brief No. 1, 2015), particularly at p. 29. 64 See Philip Hanson, Reiderstvo: Asset-Grabbing in Russia, Chatham House Russia and Eurasia Programme, Programme Paper 2014/03, March 2014. 65 Boris Titov, ‘Biznes pod “stat’ei”’ [‘Business under the “article” [of the criminal code]’], Vedomosti, 2 December 2014. Titov is the presidential ombudsman for business. While serving in that capacity, he seems to have preserved his previously demonstrated determination to campaign against asset-grabbing. 66 See its website at http://www.gemconsortium.org/. 67 O. R. Verkhovskaya and M. V. Dorokhina (2013), Natsional’niy otchet Global’niy monitoring predprinimatel’stva: Rossiya 2012, http://www.gemconsortium.org/docs/ download/3261, p. 56. 68 Alena Ledeneva, Can Russia Modernise? Sistema, Power Networks and Informal Governance (Cambridge University Press, 2013). 18 | Chatham House
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