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Executive summary
- The transitional nature of Russia’s economy from centralization to a market economy means that it has dealt with the global financial crisis relatively ineffectively
- Capital markets are woefully underdeveloped and need the underpinnings of fundamental reform and reconstruction of the financial system
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Delegate biographies: Learn more about the panelists
GN, Euromoney It is clear that Russia has not fared as well as similar economies during this crisis. Let’s explore some of the knee-jerk answers that are given to explain this. These include the notions that Russia’s policy response to the crisis has been weak; Russia is a one-trick commodities pony; there is a lack of transparency in policymaking and execution, particularly with regard to oligarchs’ assets; there is insufficient action in the banking sector; there is a failure to respect the rule of law and investors’ rights; and a lack of market mechanisms to transmit money and information throughout the economy. First, do you agree that Russia is lagging badly and that policy response has been weak?
WB, VTB Capital Yes. If you just look at the Bric four [Brazil, Russia, India and China], Russia is the worst performing of them. Yet, it should not be. Within six weeks of the global financial collapse reaching China, the Chinese turned around an economy that is a lot bigger than the Russian economy. Within the fourth quarter of 2008, China fell very sharply and then recovered just as fast, and had relatively strong growth by the end of that quarter. Even in India, where the government is effectively bankrupt, they still managed to generate 3% to 4% GDP growth. Russia should be in a much stronger position because it is largely industrialized and urbanized, but the concentration of wealth in the hands of the oligarchs has meant that there has been reduced external focus. But there are opportunities: it is about capital allocation, the focused use of capital that you can generate from being a one-trick pony. And that focus has been lacking in Russia.
Transition
ER, Citibank The issue with Russia is that unfortunately it is still in transition. It has largely moved away from the centralized model of 20 years ago but we have not yet completed the transition to policy implementation based on strong institutions. So it is stuck in the middle, and sometimes when at the top policymakers move a lever, for example fiscal stimulus, they are never quite certain what happens in the end. In China, the decision-making and implementation is still highly centralized and it is easier, for example, to ramp up infrastructure spending to support the economy as it is easier to prevent money from being wasted.
It is also important to note that Russia before the crisis was growing above its capacity. Large current and capital account inflows were not fully sterilized and have led to overheating, mostly consumption-driven growth. As domestic consumption could not be met with domestic production, imports increased rapidly and inflation began to creep up. In this regard, in my view, Russia liberalized its current account prematurely, before it was ready to implement a fully flexible exchange rate regime. I believe that exiting the de facto fixed exchange rate regime during the crisis amplified the shock to the economy. For example, Brazil also suffered from large external shocks, a combination of terms-of-trade shock and a sudden freeze on capital flows, but its flexible exchange rate regime allowed it to adjust with fewer disruptions to the real sector. The Russian central bank was forced to choose a new nominal level of the exchange rate during the crisis and to tighten domestic monetary policy to defend it. As a result the real economy suffered from almost two quarters of tight monetary policy, while other countries could afford to start monetary easing to cushion the adjustment. In the case of Russia the combination of overheating growth before the crisis and the exchange rate defence, in my view, explains why it contracted the most among the Bric countries.
GN, Euromoney Elina, in terms of credibility, where would you say that the government ranks in terms of dealing with the crisis?
ER, Citibank There are two issues. One is credibility and the other is quality and speed of the policy response. In terms of credibility, I think Russia has done well. Having chosen the new level of the nominal currency boundary, the central bank tightened monetary policy to defend it, even if it meant sharper contraction of the real economy. At the same time the central bank provided enough liquidity to support the banking system through an exceptional liquidity shock.
In terms of quality the jury is still out. If you look at any financial crisis, you have three stages. The first is liquidity, the second one is solvency and the third is working out corporates’ balance sheets, together with banks’ balance sheets. Here, at the time of the publication, we would have passed the first stage, but likely have only started on the second stage.
II, VTB Capital You have to make really sure that your monetary policy is aligned with what the economy needs. What did the Chinese do? They made sure that the capital that they provided went to the economy. It did not stay at banks.
The policy should really address the fact that credit should go lower, so that it is pro-cyclical. The problem is we are still living with double-digit inflation. It is impossible to start doing anything unless this problem is addressed. The ultimate answer is to provide capital independent of the capital flow. Yes, in that case you will probably have some shocks but now we have a money supply that is too tight for an economy of the size of Russia. It is only 30% of our GDP – no country in the G20 has such a low ratio.
