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What Russia's doing right
by David J. Cord
Issue 12
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Oppressed minorities? Corrupt officials? Authoritarian leaders? Perhaps, but what Russia is doing right may surprise you.

At the demise of the Soviet Union, the Russian economy collapsed, contracting up to 50% by some measures. Aging infrastructure, collapsing trade, uncompetitive industries, and political instability led to a nasty squeeze. After an initial stagger, the economy of Finland's big eastern neighbor seemed to be recovering and growing nicely. However, by August 1998 the economy fell into crisis again. A bailout plan led by the International Monetary Fund and championed by Washington had to be abandoned as developments spiraled out of control. The ruble plummeted in value, banks collapsed, public finance was in a shambles, and businesses closed left and right.

Since that time something very interesting has been happening. Surprising nearly everyone, Russia got its act together and has been pursuing responsible fiscal and monetary policy. This has led to strong economic growth, a stable currency, a booming stock market, and healthy public finances. Other developing economies, most notably Latin American, have stumbled in their attempts at respectable development. Why the difference? Yes, Russia has been lucky in many ways, but it has also put into place consistent economic policies to earn the grudging respect of public finance officials the world over.

One of the main drivers of Russia's prosperity has been oil. The price of oil has jumped from around $10 a barrel during the start of Russia's growth period to a price close to $60 during February 2006. Russia is a major energy exporter, and has benefited greatly from the rise in prices. It is running a large trade surplus, and Russia's coffers are growing with foreign currency used to purchase oil and natural gas.

The large budget deficits of the early 1990s have become large surpluses. Currently, the budget surplus is approximately 7% of Gross Domestic Product, which is extremely high by any standard. Spending has been moderate and constrained. Russia has been careful not to use export receipts in large-scale investments that could lead to inflationary spirals and inefficiencies in markets. One observer, Pekka Sutela of the Institute for Economies in Transition, has been so impressed as to say: "Political consensus aimed at balanced economic policy has… lasted flawlessly, constituting… one of the pillars of growth." The budget for 2006 includes some needed wage raises for public employees and increases in social expenditures, but it has no hallmarks of an irresponsible spending spree.

Tax policy has been aimed at promoting economic growth. The tax system has been simplified and tax rates have been slashed. Taking a cue from little Estonia, Russia implemented a flat tax of a mind boggling low 13% in 2001. Low rates spur economic growth, and simple systems such as flat taxes reduce inefficiency. Steve Forbes may not have been able to talk America into a flat tax plan, but Vladimir Putin showed the world that he was serious about Russian economic growth with a stroke of a pen.

Monetary authorities have kept the nominal value of the ruble reasonably stable in relation to the Euro and the US dollar. Inflation remains fairly high, approximately 10%, but it is low enough not to lead to destabilization. Growth remains a priority and so monetary policy has been consistently loose. The dollar remains widely used, but it's depreciation against the Euro has led to the growth of ruble-denominated banking accounts. Sergey M. Ignatiev, Chairman of the Bank of Russia as of November 2005, publicly reassured the European Central Bank that his main goal over the short and medium term was to reduce inflation and then to maintain a low level.

Russia, which was once the biggest debtor of the IMF, has joined little Finland as another "country that pays its debts." At the beginning of 2005, the debt to the IMF was paid off ahead of schedule. In the summer of 2005 it began prepayments of Soviet-era debt to the Paris Club of creditors. The Russian government has shown that it is planning on being a responsible partner in the world's financial system.

There are caveats, however. The rise in energy prices may be the most important factor in Russia's recent growth, and the Russian government cannot take credit for oil prices. Growth has not been uniform, and disparities in income are widening. Energy production is uncertain and the production ceiling is approaching without major investments. Criminal gangs and the black market operate with impunity in some locales. The fate of Mikhail Khodorkovsky at Yukos reminds onlookers that interference for political reasons remains possible. No, things are not perfect in the Russian economy, not to mention other aspects of life on the other side of the Karelian Isthmus. However, credit is due to what the Russian officials have done right.

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