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Knights of the Vine RUSSIA


Economic Outlook
John Haskell

he near term outlook for the Russian economy is better than the outlook for the US or Eurozone economies. Corruption is a problem for Russia but not disabling.

The United States economy is in a serious hole. Not only has the US experienced its worst post-war recession (as measured by the increase in the unemployment rate, persistence of unemployment and reduction of net worth), the policy responses which would bring the US out of its slump have been emphatically rejected by America’s political class. Even the supposedly left-leaning President Obama is describing the Federal Government as having “run out of money” (an impossibility) and stating that the government has to balance its budget “just like a family”. At a time when the household and corporate sectors are both trying to pay down debt, the government is the only sector that can increase its expenditure to keep the economy from shrinking further. But America’s policy-makers are trying to cut government expenditure instead.

Twenty years ago the Japanese economy was hit hard by the bursting of a similar investment bubble. Like the United States today, the Japanese electorate repeatedly elected politicians who promised to cut the central government’s budget deficit by cutting government spending. Over and over again, cuts in government spending caused a reduction in tax revenue so large that the result was a budget deficit as large or larger than the deficit before the cuts. The United States is absolutely determined to repeat this experiment and will likely spend the next 5 years doing exactly that. Only a few (easily ignored) economists are arguing against it.

With total debt (household, corporate and government) of 242% of GDP, paying down debt could put a brake on the US economy for a decade or more, depending on how the problem is handled.

By contrast, Russia at end 2010 had total debt (all sectors) of 71% of GDP with a government sector that was barely indebted at all (7%). The US Federal government was last so little indebted before World War One. If there is another dramatic downturn in the global economy (and events in the Eurozone encourage caution), the Russian government will be in an excellent position to borrow from its own citizens to add spending and buffer the shock. Furthermore, Russia’s debt situation is qualitatively different from America’s.

When Lehman Brothers bankrupted in September of 2008, the United States entered “debt revulsion,” a situation in which corporations and households avoid debt per se, without regard to the profits they might make with the borrowed money. For the thirty years before that, and perhaps longer, Americans regarded taking on debt as something that was harmless and perhaps even smart. Throughout that period, interest rates kept falling so servicing the debt kept getting easier, and if buying an asset with borrowed money, the value of the asset almost always grew faster than the debt. Refinancing was almost always available. Post-Lehman, Americans realized that without rising asset markets and the ability to refinance, they were catastrophically overindebted.

Russia is in no similar danger. Post- Lehman, many Russian corporates found themselves overindebted, not because they couldn’t service their debts, but because the European banks from which they had borrowed suddenly told their Russian clients that they had to pay off the debt within the coming 2-3 years. This of course forced the Russian corporate sector to stop spending and brought about a sharp drop in the value of the rouble, the so-called “crisis” of 2008. Russian corporates now look at debt very cautiously, and in any case the banks that were lending the money, most of them in the Eurozone, won’t be lending more money to Russia (or any other country) any time soon. The possibility of Russia getting into a debt trap is almost zero.

In addition to that, the Russian household sector is not indebted. Mortgage debt is 2% of GDP compared to 80% of GDP in the US. Increases in household income will lead directly to increases in household spending.

Russia’s economy is often criticized for being excessively dependent on oil, notably by President Medvedev, who once described Russia’s dependence on the oil and gas sector as “humiliating.” But oil and gas account for roughly a quarter of GDP, and half of tax receipts. This is exactly the tax policy Russia should have, placing a larger burden of taxation on the oil and gas sector and less on the rest of the economy, to stimulate the development of the non- O&G economy. Maybe Russia would be less dependent on oil if the oil fields were not there, or there were a catastrophic breakdown in Russian engineers’ ability to get the oil out of the ground. But these are hardly scenarios we should wish for.

With the developed world choking on debt, and oil harder and harder to find, Russia’s economy is well placed for the next decade. Corruption is a problem, but Russia’s total tax receipts as a percentage of GDP place it 172nd in the world. Even with the impact of corruption added in, businesses in Russia pay much less, over and under the table, than businesses in almost any other European country.

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