Modernization is Russias buzz word: everyone from
president Dmitry Medvedev downwards is talking about it. But it
will be a long, hard slog, economists warn and in the
meantime the economy remains dependent on oil.
And while the governments post-crisis stimulus package
won applause from markets and international institutions alike,
dilemmas including industrial strategy and monetary policy
remain to be addressed.
Economic growth fuelled by commodities exports, if its
potential is not already exhausted, is in any case no longer so
relevant, Medvedev told French business leaders last
month, echoing warnings made by prime minister Vladimir Putin
since the mid-2000s about the need to diversify from oil.
To begin with, the two leaders take modernization to mean
intensifying the crusade against corruption in government,
kick-starting a high-tech sector, and pushing energy companies
to lead the way on energy saving. Analysts say that both Putin
and Medvedev mean what they say on modernization in
contrast to general sloganizing prior to the economic crisis
but that the process is slow.
Chris Weafer, chief strategist at Uralsib Financial Group,
says: Putins plans for modernization were
completely derailed by the economic crisis. And now there
will not be time before the next elections in 2011
(parliamentary) and 2012 (presidential) to make
substantial progress. On the other hand, post-crisis,
theres a better chance of success.
Alexandra Evtifyeva, senior economist at VTB Capital, speaks
approvingly of Medvedevs electronic government
initiative. It will put on line, and therefore simplify, such
processes as applying for passports, licences and other
documents, destroying bribe-taking opportunities abused by
corrupt Russian officials for generations.
But Medvedevs headline-grabbing plan to create a
high-tech development area at Skolkovo, near Moscow, is not as
utopian as its critics think. Russia has quite a
competitive edge in IT services, Evtifyeva says, and the
country has the ability to attract highly skilled Russian
labour back home from the US and elsewhere.
There is a gap between demand and supply in innovative
projects. And they are cheaper for the government to do than
infrastructure investment such as road construction, she
At a meeting of the governments modernization
commission on March 23, Medvedev appointed Viktor Vekselberg,
billionaire owner of the Renova group and shareholder in TNK-BP
oil company, to head the high-tech initiative. He will work
with veteran market reformer Anatoly Chubais, who is chief
executive of RosNano, the state high-tech corporation.
At the meeting held in Khanty-Mansiysk, western
Siberia, Russias largest oil-producing province
Medvedev spelled out that Russias energy-saving campaign
must embrace the national introduction of LED light bulbs and
modernization of housing stock, but also technological upgrades
in the oil sector to improve field recovery rates.
Surgutneftegaz boss Vladimir Bogdanov and other oil magnates at
the meeting were told to present proposals by October.
The key issue for any kind of planning is whether the
bounce-back from recession continues. The signs are
encouraging: oil prices are above $80/barrel, and economists
are forecasting growth of 5% or more this year.
Post-crisis, differences in government about how to
modernize, and how to dispose of Russias excess oil
wealth put oversimply, between economic reformers and
the siloviki (former security services officers brought in
during Putins presidency) have largely been pushed
into the background. For this year, the issue is to keep the
Russias recession was one of the worlds most
severe. In 2009, real GDP shrank by 7.9%, industrial production
by 10.8% and fixed capital investment by 17%. The proportion of
Russians below the poverty line rose during 2009 to about 14%;
the average dollar wage fell by $101 to $593; and unemployment
(International Labour Organization, ILO, definition) rose to
8.2%, while many millions of employees faced short-time and
compulsory unpaid holidays.
Russias recovery began in the third quarter of 2009,
driven by a bold fiscal stimulus package and, according to the
World Banks Russia Economic Report, published in March,
looks robust this year. Russia is gaining from
strong oil prices and from the surge of capital flows to
emerging markets. Against that, domestic demand is weak,
industrial production growth sluggish, and problems with bank
debt are persistent.
The Russian fiscal package is notable for support to
corporations deemed strategic. The GM-Avtovaz plant at
Togliatti, Russias and, indeed, Europes
largest car factory, is emblematic of the strategy: it
received 28 billion roubles ($955 million) in government aid
last year, restructured 25 billion roubles worth of debt,
but is still aiming to make an operational profit by next year.
Russian families are big recipients, too: pensions will rise by
47% during this year, which some economists see as a useful
stimulant to sluggish consumer demand.
Fitch Ratings moved Russias sovereign outlook to
stable from negative in January. Ed Parker, a senior director
at the agency, says that although industrial output and
consumer demand remain flat, while they are rising in other
countries, Russia continues to move in a positive direction. He
says that news on inflation is better, the trend in
capital flows is encouraging the latest
figures, for the 4th quarter of 2009, show an $11.6 billion
inflow and that while the banking sectors giant
cross-border debts remain worrying, downside risks have
Those mighty arbiters of developing nations economies,
the fund managers who have ploughed such gigantic quantities of
money into emerging markets this year, have shown favour to
Within Brics-dedicated (Brazil, Russia, India, China) funds,
Russia, with its exposure to strong oil prices, has grown as a
weighting, while China and India, where interest rates are
rising, have fallen. Among equity funds, Emerging Portfolio
Fund Research reported that in 2010, up to mid-March, those
focused on Russia had attracted $1.47 billion in equity
double what had gone to their Brazilian counterparts and three
times the comparable flows to China.
Indeed, while Russias oil-based story worries
economists, who see the very early stages of Dutch disease
whereby increasing exploitation of natural resources
results in a decline in manufacturing it gladdens the
heart of emerging markets strategists. Michael Harris, head of
emerging EMEA (Europe, Middle East and Africa) equity strategy
at BofA Merrill Lynch, says: If Russia institutes
reforms, kills off inflation and reduces dependence on oil, it
is a phenomenal story. But for now Russia has one trick: oil.
Its a very good one, though.
SWITCH IN PRIORITIES
The Russian oil lobby, headed by deputy prime minister Igor
Sechin, the countrys most powerful silovik, sees this
time of high oil prices as one in which to address the issue of
under-investment that has plagued the industry throughout
post-Soviet times. Sechins formidable lobbying power is
concentrated on developing east Siberian oil reserves a
key to the governments plan to send up to a quarter of
Russias oil, and a fifth of its gas, to China and other
Asian markets by 2030.
Rosneft, the national oil company of which Sechin is
president, is developing the Vankor field in east Siberia; two
other major fields, Talakan and Verkhnechonsk, are being worked
on by Surgutneftegaz and TNK-BP respectively. Investment has
been partly funded by China, which last year extended $25
billion of loans to Rosneft and the state-owned pipeline
company Transneft, but more is needed.
A proposal for export duty from the east Siberian fields to
be set at zero, which would cost the budget about 120 billion
roubles, has been under discussion in government. Russian
newspapers claim that Sechin has suggested to finance minister
Alexei Kudrin ways to raise the same amount in tax elsewhere.
In late March the zero export duty was extended to the end of
The east Siberia issue could trigger a wider discussion
about reforming the tax system, which in 2003 was refocused on
output volumes rather than profit, to deal with the tax
avoidance schemes of the 1990s. The trouble with this is that
there is no incentive for capital expenditure. And decisions
taken willy-nilly, such as on the east Siberian export duty,
can have unintended consequences, such as drawing
investment away from the older fields in western Siberia, where
recovery rates are too low, says Chirvani Abdoullaev, oil
and gas analyst at Alfa Bank.
The oil lobbys ambitions are in sharp contrast with
the travails of Gazprom, Russias biggest company, whose
revenues from European sales two-thirds of its turnover
fell by $13 billion in 2009 as demand and gas prices
sank, and the gas war with Ukraine took its toll.
Oil companies are encroaching on Gazproms domestic
market, taking stakes in smaller gas producers and lobbying the
government for a greater share in the gas pipeline system for
associated gas produced at oil fields. If the trend continues,
a shift in Russian politics in favour of the Rosneft
party and against the Gazprom party could
The drive for east Siberian oil sits comfortably in the
international markets view of what needs to happen next.
Smith at BofA Merrill Lynch says that Russia needs to move
beyond redistributing oil windfalls via wages and pensions
The challenge for the government is to move
beyond direct populism and to modernize and grow its commodity
infrastructure, he says. One possible secular
growth accelerator is Russias aim of becoming a big
strategic supplier of resources to China, although Smith thinks
it is premature to assume that politics will remain
conducive to that outcome.
Supplying more raw materials to China is little better for
Russias long-term development than supplying them to the
West. However, it is a likely stepping stone towards the goal
How much progress the Putin-Medvedev team can make towards
that goal will remain the big Russian question for some