05 10 2017

The dying bear

Foreign Affairs named in 2011 Russia “The dying bear”, pointing to the country’s high mortality and the low fertility. “Russia's economy doesn't produce anything that anybody wants to buy, except oil, gas and arms”, said ex-president Obama at his final news conference in 2016. “Vladimir Putin is a bigger threat than Isis”, according to Senator and ex-presidential candidate John McCain, And according to the actor Morgan Freeman, the US is now at war with Russia. But then everything should be fine. Russia is on its way down the drain. No people left, a useless economy, finished. Or are they once again underestimating their declared enemy?

The dying bear

It is well known that death rates soared in Boris Yeltsin’s and the Harvard Boys’ Russia in the nineties. The shock policy cost millions of lives in premature deaths as millions lost their jobs, pensions were wiped out and tens of millions fell into abject poverty. Malnutrition, a collapsing health service, suicides, soaring alcohol consumption were all factors. So is Russia a dying bear?

As the following graph reflecting data from Rosstat shows, Russia did look like a dying bear during the nineties after the collapse of the Soviet Union, but the situation started to improve after 2005. Life expectation, even if still low, is now back to what it was under the Soviet Union, birth rates are rising and there has since 2012 been a small natural growth in the population.

The suicide rate, which was astronomic in the nineties at around 40 suicides per 100,000 inhabitants, has (together with alcohol consumption) dropped during the last two decades and was in 2016 15.6, which compares to a world average of around 16. Infant mortality has declined also and was 6.9 per 1,000 live births in 2016, which compares to 5.8 for the US and 4.0 for the EU. Still way too high, but not catastrophic.

Of course, the demographic disaster that followed the collapse of the Soviet Union is bound to lead to another fall in the population in the coming decade as the small cohorts born in the nineties reach childbearing age. But predictions of the imminent death of the bear seem to be premature.

Furthermore, there has been a steady migration towards Russia, mainly from Ukraine and the former Soviet republics in Central Asia, so Russia has now the third largest migrant population in the world (after the US and Germany). Overall, the total population has been more or less constant during the last decade.

“Russia’s weakness is its dependence on oil and natural resources”

This statement is absolutely true, as I have noted elsewhere. To reduce this dependency is a challenge Russia shares with countries as Norway, Saudi Arabia, Venezuela, Canada and Australia. As oil and coal are facing competition from rapidly falling prices of renewable energy, particularly sun and wind, and increasing regulation to diminish the emission of carbon dioxide, this is not where the future lies.

Paul Krugman stated in his column in New York Times in September 2016: “First of all, let’s get this straight: The Russian Federation of 2016 is not the Soviet Union of 1986. True, it covers most of the same territory and is run by some of the same thugs. But the Marxist ideology is gone, and so is the superpower status. We’re talking about a more or less ordinary corrupt petrostate here...”

Again, I think, Krugman contributes to the generalised underestimation of Russia.

Russia’s dependence on oil and gas has increased during the years Vladimir Putin has been in power (as President or Prime Minister), and oil and gas constituted around 67% of exports in 2014. However, this does not mean that the Russian economy in general is that dependent on oil and gas. Russia imported in 2016 goods and services for 191 billion USD, while GDP was estimated at 1,284 million USD, meaning that imports constituted around 15% of GDP – or said otherwise, 85% of the products and services that Russia consumes is produced locally. Oil and gas exports constitute around 10% of GDP and contribute around 22% of total government revenue (2015).

Russia has since 2010 offered reduced import duties for foreign companies that set up production in the country. As an example, now most major automotive companies have set up assembly lines in Russia, but to do that they had to accept to source at least 60% of the components locally before 2018. The same is the case for the pharmaceutical and several other industries. As a result, quite a lot of the industrial products that Russia consumes are actually produced in the country, even if it is often by foreign companies. So when Obama said that Russia doesn't produce anything that anybody wants to buy except for oil and gas, this is only partly true in the sense that very little of the industrial production is exported. But the Russians actually buy it, and it covers an increasing part of their needs.

As it is well-known, Russia imposed counter-sanctions on agricultural products from countries participating in the sanctions against it, mostly NATO countries. This, together with the devaluation of the ruble has lead to a strong growth in agricultural production. Russia is now a bigger wheat exporter than the US, and agricultural exports are now bigger than arms exports. Local production now covers the internal demand for pork and chicken, and the production of vegetables (from greenhouses) has increased 30%.

This is just to put into context the challenge that Russia is facing in diversifying its economy. It is big, but does not look insurmountable.

“Russia will face permanent low growth unless it reforms”

This statement is found in most analyses of Russia, including the latest World Bank report. And I would tend to agree. However, it is not at all clear, which reforms the country needs. Russia is a capitalist economy which still has some big state-owned companies, and with a “dirigist” state. A bit like France or Britain after the second world war.

In 1999, when Putin took over the presidency from his mentor, the hard drinking Boris Yeltsin, the economy was really “in tatters”, paraphrasing Obama. The Russian economy had gone through a disastrous destruction during the nineties, including a forced process of de-industrialisation. The economy was completely dominated by oligarchs, crooks that had become stinking rich during the wholesale privatisation of the state’s assets, a process supported and overseen benevolently by the International Monetary Fund and the Harvard boys.

At a meeting with the oligarchs in 2000 at the beginning of his presidency, Putin made it clear to the oligarchs that their political power was at an end, but that they could keep their ill-gotten companies – in other words, they could keep what they had stolen. Most accepted, some didn’t. The latter, among which were people who had helped Putin to power and had expected him to be an easy manageable puppet, were crushed with legal or less legal means and fled the country. Most of them now live in London where they and their ill-gotten billions received a warm welcome as beacons of freedom and democracy.

During the first years of his presidency, Putin continued the neoliberal policy of Boris Yeltsin with a continuation of the liberalisation of the economy, privatisations and close relations with the Western Powers. The Government did retake control of most of the oil and gas sector, the power of the Mafia and other criminals was reduced and Government finances were brought under control. For different reasons, among these the Iraq war and the expansion of NATO to include the Eastern Europe countries, the relation with the US and NATO started cooling. The remaining productive state sector was restructured, creating conglomerates within various sectors where different companies were merged: the aviation industry in UAC, the nuclear power industry in ROSATOM, the different high-tech industries in ROSTEC etc., with the aim of privatisation, once they had become profitable.

Since 2006, Russia has been promoting industrialisation through a deliberate industrial policy. This is often ridiculed as the wrong way to go with statements like the following: “The lack of diversification is due to the poor business or investment climate, which especially hinders small and medium enterprises. Diversification and improved long term growth will only come through addressing the problems in the business or investment climate.” Statements like this are considered truisms by many economists, hence no evidence is needed, despite the fact that this is not how Japan, China, South Korea and other Asian countries have developed. Business climate is important for a capitalist development, but is only part of the story. By the way, Russia has during the last 10 years improved its score in the World Bank “Doing Business” ranking and was in 2017 number 40 out of 190 countries, closing in on the stated goal of being within the 20 highest ranking countries before 2020.

Apart from the above mentioned “localisation strategy”, the Russian government has selected a number of sectors to be supported by industrial policies: aeronautics, nuclear industry, shipbuilding, space industry, medical industry, IT, nano-technology, and energy efficiency. It is still to be seen whether that will be successful. This type of targeted industrial policy did work in Japan, China and South Korea, but there is no guarantee it will work in Russia too. One of the weaknesses of the economy is the low level of R&D. According to the World Bank, R&D constituted only 1.2% of GDP in 2014, more or less the same level as Italy, but half of that of Germany (and a third of that of Japan and China).

It is also worth mentioning that Russia before the introduction of the sanctions did not even have a national payment card, relying almost exclusively on Visa and Mastercard. They suddenly woke up to the cruel reality that the NATO powers at the stroke of a pen could paralyse their national payment system. They have since belatedly been prudent enough to create their own national payment system and payment card. There has also been threats to cut off Russia from the international payment system "Swift”, which processes most transactions between financial institutions all over the world. This did not happen, but may do so in the future. Russia has together with China taken steps to create an alternative international payment processing system, which could take over in case they are cut off from Swift in the future (as are some Russians banks already as retaliation for their operations in Crimea). How far they have come is not clear – seems they have some way to go still.

So, in conclusion, Russia still has a long way to go. But don’t dismiss her yet.

To read the first article in this series, click here: The imminent demise of Russia

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Thorbjorn Waagstein

Thorbjørn Waagstein, Economist, PhD, since 1999 working as international Development Consultant in Latin America, Africa and Asia.

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