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OECD Forecasts Dark Clouds for Russian Economy

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Today the OECD has published its Economic Survey of the Russian Federation for 2009.  The report essentially declares an end to the decade-long recovery since 1998, when the country enjoyed an undervalued ruble, spare production capacity and labor resources, and makes recommendations to government for urgent reforms in banking, exchange rate models, and regulatory frameworks for products and services.  The OECD sees a 6.8% contraction of Russia’s GDP this year, followed by a predicted recovery of 3.7% for 2010.

Some of the recommendations appear pretty painful:  cut lending rates, allowing the ruble to depreciate, and tightening up lon government spending.  How can Russia build a better growth model to catch up after getting hit so badly by the crisis?  Even the OECD points to the primacy of rule of law:  “This [model] should be one based on innovation, investment, the accumulation of human capital and coherent implementation of the rule of law within a well regulated and competition‑enhancing market economy, rather than one largely driven by strong but temporary improvements in the terms of trade and the increasing reliance on state corporations with inadequate governance structures as well as ad hoc support of selected banks and corporations.

The report also seems to disapprove of the siloviki tax structure,which although enables government officials to become fabulouslywealthy over the short term, actually damages the long-term prospectsof the oil economy:  “Oil and gas taxation should be adjusted tocapture economic rents without harming incentives for exploration anddevelopment. In particular, export taxes on crude oil and oil productsshould be removed in the medium term. The government should addressproblems with VAT refunds directly, rather than bow to demands to cutrates, given that VAT is a relatively efficient tax. Russia has scopeto increase the revenue share of property taxes, which OECD researchsuggests is the least growth‑unfriendly form of taxation.

Itis important to note that the report is not anything close to adoomsday scenario for the Russian economy.  In fact, the authors pointout that of course, eventually oil, gas, and minerals prices will haveto come back up, putting the government’s accounting books back in theblack.  However, it is the relative impact and severity of the economiccrisis until this happens which is the focus of the report, and what can be done to improve the depth of the economy for the future. 

From ourperspective, we are of course concerned about the adaptability of the current political model (i.e. low accountability and even less democracy) to sustain the unavoidablepublic discontent as the state makes necessary reforms (the OECDreport, for example, strongly criticizes Russia’s reliance on rawmaterial exports and commodities).  It would be a great shame for Russia to delay unpopular but necessary economic reforms out of the motivation of limited individuals seeking to cling to power, but given the drift of recent observations, this appears to be the likely scenario.