Streetwise Professor

February 9, 2009

Sergei Guriev’s Take on the Russian Economic Situation

Filed under: Economics,Energy,Politics,Russia — The Professor @ 5:46 pm

Sergei Guriev is a friend, and an excellent economist.   (Both also hold true for his wife, Katja Zhuravskaya.)    Along with Yale’s Aleh Tsyvinski, Sergei has written a very even handed appraisal of Russia’s policy mistakes—and successes—in dealing with the financial/economic crisis:

 Russia’s government has, in fact, made serious mistakes in dealing with the crisis. Taxpayers’ money was spent to purchase corporate stocks in a failed attempt to support collapsing stock prices. The government is unlikely to recover its investment anytime soon.

The government was also too slow in depreciating the ruble. While one can argue that one-off devaluation was risky – as it could have triggered a panic – gradual depreciation should have started earlier than it did. In the last two months of 2008, the central bank allowed the ruble to weaken at a rate of one per cent per week, then at two to three per cent per week. It probably still needs to fall another 10 per cent. In the meantime, the central bank haemorrhaged reserves defending this slow correction, while commercial banks have been holding on to dollars in anticipation of the ruble’s further decline.

The third mistake was to raise import duties, especially for imported cars. This was not only economically foolish (as with many other import-competing sectors, the automotive industry will certainly be protected by the weakening ruble), but also politically dangerous. Car owners are an affluent, socially active, and easily organised group. Street protests against the import duties became the first serious popular uprising that Russia has seen in many years. Yet these mistakes are relatively minor and reversible. Indeed, Russia’s government, unexpectedly, has taken resolute and mostly correct economic decisions. First, it prevented the collapse of the banking system. Many Russian banks were heavily exposed in foreign markets, and therefore faced severe financial problems once the crisis hit. A massive liquidity injection by the government ensured that no major bank collapsed, and minor bank failures were administered in a surprisingly orderly fashion.

Moreover, the crisis has – so far – not resulted in major nationalisations of private companies. The government could have used the crisis to nationalise all banks and companies in financial distress. It has not, despite its still awesome foreign reserves, which give it the wherewithal to buy out a significant portion of the economy at fire-sale prices. Instead, up to now at least, the government has mostly been providing (high-interest) loans rather than engaging in massive equity buyouts.

Nor have the oligarchs been bailed out. Of $50 billion in external debt owed by Russian banks and firms in 2008, the government refinanced only $10 billion. Apparently, the terms offered by the government (LIBOR+5 per cent and collateral) have turned out to be right on target. How did reasonable economic policies prevail in this crisis? The key factor is that, for the first time since Putin came to power, the Kremlin perceives a genuine threat. The years of easy popularity are over. All the ugly facts that Russians ignored during the years of fast growth are surfacing.

The regime knows that its survival depends on preventing economic collapse. The crisis energised the system and shifted decision-making power to those who know about and can do something for the economy.

But did these policy changes come too late? The ossified, corrupt, inefficient economy built in during the oil boom may be impossible to save. So the central question that Russia confronts is whether even competent economic policy can prevent economic and political collapse.

Sergei seems less convinced than I that the current Russian system is brittle, and hence vulnerable to collapse, although the last paragraph does suggest that he is open to that view.   He is a serious man, on the ground, with excellent connections in and out of government, so I take his views seriously, and adjust my opinion accordingly, in a good, Bayesian way.  

The major piece of evidence that Sergei cites in favor of his opinion that (a) the Russian government has not done badly in handling the crisis, and (b) is not excessively centralized and brittle, is the absence of major nationalizations.  

A fair characterization of what has happened in the last 8/9 months, but it is still somewhat of an open question as to whether this will hold going forward.   Today’s Bloomberg contains a report that expresses the concerns of a Russian think tank that is allegedly close to Dmitri Medvedev:

Russia’s reaction to the world economic crisis threatens to increase state control over the economy and reduce national competitiveness, according to a research institute close to President  Dmitry Medvedev.

“Ballooning state involvement in the economy, the propping up of ineffective businesses and the atrophy of market institutions present major risks both now and in the future,”  Igor Yurgens, head of the Moscow-based Institute of Contemporary Development, said at a presentation today.

The “fundamental balance” between government and business may be harmed if state ownership of companies’ stock rises another 10 percentage points from the 45 percent held at the end of 2008, according to a 73-page report published by the institute.

Prime Minister Vladimir Putin said in December the state may buy stakes in key companies on “a large scale” to help them survive the crisis. The government has set aside $50 billion to help businesses pay foreign borrowings in exchange for putting up part of their stock as collateral.

. . . .

‘Systemic Crisis’

Yurgens rejected suggestions by the country’s leadership that the domestic situation was caused by problems in western economies. Russia is facing a “systemic crisis” resulting from structural weaknesses particular to its economy and financial system, he said.

The state will only find a way out of the crisis with a “full-fledged” dialogue with society, including civil groups, Yurgens said.

“There are a lot of pragmatic people in the government,” he said in an interview with Bloomberg Television today. “Since they don’t have to mess around with parliament, as in a classical democratic government, they are even more effective in a tactical sense. But we need strategy.”

New import duties on cars and trucks, which sparked demonstrations in cities across Siberia and the Russian Far East, are typical of protectionist measures “popular in many ministerial offices,” the report said.

‘Blind Faith’

The tariffs were “categorically misdirected,” supporting an outmoded industry and running counter to a declaration signed by Russia at November’s G-20 summit in Washington opposing protectionism, the authors said.

Speaking at the opening session of the World Economic Forum in Davos, Switzerland last month Putin warned of the dangers of “unrestrained state interference” in the economy and of protectionism. “Blind faith in the omnipotence of the state” is a mistake, as proved by the Soviet Union’s collapse, he said.

The Institute of Contemporary Development was founded last year on the initiative of Medvedev, who was elected president in March. He is the chairman of the institute’s board of trustees.

Note the report’s association of the nationalization (and protectionist) threat with Putin.   Coming from putative Medvedev allies (and Medvedev’s people apparently have no love lost for Putin’s although the principals apparently get on well), this is another indication of a growing difference of opinion within the Russian ruling elite.   As the economic crisis deepens, and its affect on ordinary Russians intensifies, this rift—and the potential for rifts within rifts, e.g., among different clans in the Putin circle—will almost certainly widen.  

This is where I think the true brittleness comes from: divergent interests and opinions among a ruling elite under stress, compounded by struggles over a shrinking pool of rents, in a system with weak institutions, and hence few mechanisms (other than repression) to deal with popular discontent, to remove failing governments, or to adjust failing policies.    

Sergei’s argument is that faced with an existential crisis, the government has raised its game and made some good policy choices.   He points to some specific examples where immediate disaster has been avoided (e.g., avoiding a full-blown banking collapse.)   I still think there is considerable uncertainty about the course in future months as the crisis in the real economy intensifies.   That will be harder to deal with than the banking situation, and pose greater challenges to the government.   In my view, it will, moreover, stress the system at its weakest points.   That said, Sergei’s analysis does provide room for optimism, although his cautionary note in the last paragraph makes it clear that his optimism is not unbounded, and that he understands perfectly well the structural weaknesses of the Russian system.  

Paul Gobel summarizes a more pessimistic view from Dimitry Tayevsky:

Because the economic system adopted under Vladimir Putin is no longer working, the political system the former president and current prime minister put in place is rapidly approaching its end, according to a leading Siberian political analyst. But what will replace it and equally how it will be replaced remain very open questions.

In a lengthy commentary posted on the Irkutsk portal, Dmitry Tayevsky argues that because Moscow is running out of money as a result of the declines in the price of oil and gas, the Russian political system is no longer in a position to sustain itself or act as it has both at home and abroad (  

Barring a miracle – and Tayevsky says there won’t be one – Moscow will not be able to meet the commitments it has made to foreigners – including its efforts to purchase friends in the CIS – or to Russians – such as promises to increase pensions – and consequently, Russians won’t be able to continue to live at the level they thought was theirs after the troubled 1990s.
It is worth recalling, Tayevsky says, how “92 years ago, a much less serious situation led to some very serious consequences” and thus to think about what may happen as a result. He thus devotes the remainder of his article to a discussion of six possible “variants” of Russia’s future development.

The first variant, he says, which might be called “the New Perestroika,” would be one in which the regime would blame Vladimir Putin for all the country’s problems and move in a new and more democratic direction. Such a step would be “logical,” but it would almost certainly lead many Russian regions to seek independence rather than be “deceived” a second time.
The second variant, which could be labeled Foros 2,” would be based on exactly the opposite diagnosis. Putin would blame Medvedev for all the problems Russia now faces and demand his removal. By taking such a step, the prime minister might guarantee Russia “a long and stable development like Chile in the 1970s, Cuba, Libya and North Korea taken together.”

But if the first variant could be triggered by the stroke of the pen, the second would be more difficult to pull off, Tayevsky insists. Medvedev, unlike Gorbachev before him, simply hasn’t taken enough “energetic steps in any direction” to have alienated the population and led it to be willing to support anyone else.

The third variant, which Tayevsky calls “Iron Curtain 2,” would rest on an idea the regime has long sought to promote. “Its essence is simply – in fact, in Russia everything is wonderful … but the enemies surround it – from Wahhabis to Georgians, Ukrainians, Americans, the British, or the Estonians — are doing everything” to destroy Russia.

Thus, Russia must cut itself off from the world in order to protect “the young Russian democracy, Orthodoxy, and nationality.” But that would alienate not only many non-Russians but also many Russians in the regions who remember how things played out the last time Moscow adopted this strategy.  

The fourth variant would be a subset of the third. It would involve cutting Russia off in order to justify authoritarianism in order to modernize the country. While not that different from what some around Putin appear currently to aspire to, an effort to realize this variant could lead to the disintegration of Russia as well or to a political explosion.

Such an explosion or “bunt” is the fifth variant of Russia’s future that Tayevsky describes. That would be perhaps the worst, and yet it is the one the Russian government seems to be pushing the country toward. On the one hand, it is impoverishing the people without giving them a chance to express their anger within the system.

And on the other, the current regime lacks both the resources and the leadership to prevent such an explosion or to “redirect” in a positive way. There are, Tayevsky says, no “pretenders”now to the role of Lenin, Trotsky or Stalin, and consequently such an explosion could lead to “a complete national catastrophe.”  

But it is the sixth variant, one that Soviet writers at the time of Gorbachev sometimes called “the Latin American option,” that Tayevsky suggests is “the most probable although far from the most welcome” not only in the way that it would be introduced but also for the situation it would create.

There are many people who don’t like the current regime and have the military capacity to change it, he notes. They might set up “a military dictatorship,” although it is not clear that they could run the country after taking over except by killing people in large numbers not only immediately but for a long time, just like Chile in the 1970s.

There would be only “one welcome aspect of this variant,” Tayevsky concludes his article by saying, and that would be that “none of those who have power [in Moscow at the present time would remain at large.” They would be punished, but so too unfortunately would all the peoples of the Russian Federation.

While it is tempting to dismiss such feelings as those of an isolated individual, that would be a mistake. The notion that Moscow is living beyond its means to promote its own idea of “greatness” or to distract attention from its failures is far more widely held. For another example, this time from a Moscow analyst, see
But perhaps the most convincing evidence that many have exactly the same fears Tayevsky points to is that only a few hours after his article was put online, it was removed, perhaps because of pressure from above or hacked by supporters of the regime, so that at the time of this writing it is not accessible, even though remains functional.

Tayevsky’s analysis raises several important considerations, one of which is the centrifugal forces in Russia.   That Medvedev is trying to do to mayors what Putin did for governors is one indication that the ruling elite in Moscow considers this a serious concern.   It is a major problem that US and European (and most Asian) policymakers don’t have to deal with.   (China may face something similar, especially as reflected in the urban-rural divide.)  

In the end, I think it will come down to the resilience of Russia’s institutions in the face of incredible stress.   Inasmuch as institutional robustness is not one of Russia’s strengths, I am less sanguine than Sergei.   But his views definitely deserve to be taken very seriously.   I do.  


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  1. I am understanding more and more of this mess each day! In fact I was thinking about the advantages the US Govt enjoys right now, due to the fear in the markets. Investors even in other nations are flocking to hold the US Govt debt, in response to their own failing economies. So, the US Govt, enjoys the huge advantage of being able to pump in a trillion dollars without any inflation penalty whatsoever. I think, this is what makes you nervous. What would happen if the stimulus (or other efforts to revive the economy) does not work out? Then all those that flocked to the US debt, might start selling it. But, then wouldn’t that be counterproductive to them? So may be this threat is not that big. The world has affirmed its faith in the US, by giving yet more debts to the US govt, because the US population has the best bet of returning to productivity soon.

    But how would it get back onto track in utilizing its citizens’ capacity productively? I guess you would say that question is best left to the entrepreneurs and investors (basically the people). What worries me is that the US has faltered in this regard over the last 7-8 years. Due to the enormous shift in global labor dynamics , the world has indeed gotten flatter. The American workforce though has been steadily losing out on productivity gains (the increase in the ratio of real wages / man-hours). So, it is as though this country is sliding down inevitably to a lower and lower economic level.

    This leads me to wonder about some global equilibrium questions (a la Nash). I must confess I have no background whatsoever in economics. However, I find it interesting to speculate what happens when different labor pockets of the world experience different shocks. The consumption power of the rich US and West European labor mass is getting eroded at a fast pace. There is of course an increase is the consumption power of the labor force in India, China, Philipines, Brazil etc. However, due to labor arbitrages, the increase in the developing world is slower than the decrease in the developed world. This is leading to a situation where no population is in a position to consume (efficiently ?!) what is being produced. This situation can lead to the entire global work force slipping into a worser (in say the able to be productive / consumption or some such metric) level. May be I am talking complete nonsense……

    Comment by Surya — February 9, 2009 @ 9:48 pm

  2. Global crisis as Russians see it

    The corridors in office buildings have either pluses or minuses. Let’s not speak about minuses but about pluses. Everybody knows each other; you can hear helloes, greetings, goodmornings.

    But the last few months silence dominates here.

    Crowds of clients just disappeared, nobody enters and asks:”Sorry, where can I find?..” , there are no more strangers smoking in common rest rooms, girls from nearby offices don’t rush in asking to change money for a change. The director of real estate office drooped off, you can’t hear scissors and hairdryers from a hairdressing salon, and women from the office you never could spell its name frequently hang “Closed for today” card. People drink a lot in the offices and it’s impossible to breathe in smoking areas. Visits of Santa and parties had been cancelled this year.

    Comment by Alex — February 15, 2009 @ 2:51 am

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