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Putin's Economic Formula for Russia

Russia's economy has been booming under Putin, but is this based on strong foundations for sustained growth?

COMMENTARY

Putin’s Economic Formula for Russia

R G Gidadhubli

Russia’s economy has been booming under Putin, but is this based on strong foundations for sustained growth?

R G Gidadhubli (rgidadhubli@hotmail.com) is a commentator on Russian and East European Affairs.

Economic & Political Weekly december 8, 2007

T
he Russian economy is booming. Having maintained annual growth rates of about 7 per cent during the last few years, the growth of the gross domestic product (GDP) is expected to exceed 8 per cent in 2007. Per capita income has gone up to $ 3,500-4,000 levels. Russian foreign exchange reserves have touched an all time high of $ 434 billion, having increased by 35 times during the last decade. The Russian stabilisation fund is over 30 trillion rubles (rub) (over $ 141 billion), which is the highest recorded so far.

The country’s external debt has come down from $ 130 billion in 1999 to less than $ 40 billion at present. The Soviet era Paris club debt has declined from $ 39 billion to below $ 10 billion and the Russian government is keen to wipe out all debts ahead of schedule. Inflow of hard currency has increased last year by over $ 30 billion in contrast to the huge outflow in the past. The ruble has appreciated with the current exchange rate being 28 rub to the US dollar. Russians are among the list of the richest in the world with the number of millionaires increasing over the years.

Popularity Score

All this has immensely contributed to make the Russian president Vladimir Putin the most popular leader of post-

Soviet Russia, who has been at the helm of affairs for almost eight years. As per Russia’s Levada Centre opinion poll conducted in November 2007, 67 per cent Russians want Putin to serve a third term and 80 per cent of the respondents have stated that they trust Putin, even as he has repeatedly declined to violate the provisions of the constitution. Some critics seem to disagree with this opinion poll and contend that the “Putin cult” is being developed in Russia. Be that as it may, the crux of the policy measures initiated by Putin for Russia’s economy may be described as Putinism, notwithstanding the differences in the assessment with regard to his policies both at home and abroad.

At the outset it may be stated that Putin’s aim has been to rebuild a strong and powerful Russia both politically and economically. To achieve this objective his policy priority has been to enhance the role of the state in all spheres of activity. In the process, Putin has reversed many of the policies pursued by his predecessor Boris Yeltsin – decentralisation to centralisation, privatisation to partial nationalisation

COMMENTARY

and so on. For instance, so far as economic policy is concerned, under Yeltsin’s policy of “shock therapy” there was largescale privatisation of state enterprises. It created a rich class of “new Russians” by giving away a major part of state enterprises to oligarchs, who assumed importance in the political and economic life of the country. Under Putin the role of the oligarchs has been restricted.

A classic case is that of Yukos, which had emerged as one of the leading global oil companies under Yeltsin. In 2002 the main shareholder of Yukos, Mikhail Khodorkovsky was arrested and tried and he has been undergoing eight years of imprisonment for tax evasion. In 2007 Mikhail Gutseriyev, the founder of another oil company Rosneft has been charged with tax evasion but unlike Khodorkovsky he has fled Russia and sought asylum in UK having sold his stake in the company to Oleg Deripaska for $ 3 billion. Boris Berezovsky, Vladimir Gussinsky and a few other oligarchs have also fled Russia. Thus by containing the role of the oligarchs, Putin has demonstrated his power and authority over political and economic affairs, which has enhanced his image as an able leader among the common Russians. But some analysts have opined that he has been partial and selective in his approach since he has spared those oligarchs including oil baron Romanovsky and Deripaska who are in the good books of the Kremlin.

Entry of Siloviki

Secondly, according to some western analysts, under Putin the siloviki (pushers), who comprise FSB (the Russian security service) officials of the intelligence agencies, have assumed importance in the country. It appears that the siloviki who have control over political institutions have made inroads into the economy to strengthen the role of the state in implementing economic policies. Putin has also brought in many of his former KGB (security agency of the Soviet era) colleagues including some from his home town St Petersburg in high positions in the Russian government. This has helped him exercise control over different political and economic organs in the country.

For instance, the Rosneft board is being headed by Igor Sechin, who is the deputy presidential chief of staff and a silovik. It appears that during the last few years while the role of big business has declined, that of the siloviki who are close to the Kremlin bosses, has increased. A Russian economist has been candid in stating that “big business is hostage to federal (central) powers and small and medium businesses are hostage to local and regional authorities”.

Thirdly, Putin has concentrated mainly on two sectors, namely, energy and defence, having realised their immense scope and potentiality to export their products and earn the much needed hard currency for Russia. Being rich in hydrocarbon resources, Russia under Putin’s leadership has been able to achieve a nearly twofold increase in the production

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    COMMENTARY

    of oil and natural gas in the last five years, after stagnancy in the 1990s. Equally significant has been the unprecedented rise in oil and gas prices since 2005 to over $ 90 per barrel in the global market, which has brought rich dividends for Russia. A huge inflow of petrodollars has made a qualitative difference to the financial position of the Russian economy, a major portion of which is again invested in the energy and defence sectors.

    Acquisition of Oil Assets

    It is important to note that to make Russia an energy superpower, Putin has succeeded in forging close economic and political ties with the energy rich but landlocked central Asian states in which Russia’s energy giants Gazprom and Lukoil have been actively involved – in producing their oil and gas and exporting them to world markets through Russian pipelines. The Russian state and Russian energy companies have been working in tandem to achieve their strategy in the global energy market with control of about 18-20 per cent of oil and 30 per cent of natural gas in the world. This strategy has become more effective as Russia’s energy firms such as Gazprom, Lukoil and Rosneft, with support from the Russian government, have used immense reserves of petro dollars to acquire assets through energy related investments including energy infrastructure in several countries such as Kazakhstan, Turkmenistan, Uzbekistan, Belarus, Moldova, Armenia, Hungary, Algeria, Iraq, Venezuela, etc.

    More significantly Russia has used the network of pipelines to assert its geoeconomic role in the global energy market. In exporting oil and gas Russia has often favoured some nations which are politically aligned and close such as Belarus and Armenia, while punishing those such as Ukraine and Georgia which have opposed it. Hence this policy has generated considerable debate since according to some western analysts, Putin has been playing political hardball with Ukraine, Georgia, and the Baltic states using pipeline diplomacy.

    Fourthly, Putin has adopted a policy under which the economy has been partially renationalised and brought under the control of the state. This is particularly the

    Economic & Political Weekly december 8, 2007

    case with regard to “strategic sectors” such as energy and minerals in which the state has to play a critical role and hence the role of the private sector has been restricted. Control over the strategic sectors has enabled Russia to promote its geoeconomic and geopolitical interests. As a matter of policy, during the last few years Putin has also reduced the share of foreign capital and that of several international oil giants in the strategic sector, a reversal of the trend in the Russian oil industry under Yeltsin.

    With enormous petrodollars at the disposal of the state, the Russian government has acquired shares of foreign companies operating in Russia to reduce them to minority shareholders. While this is done as a matter of strategy to serve Russia’s national interest, when the share of foreign oil giants was reduced in Russia’s Sakhalin-3 oil field in 2007, it raised concerns in the west about the investment climate in Russia. Hence, according to a recent study carried out by energy experts in Paris, on account of the divergent strategies adopted by Russia and the west, energyrelated tensions have increased.

    Mega Corporations

    Fifthly, an important policy measure relates to merging of state controlled enterprises as mega corporations, which are expected to play a dominant role in the Russian economy. For instance, the defence sector enterprises play an important role in Russia’s economic growth. They are major exporters of defence equipments and hence hard currency earners for the country. In May 2007 the Russian government created the United Aviation Corporation which combines civil and military aircraft producers such as MiG, Sukhoi, Tupolev, etc. Similarly, in July 2007 the United Shipbuilding Company was formed which combines both the civil and naval shipbuilders. This company is headed by Sergei Naryshkin, who is close to the Kremlin.

    Such an approach has been taken to strengthen the hold of the Russian state on these corporations and also to enhance the bargaining power of Russia particularly in dealing with foreign countries and companies. This will also help Russia to enhance its status in the world defence market giving it a political edge vis-à-vis the US. India being one of the major importers of Russian defence equipments may also have to deal with this new development. Unlike during the Soviet era when the state was the sole organisation, Putin’s Russia may selectively intervene, leaving market elements to play its role so long as the national interest of the country is served.

    Shortcomings

    Some Russian economists and political leaders including a few former ministers are critical of Putin’s policies. For instance, former minister Anatoly Chubais, who played an important role in the economic reforms under Yeltsin and at present the chief of Unified Energy System, considers that the increasing role of the state in business is a tactical mistake. Former prime minister Mikhail Kasyanov has opined that excessive government interference in the economy and an increasingly servile judiciary will adversely affect the country. Andrei Illarionov who was the economic advisor to Putin for many years resigned from his position in 2005 since he had strong differences with the economic policies pursued by the Russian government. At the economic forum in London in 2006, Russia’s Alfa Bank president Pytor Aven stated,“in our country the state apparatus is growing at a gigantic speed. It poses a serious question about how effectively economic problems can be tackled in this situation.”

    Over-Concentration

    These critical observations are not without substance. Russian economists have pointed out that concentration and overdependence on only two sectors, namely, energy and defence, has led to the lack of diversification of the Russian economy. The agricultural sector, the industrial branches such as engineering and consumer goods have been lagging behind due to lack of investment and modernisation. Transport and infrastructure have also not received due attention and that, in due course, may retard economic growth. Perhaps an exception is the information technology sector, which has recorded an annual growth of 25-30 per cent during the last few years. But with

    COMMENTARY

    agricultural growth of hardly 1-3 per cent per annum, the increasing demand for agricultural products has resulted in shortage of meat, milk, bread, etc, and rise in prices ranging between 7 and 20 per cent in 2007. This has created social unrest in different parts of the country.

    As opined by a Russian economist, 80 per cent of exports comprise oil, natural gas, minerals, timber, etc, which have made Russia an exporter of raw materials and this is not a reflection of an advanced industrial country. Hence Russia suffers from the neglect of modernisation in the economy, which has affected its competitiveness and efficiency in the global market. It has been rightly pointed out by World Bank economists that Russia lacks the strategy for making use of the huge earnings from energy exports for the develop ment of infrastructure, structural reforms and social policy. While containing the role of oligarchs, Putin has not strengthened market reforms and has not promoted competition in the economy. Hence what has emerged in Russia is state capitalism and not market capitalism.

    Economic Disparities

    It is important to note that economic disparities among the regions, which were negligible in the past have now increased. For instance, in 2005 out of 88 regions 37 of them had an industrial growth rate of less than 3 per cent and 23 regions had negative industrial growth rates. Economic growth is concentrated in a few urban centres such as Moscow, St Petersburg and a few resource-rich regions. Hence bringing in investment and business to depressed regions will be a major task. Similarly, disparities among different sections of the society have increased. Rapid economic growth has created a high salaried class. The growing affluence in the Russian society is also evident from the reports that one-third of the list of 600 candidates of the pro-Kremlin Unified Russia party for the December 2007 elections for the Duma (parliament) are dollar millionaires.

    Conditions at the Bottom

    In contrast to the affluent section of the society, the condition of 12-15 per cent of the population who live below minimum subsistence level and of about 8 per cent being unemployed is worse. These are people with low levels of income in urban areas such as pensioners and agricultural workers. Their condition has worsened with the discontinuation of the Soviet era social and medical benefits without adequate monetary compensation. Moreover, corruption in Russia is rampant and so also bureaucratic interference, which are affecting the business climate in the country. Putin has not been able to solve these problems so far.

    Of late there is realisation of some of these shortcomings. After witnessing the protests of pensioners in August-September 2007 Putin has ordered the revision of pensions all over the country. More importantly Putin has made major changes in the composition of the Russian government. In September 2007 he sacked several ministers including the former prime minister Mikhail Fardkov, the minister for transport Igor Levitin and the minister for social welfare. He has inducted a finance expert Viktor Zubkov as prime minister and he has effectively checked money laundering from Russia. This has created speculation as to whether Putin would support him as the next president of Russia in March 2008.

    Putin’s formula has no doubt brought rich dividends for Russia so far and it has enabled him to achieve his major economic and political objectives. But in the long run it may not help Russia since in the age of globalisation only a decentralised, modernised, and diversified Russian economy will be competitive and sustain economic growth. But this will be a major challenge for Russia in the years to come since it may involve reversal of many policy measures Putin has initiated so far.

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