ECONOMIC TRANSITION OF RUSSIA Lecturer – Oleg Deev oleg@mail.muni.cz Results (1991-1998) •Free market •Private business – 70% of GDP •Huge fall in output •High inflation •Income redistribution •Privatization – controversial results •people’s disapproval & emergence of oligarchs •Organized crime and corruption •Capital flight – $20 billion a year •The development of barter economic relations and dollarization •Unemployment and poverty •Deterioration of education system, health care, demographics •Inadequate pension system •Inefficient legal system •Existence of shadow economy GDP growth rates, % Russian financial crisis – August 1998 Russian financial crisis – August 1998 Russian financial crisis – August 1998 Russian financial crisis – August 1998 •1997 - Inflow of portfolio investment of $46 billion or 10% of GDP •High volatility of exchange rate – ruble/USD (high valuation of ruble) •Extremely high interest rates •1998 – world price for Russia’s oil – 10$ per barrel •The government was not able to refinance it’s debt • Measures – August 1998 •Devaluation of the ruble •At the moment the ruble/dollar trading band was expand from 5.3-7.1 RUR/USD to 6.0-9.5 RUR/USD •Later the RUR/USD rate was set to move freely within the wider band •Default on domestic debt •To prevent mass Russian bank default Russia's ruble-denominated debt would be restructured •A moratorium on payment to foreign creditors •A temporary 90-day moratorium was imposed on the payment of some bank obligations, including certain debts and forward currency contracts Russia's 1998 financial collapse •In a matter of days the exchange rate lost over 60% of its value •more than in all most Latin American and Southeast Asian countries (except for Indonesia) •Prices increased by nearly 50% in only 2 months after the crisis •as compared to less than 6% annual inflation July 1998 to July 1997 before the crisis •Real output fell by about 6% in 1998 •after registering a small increase of 0.6% in 1997 for the first time since 1989, it fell in January - September 1998, i.e. mostly before the August 1998 crisis Why was the drop so drastic? •Some of the standard explanations •Bad institutions •Natural resource dependence •Bad policies •For a medium income level country, Russia is trade wise open •Financial dependence proved important •Short-term debt was concentrated and fast growing •Dependence of financial intermediation on foreign funding •The dual financial system: households and most companies using domestic markets; some big companies and banks dependent on foreign markets Measures 1998-1999 •Budget reform •Expenditures and arrears reduction •Revision of expenditures •Taxation reform •The creation of efficient taxation system •Changes in banking sector •The worst half of the banks was closed •Strengthening the governance of banks •The payment system improvement • So why the talk of a safe haven? •Politicians were not in the business of doom-saying •Shifting blame to where it belonged: global imbalances •Good grounds why a pure financial crisis might handle Russia softly •Small financial sector with limeted role in investment finance •Strong public sector financial position – taxation reform •Households with no financial wealth, little debt: no wealth effect on consumption •Labor markets expected to be very flexible •Boom in industry •After devaluation, domestic producers were taking advantage of new export opportunities and made shift from foreign to Russian made goods •Devaluation of the previously overvalued currency restored the previously lost competitiveness •Output was falling in the beginning of 1998, but started to grow in October (unlike in East Asia, where output fell after the currency crises) After the crisis Economic growth – 1999-2008 Output is growing, inflation is under control Oil price grows, GDP does not accelerate Russia’s anti-crisis policies – 2008-2009 •Basically similar to those in other countries •Package of tax reforms, reducing the tax burden •Emphasis on monotowns, pensions, minimum wages - crisis fighting as a social policy measure •Since 2005 - emphasis on social policy, with view on demography (national priority programs). In practice - expenditure on health, education and housing are stable as share of budget, increasing in line with total expenditure •Since 2007 - decisions to increase pensions, minimum wages, public sector salaries were made •Structure of the banking system left no alternative to ”favoring” state-controlled banks as liquidity channels Challenges for the future •Unpredictable export revenue •Oil price •Energy efficiency needed for maintaining export volumes •Changes in gas markets •Regaining budget surplus •Re-accumulating reserve funds is a high priority •Expenditure pressure due to recent hikes, long-term needs •Revenue problem due to declining share of energy sector in GDP •Exchange rate policy •Increased flexibility of nominal rate, no pure inflation targeting •Real exchange rate appreciation pressures as financial inflow resumes •Financial system development •Rolling back the state •Need for long-term domestic funding •Pension reform •Increasing dependency ratio •Previous failures to depart from pay-as-you-go •Competitiveness of jobs