Russia’s economic stagnation unlikely to be reversed soon

As Russia’s GDP-growth continues to stagnate, the few options for reform are out of reach without dramatic changes to its nationalist policies and authoritarian rule

By Konstantin Sonin  / 

Fri, Feb 09, 2018 - Page 9

In the early days of this year, the Russian economy is stagnating. This is no statistical blip: the average annual growth rate in 2008 to last year for Russia was just 1.2 percent.

Last year, Russia’s GDP-growth rate was 1.5 percent, compared with 2.5 percent in the eurozone and 2.3 percent in the US — both developed economies that should be growing between 2 and 3 percentage points slower than a developing economy like Russia.

As the Russian Ministry of Economic Development, the World Bank and the IMF all recognize, this poor performance seems likely to continue.

Boosting Russia’s growth will be possible only with deep structural reforms, because the economy is stagnating at full capacity. With unemployment at about 5.5 percent for the fifth consecutive year — a rate that almost any developed country would envy — there are few unemployed to be put to work.

Likewise, capacity utilization in manufacturing is at about the same level as in the previous two peaks (2007 to 2008 and 2013), meaning that there is almost no spare capacity to be put to use.

Recognizing that active monetary policy cannot help under such circumstances, the central bank has, instead, brought inflation down to 2.5 percent last year, the lowest level in the 25 years of Russian capitalism. Save for a constantly increasing oil price — an unlikely prospect — the only possible source of growth in Russia is productivity. And that would demand significant reform.

One such reform would be to expand access for foreign investors. Over the past decade, foreigners have been barred from making investments in more than 40 industries designated “critical for national security” by the government.

This ban, while beneficial for industry insiders, has reduced Russia’s access to financial markets and, more critical, to new technologies, which follow the financial flows.

The financial sanctions that followed Russia’s forced “reunification with Crimea” in 2014 intensified Russia’s isolation further, as has the country’s own moves to retaliate: a series of sweeping trade restrictions, including outright bans of food imports from the EU and the US. Lifting these restrictions would not only give the economy an immediate boost, but also increase long-term GDP growth.

Another much-needed reform is privatization. In the 1990s, the Russian economy underwent a large-scale privatization of industrial assets, but during Russian President Vladimir Putin’s 18-year rule, that process has been largely reversed, to the point that, today, state-controlled enterprises account for almost three-quarters of Russia’s GDP.

Though this nationalization was almost as sweeping as the privatization that preceded it, it was not consistent or established publicly as an official policy. Some enterprises were nationalized to create “national champions” that would be competitive in global markets. Others were nationalized as a means of establishing political control over would-be supporters of the opposition.

A chunk of industrial assets also fell under state control in the wake of the 2008 global economic crisis. And since Elvira Nabiullina took over as head of the Central Bank of the Russian Federation in 2013, more large private banks have been nationalized as part of a larger effort to clean up the banking system.

Whatever the government’s justification for nationalization, state-controlled enterprises are rife with inefficiencies and operate through incentive systems that breed corruption. If Russia is to build a genuinely dynamic economy underpinned by globally competitive industries, it will need a stronger private sector.

Economic reform begins with political change. In a mature democracy, such change often comes after an economic crisis, with citizens voting for new leadership that has committed to implementing reforms. In a country without strong democratic institutions, that change might come in the form of a revolution or a peaceful, though sometimes non-democratic, transition of power.

However, for Russia, political change does not seem to be in the offing. In next month’s presidential election, Putin — who has the full support of Russia’s elites as well as full control of the media and state apparatus — will run against token opponents.

Alexey Navalny, a popular opposition leader, is campaigning on an anti-corruption platform that actually addresses the structural challenges affecting Russia’s economy and includes some necessary pro-market reforms, but he is barred from actually being on the ballot.

So, Putin is almost certain to win a fourth term in office. And with no short-to-medium-term threat to his regime in sight, there is little reason to think that much of anything is going to change in the foreseeable future.

To be sure, there is one historical example of economic reform happening without political change. In the late 1950s, when then-Spanish prime minister Generalissimo Francisco Franco was in its third decade of rule, his government undertook technocratic reforms. The result was the so-called “Spanish miracle” — a decade-and-a-half-long spike in economic growth.

However, given that there are dozens more examples of economic development being derailed by political stagnation, the Spanish experience does not inspire much hope. Moreover, Russians have a long tradition of approving of their leaders in times of famine, civil war, or foreign invasion. For Russians, economic stagnation is unlikely to spur a political change, no matter how much it hurts.

Konstantin Sonin is a professor at the University of Chicago Harris School of Public Policy, a visiting professor at the Higher School of Economics in Moscow and an associate research fellow at the Stockholm Institute of Transition Economics.

Copyright: Project Syndicate