Russia’s economy: Change those lightbulbs

Date: 08/02/03

High oil prices make Russia's economy look much better than it really is

IT TAKES a sense of humour to be a Russian economist. At least, the Russian economy ministry thinks so. Its website has a page of jokes about economists, including a section on “How many economists does it take to change a lightbulb?” One answer is: “There is no need to change it. All the conditions for lighting exist.”

At the moment, that is true. Russia's bulb is burning nicely. Since the devaluation of 1998, high oil prices and a big boost in oil output have helped the economy recover. Few are worried about the effects of a war in Iraq. Russia's treasury is so stuffed with cash that even if oil prices fell to a third of their current $30 levels, the central government could end the year with its books in balance.

The oil barons, dazzled by the bulb and the riches it has brought them, want it to burn even brighter. They fear that bottlenecks in the state oil-pipeline system will keep them from growing. Last month at the World Economic Forum in Davos, Mikhail Khodorkovsky, head of Russia's biggest oil producer, Yukos, attacked the government's refusal to let the oil firms build their own pipelines. “I thought the state acknowledged a long time ago that the private sector is more effective than the state sector,” he said.

But if the government's main motive is to keep the politically-connected magnates (known locally as “oligarchs”) in check, another good reason is that Russia does not need a brighter bulb, but more bulbs of different kinds; indeed, some of the oligarchs are diversifying fast. For they realise that the country is too dependent on commodity prices. Oil and gas make up over two-fifths of exports; adding metals puts the figure at more than a half; counting oil products it goes up to 63%. When prices fall, the bulb will dim and the country could be plunged back into darkness. But while they are high there is little pressure to develop other bits of the economy.

As a result, according to the World Bank, from 2001 to 2002 growth accelerated in the industries that export natural resources but slowed in those that produce goods for the home market. And small and medium-sized businesses grew more slowly than the overall economy.

The authorities want to promote small business and attract investment, but it is a slow task. A new World Bank survey finds that deregulation has improved things: for the first time, Russian small businesses reported that their biggest challenge is competition from each other rather than the heavy hand of government. But bureaucracy and corruption, plus a dearth of loans from the still-struggling banking system, still stop these bright little sparks from growing into fully-fledged bulbs.

These structural problems, coupled with worries about the future, mean that the riches of the oil bonanza are not flowing into more productive channels. Fixed investment in 2002 grew more slowly than the year before - an ominous sign given the dire need to modernise clapped-out factories, equipment and public services. Some economists reckon that fixed investment in new plant and capital should be around 11% of GDP a year; the current rate is some 6% - far too little to sustain a real recovery. And foreign direct investment is still much too low; it has hovered below 1% of GDP under President Vladimir Putin.

A good chunk of this “foreign” investment is, in any case, Russian money returning from havens like Cyprus and Latvia. The government wants to coax it back. However, how much is still leaving is hotly disputed. The government says that capital outflows last year fell to a bit over $11 billion, down from $16 billion in 2001 and $24 billion in 2000. Alfa Bank, a Russian bank, agrees about the drop, but produces different figures - an outflow of $22 billion. But Troika Dialog, another Moscow-based finance outfit, thinks capital flight actually grew last year, to $25 billion, and that outflows have been much the same since 1996. Besides this, estimates Alfa Bank, Russians hold a staggering $40 billion to $60 billion in cash. This is not likely to flow into the banks until trust in them, and in the tax system, rises.

The government is trying to change the bulbs. But some have been screwed in very tight. A banking reform to overhaul regulation and create a deposit-insurance scheme was supposed to go to parliament at the end of last year, but the state-owned Sberbank seems to be blocking it, fearing - since it holds most deposits - that its contributions to the fund would pay for the mistakes of more reckless private banks.

Streamlining bureaucracy is as ever under discussion, but that, again, is easier said than done. Under the reforming Mr Putin, federal officialdom has actually grown. The restructuring of the electricity sector has been repeatedly delayed, as competing interests fight over who will control power stations and the grid.

With a general election in December and a presidential one next year, some of these changes will have to wait for a quieter political environment. Until then, Russia must hope that oil prices stay high enough to keep the bulb burning. Yet if they do not, advises the ministry soothingly, economics tells us that there is no need to worry. “If the government leaves everything as it is, the lightbulb will screw itself in.”

High oil prices make Russia's economy look much better than it really is.