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III Growth Strategies of EU Neighbouring Countries: Russia and Turkey

Russia in 2012: the challenge of reforming the economy without a political reform

Konstantin Sonin

The intention behind this chapter is to provide some regional flavour to the broader macroeconomic issues of this book. I start with the short-term outlook. The Russian economy has been growing quite fast since 2010. That is to say, it has been growing fast compared to Europe and fast compared to the United States, but it has been growing slowly compared to Russia’s peers among the BRIC countries (Brazil, Russia, India, China) (see Figure 8.1) and also low compared to what we had in the 2000s.

The same 3 to 4 per cent growth is also the consensus forecast for 2012 and the next couple of years. If one compares this with what has been

Russia vs. its neighbours

Figure 8.1 Russia vs. its neighbours

Unemployment in Russia

Figure 8.2 Unemployment in Russia

going on in Russia since the world financial crisis that hit Russia in 2008, it is actually not bad, but it is also not that great. Russia has experienced one of the worst consequences of the economic crisis. We had the largest drop in gross domestic product (GDP) per capita, we have one of the highest unemployment spikes as a result of the crisis, yet the country is recovering, not as fast as Turkey, not as fast as Kazakhstan, but it is still doing much better than the Baltics. Compared to other emerging economies, Russia’s performance during the crisis was significantly worse, yet at the time of writing in early 2013 the growth rates are lower, and the forecasts are also quite modest.

Looking at the unemployment data (see Figure 8.2), the first thing to note is that unemployment is not a Russian problem. Normally, we have a shortage of labour supply and so, we have very low unemployment in a normal state and even during the crisis we had, by European standards, a low unemployment rate. Also, unemployment has been declining recently.

Inflation (see Figure 8.3) is another matter. Historically, we have had high inflation rates, but as of this writing, thanks to the slowing growth rates and thanks to what is going on in the euro area and in the United States, we have inflation that is falling.

Access to credit also looks optimistic: the percentage of firms that answer that they have normal access to credit (access to average credit rates) is now the same as during the high-growth years. The consequences of the collapse of Lehman Brothers and of the economic crisis are evident

Inflation

Figure 8.3 Inflation

in Figure 8.4, but in mid-2011, access to credit was back to pre-crisis levels.

Let me also add some more information on the consequences of crisis, although this is not exactly macroeconomics. In terms of consumption, the consequences of the crisis were huge. If one compares the reduction in food consumption in Russia to countries in Western Europe (see Figure 8.5), then while in Western Europe 11 per cent of households have had to cut down their food consumption during the crisis, in Russia 35 per cent of the households reported that they cut down their food consumption. This is true on aggregate, and this is true when subdividing data by goods category. The only respect in which we are ahead of Western Europe is in consumption of alcohol. As a reaction to the crisis, Russians did not reduce their consumption of alcohol as much as Western European households.

Turning to the long-term perspective and politics, the question arises as to whether Russia may be turning into the next South Korea, as posed by my colleagues Guriev and Zhuravskaya (2010) (see Figure 8.6). In this figure one line represents Russia and the other Korea, and Korean data are 11 years earlier. The kinks in the data represent the 1997 Asian crisis for Korea, and the 2008-2009 crisis for Russia. It is remarkable how close these lines are. However, there is a kind of a cheat in this picture. And the cheat is, of course, that for Russia, the four last points were projections in

Percentage of firms with normal access to credit

Figure 8.4 Percentage of firms with normal access to credit

2009. In reality, the growth rates were half of the Korean post-1998 crisis growth. The question is: was it reasonable in 2009 to expect Russia to be the next Korea, another kind of growth miracle?

There are a couple of reasons why emerging market countries could grow faster than developed ones. One is a major long-term macroeconomic reason, let us call it the ‘Solow reason’: the countries that do not have enough capital could grow faster because they accumulate capital on their way to the steady state. The developed countries are already in the steady state and cannot grow by investing more, but the emerging markets do.

The second reason why the emerging countries could grow faster than the developed countries is that there is the advantage of backwardness (Gershenkron, 1962); we do not need to spend money on developing new technology, we could just adopt technology on the path to the technology frontier. If you come to Moscow, if you look around, everything new is a copy of something that was invented somewhere else before. If you go to a coffee shop, this will be a Starbucks clone, obviously. Starbucks has actually had a very hard time competing with its clones in Moscow.

But of course, if this were true, the emerging countries would be growing

Consumption change

Figure 8.5 Consumption change

The next South Korea?

Figure 8.6 The next South Korea?

much faster than developed countries. In actual fact there are obstacles to fast growth and the main obstacle is that if institutions are weak, then this weakness increases the cost of investment and these advantages no longer play a role (North, 1981; Acemoglu and Robinson, 2006).

How do institutions help in understanding the Russian situation? In Russia we need to have major improvements in several critical institutions. We need courts that are politically independent, that is, courts that make decisions with no regard to calls from the presidential administration. We need efficient law enforcement, that is, a non-corrupt police force; and we need to have non-corrupt regulators. Even reducing top-level, cabinet-level corruption would be major progress. And if you look at institutions in Russia and in South Korea, then the observation that Russia is not going the way of South Korea, that this is too optimistic a comparison, starts to make a lot of sense. Basically, all the institutional parameters are much worse in Russia than they were in South Korea.

Looking at cross-country corruption data, Russia’s corruption level is surprising. There is nothing surprising about a developing country being corrupt; this is a standard feature of developing countries. But Russia is much more corrupt than it should be for its level of development and for its level of education. In econometric terms, controlling for everything, Russia is much more corrupt than it should be. In a sense, this is good news. If I were talking to investors I would say that there is huge potential to combat corruption. We could make jokes at the expense of investors here, right?

Looking at the data on start-up opportunities, Russia is at a very low level compared to its peers. In the Hermitage Foundation index of economic freedom, Russia is near the bottom of economic freedom. In the World Bank Doing Business index, Russia is ranked 111th in 2012.

Since President Putin promised, during his last election campaign, that we are going to be number 20 in the Doing Business ranking by the end of his next term (2018), government working groups have been installed for each parameter in this ranking and they are working hard how to change either the country or the perception. I think it was a good promise, and it was a good idea to set up these working groups to make some progress here. But then, we need to take a step back and look at where institutions come from, where the police and courts and non-corrupt regulations come from.

Basically, what we economists know is that good institutions might be based politically on two things. One is mature democratic institutions. This is normal and familiar, and I am not going to talk about this. Yet there is another model - and many researchers and commentators make a strong argument that this makes sense - that good institutions might be politically based on something else. In this alternative model, there is a strong yet non-democratic political authority. One example of such a regime is what we would call the ‘institutionalized ruling party’. This is a party which has control over its leadership, but there is no democratic election in the sense that the party does not allow outsiders to change what is going on inside the party. Mexico had this kind of system for 70 years, and there were a lot of Communist regimes of this type in Eastern Europe, in the Soviet Union and in East Asia. China now is an example of this institutionalized ruling party regime.

Also, there are personalistic non-democratic regimes, which are very different from the institutionalized ruling party. This is the kind of situation where the leader controls the government mechanism, not vice versa. These days, this type of regime is well represented in the former Soviet Union countries.

In Russia, we have a highly personalized yet weak autocratic regime: people have a lot of freedom but very little political power. To give a personal example, I can write in my newspaper column whatever I want; there are no restrictions whatsoever. I remember writing a column saying that Putin was no longer a good leader for the country and we needed change, and then discovered that this column had been posted on Putin’s official website; for some reason, it was there for two years. Some people think that if there is a dictatorship, then this means a brutal regime like that of Stalin or Pol Pot. No, in Russia today we can say everything that we want, but when we vote, my vote - and the vote of those who vote like me, against Putin and his party - counts less than votes of those who vote for Putin and his party.

A paper of mine published in the Proceedings of the National Academy of Sciences, one of the leading scientific journals, demonstrates, based on a field experiment, that the parliamentary elections of December 2011 were subject to massive electoral fraud (Enikolopov et al., 2013). In actual fact, Putin’s party got about 25 to 25 per cent of the Moscow vote, while the official vote count was given as 47 per cent. We know much less about Putin’s election numbers in the March 2012 elections: we could be sure that he got around 50 per cent of the vote if the votes had been counted properly, and we also know that the runner-up got no more than 20 per cent. This is clear evidence that Putin would have beaten any opponent one to one (at least, given the controlled selection of opponents). Also, despite having had a year of very large protests (by Russian standards, and we Russians are very patient), we do not have any kind of well-organized opposition. For now, it seems that Putin will stay in power forever; he has been in power since 2000 and there does not appear to be any viable succession path.

So, now that I have classified Russia, what is known about the sustainability of this alternative model? On the institutionalized ruling party regime, the jury is still out. The Mexican example was successful in terms of growth rate, in terms of consolidation of the country, and the ultimate transfer to democracy was extremely smooth. It was so smooth that many people did not notice that they somehow transferred from a real dictatorship to a real competitive democracy.

The Communist regimes example was a catastrophe, an economic collapse of Herculean proportions. Then there is the example of China: the majority of experts think that it will see a successful continuation of growth and, eventually, a successful transition to democracy. Yet what we know for sure about personalistic non-democratic regimes is that there are very, very few examples of sustainable development in this mode. Still, there is the example of Spain, which transitioned very smoothly from a personalistic military dictatorship to democracy, although the Spaniards actually had as much experience of democracy before 1975 as Russia had before 1991. For Russia, this analysis predicts that there will be not much progress in improving institutions under the current political regime, but it does not exclude the possibility of transitioning to a regime which will be more conducive to growth.

Taking a less ‘historical’ view, Russia needs to have another growth model, so before concluding I would like to address key reforms: what we need and what we have. What we certainly need is privatization. One result of both the crisis of 2008-2009 and the pre-crisis political developments was a huge expansion of the government involvement in the economy. There are two competing tendencies: one tendency was that there has been a huge nationalization drive, and the other that during the crisis a large part of the economy was effectively nationalized as a result of massive bailout operations. Both work in the same direction. Therefore, we now need to privatize large enterprises and to deregulate.

Yet privatization is actually going in another direction right now. At the time of writing, there is a huge nationalization operation, the buyout of TNK-BP, a major oil company, by Rosneft, a state-owned giant. This is one of the largest nationalizations in history, and certainly the largest in which the former owners have not been expropriated, but are actually getting market price.

With regard to other major reforms, Russia has made significant progress on the World Trade Organization (WTO) frontier. Since Russia became a WTO member, we have retreated a couple of steps, but still the accession was a significant achievement. With regard to inflation targeting and the floating rouble, it is not clear what is going on, as the Russian Central Bank is murky about its strategy, but a lot of work in the right direction has been done since the crisis. On the other hand, the pension reform has clearly stalled.

REFERENCES

Acemoglu, Daron and James Robinson (2006), Political Origins of Dictatorship and Democracy, Cambridge, MA: MIT Press.

Enikolopov, Ruben, vasily Korovkin, Maria Petrova, Konstantin Sonin and Alexei Zakharov (2013), ‘Field experiment estimate of electoral fraud in Russian parliamentary elections’, Proceedings of the National Academy of Sciences, 110 (2), 448-52.

Gerschenkron, Alexander (1962), Economic Backwardness in Historical Perspective: A Book of Essays, Cambridge, MA: Belknap Press of Harvard University Press.

Guriev, Sergei and Ekaterina Zhuravskaya (2010), ‘Why Russia is not South Korea’, Journal of International Affairs, 63 (2), 125-79.

North, Douglass (1981), Structure and Change in Economic History, New York: W.W. Norton.

 
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