Mon, Mar 17, 2014 - Page 9 News List

Irrational behavior in Crimea may damage Russian economy

By Sergei Guriev

Regardless of whether the Kremlin is irrational or simply uninformed, its policy in Crimea sends an unmistakable signal to investors: Russia’s political leaders are impossible to predict. This will further undermine Russian and foreign investors’ confidence and increase capital flight, which could not come at a worse time. With credit-fueled consumer spending — the engine driving GDP growth since 2010 — now running out of steam, the economy is stagnating.

Meanwhile, investment is still below its 2008 peak. Despite a wealth of opportunities across the Russian economy, the country’s hostile business climate — including bloated bureaucracies, widespread corruption and the expansion of state-owned companies — has weakened Russian and foreign investors’ incentive to start new projects or expand existing ones. The realization that Putin has entered, to quote Merkel again: “another world,” will not help.

Will Russians notice the economic costs of the Kremlin’s irrationality? GDP growth has slowed and may turn negative, while the stock market has fallen sharply and may decline further. Of course, equity ownership in Russia is narrow; most Russians do not even follow market indices. Yet increased capital flight will also affect something that ordinary Russians know and care about: the ruble’s exchange rate.

On the Monday after Putin’s Crimean adventure began, the Central Bank of Russia reportedly spent US$11.3 billion to prop up the ruble. Such support is clearly unsustainable and the bank recently announced that it will allow the ruble to float, implying an exchange rate that reflects the market’s expectations concerning oil prices and future capital outflows.

Therefore, worries about a Putin who has “lost touch with reality” imply not only a lower or even negative GDP growth rate, but also — more immediately — a weaker currency that would drive up prices of imported consumer goods. All Russians will soon feel the effects of this, but whether that will bring their president back from his world to this one is another matter.

Sergei Guriev, a visiting professor of economics at Sciences Po in Paris, is also a professor of economics and a former rector at the New Economic School in Moscow, Russia.

Copyright: Project Syndicate

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