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FinanceTeasers

The magazine Profile.ru in 2015 compiled a list of Russia’s most subsidized regions.

It went exactly as you’d expect.

# Russian Region %dep. Majority Group
1 Ingushetia 85.0% Caucasian
2 Chechnya 81.4% Caucasian
3 Crimea 80.0% Russian
4 Tyva 77.1% Other Minority
5 Sevastopol 75.0% Russian
6 Altay 73.5% Russian
7 Dagestan 70.0% Caucasian
8 Karachaevo-Cherkessia 68.5% Caucasian
9 Kamchatka 64.7% Russian
10 Jewish Autonomous oblast 60.3% Russian
11 North Ossetia 56.3% Caucasian
12 Kabardino-Balkaria 56.2% Caucasian
13 Kalmykia 54.0% Other Minority
14 Amur 52.9% Russian
15 Buryatia 51.8% Russian

Of the top 15 regions, where federal subsidies make up more than 50% of the local budget, six were ethnic minority republics of the Caucasus. The top two were Ingushetia and Chechnya, which also have Russia’s highest unemployment rates by far.

Only seven of the most subsidized regions were majority Russian. However, Crimea and Sevastopol have a high level of subsidies for the very understandable reason that they are under Ukrainian blockade and international sanctions, and currently undergoing economic integration with Russia; while the Altay Republic and Buryatia both have sizable non-Russian minorities. Kamchatka krai, the Jewish Autonomous oblast, and Amur oblast are the only strong majority Russian regions that source a majority of their incomes from federal subsidies.

So statistically, Russian nationalists are not wrong when they say that Russians are “feeding the Caucasus.”

 
• Category: Race/Ethnicity • Tags: Caucasus, Finance, Russia 

And make no doubt about it – a collapse is exactly what it is, and it afflicts way more of the country than just the war-wracked Donbass. Ukraine now vies with Moldova for the country with the lowest average wages in Europe.

Gabon with snow? Saakashvili is hopelessly optimistic. That would actually be a big improvement!

GDP is at 60% of its 1990 Level

ukraine-gdp-1990-2015

As of this year, the country with the most pro-Western revolutions is also the poorest performing post-Soviet economy bar none. This is a not unimpressive achievement considering outcomes here have tended to disappoint rather than elate. Russia itself, current GDP at about 110% of its 1990 level, has nothing to write home about (though “statist” Belarus, defying neoliberal conventional wisdom, at a very respectable 200% does have something to boast about).

Back in 2010, although by far the worst performing heavily industrialized Soviet economy, Ukraine was still performing better relative to its position in 1990 than Moldova, Tajikistan, and Georgia. In the intervening 5 years – with a 7% GDP decline in 2014 which has widened to a projected 9% in 2015 – Ukraine has managed to slip to rock bottom.

How does this look like on a more human level?

Housing Construction is Similar to That of 5 Million Population Russian Provinces

housing-construction-russia-ukraine-in-2014

With a quarter of its population, Belarus is constructing as much new accomodation as is Ukraine. 16 million strong Kazakhstan is building more. Russia – more than ten times as much, even though it has less than four times as many people.

The seaside Russian province of Krasnodar Krai, which hosted the Sochi Winter Olympics, with its 5 million inhabitants, is still constructing more than half as much housing as all of Ukraine. No wonder the Crimeans were so eager to leave.

New Vehicle Sales Collapse to 1960s Levels

 

ukraine-automobile-sales

The USSR might have famously concentrated on guns over butter, yet even so, even in terms of an item as infamously difficult to acquire as cars under socialism, Ukrainian consumers were better off during the 1970-1990 period than today. Now Ukrainians are buying as few new cars as they were doing in the catastrophic 1990s, and fewer even than during the depth of the 2009 recession.

And even so many Maidanists continue to giggle at “sovoks” and “vatniks.” Well, at least they now make up for having even less butter than before with the Azovets “innovative tank.” Armatas are quaking in fear looking at that thing.

Debt to GDP Ratio at Critical Levels

ukraine-debt-to-gdp-ratio

And this figure would have risen further to around 100% this year.

Note that 60% is usually considered to be the critical danger zone for emerging market economies. This is the approximate level at which both Russia and Argentina fell into their respective sovereign debt crises.

To be fair, the IMF has indicated it will be partial to flouting its own rules to keep Ukraine afloat, which is not too surprising since it is ultimately a tool of Western geopolitical influence. And if as projected the Ukrainian economy begins to recover this year, then there is a fair chance that crisis will ultimately be averted.

But it will be a close shave, and so long as the “meet the new boss, same as the old boss” oligarchs who rule Ukraine continue siphoning off money by the billions to their offshore accounts with impunity, nothing can be ruled out.

Resumption of Demographic Collapse

ukraine-crude-birth-rate-1988-2015

Much like the rest of the post-Soviet Slavic world, Russia had a disastrous 1990s in demographic terms, when mortality rates soared and birth rates plummeted. But like Russia – if to a lesser extent – it has since staged a modest recovery, incidentally with the help of a Russian-style “maternal capital” program. In 2008, it reached a plateau in birth rates, which was not significantly uninterrupted by the 2009 recession.

Since then, however, they have plummeted – exactly nine months after the February 2014 coup. The discreteness with which this happened together with the fact that the revolt in the Donbass took a further couple of months to get going after the coup proper implies that this fertility decline was likely a direct reaction to the Maidan and what it portended for the future.

This collapse is very noticeable even after you completely remove all traces of Crimea, Donetsk, and Lugansk oblasts which might otherwise muddy the waters (naturally, the demographic crisis in all its aspects has been much worse in the region that bore the brunt of Maidanist chiliastic fervor). Here are the Ukrstat figures for births and deaths in the first ten months of 2013, 2014, and 2015:

Births Deaths
2013 350658 441331
2014 354622 445236
2015 329308 450763

Furthermore, this period has seen a huge wave of emigration. Figures can only be guesstimated, but it is safe to say they are well over a million to both Russia and the EU.

The effects of this will continue to be felt long after any semblance of normalcy returns to Ukraine.

 
• Category: Economics • Tags: Crisis, Finance, Ukraine 

According to a recent n=150,000 global survey by Gallup and S&P, there is an astounding lack of financial literacy in the world.

To gauge financial literacy, they asked a series of four questions on basic financial concepts such as risk diversification, inflation, simple interest, and compound interest. They were very simple and typically only had 2-3 possible answers. Here is the most “difficult” question:

Suppose you had 100 US dollars in a savings account and the bank adds 10 percent per year to the account. How much money would you have in the account after five years if you did not remove any money from the account?

The possible answers were:

[more than 150 dollars; exactly 150 dollars; less than 150 dollars; don’t know;
refused to answer]

Demonstrating understanding in three out of the four areas qualified you as financially literate. Only a third of the world’s population reached that threshold, rising to a modest 53% in the advanced OECD countries.

global-financial-literacy-world-map

One surprising pattern is that there was very little variation in financial literacy between low-income and middle-income countries; there was only a sustained increase once countries began to exceed the $12,000 GDP per capita mark. Presumably, that is approximately the point when people start doing things like getting credit cards and taking out mortgages, so they are forced to come to grips with concepts like compound interest whether they like it or not. But there are plenty of both negative outliers (e.g. Japan, Korea, Italy, Portugal), as well as a few positive ones (e.g. Bhutan, Myanmar, Botswana).

economic-development-and-financial-literacy

Curiously, the correlation between financial literacy and cognitive ability appears to be surprisingly low. In other words, basic financial literacy has a low g loading.

There is a relationship to be sure, but exceptions abound, even in the rich country list. High IQ Japan, Korea, and China do a lot worse than one might expect. Botswana and South Africa do much better than what their national IQ levels might imply; in fact, South Africa is the highest-scoring of the BRICS countries.

g7-vs-brics-financial-literacy

Although conventional coverage of the national differences in financial literacy highlighted in this report by mainstream journalists like Leonid Bershidsky predictably focus on things like education levels and exposure to financial services, the really big explanatatory factor seems to be religious/cultural.

On the global scale, the Protestant world comprise nine of the world’s top 10 most financially literate countries, and an amazing 17 of the world’s top 25 – which is also a convenient threshold representing 50%+ financial literacy. (By which point the stock of both developed world Protestant countries pretty much ends). The world’s offshore bank, Switzerland, is a relatively disappointing 15th.

9 of the top 10 countries are within the Hajnal line of Europe, or are their descendants; and 17 of the top 25.

Predictably, the non-Protestant exception in the top 10 is Israel. The Jews can sure count their shekels.

Another correlation that seems to exist is with time preference. Countries where people displayed a willingness to wait to get a greater sum of money in one month’s time, as opposed to getting a smaller sum right now (inflation-adjusted), also tended to perform much better on financial literacy metrics.

The Catholics and Orthodox Christians tended to do a lot worse, even though as we know IQ differences between them and the Protestant world are fairly minor. Likewise with the Confucian civilization.

This suggests that Protestant populations have tended to culturally evolve (or gene-culturally evolve) an “intuitive” understanding of finance like things, while the rest of the world pretty much has to figure it out from zero. More intelligent populations with financial experience, such as the Japanese, tend to be relatively better at it (43% financially literate); less intelligent populations without much financial experience, such as the Indians and Iranians, do much worse at it (<25% financially literate).

Still, there remain some curious cases nonetheless. How does dirt poor and only 60% literate Bhutan manage to take 20th place, with 54% financial literacy? Myanmar also does surprisingly well for a country of its socio-economic and hisorical profile, taking up the 24th slot. Both are Buddhist, but otherwise, Buddhists do not appear to perform especially well; Cambodia is one of the worst, while Thailand is middling between Myanmar and Cambodia. Nor does it appear to have anything to do with the particular sect of Buddhism: Bhutan follows Vajrayana Buddhism, while Myanmar follows Theravada.

Financial Literacy 2015 via S&P/Gallup

# Country % Financial Literacy
1 Norway 71.3%
2 Denmark 71.3%
3 Sweden 71.2%
4 Israel 68.4%
5 Canada 68.3%
6 United Kingdom 67.1%
7 Netherlands 66.1%
8 Germany 65.7%
9 Australia 63.7%
10 Finland 62.9%
11 New Zealand 61.5%
12 Singapore 59.4%
13 Czech Republic 58.4%
14 United States 57.4%
15 Switzerland 57.1%
16 Belgium 55.3%
17 Ireland 55.1%
18 Estonia 54.4%
19 Hungary 54.2%
20 Bhutan 53.7%
21 Luxembourg 53.2%
22 Austria 53.0%
23 Botswana 52.2%
24 Myanmar 51.8%
25 France 51.7%
26 Spain 49.1%
27 Latvia 48.3%
28 Montenegro 48.2%
29 Slovak Republic 48.1%
30 Greece 45.0%
31 Uruguay 44.8%
32 Tunisia 44.7%
33 Lebanon 44.4%
34 Malta 44.2%
35 Croatia 44.1%
36 Slovenia 44.0%
37 Kuwait 43.5%
38 Japan 43.0%
39 Hong Kong SAR, China 42.7%
40 Poland 42.4%
41 South Africa 41.7%
42 Turkmenistan 41.1%
43 Mongolia 40.7%
44 Chile 40.7%
45 Zimbabwe 40.6%
46 Zambia 40.4%
47 Tanzania 40.3%
48 Ukraine 40.0%
49 Kazakhstan 39.7%
50 Senegal 39.7%
51 Bahrain 39.5%
52 Lithuania 38.7%
53 Mauritius 38.7%
54 United Arab Emirates 38.3%
55 Russian Federation 38.1%
56 Kenya 38.0%
57 Serbia 38.0%
58 Togo 38.0%
59 Madagascar 37.7%
60 Cameroon 37.7%
61 Belarus 37.5%
62 Benin 37.0%
63 Italy 36.9%
64 Taiwan, China 36.9%
65 Azerbaijan 36.3%
66 Malaysia 35.7%
67 Sri Lanka 35.4%
68 Dominican Republic 35.4%
69 Costa Rica 35.1%
70 Malawi 35.1%
71 Gabon 34.8%
72 Bulgaria 34.7%
73 Côte d’Ivoire 34.7%
74 Brazil 34.7%
75 Cyprus 34.6%
76 Uganda 34.2%
77 Korea, Rep. 33.4%
78 Mali 33.4%
79 Mauritania 33.3%
80 Algeria 33.0%
81 Jamaica 32.9%
82 Burkina Faso 32.8%
83 Belize 32.6%
84 Colombia 32.2%
85 Indonesia 32.2%
86 Puerto Rico 32.2%
87 Ethiopia 32.1%
88 Congo, Dem. Rep. 31.9%
89 Mexico 31.6%
90 Ghana 31.5%
91 Niger 31.5%
92 Saudi Arabia 31.3%
93 Congo, Rep. 31.0%
94 Guinea 30.4%
95 Ecuador 30.3%
96 Georgia 29.7%
97 China 28.1%
98 China 28.1%
99 Argentina 28.0%
100 Peru 27.6%
101 Egypt, Arab Rep. 27.5%
102 Thailand 27.4%
103 Moldova 27.4%
104 Bosnia and Herzegovina 27.2%
105 Iraq 27.2%
106 Namibia 26.7%
107 Panama 26.5%
108 Pakistan 26.3%
109 Chad 26.2%
110 Nigeria 26.1%
111 Portugal 26.0%
112 Rwanda 25.8%
113 Guatemala 25.7%
114 Venezuela, RB 25.1%
115 Philippines 25.0%
116 West Bank and Gaza 24.6%
117 Burundi 24.4%
118 Vietnam 24.4%
119 Bolivia 24.4%
120 Turkey 23.6%
121 India 23.6%
122 Jordan 23.6%
123 Honduras 22.9%
124 Romania 21.7%
125 Macedonia, FYR 21.5%
126 Uzbekistan 21.4%
127 El Salvador 21.1%
128 Sierra Leone 21.0%
129 Sudan 20.7%
130 Iran, Islamic Rep. 20.5%
131 Kosovo 19.9%
132 Nicaragua 19.8%
133 Bangladesh 19.2%
134 Kyrgyz Republic 18.9%
135 Cambodia 18.4%
136 Nepal 18.3%
137 Armenia 18.2%
138 Haiti 17.9%
139 Tajikistan 16.9%
140 Angola 15.3%
141 Somalia 15.2%
142 Afghanistan 14.1%
143 Albania 13.8%
144 Yemen, Rep. 13.3%
 
• Category: Economics • Tags: Culture, Finance, Literacy, Protestantism 

“Imperialist Putin “Steals” Ukraine”… If only all those hysterical newspaper articles were true!

In reality, the only thing he stole was Ukraine’s credit card debt. He’s no idiot, of course, and is in no rush to pay it off. The drama certainly hasn’t ended. But a geopolitical pivot on the model of Khmelnitsky’s 1654 decision this is not.

Let me try to explain the actual motivations of everyone involved:

(1) The EU wants the Ukraine. No, have to be more precise. The Poles, Balts, Swedes, and Anglos want Ukraine in the EU, without Yanukovych. Scratch that. They want Russia without Ukraine without a Yanukovych. As long as Ukraine politely waits in the queue alongside Turkey and Egypt and all those other peripheral countries enjoying the glories of “European civilization” with Associate memberships, all is well.

(2) Putin wants a weak Yanukovych – because Yanukovych is loyal to his oligarchs, not Putin (duh!) – in control of Ukraine. He also wants Ukraine in the Customs Union. (But not its credit card debt). To do this he has been applying pressure, with Russia banning the import of Roshen chocolates, which belong to a particularly outspoken proponent of the EU, the oligarch Petroshenko. There are warning that EU Association will mean the setting up of tariffs on Ukrainian imports (Russia does not, after all, wish to have to compete with European goods on level territory at this stage). Russia’s long-term goal (with the Eurasian Union) is gradual convergence with EU standards, and eventually even integration. But that is very far off (2040′s maybe). The greater the scope of the Eurasian Union, the more advantageous the terms on which said integration can occur. There is no hurry.

(3) Yanukovych wants what the Donbass oligarchs want. The Donbass oligarchs want to legitimize and secure their wealth by integrating into Western institutions. But the Donbass oligarchs also want their main protector to remain in power. And unfortunately, things like raising gas prices by 40%, salary freezes, and big spending cuts – as demanded by the IMF in return for loans – is going to collapse whatever remains of Yanukovych’s support in the east and south. And why does the EU/IMF demand such stringent concessions? See above. They want a Ukraine without Yanukovych! It’s all logical.

Hence, when PM Azarov says that the decision to suspect the EU deal is “tactical,” he is in all likelihood saying the truth – as opposed to opposition claims that it is all some kind of elaborate conspiracy concocted with Putin to deny Ukraine its “European choice” and return it to imperial moskali domination.

It is also worth noting that during much of the summer, Ukrainian TV channels were propagandizing the benefits of EU association. This is presumably what caused support for the EU to start exceeding support for the Customs Union/Eurasian Union. It would have been exceedingly stupid and irrational to carry out this information campaign with the ultimate intention of performing a volte face and turning back to Russia. It would just piss off the Ukrainians who had become more energized about Europe. An own goal. Why would they possibly do it?

Now that we have a more realistic idea of how things actually work – as opposed to the fanciful tales that the Lithuanians are spinning of Russian blackmail towards Yanykovych, and its faithful repetition in the Western media – we can now look to the future.

That future revolves around February 26, 2015. That is when the next Ukrainian Presidential elections are going to take place. Yanukovych, presumably, wants to win them. But he is not very popular. He has a long-standing reputation as a thug, and a slightly less long-standing reputation as an idiot. Internet commentators frequently call him a “vegetable.”

But he does want to remain President. So Tymoshenko remains in prison, while a law is being introduced to make it illegal for Klitschko to run for the Presidency, seeing as he is a tax resident of Germany. (Aside: If I were Ukrainian, the fact that a tax resident of a foreign country is probably the most popular candidate for leadership would make me profoundly depressed).

The logical course, then, would be to sign up to the Russian deal, which could stave off what many in the financial community are considering to be imminent collapse. But EU membership remains a strategic goal for the Party of Regions and the oligarchs too. So we continue to observe very arduous attempts to have the cake and eat it too. I am talking about their pleas for a three-way trade commission between the EU, Ukraine, and Russia. But too bad for them, the EU isn’t interested. Because the EU doesn’t want Yanukovych. “Look soldier, you don’t like me, and I don’t like you.” “But I like you!” “Okay. You like me, but I don’t like you.” That’s the EU and Yanukovych, in a nutshell.

So that option is out of the window. The days of playing the EU off against Russia to extract concessions is drawing to a close.

What is going to happen now?

Sign up to the Customs Union and be done with all the rigmarole. This is not a choice: Extensive Russian support is predicated on joining the Customs Union.

This is what the opposition, the worshipers of the “European choice” and haters of “Aziopa,” so fervently fear. But I suspect those fears are misplaced. The Ukrainian population under 50 is more pro-EU than pro-Eurasia, and as older people die off, the balance of electoral (not to mention street) power is going to shift West. In this scenario, the Party of Regions will bear a mounting electoral toll for depriving Ukrainians of their “European choice.” The oligarchs will be none too happy either.

Incidentally, this puts the Party of Regions in a fundamental bind. Their core electorate is very slowly but surely dissipating. But should they try to tap the electoral power of younger age groups by signing the Association Agreement, the result would wreck eastern industry and collapse their existing electorate. So they would want to postpone this until after the Presidential elections if at all possible.

Another choice is to default now, devalue the currency, and hope for recovery to pick up in a year’s time, just in time for the elections. (This is what Belarus did in 2010, minus the elections). But this is very risky. Russian gas imports will become even more expensive, and crippling to the budget – and they would be loth to throw Yanukovych a lifeline. If they maintain pressure, Yanukovych would be truly doomed in 2015, even if Tymoshenko and Klitschko are both out of the game. The EU/IMF wouldn’t help either, of course (they don’t want Yanukovych). All they’d have to do is play the waiting game and just wait for a pro-European President to come to power in 2015.

Yanukovych has no good options, that much is clear. All are fraught with varying degrees of risk. But surprisingly enough, it actually appears that – in the absence of any further involvement with the EU, which has basically thrown a hissy fit and wants to have nothing more whatsoever to do with Yanukovych – the Customs Union path is the most promising one for him. Not a good one, mind. The younger people west of Donbass and north of Crimea are pissed off at him, and presumably the oligarchs are none too happy either. But unlike the alternatives – alienation of the core electorate – these are fundamentally manageable problems. Younger people are more active, sure, but the power of the street is overrated (it was a court decision, not the Maidan, that was central to the Orange Revolution); and elderly people are more likely to vote. And what other choice do the Donbass oligarchs have?

All in all, a carnival of errors. The Party of Regions making EU integration a core part of its platform to the extent of funding an information campaign in favor of it. The EU for being so hardline on fiscal matters, which was ultimately a threat to Yanukovych’s political survival and hence unacceptable. Putin is the only one who appears to have played all his cards right.

Well, this train of thought has come to a most unexpected point. I suppose the “hysterical” articles aren’t so hysterical after all… But the outcome is accidental, not having been intended by Yanukovych.

And it goes without saying that things remain very unpredictable. For instance, there’s also the Chinese variant.

(Republished from Da Russophile by permission of author or representative)
 

If you remember a couple of weeks ago, the Internet was rocked – for a total of about one or two days – by a wave of leaks from the ICIJ about the identities of offshore account holders in the British Virgin Islands. What juicy revelations did we have about the henchmen of the kleptocratic Putin regime?

Other high profile names identified in the offshore data include the wife of Russia’s deputy prime minister, Igor Shuvalov, and two top executives with Gazprom, the Russian government-owned corporate behemoth that is the world’s largest extractor of natural gas.

Shuvalov’s wife and the Gazprom officials had stakes in BVI companies, documents show. All three declined comment.

So that comes to one Minister who has always been open about the wealth which he made in the 1990′s as a law firm manager and then multiplied by leaving it in a blind trust invested into the Russian stockmarket; and a couple of top executives at one of the world’s biggest companies, are the two most prominent names that have been dredged up.

Rather underwhelming, TBH.

Incidentally, in most countries there is nothing particularly illegal about having offshore bank accounts. Morally questionable? Perhaps. For some, yes. And I can understand why countries like Germany (mistakenly, IMO) might not want to contribute to bailing out alleged tax havens like Cyprus, or why the US demands Switzerland reveal the identities of Swiss secret bank account holders to the IRS.

But is keeping money offshore illegal? No, it isn’t. Not in the US, not in Russia, not practically anywhere else. Not in any country that supports the principle of basically free movements of capital. Now if said money is suspected to have been laundered or otherwise acquired illegally then yes, investigations can follow. But the past few years of pressed government budgets have seen the big countries lean heavily on alleged tax shelters to reveal more information about their clients so it is arguably a much smaller problem than it was, say, a decade ago.

The non-illegal nature of offshore banking is the reason why Romney isn’t being prosecuted for his $250 million stash in the Cayman Islands, and why revelations that many wealthy Germans keep bank accounts in Panama has led to a lot of media noise but no legal proceedings. Is it because Germany is a kleptocracy in which the elites corruptly protect their own? To ask the question is to mock it.

But funnily enough whenever it comes to Russia even otherwise neoliberal or even Randian commentators start frothing at the mouth and demanding populist, Bolshevik reprisals against any Russian – that is, if he isn’t opposed to Putin – with money abroad.

(Republished from Da Russophile by permission of author or representative)
 

If you ever manage to get a troupe as diverse as Latynina, Mark Adomanis, the Cypriot Communist Party, virtually every financial analyst, Prokhorov, and Putin united in condemning your crass stupidity and cack-handedness, it’s probably time to stop and ponder. But it’s safe to say that’s not what the Troika – the European Commission, European Central Bank, and IMF – tasked with managing the European sovereign debt crisis is going to be doing any time soon. They seem to be living in la la land.

Here is the low-down. Contrary to German/ECB propaganda, Cypriot public finances, while nothing to write home about, are not in a catastrophic state. The debt to GDP ratio, far from ballooning out of control like Greece’s, was actually lower than Germany’s as late as 2011! This was despite Cyprus being steadily hammered by the global financial crisis and the massive explosion at a naval base in 2011 that cost it about 10% of its GDP.

cyprus-debt-dynamics The main problem was in its financial sector. Although it should have been safe on paper, Cypriot banks had the bad fortune to have had many operations in Greece – which hemorrhaged money as Greek debts were restructured under EU guidance. These involved painful austerity, but the principle that bank deposits would be inviolable held across the PIIGS. But for Cyprus, the Eurocrats – egged on by Schäuble in particular – decided to make an exception, demanding a “bail-in” as part of any financial rescue package. For the ultimately trifling sum of $6 billion, they were prepared to erode basic principles such as sanctity of property that the EU is founded on.

According to Edward Scicluna, the Maltese Finance Minister, his Cypriot counterpart Michalis Sarris was for all intents and purposes brow-beaten into accepting the deal – a 6.75% levy on deposits of less than 100,000 Euros, and 9.9% on everything above that – that the country’s parliament would later decisively reject. The Europeans, according to him, were dead-set on “downsizing” Cyprus’ supposedly overgrown financial sector and in particular its status as a tax haven and alleged center of Russian money laundering. After 10 grueling hours of discussions, Sarris finally conceded, and as soon as that happened, “Schäuble demanded that all wire transfers to and from the Cypriot banks would cease forthwith.”

In other words, they wished to destroy Cyprus’ financial system, and it seems certain that they have succeeded in this. As soon as the banks reopen (now delayed until at least May 26th), who exactly will continue to keep their deposits in a Cypriot bank?

This wanton destruction however seems to have been based not so much on any sense of pan-European fairness or social justice as misconceptions about the nature of the Cypriot banking system, or even more mercenary motives such as a desire to help Merkel win the upcoming elections or encourage capital flight from the PIIGS to German banks (the latter possibility was raised, only half in jest, by Craig Willy). As we see above, Cyprus’ sovereign debt situation was manageable. While it is true that it had a huge financial sector relative to its GDP, this is not atypical for a nation of its small size and location (consider Luxembourg, or London were it independent from the UK), and this sector did not experience any critical difficulties until the EU-spearheaded restructurings of Greek debt into which C ypriot banks were heavily invested, as a natural result of their geographic and cultural position.

How Cypriots see the Cyprus crisis.

How many ordinary Cypriots see the Cyprus crisis.

Nor is it even true that the Cypriot banking system mainly serviced dodgy offshore aristocrat types. Of the €68 billion in deposits as of end-January 2013, some 63% were held by Cypriots, and 7% were held by citizens of Eurozone countries, while 30% were held by nationals of other countries *. Although according to honored representatives of the Eurocrat class like Jean Pisani-Ferry, it is the Cypriots’ own fault for banking in their own damn country as opposed to Germany:

And of that 30%, not all was held by Russians, as Cyprus is popular among Chinese and Iranians too (indeed, an acquaintance who was there recently saw far more signs in Chinese than in Cyrrilic). As for the notion that all or even the majority of Russians with money are “oligarchs”, “mafiosi”, and “Chekists” (interchangeable terms, to many of the people who engage in this kind of rhetoric)… well, no way to statistically prove it one way or another, so anecdotes will have to suffice. Ironically enough, the only Russian I know with a bank account in Cyprus is actually a fairly anti-Putin liberal, and as far as I know not an oligarch or a mafiosi – unless you consider journalists to be such. The commentator JLo also reports a liberal acquaintance with money in Cyprus. No doubt those two will be thrilled to hear from former Economist Russia journalist Edward Lucas, whose Russophobia is frankly pathological, that as Russians with money in Cyprus they should be automatically expropriated.

This is not of course to argue that having such a large segment of the Russian economy “offshore” is a good thing. Many Russians really do have accounts in Cyprus because of its perceived benefits such as the local (English-based) legal system, greater financial security, greater ease of capital movement around the world, and yes, tax evasion or “tax optimization” as it is euphemistically called – and productively utilized by entirely respectable Westerners like Mitt Romney. It would undoubtedly be a good thing if there was less of that and ironically the Troika’s ham-fistedness will have only helped Russia in its struggles to de-offshore its economy. But what is entirely mendacious is to start throwing around terms like “money laundering” as if they were synonymous with offshore banking, or “the Russian mob” as if it was synonymous with “oligarchs”, “Russian politicians”, “Russian bureaucrats”, and all Russians in Cyprus in general for that matter. There is of course some overlap between all these categories but to conflate them all as the Lucas types insist on doing is pathologically Russophobic, and frankly driven by the very same Bolshevik spirit that they profess to despise but actually embody.

Many Western papers even went so far as to hint that the reason Russia was so “concerned” about Cyprus was because Putin and other members of his inner circle had money in Cyprus. This was echoed by the (viciously anti-Putin) Russian business newspaper Vedomosti, which alleged that “it is hard to believe, but it appears as if European politicians are ready to risk a lot in order to pressure a certain influential politician secretly hiding money in Cypriot banks.” They did not have the courage of their convictions to say it outright, but the hidden subtext is obvious to all. We call these conspiracy theories. Were this true, in fact, it would be indicative of severe schizophrenia on Putin’s part – that is, if he actually DID have quadrillions parked in Nicosia – considering that previous discussions on Russian loans to Cyprus had been linked to Cyprus becoming more proactive about revealing the identities of Russians with bank accounts there to the Russian tax authorities.

How the Western media/political class see the Cyprus crisis.

How the Western media/political class see the Cyprus crisis.

At this point it hardly bears mentioning that, as an institution that so regularly and pompously lectures Russia about things like rule of law and sanctity of property rights, it is quite hilarious that the Troika would “demonstrate” those concepts by doing things like retroactively abrogating European-wide deposit insurance of 100,000 Euros and freezing and confiscating the savings accounts of the very Russians whom they expect to listen to their pontifications.

But as these recriminations and general debility went gone back and forth, Nicosia burned. The initially proposed “medicine”, it seems, will turn out to be the deadly pill that kills the Cypriot financial system. It is hard to imagine anyone, be they foreigner or even Cypriot, now willingly leaving their money in Cypriot banks; trust has been destroyed, and short of capital controls, massive bank runs and capital outflow seem to be all but inevitable whenever the banks open again. The original $15 billion that could have nipped this problem in the bud is probably no longer sufficient. I don’t pretend to have any precise idea of how things will develop now – Will Cyprus hurtle out of the Eurozone? Will contagion spread to Spain and Portugal? Will Gazprom get exploration rights to the recently discovered oil fields in return for loans? Will China get involved? – but a few things I think we can be pretty sure of: (1) The ECB/Eurocrat class are either utterly, frightfully oblivious, or have altogether darker ulterior motives; (2) The Cypriot banking system is finished; (3) It will be a reality check for Russians who firmly believe their assets are automatically safe abroad and will help the de-offshoring process, though I don’t expect any sudden radical changes because there are still plenty of alternatives like Latvia which I hear is getting pretty hot with Russian money nowadays.

PS. For further reading (and people who influenced my perception of this) consult Mercouris, Dmitry Afanasiev (Russian version at Vedomosti), and Craig Willy’s Twitter.

*UPDATE: The commentator Temesta links to an article by Paul Krugman in which he points out that “Cypriot residents” very likely directly include foreigners:

I’ve done some asking around, and cleared up something that was puzzling me. Officially, only about 40 percent of the deposits in Cypriot banks are from nonresidents, which would imply resident deposits of almost 500 percent of GDP, which is crazy. But the answer is that I do not think that word “resident” means what you think it means. Some of the money is from wealthy expats living in Cyprus; much of it is from rich people who have resident status without, you know, actually living there. So we should think of Cypriot deposits as mainly coming from non-Cypriots, attracted by that business model.

That said, speculation is one thing, concrete numbers are another: “Cyprus Central Bank Gov. Panicos Demetriades, in an interview published Thursday in Russian newspaper Vedomosti, offered more specifics. “The deposits of Russians range from €4.943 billion to €10.225 billion, depending on how you count them,” he said.” Even if the highest estimates of $20 billion are correct, it would still mean that the total value of Russian deposits there account for less than 25% of the total.

(Republished from Da Russophile by permission of author or representative)
 

This guy isn’t as clear-headed as Eric Kraus, is he? But does have company in the form of Andrew Miller, Jeffrey Tailer, “Streetwise Professor”, and Ed Lucas. H/t Mark Adomanis.

—– Original Message —–
From:
Dmitry Alimov
To:
dalimov@mba2004.hbs.edu
Sent:
Friday, September 12, 2003 11:28 PM
Subject:
Conversation with Jim Rogers – HILARIOUS

Jim Rogers, a famous international investor and writer attended HBS this Wednesday. In his speech, he badmouthed Russia (in his usual style) and quoted several “facts” that were completely bogus. As you would expect, I could not let him get away with lying about our country and publicly disputed his factual claims. He basically told me I was a moron and left. In response, I sent an email to him with facts and references disputing his claims (sending a copy to my HBS classmates). What ensued is quite amazing – read attached emails. Start with the first email and read from the end (my original email), then read his response and finally my rebuttal in the second email. This will be worth your time I promise. This has already been circulated all over HBS, several other universities and in the investment community in New York. Since this is already in public domain, feel free to forward on.

Dima
__________________________________________________

Dear Mr. Rogers: I am the “lad” who disputed your factual claims with regard to Russia today. First of all, I would like to thank you for speaking to us at the Harvard Business School. I think I speak for my fellow HBS students when I say that we enjoyed your original views and interesting stories today. However, I must address the unfortunate reality that your facts about Russia are plain wrong. You made three principal inaccurate claims today – I will deal with all of them in sequence.

Claim #1. People are leaving Russia

Wrong. In fact, according to Financial Times, your favorite newspaper, Russia turns out to be the second largest recipient of immigrants after the US (see attached FT article). Oops. While it is true that Russia’s population is declining but the reasons for that have nothing to do with people leaving the country, it is things like low birth rate (only 1.2 per woman), which is an issue that confronts many European states.

Claim #2. Russia’s production of oil is declining, oil companies do not reinvest in production

Wrong and wrong. Russian oil production has increased for the fifth year in a row (see attached Reuters article), and Russian oil majors are reinvesting in production (many of them have US GAAP accounts audited by Big Four firms you could easily have access to if you chose to look).

Claim #3. Investors are leaving Russia

Wrong again. Equity indexes (US Dollar denominated) are trading around their all time highs (see attached Barrons article), Russian bond yields are at historical lows. As an experienced investor, surely you will recognize these as pretty convincing signs of investor confidence.

Overall state of the economy

Finally, I would like to quote World Bank’s recent report on Russia: “The Russian Federation has made remarkable progress in tackling crisis and moving towards sustainable development between 1999 and 2002. With a much more stable political environment, the government has been able to build on experience gained in the 1990s and implement a sound reform agenda, in addition to maintaining macro-economic stability. Since 1999, assisted by high commodity prices, the economy has recorded strong growth, business confidence has revived, and poverty has declined. Russia’s sovereign credit rating has improved, although it has yet to reach investment grade. The speed and extent of recovery has taken most observers by surprise. Between early 1999 and end 2001, GDP grew by 21 percent, inflation fell from 86 percent to 18 percent, the fiscal situation turned around from a deficit of 5 percent of GDP to a surplus of 3 percent of GDP, and barter and arrears largely disappeared.”

Source: http://www.worldbank.org.ru GDP growth of 21%? Hardly a picture of total collapse, don’t you think?

Conclusion I believe the facts speak for themselves. I have no time or desire to try to convince you to invest in Russia. However, I do kindly ask you to abstain from spreading inaccurate information. You are a public figure and many people including future leaders at Harvard Business School listen to you; it would be very unfortunate if they were misled by your inaccurate statements. Finally, if nothing else, it is not good for your own public image.

Kind regards,

Dmitry Alimov, CFA MBA Class of 2004
Harvard | Business | School
dalimov@mba2004.hbs.edu
Ph 617.491.7332

P.S. I took the liberty of sending a copy of this email to my fellow students so that we can set the record straight.____________________________________________________

Thank you for coming and for writing.

I rarely suffer fools gladly and even more rarely bother with chauvinistic know nothings, but since you sent this ludicrous canard:

[1] My goodness. Not only do you have no idea about what you are speaking, we now know you cannot read. The “immigration study” you mention was a bunch of estimates for the years 1970 to 1995. What the hell does that have to do with Russia in the past 8 years? Many were forced to go into Russia from the Soviet Republics under the Communists, but that was hardly free immigration as in the other countries. Even if people were going into Russia in the early 1990s, they were Russians being forced to leave the old USSR republics as the USSR dissolved in the early 1990s and those Russians fled back into Russia.

You have demonstrated you cannot read nor analyze nor have any concept of what is happening in Russia today, but do you not at least know a little Russian history?

[2] Oh my. You really should have kept your mouth shut and stopped long ago. This is not from “Reuters”. It is from the Russian government – the same group which claims to have had a balance of trade surplus for the last 9 years. The same group of bureaucrats and charlatans who became a laughing stock with their “facts” under the USSR. The same who say that the Russian balance of trade in that period has been among the largest in the world. I did not think even B school students fell for that claptrap any more. But then you are the one who says the ruble is a good buy and that “it is a strong currency”. I suggest you check your facts on what has happened to the ruble in those 9 years when Russia “had the strongest balance of trade surplus in the world”. And that was a period when huge sums were also flowing in from the World Bank, IMF, etc, etc. “Inflows from the strongest balance of trade in the world and billions from the World Bank, etc” yet the currency kept declining. I and most others find that extremely strange.

Somehow or another the currency kept falling since most of us realized the same old bureaucrats were spewing out the same old garbage. I guess you were buying rubles all that time. No wonder you are in school rather than making it in the real world. You must have gone broke buying all those rubles.

And if Russian oil production is really up so much, why is the price of oil still so high? So you are indeed a gullible lad, but fortunately the market knows a lot more than you and your wailing into the wind.

You might read the section of my book about Russia’s reported figures – especially the trade figures. Or get some one to read it to you and explain it to you.

I know you said you have driven across Russia from the Pacific to Europe, but I’d like to know your route and which border crossings you used and who you found out there counting all this stuff.

[3] You really should have kept your mouth shut, but since you opened it: What balderdash. Now we know you have no understanding of markets in addition to being unable to read or comprehend. The Russian “market” is tiny and is insignificant compared to GNP so it is meaningless. Even your article points out that the few big hydrocarbon companies account for 70% of the stock market. [a] The price of oil more than doubled in the period the article discusses and [b] those stocks went up because of that and because of the manipulation by the oligarchs. Perhaps you did not notice your article mentioned the “murky” dealings in Russia?

I hardly consider 2 mutual funds and 4 or 5 manipulated oil stocks “as pretty convincing signs of investor confidence”.

But if you really believe all this codswallop, why are you in business school? Why aren’t you there making your fortune?

I presume you are long the Russian stock market?

For what it is worth, I was short the ruble and the Russian market in the summer of 1998 and back in the earlier bubble in the mid 1990s when Russia and its bureaucrats were going on and on with the same absurdity. Go back and look up what happened both times. Or perhaps you were long then too and got wiped out which is why you had to go to b school.

[4] “Overall state of the economy”: Now we are getting really embarrassed for you! The World Bank also praised Russia in 1998 just before the last collapse and in the mid 1990s just in time for that collapse. They also wrote in rapturous terms about all the Asia Tigers in mid 1997 just in time for the Asian Crisis [I was short Hong Kong back then too right into the World Bank’s rapture.] And the World Bank could not give Argentina enough money in the summer and fall of 2001 because of “its progress” when I was getting all my money out. [All this is very much on the public record so you do not need to fret about my image.]

Need I go on? No one has ever stayed solvent much less made money listening to the World Bank [except business school professors who “consult” for them].

Oh dear, you get your information from the Russian government and the World Bank!? Are you mad? I know you say you have driven across Russia, but who do you really think is out there in those 11 time zones and tens of thousands on kilometers of Russia collecting all this “reliable data”?

And thanks for your advice about my analysis, facts and my “public image”. If you had done your homework, you’d know the public was and is extremely aware that I had shorted the ruble in 1998 and back in the mid 1990s [when I guess you were long]. It was the same kind if misinformation back then too that gullible souls like you swallowed.

And the public is extremely aware of my record of investing in many markets all over the world for many years. You might read John Train’s Money Masters of Our Timeor one of several other books. I do not worry about it, but you should worry about yours.

But as for public image and inaccurate statements, you have demonstrated quite publicly and vocally that you can neither read nor comprehend what you read nor can you analyze anything in front of you and that you fall for anything someone tells you and that you have absolutely no knowledge of even recent Russian history. I was terribly embarrassed for you when you stood there babbling on in front of the others about the strong ruble – a currency which has been nothing but a catastrophe for a decade [despite your painfully absurd statements], but now you have shouted your hopelessness from the roof tops for all to see.

I hope your classmates will pull you aside and pass on this word of advice: It is better to remain silent and have people wonder if you are an idiot rather than to open your mouth and prove to everyone in sight that you are an idiot beyond all doubt. And one should never, ever go shouting from the rooftops when one is a total idiot because then the entire school knows it.

_____________________________________________________

Mr. Rogers:

I see that you prefer the language of personal insults instead of informed polite discussion. Well, this is your choice and I hope this is not consistent with your sense of style – you are a successful individual (as you mentioned many times) and it would be a shame to tarnish that with this sort of attitude. Also, apologies for getting you a little riled, I didn’t mean to, nor did I expect you to. I am enjoying the discussion and would like to just rebut some of your remarks.

Thank you for coming and for writing. I rarely suffer fools gladly and even more rarely bother with chauvinistic know nothings, but since you sent this ludicrous canard:

[1] [immigration] My goodness. Not only do you have no idea about what you are speaking, we now know you cannot read. The “immigration study” you mention was a bunch of estimates for the years 1970 to 1995. What the hell does that have to do with Russia in the past 8 years? Many were forced to go into Russia from the Soviet Republics under the Communists, but that was hardly free immigration as in the other countries. Even if people were going into Russia in the early 1990s, they were Russians being forced to leave the old USSR republics as the USSR dissolved in the early 1990s and those Russians fled back into Russia.
You have demonstrated you cannot read nor analyze nor have any concept of what is happening in Russia today, but do you not at least know a little Russian history?

For your viewing pleasure, below are the actual numbers of net migration (immigration less emigration) through 2001. As you can see, there is a net inflow in every single year for the past two decades. This does not even include an estimated 1-1.5 million of illegal immigrants to Russia.

Net Migration and Natural Increase in Russia, 1980–2001

(Abridged)

Source: State Committee of the Russian Federation on Statistics, Goskomstat Rossii

As you correctly point out, much of the immigration comes from the states of the former Soviet Union (although a very large part of the immigrants are Ukrainians and other CIS nationals). However, the fact remains that before and after 1995, immigration to Russia far exceeded emigration from Russia, which is the opposite of your original claim.

[2] [oil production] Oh my. You really should have kept your mouth shut and stopped long ago. This is not from “Reuters”. It is from the Russian government – the same group which claims to have had a balance of trade surplus for the last 9 years. The same group of bureaucrats and charlatans who


The quote below is taken directly from US Department of Energy website (I hope you at least believe your own government):

“A turnaround in Russian oil output began in 1999, which many analysts have attributed to rising world oil prices during this period (oil prices tripled between January 1999 and September 2000), as well as a number of after-effects of the 1998 financial crisis and subsequent devaluation of the ruble in August. Today, Russian oil fields are maintained using modern technologies from around the world, and many of the old command economy institutions have been streamlined. The rebound in Russian oil production has continued since 1999, resulting in 2002 total liquids production of 7.65 million bbl/d (7.4 million bbl/d of which was crude oil)–a 26% increase over the 1998 level. Accordingly, Russia is now the world’s second largest crude oil producer behind only Saudi Arabia.

(Abridged)

Source: http://www.eia.doe.gov/emeu/cabs/russia.html#oil

Or do you think the US government is also lying?

became a laughing stock with their “facts” under the USSR. The same who say that the Russian balance of trade in that period has been among the largest in the world. I did not think even B school students fell for that claptrap any more.

I don’t think my fellow students deserve this condescending treatment. You should also know that my other Russian speaking HBS classmates were appalled by your comments in and after class. In addition to misstating the facts, you also characterized the country in an offensive manner. We are all rational people and are prepared to discuss the Russian economy and culture on merits (clearly, there are many negative things, particularly in the recent past) but it’s a very different matter when someone starts insulting a nation.

But then you are the one who says the ruble is a good buy and that “it is a strong currency”.

This is not quite the statement I made, but nice try at remembering. What I said was that this year, Russian currency appreciated and I stand by my statement. From 31.7 rubles/US$ at the end of 2002 it appreciated to 30.7 rubles/US$ now. I did
not say it is a strong currency and I certainly don’t think that any currency is a good investment given that currencies are not interest bearing.

I suggest you check your facts on what has happened to the ruble in those 9 years when Russia “had the strongest balance of trade surplus in the world”. And that was a period when huge sums were also flowing in from the World Bank, IMF, etc, etc. “Inflows from the strongest balance of trade in the world and billions from the World Bank, etc” yet the currency kept declining. I and most others find that extremely strange. Somehow or another the currency kept falling since most of us realized the same old bureaucrats were spewing out the same old garbage. I guess you were buying rubles all that time. No wonder you are in school rather than making it in the real world. You must have gone broke buying all those rubles.

And if Russian oil production is really up so much, why is the price of oil still so high? So you are indeed a gullible lad, but fortunately the market knows a lot more than you and your wailing into the wind.

I find it amusing that you would ask this question. Surely you know that market prices are determined by many factors including demand (which, as you correctly pointed out in your speech, is on a secular upward trend), supply by other players (think Latin American and Middle East supply problems). Russia is one of the global energy suppliers and certainly cannot by itself control world energy prices. Surely you must know this?

You might read the section of my book about Russia’s reported figures – especially the trade figures. Or get some one to read it to you and explain it to you. I know you said you have driven across Russia from the Pacific to Europe, but I’d like to know your route and which border crossings you used and who you found out there counting all this stuff.

[3] You really should have kept your mouth shut, but since you opened it: What balderdash. Now we know you have no understanding of markets in addition to being unable to read or comprehend. The Russian “market” is tiny and is insignificant compared to GNP so it is meaningless. Even your article points out that the few big hydrocarbon companies account for 70% of the stock market. [a] The price of oil more than doubled in the period the article discusses and [b] those stocks went up because of that and because of the manipulation by the oligarchs. Perhaps you did not notice your article mentioned the “murky” dealings in Russia?
I hardly consider 2 mutual funds and 4 or 5 manipulated oil stocks “as pretty convincing signs of investor confidence”.

If the stock
and bond market three year rally is not sufficient evidence for you, what about the fact that scores of major Western companies made significant capital commitments to Russia in the past few years? Here is just a sample of recent investments:

Pepsi $1 bn
Coca Cola $750 mln

Metro (Germany) €1 bn

United Technologies Corp. $400 mln

Mars LLC $500 mln

Procter & Gamble $150 mln

Boeing $1.3 bn

ExxonMobil $1.4 bn

BP $3 bn

If this is not a reliable sign of investor confidence, I don’t know what is. But you probably think these companies are lying, too? Or are they also being manipulated by evil oligarchs?

But if you really believe all this codswallop, why are you in business school? Why aren’t you there making your fortune?

Let me know if you desire to see my bank statements and resume, I’ll email them to you. I think you’ll be pleasantly surprised, maybe even compare them to yours when you were my tender age, for a real awakening. Maybe we can do the same when I am your age now, and we can revisit this cute discussion.

Rest assured, I certainly plan on continuing my career in Russia because I love the place, I am good at what I do and I will have a positive impact on the country. Surely, there are challenges and problems (name a place in the world that does not have a set of problems to deal with) but the opportunities are amazing. I find it extremely satisfying to be able to effect real change in the largest country in the world.

I presume you are long the Russian stock market? That’s correct.

For what it is worth, I was short the ruble and the Russian market in the summer of 1998 and back in the earlier bubble in the mid 1990s when Russia and its bureaucrats were going on and on with the same absurdity. Go back and look up what happened both times. Or perhaps you were long then too and got wiped out which is why you had to go to b school.

[4] “Overall state of the economy”: Now we are getting really embarrassed for you! The World Bank also praised Russia in 1998 just before the last collapse and in the mid 1990s just in time for that collapse. They also wrote in rapturous terms about all the Asia Tigers in mid 1997 just in time for the Asian Crisis [I was short Hong Kong back then too right into the World Bank’s rapture.] And the World Bank could not give Argentina enough money in the summer and fall of 2001 because of “its progress” when I was getting all my money out. [All this is very much on the public record so you do not need to fret about my image.]

While one may or may not agree with the World Bank’s adjectives and characterizations, there are objective facts and figures that speak for themselves. Do you think that 21% real GDP growth is a sign of total collapse of the economy or do you think that the government and international finance organizations are lying about the figures?

Need I go on? No one has ever stayed solvent much less made money listening to the World Bank [except business school professors who “consult” for them]. Oh dear, you get your information from the Russian government and the World Bank!? Are you mad? I know you say you have driven across Russia, but who do you really think is out there in those 11 time zones and tens of thousands on kilometers of Russia collecting all this “reliable data”?

And thanks for your advice about my analysis, facts and my “public image”. If you had done your homework, you’d know the public was and is extremely aware that I had shorted the ruble in 1998 and back in the mid 1990s [when I guess you were long]. It was the same kind if misinformation back then too that gullible souls like you swallowed.

Every “babushka” shorted ruble during that time period; it was a highly inflationary currency.

And the public is extremely aware of my record of investing in many markets all over the world for many years. You might read John Train’s Money Masters of Our Timeor one of several other books. I do not worry about it, but you should worry about yours.

But as for public image and inaccurate statements, you have demonstrated quite publicly and vocally that you can neither read nor comprehend what you read nor can you analyze anything in front of you and that you fall for anything someone tells you and that you have absolutely no knowledge of even recent Russian history. I was terribly embarrassed for you when you stood there babbling on in front of the others about the strong ruble – a currency which has been nothing but a catastrophe for a decade [despite your painfully absurd statements], but now you have shouted your hopelessness from the roof tops for all to see.

I hope your classmates will pull you aside and pass on this word of advice: It is better to remain silent and have people wonder if you are an idiot rather than to open your mouth and prove to everyone in sight that you are an idiot beyond all doubt. And one should never, ever go shouting from the rooftops when one is a total idiot because then the entire school knows it.

I will leave it up to my classmates to make characterizations in this case. Again, I will not dignify your insulting comments with a response. If you are interested in what impression your email made on my classmates, please read this sample email – one of many similar emails I received today:

“Dmitry, I was shocked by the letter that Jim wrote you. I am sorry that you had to read that. It was totally ridiculous. I thought you wrote him a respectful and well argued letter and for some reason he decided to tear into you. I am not sure who is on the right side of the facts, but I do know that I talked to the top guy at Morgan Stanley Private Client last week and he said that Russia is one of their top picks going forward. All the best, John”(name is changed for privacy reasons)


Respectfully yours,

Dmitry Alimov, CFA MBA Class of 2004
Harvard | Business | School

dalimov@mba2004.hbs.edu
Ph 617.491.7332

***

The funny thing is that Jim Rogers is now an adviser to an agricultural fund run by Russian state-owned banking group VTB.

(Republished from Da Russophile by permission of author or representative)
 

The King returns. As this is breaking news, please feel free to discuss this breaking news while I write up a more substantive post. In summary:

(1) I was 75% wrong. (I gave Putin a 25% of returning to the PM; I thought the likeliest scenario would be for DAM to continue).

(2) That said, being an unrepentant Putinista, I’m very happy I was wrong – even if I lost $20 to a gambling site and a bottle of Georgian wine to a friend.

(3) In general terms, I hope this represents a left turn (VVP has come out in support of more progressive taxation), more social liberalism, and an end to DAM-style dithering and capitulation to Western interests and finance capital.

CONTINUATION. So here are my 2 cents. As you may recall, I thought Medvedev would continue in office. I gave it as a set of probabilities: DAM – 70%, Putin – 25%, Other – 5%). I’d have a lost at the casino, and in fact I did a bit, as well as a bottle of Georgian wine to a friend likewise interested in Russian politics (that said in terms of expectations I still think I made a good bet). So obviously this came as a surprise to me along with A Good Treaty, Mark Adomanis, Joera Mulders, etc. Of what I’d read on Putin, it sggested that he was becoming tired of Presidential trappings by the 2006-08 period, which I imagine implied he’d be happy in a more “hands on” job with fewer formalities than the Presidency, e.g. staying on as PM, or even (my whimsical scenario) becoming a Minister of Sports in charge of the Sochi Olympics and World Cup, or something. That said, as a Putin supporter who was wary and concerned about Medvedev’s neoliberal tendencies, his dithering and aimless style of rule, and his excessive capitulations to Western interests, unlike many of my Russia-watching acquaintances I welcome a second Putin Presidency.

There are many objections and criticisms of this decision, of course, and I’m going to reply to the biggest ones.

Foreign investors will flee, due to the bad PR. The bad PR will continue and even intensify, at least in the short-term, but let’s face, that will be happening as long as Russia refuses to submit to the whims of the “international community” (aka the West and international finance capital). In the end analysis, as long as investors feel they are going to make money, they will continue investing in Russia. That is all they’re interested in. If not, then no amount of good PR and pro-Western credentials are going to convince them (see the Baltics or Georgia).

Besides, there are a great many other flaws with this reasoning. First, the Russian President is beholden to the Russian electorate. Putin is the most popular and trusted Russian politician. So he is an eminently logical choice once the constitutional barrier to two consecutive terms has been sidestepped. This is the whole point of democracy according to our democratists anyway, right? As Mark Chapman colorfully put it, “Putin couldn’t make the west happy unless he accidentally hanged himself in his closet while dressed in his grandmother’s clothes and titillating himself with naked pictures of Khodorkovsky.” But the fact that many foreigners suffer from Putin Derangement Syndrome shouldn’t factor into the equation.

Second, haven’t the narrative-spinning pundits and “experts” been telling us that it was the lack of certitude in Russia’s political future that was keeping all the investors away anyway? This, at least, has been removed. On the same note, I don’t see how predicting a future lack of foreign investment just because to the return of Putin makes any sense. You can argue that they will be put off by the negative perceptions made by Putin’s return. But in that case how can you demonstrate that this will be more damaging than, say, DAM constantly lambasting his own country’s business climate and corruption, and openly dissing its economy at conferences of international investors. So despite the real anti-corruption efforts, if anything Russia’s reputational capital has actually declined under DAM. Take the Corruption Perceptions Index. We can argue, and have, about the extent to which it actually reflects corruption in Russia, but there’s no question that its a very good estimate of dominant corruption PERCEPTIONS in Russia – and under Medvedev the Glorious Reformer, it has actually slipped even deeper into the gutter from 2.3/10 to 2.1/10. I have written an entire post on the damaging effects DAM has inflicted on Russia with his condemnatory rhetoric. Good national leaders seek to present their nation in a positive light, and to acknowledge problems while toning down their significance while trying to solve them; I acknowledge that DAM has made not inconsiderable progress on the latter, but has no respect for the former whatsoever.

PS. If anything, he’s even harsher on Russia than many foreigners. He sweepingly calls Russia’s judicial landscape one of “legal nihilism”, and suggests amnesties for economic crimes. At the same time, the European Court of Human Rights – not exactly known for their Russophilia – ruled that Khodorkovsky’s prosecution was not politically motivated, that it wasn’t “unfairly” singled out, and that YUKOS truly was involved in large-scale tax fraud and basically identified no problems apart from some procedural violations. Now that latter part isn’t great, but happens in all judicial systems. Case in point – the recent execution of Troy Davis in Georgia, USA, despite 7 of the original witnesses having recanted their testimonies and no direct evidence linking him to the crime ever having been found. Though I’m sure that in the warped logic of Russophic and pro-capitalist journalists procedural violations that lead a billionaire crook to jail are far worse than those that lead a possibly innocent black dude to the execution room.

It was to improve United Russia’s poll numbers. Again, have to agree with Mark Chapman: “Putin, who is supposedly falling in popularity himself, is selected for coronation in order to boost his party’s popularity? How does that work?” Besides, as I pointed out on several occasions, the demise of the so-called “party of crooks and thieves” are greatly exaggerated; according to polls, the percentage of Russians willing to vote for them was 54% in August 2011, just a shade down from 59% from August 2007. Hardly the sort of figure that would necessitate Batman Putin coming to Robin’s rescue. Chapman continues: “The fact is, some Russia watchers who were sure the candidate would be Medvedev are now trying to make it look like they were tricked by a storyline of surpassing cleverness. You can decide for yourself if you want to buy it.” I don’t. I’m okay with admitting I misread the tea leaves and fucked up a prediction.

Putting executive power in the hands of one guy for long periods of power tends not to work out so well”, as mentioned by Doug. And Joera, who speaks of Putin risking losing his legacy. I actually agree with them the most. Shades of it were already seen during the 2007-2008 period – obviously, another six years of the Presidency, or even twelve, magnifies the danger. And if Putin decides to retreat into an increasingly authoritarian crust while the economy stagnates in relative terms, the ground may be paved for the sorts of protests that toppled De Gaulle in 1968. (Which would be very ironic, given the vast array of resemblances between the two statesmen).

That said, I do think that Putin has some interesting new ideas. First, there seems to be something of a left turn in his politics. He talks a lot about raising pensions, student subsidies, etc (and these are gradually coming about). Social spending has increased rapidly. The United People’s Front. During the United Russia conference where the announcement of his return was made, Putin promised to introduce more progressive taxation in order to make the wealthy pay more and ease the high levels of inequality. This is in considerable contrast to the motley of neoliberal ideologues like Yurgens and Co. that surround Medvedev, with their one-sided focus on privatization, austerity, etc. Second, it has never been absolutely clear that Medvedev is actually more “liberal” in social and even political terms than Putin. For instance, Medvedev recently labeled Marxism (and consequently teaching, discussing it, etc) as extremism, while Putin once served as President in a coalition that included the Communists. How liberal of him. When talking with defense industry leaders about contracts being delayed and rising in cost, Medvedev thuggishly noted that people were shot for that in Stalin’s days. How liberal of him. He supports a brutal US style war on drugs, which Putin opposes. How liberal of him. Medvedev thinks it is acceptable for the imperialists to drop bombs to sow the seeds of democracy. Putin thinks it’s ridiculous and calls a spade a spade, and Western interventions a resumption of the crusades. Overall, I think Putin may overall even be the more progressive of the tandem in terms of humanism and social liberalism.

As such, I can only applaud Putin’s imminent return. Слава Путину! Слава России!

EDIT: This article has been translated into Russian at Inosmi.ru (Герой всегда возвращается).

(Republished from Sublime Oblivion by permission of author or representative)
 

The response to the last global crisis only consisted of kicking the can further down the road, and the chickens are showing signs of coming home to roost. Of particular note: (1) the recent upwards spike on bond yields for Italy and Spain*; (2) The political paralysis in the US that may (conceivably, if unlikely) shut down government on August 2nd and send it into default; (3) oil prices are again inching up to the levels that coincided – and some argue significantly contributed to – the last recession; due to the realities of peak oil and rising Chinese demand, there is little to be done about this.

Question for consideration: How will Russia be affected by a possible Greece-style scenario unfolding in Italy, Spain, or even the US? (More generally, how do you think the next global financial and economic crisis is going to play out? What effects will it have on the Eurozone, US dollar’s status as reserve currency, etc?).

I don’t know the answers to any of these questions (if I did I’d be out there getting rich not writing this post). However, I can offer a provisional framework that may help you think about this issue.

Russia Positives

  • Very low sovereign debt; fiscal books are more or less balanced.
  • High oil prices… for now.
  • A moderately paced recovery has almost returned output levels to peak-2008.
  • Households far less reliant on borrowing to finance consumption than in typical developed nations.

Russia Negatives

  • Dependence of the budget on oil prices.
  • In 2008, one of the main causes of the sudden collapse in industrial output was the draining of liquidity. Russian industrial groups had relied on Western financial inter-mediation for accessing capital. From August, this suddenly dried up as the crisis exploded and global investors scurried to the “safe haven” of US Treasury bonds. So several related questions for today:
  1. To what extent has the Russian private and quasi-state sector reduced this dependence on foreign credit since 2008? (My impression: by a bit, but not fundamentally so).
  2. In the case of a global credit crunch, will Russia be spared? On the one hand, its macroeconomic fundamentals are very good (RELATIVELY speaking); on the other hand, this was the same case in 2008 and widespread sentiments that Russia was a “haven of stability” patently didn’t work out.
  3. To what extent will the fact that the next crisis will likely be one of sovereign collapses benefit Russia relative to other countries? After all in 2008 investors parked their savings in the bonds of countries perceived to be stable; above all, US bonds. This was because this was a primarily financial / banking crisis and sovereigns remained solvent. This calculus may be fundamentally different in the next crisis. Where can the safe haven investor invest? Euro bonds are out of the question. No bond vigilantes have yet appeared for US Treasuries, but surely with the chronic inability to cut the deficit this will eventually change? The yuan isn’t convertible… for now.
  4. So only commodities are left as a major investment vehicle (which benefits Russia), HOWEVER… big sovereign defaults will force the world economy back into recession, lower oil demand, and relieve pressure on commodities leading to a collapse of their prices – which is bad for Russia. Alternatively, prices may remain high if investors remain big on commodities and Asian demand quickly makes up for any shortfall in developed country demand for commodities – which is good for Russia. Which of these two forces will win out?
  • Dependence on credit for consumption. Credit based purchases were beginning to play a huge role in Russian consumption in 2007-2008; this was cut off and constitutes another main cause of the depth of its 2009 recession. This dependence on credit for consumption is already creeping back in 2011, though it has yet to reach the levels of early 2008.
  • Stampede effect. Despite aforementioned good fundamentals, many institutional investors have rules to abandon EM’s if a global financial crisis strikes (regardless of the specifics of the country in question). To avoid losses, other investors are forced to flee too.

Go, discuss.

* At the beginning of this year I speculated which of the “dominoes” among the PIGS, the US, and Japan would fall first when the global economic crisis resumed. Perhaps the PIGS will prove to be the weakest link after all.

(Republished from Sublime Oblivion by permission of author or representative)
 

One thing that strikes you, as you wander the shops of any Russian city, is the sheer cheapness of booze and cigs. As little as 3 years ago, one could buy a pint-sized bottle of beer or a pack of cigarettes for just $1, while a 0.5l bottle of vodka cost as little as $3. Prices have since risen, but they remain very low in comparison to incomes.

This happy era was due to come to an end. The Finance Ministry planned to raise excise duties on ethanol products by a factor of 4.3 and by a factor of 15 on tobacco products, in a graduated way through to 2015. The result would have quadrupled the minimum price of lower-range vodkas (105 rules, to 410 rubles) and of the average cigarette pack (24 rubles, to 100 rubles). The practice of selling beer in large, plastic containers is to be forbidden from January 2013. Given that alcohol was found to cause 32% of aggregate mortality amongst middle-aged Russians in 2005, and the high prevalence of smoking among Russian men, these measures are surely long overdue. The plans will help Russia to consolidate the reductions in alcohol-related mortality of recent years.

The main driving force behind this seemed to be Finance Minister Kudrin, if for reasons that have little to do with public health (the taxes are estimated to bring in a further $11 billion in revenues, in addition to the $3 billion garnered through existing ones). Though these sums are very small relative to Russia’s total budget, they will nonetheless help to appreciably narrow the budget deficit. However, these ambitious plans may have received a setback following Putin’s criticism of the plans in late March; namely, that such rapid price rises would encourage more Russians to take to moonshine alternatives. The alcohol and tobacco lobbies also raised objections.

According to a Finance Ministry source who contacted Russian Reuters, the revised plans call for a smaller increase in excise tax on vodka, by a factor of 2.2 instead of the previous 4.3 by 2015. The result will be a mere doubling of lower-end vodka prices (105 rules, to 180 rubles); and, given rising incomes and substantial inflation, only a modest decrease in its relative affordability. Likewise, smokers are in for good news: the former quadrupling is now little more than a doubling by 2014. It is still unclear which plan will ultimately be favored. For instance, the pro-Communist Trud speculates that the revised plan will be adhered to until after the 2012 elections – after which there is a chance that the rate of excise tax increases will be stepped up.

The fear amongst Putin, lobbyists, most Russian regions, and about 50% of Russians as per a VCIOM poll, the main effect of rapid price rises is going to be negative, as many people will supposedly only switch to “dangerous and unregulated homebrews, as well as poisonous surrogates like eau de cologne, shoe polish and even jet fuel”, according to Mark Schrad of the NYT. The Gorbachev experience, in which alcohol laws were made stricter from 1985, is continuously cited as evidence.

I remain to be convinced. First, according to that same VCIOM poll, 30% of Russians say they will continue drinking the same alcohol and another 20% say they will drink less; only 15% say they will start drinking homebrews and 4% will look for bootlegged vodka.

Second, for all that maligned Soviet experience of restricting vodka, life expectancy increased from 67.7 years in 1984 to more than 69 years for the rest of its existence (peaking at 70.0 years in 1986-87); and only fell below the late Soviet-era low in 1993, when the state’s vodka monopoly was dissolved and the country was in the midst of a rapid socio-economic collapse. Now given the differences between the Soviet Union and modern Russia, namely that there are far more alternatives to hard spirits, e.g. beer and wine, increasing prices will probably be even more effective now.

Gorbachev's anti-alcohol campaign: now maligned, but more or less successful while it lasted.

Gorbachev’s anti-alcohol campaign: now maligned, but more or less successful while it lasted.

So while I don’t usually agree with Boris Nemtsov, I can only support him in his condemnation of the regime for reducing the scope of vodka and tobacco excise tax increases.

EDIT 5/18/2011: Synopsis of final FinMin plans from Kommersant. The growth in excise taxes will be minimal until after the 2012 elections. From July 1st, 2012, they will start increasing at a faster rate, reaching 500 rubles per 0.5l of spirits (prev. 901 rubles) and 1040 rubles per 1000 cigarettes (prev. 874 rubles) – with the possibility of going higher if the action is coordinated with neighboring Belarus and Kazakhstan. The result is that the typical price of a lower-range 0.5l vodka bottle will rise from 125 rubles now, to 175 rubles in H2 2012, 220 rubles in 2013, and 260 rubles in 2014. The minimal price of a pack of cigarettes will rise from 16 rubles now, to 22 rubles in 2012, 29 rubles in 2013, and up to 38 rubles rubles in 2014.

As expected, this is a substantially watered down version, under which the price of vodka and tobacco will remain well under Western norms through to 2015. Cynical electoral populism, and the influence of the alcohol and tobacco lobbies, are working to limit the potential public health gains that could have resulted from a more aggressive plan for raising excise taxes on spirits and tobacco.

(Republished from Sublime Oblivion by permission of author or representative)
 

There is a wide divergence of views on Russia’s economic future. The pessimists project near zero growth (e.g. SWP, Guriev & Zhuravskaya), or even a renewed collapse if Europe goes haywire. The inventor of the BRIC’s concept (and Russia bull) Jim O’Neill of Goldman Sachs believes it will manage to eke out growth of 7%, nearly recovering the output lost in 2009. The consensus seems to be around 4-5% (World Bank, bne). In this post I’ll describe developments in Russia’s economy since I last did it in a systematic way in December 2008 and give some indicators of what to expect in the next few months and years. Most of this post is based on the information in the World Bank’s Russian Economic Report #22: A Bumpy Recovery.

1. After the sharp -7.9% contraction in 2008, Russia has began to recover at a slower than expected rate, with GDP rising by 2.9% in Q1 relative to the same period last year (in comparison with China’s 11.9%, Turkey’s 11.7%, Brazil’s 9.0%, India’s 8.9% and Mexico’s 4.3%). However, there are indications it accelerated in Q2. The slowness and bumpiness of the recovery is presumed to be due to the waning of crisis stimulus spending and continuing low demand.

The current recession was also significantly deeper and longer-lasting than the 1998 one, though its humanitarian impacts were almost insignificant (see later).

Also, the recovery has been uneven across sectors. Tradables and manufacturing sprang back very quickly in Q1 (as well as transport and comms), but retail stagnated and construction fell by 9%. However, the latest April (and May) figures show an improving performance in retail and construction.

Demand grew slowly on the back of recovering wages, but remains low due to sluggish credit activity and higher unemployment. Investment remains depressed, falling -4.7% relative to the same period last year in Q1 – “most enterprises appeared to be increasing their utilization rate of existing capacity while restocking inventories”.

2. The World Bank’s own summary:

Summary. Amid heightened global uncertainties, Russia is experiencing a bumpy recovery. Domestic demand is rising, but with high unemployment and limited credit and investment activity. Budget execution is better than anticipated due to higher oil prices. Implementing fiscal consolidation is a key medium-term policy objective. Dilapidated infrastructure, especially in transport, could pose serious risks to competitiveness and longer-term growth prospects.

3. Read the Report for the low down on unemployment, current and capital accounts and rollover of external debt obligations by Russian banks and companies. Nothing particularly new or interesting happening there.

4. What is really interesting is the graph of stock of credits to companies and households shown below.

Note how the flow of net credits stopped dead in the water after September 2008, after two years of furious expansion. This suggests that Russian companies had become highly dependent on debt-based growth in the years preceding the crisis. As soon as the spigots turned off in late 2008 and global funds flew to safety, there occurred a sharp drop in demand and investment in Russia.

Not only did this not happen to the Western developed economies, but they also pursued a drastic monetary loosening (while Russia tightened), which may explain why the GDP declines in countries like the US or UK were much more modest than in Russia (despite their much larger stocks of debt relative to GDP).

On the positive side, Russia’s inflation rate has sunk to a record low level of just 6% in its post-Soviet history.

5. Russia’s fiscal position remains strong, as according to Ministry of Finance estimates “the consolidated budget had a surplus of 2.5 percent of GDP” in Q1 2010 (this should be compared to deficits of 10%+ in the US and UK). On the downside, the World Bank notes that the tremors emanating from Club Med may torpedo oil prices yet again, thus widening Russia’s deficit in a few months.

6. Big Russian stimulus spending on social measures such as wages and pensions greatly alleviated the humanitarian impact of the crisis. They are now being phased out.

“The focus on people’s incomes has helped mitigate the social impact of the crisis, but at the expense of greater rigidity in the expenditure structure and infrastructure expenditures”. The World Bank points out that it might have been wiser to direct some of that spending towards addressing “acute infrastructure bottlenecks, [which] could have much larger fiscal multipliers”.

Despite the withdrawal of most stimulus measures, it is predicted that a planned 46% pensions hike by end 2010 will cause the federal budget to remain well in the red at -5.4% of GDP, but slightly lower than the -5.8% of 2009. The downside is that infrastructure spending, especially on roads, is to get deferred again.

The Report has a one page spread on the state of Russia’s infrastructure, which isn’t anything to write home about. Nonetheless, as I argued here, it almost certainly isn’t infrastructure constraints that are going to constrain Russia’s future growth… and in any case it is not clear why spending a lot of money on improving roads at this point in history (of peak oil, climate change, etc) is a great idea.

7. So what will happen if Europe goes haywire? Encouragingly, unlike in the last crisis, the costs of ensuring Russian debt hasn’t been spiking. This may not be a high bar to overcome, but it would be apt to point out that Russia is no longer assumed to be a weak link in the chain like Greece or Spain by global investors. (Indeed as Ben Aris argues in Rerating Russia its credit-worthiness is now higher than most of the developed world’s).

8. What the World Bank thinks will happen in the next two years:

Summary: The debt crisis in Western Europe has sharpened downside risks to global recovery and oil prices. But the impact on Russia is likely to be limited because of Russia’s better fiscal and debt positions and limited trade and financial linkages with the affected countries. Taking into account global developments and assuming no default/restructuring and no broader contagion in Europe, Russia is likely to grow by 4.5 percent in 2010, followed by 4.8 percent in 2011 as domestic demand expands in line with gradual improvements in the labor and credit markets. Employment situation is expected to improve only gradually with attendant reductions in poverty.

Below is a table showing projected growth for different regions.

9. Despite the World Bank’s concerns that Russia may be becoming too free with its wallet – which may put it into a dangerous situation if oil prices collapse and remain depressed for a long time (but which they are unlikely to do because of peak oil) – as things stand Russia is in an enviable fiscal position relative to practically all developed countries.

[Note that Japan, with a debt to GDP ratio of about 220%, is literally off the graph].

Funny, isn’t it, how it is almost all Western countries that are in a fiscal pickle. In contrast, the Russia (of kleptocrats), the China (of bad loans) and Venezuela (of spendthrift populism) are facing a sovereign debt apocalypse really well off comparatively speaking!

10. The World Bank’s Russia forecasts for this year:

Consumption, particularly household consumption, will be the main driver of economic growth in 2010, especially toward the year’s end. A modest contribution to growth is likely to come from inventory restocking in Q2 2010. At the same time, we do not expect large increases in fixed capital investment in 2010 given the excess production capacity and limited credit. So an increase in investment in Q2 will be due mainly to inventory restocking… But the positive contribution of net exports to aggregate growth from 2009 is likely to turn negative in by the end of 2010, as import volume picks up in line with economic recovery…

Below is a graph showing the composition of Russia’s GDP growth drivers.

The World Bank projects a deterioration in the current account as imports pick up and a rise in the capital account “if the European debt crisis has no significant contagion effect”. Furthermore, “an increase in fiscal revenues due to higher oil prices is likely to be partly offset by new expenditure pressures from additional social spending and increases in pensions”. As a result, “we project the fiscal deficit at 4.6 percent of GDP in 2010 and at 3.8 percent in 2011, taking into account additional pensions expenditures.” Inflation will be at 7-8% and “large banks and corporations should be able to finance or roll over their debt obligations in 2010″.

11. I already pointed out that the humanitarian impact of the 1998 crisis was much larger than of the current one: “While the percentage of the population barely making ends meet went up from 29% in July 1998 to 40% in December 1998, this figure remained stable at around 10% throughout the recent crisis”. This is reflected in Russia’s official poverty stats, whose non-rise was “a reflection of the unemployment increasing less than initially feared and likely also due to increased transfers to the population”.

12. The Report concludes with a discussion of how to solve or mitigate Russia’s monotown problem:

Summary: Monotowns present complex challenges for diversification and social and enterprise restructuring in the postcrisis period. Money alone will not solve them. Multipronged market-driven approaches, including active partnerships between the monotown and the private sector, based on good international practice, stand a better chance of success.

The case of the East German Bund–Länder-Program, Pittsburgh USA and Glasgow UK are offered as examples of how to revive ailing post-industrial towns.

13. A compendium of Russia economic stats since 2006.

14. Further thoughts. I do think that the European debt crisis will spill over and that there are already numerous signs of a second dip in the Great Recession – this time centered around sovereigns (1, 2, 3). According to quite a few leading indicators, this will probably occur within a few months, i.e. by this September or November.

Meanwhile, more dynamic and decoupled economies in the World of the Rest – especially China – are rapidly taking over industrial share from the indebted and aging developed world. They still have plenty of room left to grow so I think they will keep oil prices relatively buoyant (especially considering that global oil production is now falling or stagnating).

Russia seems to be in a stronger position than it was in 2008. Though still dependent on foreign debt intermediation, it is now to a lesser degree than two years back, and besides its comparatively excellent fiscal balances will probably mean that global credit flows will not desert it as fully or suddenly as before. The state will remain strong and solvent. Nonetheless, growth will probably slow to stagnation in late 2010-2011 should the events of 2008 be repeated.

One possible consequence is that Russia’s leadership will become disillusioned by the multi-year, post-2008 failure to lift Russia’s GDP any higher than that which prevailed at the peak of Soviet output, and the end result – within a few years – could be an all-out shift to the “mobilization model” proposed by Gregory Khanin, with the state taking a far more prominent role in forcing modernization from above than is the case even today.

Update July 8: It’s worth pointing out that newly released figures indicate that Russian consumer confidence has largely returned to near pre-crisis levels in Q2 2010. This may reinforce the evidence that the recovery accelerated during the period.

(Republished from Sublime Oblivion by permission of author or representative)
 

I’ve been accused of being a “Russophile cockroach”, an “amoral Putin lackey”, and overall bad guy. Guilty as charged! Yes, I do like Russia and don’t have much good to say about the Western media’s coverage of it. Yes, I don’t give much of damn for the moralistic posturing that any vapid idiot Kremlinologist can easily excel in. And yes, I do have a positive opinion of Vladimir Putin (as do 75%+ of Russians). Now granted, part of this probably has something to do with the huge amounts of money his FSB minions kindly slip under my door for glorifying their Tsarist godfather on the Internet in my spare time. But this doesn’t necessarily mean that I set my alarm clock to VVP’s speeches, drink prodigal amounts of Putinka for breakfast, and bow before his icon at the Altar of Neo-Stalinism in my basement before logging onto my workstation to fulfill my job description as ein strammer Putin-soldat. In reality, my positive view of Putin is moderate and hedged.

Don’t believe my word as “the dishonest, progangadizing (very, very) little maggot” that I really am? Below I present five major shortcomings of the Putin Presidency.

What Putin did wrong

1. Waiting until 2006, or too little too late.

Since 2006, Russia embarked on a range of policies designed to check its demographic decline, reduce poverty, and recover its status as a Great Power. The main examples would be the National Priority Projects; a revamped industrial policy; health promotion; pro-natality, AIDS containment and anti-alcohol measures; military modernization; and incubation of hi-tech industries such as nanotechnology. Many of these are already bearing fruit – quite literally on the demographic front, where the total fertility rate rose to 1.56 children per woman by 2009, from 1.1-1.3 before 2006. In conjunction with falling mortality rates, this resulted in Russia experiencing its first year of population growth in 2009 since 1994. But why did Putin take so long to start addressing all these issues?

Though there are several possible explanations, I think the most accurate is that at the time Putin was simply too preoccupied with stabilizing the Russian shell of the collapsed Soviet empire. Each functioning state rests on its monopolization of legitimate violence, of tax collection, and of the issuing of money. All three monopolies were under grave threat by the late 1990′s. Homicide rates were sky-high, organized crime infiltrated state structures, and Chechen bandits raided Russia proper. The state was too weak to collect taxes from the oligarchs, producing chronic budget deficits that culminated in the 1998 default. Inflation raged unchecked, most transactions were in dollars or in kind, and many analysts were starting to describe Russia as a failed state. Therefore it cannot be surprising that Putin in his first term devoted most of his attention towards containing and mitigating these mortal threats to the Russian state. The invasion of Chechnya, the political subjugation of the oligarchs, the strengthening of the “power vertical” – all these were intended to restore some modicum of state control over the Russian Federation.

Yet as the political struggle went on at the top, the “real Russia” remained largely stagnant. With the inflow of ethnic Russians from the Near Abroad largely exhausted, demographic decline accelerated in the 2000-2005 period. In contrast to the broad-based growth after 2005/2006, in the early Putin years manufacturing remained depressed, while more than a third of economic growth accrued to the recovery in oil extraction. Little new infrastructure was built. The rate of military procurement dropped even below the miserly levels of the Yeltsin era. Thanks to the Putin government’s myopic negligence or administrative inability, Russia’s manifold, deepgrained socio-economic problems only began to be seriously addressed within the past few years.

Strike 1 – Contrary to most fans and critics alike, Putin didn’t do too much. He did too little, and too late. Under the first few years of his watch, Russia lost historical time just as it did under Yeltsin. On many socio-economic indicators, the RF in 2010 has only caught up to what the RSFSR achieved back in 1990.

2. Red tape and corruption, or the bureaucracy is expanding to meet the needs of an expanding bureaucracy.

Corruption remains “public enemy number one”, according to President Medvedev. This can be confirmed by any number of horrific anecdotes: the absurdly inflated Moscow housing market, bureaucrats owning property worth hundreds of their yearly salaries, entrepreneurs losing their businesses to well-connected thugs. Apart from a few cosmetic house-cleaning campaigns under the Putin President, the state’s efforts to control this scourge have been decidedly lack-luster, and Russia continues to be perceived as one of the most corrupt nations on Earth.

[Sources: Transparency International's "Corruption Perceptions Index"; Transparency International's "Global Corruption Barometer", answers to the question, "In the past 12 months, have you or anyone in your household paid a bribe in any form?" (% saying "yes"); World Bank's "Worldwide Governance Indicators" (Control of Corruption), country percentile].

This corruption is directly related to the arbitrary power of Russia’s bureaucracy, and the labyrinth of regulations that “justify” its existence. Love them or hate them – and yes, most Russians hate them – bureaucrats are indispensable for running a modern state. However, in Russia bureacrats are neither accountable unlike in most developed nations nor held under close scrutiny unlike in the USSR or today’s China. Furthermore, their numbers are well in excess of necessity. In contrast to a few post-Soviet nations like Estonia and Georgia which fired many of their bureaucrats, the Russian bureaucracy grew rapidly under Putin.

[Source: Rosstat].

The extractions of rent-seeking bureaucrats stunt the development of small and medium businesses. Furthermore, corruption indirectly kills people (e.g. grocery pharmaceuticals are expensive and unreliable) and fosters a destructive social mentality in which anything and everything is considered exchangeable for money and the privileged and connected can act with impunity.

As the man at the top of the pyramid, Putin was responsible for perpetuating this system during his Presidency. Sensational rumors of foreign villas and multi-billion dollar offshore accounts to the contrary, there is no evidence that Putin is personally corrupt*. However, controlling corruption within one’s circle and further down is extremely hard; no Russian ruler, except the most steely and despotic, has ever managed to rein in his bureaucrats. Now you could go down the neo-Stalinist route, but executing corrupt bureaucrats is now politically incorrect in most places outside China. Perhaps Putin should have simply axed this Gordian knot, like Saakashvili in Georgia**? That might have worked, – no regulation, no bureaucrat, no problem. But something stayed his hand. Maybe he feared chaos, since the bureaucracy is one the forces gluing a nation together. Maybe they were considered necessary to reconsolidate the state and rebuild the power vertical. I don’t know.

Maybe Putin shouldn’t have suppressed Russia’s civil society and media outlets if he was serious about checking corruption? But this is a false narrative. It is not the federal government or Putin, but unreformed institutions such as the Ministry of Internal Affairs (MVD), the FSB, the Prosecutor-General, etc, that pose the greatest hazards to Russia’s nascent civil society. It is not VVP who runs around killing and harassing journalists, but the “stationary bandits” in government and/or business taking advantage of Russia’s culture of impunity. The ultimate proof of the pudding is Ukraine – despite its pluralistic politics and journalistic freedoms after the Orange Revolution, corruption there remains at least as bad as in semi-authoritarian Russia***. No matter the personal integrity or ability of Russia’s (or Ukraine’s leaders), the entire post-Soviet state system remains unacceptably opaque and unaccountable.

Strike 2 – Putin could have mitigated Russia’s corruption and culture of impunity by: 1) stripping away the reams of red tape that create opportunities for rent-seeking, 2) decimating the ranks of the bloated bureaucracy, traffic police, etc, or 3) increasing the penalties for, or the “costs” of, corruption. In reality, there was some improvement in 1) and 3), and massive backtracking on 2). It is only under Medvedev that government and citizenry are beginning to show signs of taking corruption more seriously.

3. Inequality, or oiligarchs & their little adults.

Russians are not Americans. Though most accept the capitalist system, a majority of Russians believe the state has a duty to narrow down inequality between rich and poor and assure everyone a decent standard of living. Opinion polls indicate that around 63% of Russians are essentially “statists”, while only 25% are economic “liberals” and an insignificant 4% are small-government libertarians. Thouh there has been impressive progress on lifting all boats in the past decade – poverty rates were slashed, consumer goods became much more affordable – the Putin regime also presided over an era of slowly rising inequality****. This does not sit well with many Russians, especially the elderly who put great stock in egalitarian values.

[Source: Rosstat].

It is no great exaggeration to say that Russia’s government is by the rich and for the rich. Though perhaps at first necessary as the most reliable way for a broken state to combat tax evasion, the 13% flat tax on incomes now perpetuates inequalities. A much bigger burden falls on productive companies in the form of (highly regressive) social security contributions, which are set to rise from 26% to 34% of the first 400,000 rubles of income this year to help correct the budget deficit. However, Putin had no problems with reducing taxes for oil companies, so that they could either extract and sell off Russia’s oil the faster, or pocket the extra change.

Worst of all are the effects on social cohesion. All Russian oligarchs earned their wealth through their connections with the state – there is not a single Sergei Brin or Bill Gates amongst them. The inheritance tax was abolished in 2006, and now more than a hundred Russian children, or “little adults“, are set to acquire billions without earning a single ruble. Sure, these “new Russians” get to experience the shallow thrills of conspicuous consumption, and take power in their sleazy connections with state structures to run over ordinary Russians with impunity (sometimes literally). The price Russia pays for tolerating these historyless elites is a perpetual bankruptcy of social capital, the cooperative spirit that welds a nation together. Amongst other things, this dearth of social capital manifests itself in society’s tolerance for petty corruption. After all, why should a simple traffic policeman, doctor, or other low-paid state worker refrain from taking bribes, when oligarchs make off with billions in cahoots with the state?

There has been no effort to check or reverse the growth of inequality under either Putin or Medvedev. Even as the Fair Russia opposition party calls for progressive taxation and a luxury tax, Roman Abramovich is indulging himself to his biggest yacht so far, armed with a missile defense system and laser shield.

Strike 3 – Putin presided over an increase in inequality, made all the more unholy by money’s marriage with socio-political privilege. Though neither the trend towards nor the magnitude of inequality is exceptional by global standards, it clashes with Russian popular sentiments and undermines social capital.

4. Economic mismanagement, or stationary bandits who don’t know or care about limits to growth.

First, the “Muscovite” rent-granting political economy over which Putin presided is both economically inefficient and socially unjust. Take the Russian oil industry, in which politically subservient oiligarchs are given free rein to manage their own companies. This combines the worst of both private and state ownership. Lacking security over their assets, the oiligarchs are loath to plow too much of their own money into maximizing long-term oil extraction and revenue. Far better to maximize short-term extraction by overexploiting their oil fields, pleasing the Tsar with generous rent payments, and to make off once these fields go into premature decline. In the meantime, astronomical profits are diverted into a few oiligarch hands instead of going to the Russian state. Now granted, Putin’s “purgatory”, run by clans of “stationary bandits”, might be an improvement over Yeltsin’s “hell” of asset-stripping “roving bandits”… but they are all still bandits nonetheless.

Yet when all is said and done, it is not entirely clear that Putin could have realistically done better on any of these issues. He inherited the “Muscovite system” from Yeltsin and can be credited with actually making it workable, in the sense that the oligarchs were forced into paying their taxes and Russia’s chronic budget deficits were finally eradicated. Reversing privatization and trying to create a Russian version of Statoil, the efficient state-owned Norwegian energy company, was entirely unrealistic given the institutional rot of the Russian state. The other extreme, a full-scale liberalization of the oil sector, would have probably been counter-productive because of that same weakness of the Russian state. For proof, look no further than how Khodorkovsky used YUKOS’ resource wealth to mount a direct political challenge to the Kremlin… would the Russian people really have been well served if their state had been hijacked by the Menatep bandits?

Second, even accounting for its being a cold, landlocked country with a lot of heavy industry, Russia remains very energy inefficient. There are serious uncertainties over its ability to meet future domestic and European gas demand, and its oil production will soon peak and go into decline. However, by world standards, Russia is supremely well-endowed with energy resources. Thus, it makes manifest sense to use the earnings from foreign hydrocarbons sales to aggressively implement energy efficiency measures and build a green energy infrastructure. The World Bank estimates that investing 320bn $ into energy efficiency could save Russian consumers 80bn $ and generate more than 100bn $ in extra export revenues annually. Putin prefers to go the much more expensive route of greatly expanding generating capacity, e.g. by building many nuclear power plants, while less glamorous but cheaper options like insulating housing, upgrading utilities, or reducing natural gas flaring are neglected. So yes, Russia’s policies on energy are short-termist and “cornucopian”, – but the very same could be said for almost any country one cares to name. Only a bare handful of nations, like Sweden or Germany, have made serious commitments to sustainable development (and none acknowledge the concept of Limits to Growth).

Third, the main reason Russia experienced such a deep recession during the 2009 global financial crisis was because its banks and corporations had become dependent on infusions of Western credit. Once this system throttled up in late 2008, emerging markets were the first to be cut off. Unfortunately, Russia under Putin’s watch had failed to develop the deep indigenous credit systems that enabled countries like Brazil or China to weather the storm in good shape, and it saw a massive GDP decline of 7.9% in 2009. But it’s not exactly clear how Russia could have prepared better. The main reason Russia’s financial system was starved of capital was because instead of reinvesting the proceeds from hydrocarbon sales into the economy, the government bought up foreign currency reserves in order to prevent an excessive ruble strengthening from short-circuiting the revival of Russia’s manufacturing base. Ironically, by trying to reduce its resource dependency, Russia actually increased its exposure to the Western financial system, whose weaknesses only became obvious with the benefit of hindsight. Nonetheless, despite the severity of the GDP drop in 2009, the Russian economy is now showing signs of mounting a vigorous recovery.

Finally, Putin should be given big props for protecting Kudrin – the main architect of Russia’s macroeconomic stability – from the attacks of the spendthrifts and siloviki in his circle. This did nothing to benefit him politically, but as a result Russia today is “one of the world’s most fiscally secure nations”, according to Liam Halligan, chief economist with Prosperity Capital Management.

Strike 4 – under Putin, Russia remained economically unproductive, socially unjust, energy inefficient, and acquired a dependence on Western credit. These problems are deep and are unlikely to go away without intelligent intervention by the state.

5. White elephants, or Siberian bridges to nowhere.

The Russian state has always liked “white elephant” solutions to complicated problems. Putin continued in this proud tradition. Perhaps the best example of this were Russia’s wild-eyed plans to construct six aircraft carriers during the giddy heights of its pre-crisis boom. Let’s look at the problems with this scheme:

  1. The global hegemony of the United States rests on the power projection capabilities of its 11 aircraft carrier battle groups. Russia is a regional land power whose strategic interests do not extend far beyond its Near Abroad.
  2. Russia’s economic base is seven times smaller than America’s.
  3. Even the “structurally militarized” USSR never had much success with aircraft carriers. Russia’s military-industrial complex is now almost an order of magnitude smaller and no longer has access to the big drydocks in Ukraine.
  4. Russia can’t even build a decent helicopter carrier, and eventually took the rational decision to order Mistrals from France.
  5. The days of the aircraft carrier may well be numbered due to the development of cheap carrier-killing weapons systems.

This particular white elephant never was to be. But far too many are real enough, such as the bridge to nowhere near Vladivostok that will connect the Russian mainland to a small island populated by a few thousand residents, projected to cost more than 1bn $ and intended as a showpiece for the 2012 APEC summit. Meanwhile, the roads from the Urals to Vladivostok remain little more than dirt tracks.

Now admittedly, white elephants are minor nuisances relative to the first four problems. Their attractions are hardly unique to Russia, and it could even be argued that some, like the Sochi Olympics, are a net positive thanks to their impact on national morale. Nonetheless, I still think improving Russia’s energy efficiency or networking its clunky armed forces is somewhat more important than erecting suspension bridges in Siberia or dreaming about multiple carrier battle groups patrolling the Russian Arctic.

Strike 5 – Putin is sometimes too influenced by the traditions of Soviet gigantism to consider humbler, more cost-effective ways of solving problems.

What Putin did right

But what about that KGB spy’s ruthless suppression of freedom and democracy? False narrative. The majority of Russians approve of Putin and his system – as of 2008, some 75% of Russians felt that they either had “enough” or even “too much” freedom. Today’s Russians feel much happier and freer than in either the late Soviet Union or Yeltsin’s Russia.

But hasn’t Putin suppressed the free media and brainwashed Russians into worshipping him? Yet if that were the case, one would presumably expect most Putinistas to be old, sour-mouthed Stalinists, whereas in fact support for Putin (and disillusionment with the West) is highest amongst young, university-educated Muscovite men – the very segment of the Russian population that is most exposed to the West through the Internet and foreign travel! (Of course, to the Western chauvinist, this must mean that the Russian people are ignorant, nationalist sheeple… since nothing can be allowed to challenge their faith, there is little point in talking to them).

What about Putin’s hatred of the West? Again, false narrative. Putin the KGB operative is inseparable from the Putin who served under Sobchak, the liberal mayor of St.-Petersburg in the 1990′s, or the Putin who favored the “civiliki” clan (Surkov, Medvedev, “patriotic liberals”) over the FSB-connected “siloviki” in his choice of successor. But why then does Putin antagonize America by maintaining relations with freedom-haters like Ahmadinejad and Chavez? Newsflash! This is Realpolitik, practiced by all sane and sovereign nations. Bending over backwards to advance Washington’s national security interests is not part of Putin’s job description. Not can it reasonably be expected, due to US support for states hostile to Russia (e.g. Georgia) in its Near Abroad.

One of Putin’s greatest strengths is that he recognizes the immense harm Russia suffered from single-minded past pursuits of abstract ideals, and rejects mindless idolization of the West as surely as he rejects the old Marxist-Leninist dogmas. He is a national figure of post-ideological reconciliation, a leader who sees no paradox in defending the Soviet Union against politicized attempts to equate it with Nazi Germany while honoring Russians like the dissident Aleksandr Solzhenitsyn or the White general Anton Denikin.

Zhou Enlai may have been exaggerating when he said the impact of the French Revolution was “too early to tell”, but nonetheless, I think it is fair to say that we must wait at least a few decades before we have any hope of objectively determining Putin’s legacy. Based on the criticisms I’ve made in this post, some analysts would rush to dismiss Putin as an incompetent idiot or malicious enemy of the Russian people. After all, it doesn’t take much to pronounce judgment from the comforts of one’s armchair… Yet none of us have been in Putin’s boots. We didn’t experience his early struggles with the oligarchs, the contraints and frustrations he faced trying to rule Russia through an unwieldy and corrupt bureaucracy, the pyramid of cards he has to build and maintain to balance the warring Kremlin clans. I can do no better than quote a great speech by Theodore Roosevelt to illustrate this point:

It is not the critic who counts: not the man who points out how the strong man stumbles or where the doer of deeds could have done better. The credit belongs to the man who is actually in the arena, whose face is marred by dust and sweat and blood, who strives valiantly, who errs and comes up short again and again, because there is no effort without error or shortcoming, but who knows the great enthusiasms, the great devotions, who spends himself for a worthy cause; who, at the best, knows, in the end, the triumph of high achievement, and who, at the worst, if he fails, at least he fails while daring greatly, so that his place shall never be with those cold and timid souls who knew neither victory nor defeat.

Putin’s critics, knowing neither victory nor defeat, are nothing more than the dust at the feet of that great man who continues struggling, striving, and spending himself as Russia’s humble servant.

* To the best of my knowledge, all these allegations of Putin’s 40bn $ of personal wealth originate from Stanislav Belkovsky, a professional purveyor of kompromat and creature of Sechin’s silovik clan.

** Georgia’s success at controlling corruption shouldn’t be exaggerated. In recent years, the Saakashvili regime acquired the habit of pressuring independent businesses to provide “voluntary contributions” in return for not bankrupting them under corruption prosecutions.

*** Russia’s corruption should be viewed in perspective. Is it a serious problem that reinforces privelege and blights the lives of many people? Certainly. Apocalyptic? Not at all. First, Russia is not excessively corrupt by the standards of most middle-income countries, and there is evidence that “everyday” corruption (as opposed to business corruption) fell under Putin’s watch. See here, here, and here. Second, corruption does not seriously affect Russia’s growth potential. Italy was systematically corrupt in the 1970′s-80′s (and still is), as exposed in the short-lived mani pulite investigatations of the early 1990′s. But that did not stop Italy from overtaking Britain’s GDP back in 1987 in the so-called “Il Sorpasso”. Likewise, Russia’s myriad strengths – the strong education system, energy wealth, and macroeconomic stability – means that its systematic corruption is unlikely to constitute an insurmountable barrier against its convergence to Western levels of development.

**** Russia’s levels of inequality shouldn’t be exaggerated, however. The Gini index of income inequality has been stable at around 40 since the early 1990′s, and is only high by European standards. (The US and China are at 45, most Latin American countries exceed 50).

(Republished from Sublime Oblivion by permission of author or representative)
 

Three months ago I wrote an extensive analysis of Russia’s economy during the crisis in which I said that although it is going to be damaged by the shutdown of its traditional financing mechanism – cheap credit from the West – sovereign solvency will not be threatened and there will be a strong recovery in the second half. I was too optimistic, mostly because I misunderestimated the sheer severity of the global crash. That said, let us see how well its predictions stack up against reality more than three months on. I will also update my thoughts on the US and world economy, including for the more distant future.

Following the ruble correction, the trade balance was shifting back into positive territory. As of January, although resource exports fell by about a half the decline was less pronounced, with machines / equipment and chemicals falling 30% and consumer goods / agricultural products by 20% – this despite the internal credit crunch, shrinking foreign demand and increasing protectionism. Imports fell severely, especially for the biggest category – cars and equipment. This is not surprising – import tariffs were raised on cars and sales have plummeted, while there’s little need for new physical capital (machine tools, etc) when demand falls for the goods it is used to make.

In my essay, setting oil at 50$ per barrel and making some assumptions resulted in 2009 exports of 245bn $ and imports of 223bn $ – annualizing the January figures gives 204bn $ and 104bn $, respectively. Pretty much what I expected for exports, but imports will probably rise as inventories clear out and the ruble (perhaps) strengthens against the US dollar and the euro, which is quite possible since I expect oil to finish the year between 60$ and 80$ (PS. In the article I guessed that oil will average 50$ for 2009 – looks like its going to be significantly higher, as it is already hovering around 52$). Nonetheless, the current account will remain very much in the black. Keeping our capital account assumptions constant for next year, I stick with the “78bn $ in the medium scenario (50$ oil)” (that assumed a 100bn $ capital outflow in 2009 and higher imports – now, some economists are predicting capital outflow will be less than 83bn $), so really the capital account may turn out to be slightly pink instead of deep red).

Despite the ruble correction inflation has not become a major issue. In fact Bank of America Securities-Merrill Lynch expects inflation in Russia to slow dramatically, to just 9% this year.

I was dead wrong about government spending, taking Kudrin at his word that the budget deficit will be at around -1%. In fact, it’s more like -7.4% as spending is increased in the face of a much worse than expected contraction. Still, this is not threatening. Besides, I suspect it will eventually turn out lower since this budget is predicated on average oil prices of 41$ for 2009, which is already looking outdated.

Industrial production started deteriorating in October and accelerated in January, falling 16% year on year.It recovered slightly in February, marking a fall of 13.2% on the same time last year. This is because many manufacturers simply extended the long January holidays to encompass all off the month so as to allow inventories to come down – for instance, after car production plummeted to below 20% of its equivalent 2008 level, it more than doubled to 40% in February.

Industrial production index relative to same month of last year.

Industrial production index relative to same month of last year.

There are a number of convincing arguments that Russia will emerge out of the crisis sooner than many other G7 countries. As Eric Kraus argued in The Wheels of Heaven Stop and earlier, wages and output correct much quicker in Russia than in the developed world. Once the ruble correction restored balance, the salary arrears and barter that were appearing in October-November retreated, as did the specter of outright financial failure and ruble collapse – as acknowledged in the WSJ.

Although the situation remains grim, there are a number of positive indicators. Firstly, the Russian manufacturing PMI surged to 40.6 in February from a truly dismal 34.4 in January. While it is rather lame to rejoice at improvements in second order differentials, the point stands that a few more such jumps and Russian manufacturing output will have plateaued.

Any value below 50 indicates manufacturing decline; above 50 means growth.

Any value below 50 indicates manufacturing decline; above 50 means growth.

It should be noted that Russia’s performance was no worse than the world average. The industrial crisis started in October, the rate of decline troughed at around 34 in Dec-Jan and rose sharply in February. Edward Hugh helpfully collected these graphs into one post at his blog. In the major European countries the crisis took off in August at the latest, hit troughs between 28 and 35, and is still fully in the doldrums. Japan’s PMI is edging up slowly from a catastrophic performance. The decline was not as steep in Poland, but was more prolonged. The US fall started in August, troughed in December and remained at around 35-36 in January and February. It appears to be somewhat better than the global PMI.

The least affected country there is India, which only began falling in November and never went below 44. China’s decline started in September, troughed in November and has since recovered to 45 by February. This is not surprising – their indigenous financial systems were relatively unaffected by the global / Western financial crisis (hmmm, remember all the brouhaha over how China’s financial system was supposed to collapse because of bad loans? And it turned out to be by far the more stable one), while Russian companies relied on Western intermediation to access credit. China tanked more sharply than India because it is more reliant on exports to the developed world, but will now presumably work to stoke domestic demand by countercyclical fiscal policies and more social guarantees.

So I suspect what we have is decoupling from the unwinding. There was a popular thesis around 2007 that the BRICs will manage to escape unscathed from any US slowdown – since then, most pundits consigned this theory to the dustbin. But I won’t be so quick. The shock was sudden and unprecedented – nonetheless, most emerging markets that weathered the tsunami (with the exception of those that got sunk by it, like Ukraine and Latvia) declined less – and are beginning to fall less rapidly – than their First World counterparts. Japan and Germany are getting mauled for their export dependence but they too will eventually plateau and start recovering once their now excess capacity is trimmed down.

The real worry, I believe, is primarily for the likes of the US and the UK. Their fiscal policies and imbalances are unsustainable and what they are now doing, with the charades over “quantitative easing” (translation: printing money), transferring toxic “assets” onto the public account (ed: swallow enough toxicity, and even a beast as large as the federal government could get poisoned) and fiscal stimuli (ed: only countries disciplined enough to run surpluses during the fat years should have this benefit), is postponing the Day of Judgment. I suspect that the fiscal stimuli will be relatively ineffective as they are not market-allocated; develeraging will have to continue regardless (e.g. house prices are still significantly above their longterm position relative to incomes); and the planned US budget deficit of 12% of GDP for 2009 will not be significantly reduced in 2010 or 2011. By that time the world will be abandoning US dollar assets in despair over ever getting repaid; the “solution” would be either a huge (read: politically unacceptable) cut in public spending or ever more money creation (which just feeds the spiral). Interest rates on the debt will rocket. It does not help that oil prices will almost certainly soar over the next five years, probably surpassing their 2008 peak because of peaking oil extraction and full recovery and resumption of growth in Asia.

Back to Russia in 2009. According to Finance Minister Kudrin, normal lending levels have now been restored internally. From looking at the news, it is clear that foreign investment in Russia continues – unlike its pariah-like status after the Soviet Union or 1998, they realize that it remains a promising market since it is just an average-affected country by a world crisis. (E.g. – Peugeot Citroen and Mitsubishi, GE and Magna, LG, etc are all starting to build factories there). Nor are things all bad amongst domestic manufacturers even now. Naval-military construction is even looking to hire people while there is a surplus of unemployed labor. Anecdotally, consumer sentiment remains significantly better than in the US or the UK. Nassim Taleb (of black swan fame) is optimistic. Some respected Russian economists think government predictions for the economy are too gloomy and actually expect significant positive growth this year (some like Sergei Guriev are gloomier). I predicted a range of 0-3% – now I expect it be about 1% to -2%, and certainly not less than -4% (on the latter point, a made a symbolic bet on this in late March with commentator “Michel” at SWP).

Thirdly, the stock market is rising. Along with China, the RTS has been one of the world’s best performing stockmarkets in 2009, rising from around 500 to 700 (of course, after an precipitous fall). Nor was the improvement restricted to the oil and gas sector. This might mean that investors finally predicted how tremendously oversold everything was and are beginning to snap up stuff at bargain prices, thus vindicating my predictions.

Finally, I highly recommend reading the two latest articles by Eric Kraus – the aforementioned The Wheels of Heaven Stop and (Yet Another) Year of Living Dangerously. In particular, the second one puts to rest some popular but false conceptions about Russian economic weaknesses. I’ll quote it in extenso, if you don’t mind Eric!

Unlike many of its emerging market peers, Russia is relatively immune to miscellaneous scourges facing the developing economies, and which threaten a number of Latin American (Mexico, Argentina), EMEA (Ukraine, Georgia, the Baltics, Hungary) and Asian (Indonesia, Thailand, Philippines, Korea) countries with economic collapse:

• Plunging global demand for manufactured goods

Russian exports are primarily in the commodities sector – and the main driver here is likely to be Chinese industrial activity. Manufactured exports are limited to military (a growth sector in troubled times), nuclear power generation, and relatively cost-effective heavy industrial machinery (turbines, power generation, etc.) suitable for the needs of the developing countries – where at least some infrastructure spending is likely to be maintained.

• Inability to fund the current account deficit due to collapse in remittances/bond markets/exports

Russia has no indispensible import requirements, being self-sufficient in all major commodities and basic foodstuffs. In a worst-case scenario, Russia could survive without Mercedes motorcars and French cheese for an unlimited period. Remittances are a negative item on the balance sheet, and the Federal government has virtually no foreign debt to refinance.

• Political instability

With due respects, reports of Russian political unrest are laughable. Whilst a number of EMEA governments are breaking under the stress, Russia remains remarkably quiet. We would note that the Western press, always desperate for bad news as regards Russia, has been recycling a single demonstration by Vladivostok used car dealer for nearly three months now…

Those of us who lived through the 1998 crisis were stuck by the total absence of popular protest – as the crisis worsened, people returned to their dachas to plant potatoes. Perhaps the experience of seventy years of collectivist rule durably chilled the popular enthusiasm for revolution.

As regards the international context, the crisis has diminished any Western ardour for confrontational politics, the opening of new military fronts, or expensive missile systems; a substantial improvement in US-Russian relations is thus to be expected. Similarly, some of Russia’s neighbours, previously fixated upon comprehensible but perhaps outmoded historical grievances, will now have far more important matters to attend to – in the current climate, even modest Russian investment capital flows will likely receive a warm welcome.

• Economic fragility

Despite claims by the western kommentariat that the Russian politico-economic system lacks flexibility, in fact, it is far more flexible than that of most developed economies. Downward adjustment of wages and staffing levels can occur virtually overnight, with production simply halted until inventories are reduced to the desired level – as indeed happened during the January 2009 period (resulting in industrial production numbers which were dramatic but quite misleading).

In summary, while our readers are undoubtedly familiar with the inefficiencies of the Russian economy, this does have a silver lining: no manufacturer in his right mind would attempt to set up a just-in-time supply chain in Russia. After 20 very eventful years, like an old Lada automobile, much of the local industrial fabric is relatively inefficient, but at least, admirably fault-tolerant.

Although we would expect to see further discouraging numbers through the first half of 2009, the period of maximal stress was apparently reached in October-November 2008; after a sharp rouble devaluation, successful support for the banking sector, and the recycling of official Forex reserves into the corporate sector, the increase in non-payments which mushroomed out in Q4 2008 has been almost entirely reabsorbed.

Although our view is temporarily unfashionable, we continue to expect a gradual differentiation between the potentially high-growth BRICs countries and the old economies of the West. Those wishing to predict the timing of a Russian rebound would do well to keep a close eye on Chinese growth trends. Whilst the financial disruption in Russia has been severe, the financial system has survived the stress test, and policy of both the Central Bank and the finance ministry are broadly appropriate. Over the next couple of years the opportunities in financial markets will likely match those enjoyed by investors in the 1998 post-crisis period.

As for the foreign currency reserves, unsurprisingly the media has largely fallen silent on it – mainly because nothing’s happened here in the past few months. They stood at 385.3bn $ as of March 20, unchanged from 386.5bn $ in January 23. I stand by my conclusions in the article.

Prediction: “A wave of consolidation will occur in the Russian banking industry”.

This is the context in which headlines such as Hundreds of small Russian banks close to failure need to be viewed in. The opportunity to prune Russia’s 1400 banks (far too many, plus a lot aren’t proper banks at all) that was missed in 1998 arises anew.

Prediction: “The oligarchs, Moscow and the middle classes bear the brunt of the crisis, while the provinces, agriculture and domestic manufacturing benefit, thereby reinforcing already latent tendencies in national development.”

The number of Russian billionaires has been more than halved and they’ve been warned subtly and not so subtly that there would be no more bailouts and that their future survival depends on how they behave themselves during the crisis. The rest needs more time to make itself evident, I believe – but with the ruble devalued, industrial diversification in the form of import substitution should if anything speed up.

Prediction: “All vital demographic statistics, with the exception of the total fertility rate, improve during this period ­ the expanding social safety net checks mortality increases, but the confidence crisis temporarily dents the former.”

According to January figures, births declined by 2.7% and deaths by 7.5% in comparison with the corresponding month a year ago. Infant mortality fell, marriage rates increased and divorce rates decreased. However, I will not draw anything from this yet since the monthly fluctuations tend to be pretty big.

Prediction: “Since Russia is still a rock of stability amidst dangerously overextended east ­central European countries, it is likely that its position and influence in the region will rise following the crisis…Relations with Ukraine greatly improve after the
generous aid Russia bestowed upon its cold, starving multitudes following the utter economic apocalypse that precipitated the peaceful protests that overthrew its Orange regime and replaced it with a friendly administration seeking integration into Eurasian economic and security structures.”

Yep, it is now obvious that Ukraine is already for all purposes insolvent – lots of reports about people unable to withdraw money from banks. More than a third have difficulties getting food (i.e. same as Russia in 1998). Not surprisingly, then:

We are in a pre-default situation, and it looks like Ukraine has already lost its chances to reform its economy and industry,” says Vadim Karasyov, director of the independent Global Strategies Institute in Kiev. “The worst thing is, people are starting to feel disillusionment in the idea of democracy itself. The demand for a strong hand, to fix this mess, is growing.

With the nation on the brink of bankruptcy, the market pricing in the likelihood of sovereign default at nearly 90% and its politicians more interested in controlling the lucrative gas transit “business” than providing leadership, I will not be surprised to see revolution in Ukraine over the next few months.

(Republished from Sublime Oblivion by permission of author or representative)
 

In this essay, I analyze three major areas of concern about the current Russian economy – the debt burden, balance of payments and future fiscal sustainability. Although on paper Russia is comfortably solvent, rolling over debt has been problematic for Russia Inc. because of the shutdown of its traditional financing mechanisms, cheap American credit and foreign direct investment, coinciding with an avalanche of collapsing commodities. The underdevelopment of its domestic financial system forced the government to respond in an improvisatory, but swift and effective, way. Although Russia’s capital account will go deep red, the current account should remain in the black, or will at worst take on a pinkish hue; as such, the balance of payments will remain manageable, given the country’s huge foreign currency reserves. The consolidated budget may run a small deficit due to dwindling oil revenues, a smaller tax base and increased spending, but it will be easily financed out of the state’s rainy day funds. Growth in GDP will be small or stagnant, but the social impact will be mitigated by an expanding safety net. After the crisis, Russia will emerge with a stronger, more self-sufficient domestic financial system – and just in time to enjoy a new oil bonanza.

The fast shrinkage of Russia’s foreign currency reserves, plummeting oil prices and the weakening ruble means that Russophobes1 of all stripes are having a field day. They prophecy the collapse of the currency, soaring inflation, and the disintegration of the ‘Putin system’ as populist unrest undermines it from below and silovik clans fighting over dwindling oil rents rend it apart from above. Relying as they do on unsubstantiated claims fitted to support a flawed narrative of Russia as a virulent kleptocracy governed by economic illiterates, their predictions are once again doomed to come to naught – much like prior auguries of fascist takeover or ethnic disintegration2 after the 1998 crisis. This article will reveal why.

In the new millennium, loose US monetary policy and perverse regulations channeled cheap credit into a massive housing bubble. This explains why the US ‘enjoyed’ a consumer boom, even though the Bush II period was historically unique in that median household incomes never exceeded the peak level attained prior to the last recession3 (the dotcom bust after 2000). The borrowing binge spread to Russia in 2005 and intensified up to 2007. Even as the government shed off its debt with the help of soaring oil revenues and squirreled away 600bn $ in foreign currency reserves, its private banks and national champions gorged themselves at Greenspan’s trough to finance domestic and foreign expansion. But all unsustainable things come to a point where they can not longer be sustained, and by 2007 that junkiest junk, the subprime loan market, began to come apart at its seams.

Amidst the gathering thunderclouds, many believed Russia to be an ‘island of stability’ in the gathering credit crisis4. Not only did Russia now possess enviable macroeconomic fundamentals, it lacked direct exposure to subprime mortgage-backed securities, possessed an underdeveloped mortgage market and Russian households’ leverage remained the lowest amongst Europe’s emerging markets5. Even as the Western banking sector began posting major losses from fall 2007 and the first convulsions began (Northern Rock in November 2007, Bear Stearns in March 2008), the Russian economy went into overdrive because of loose monetary policy amidst soaring oil prices.

An orderly slowdown began from around May 2008 in Russia. Drying global liquidity and uncertainty prompted a worldwide ‘flight to quality’, leading to a reversal of capital flows from Russia. This was reflected in the decline of the RTS, which peaked in May and started on the long decline that would take it from 2500 to around 600 today6. Contrary to conventional wisdom, the chart was roughly linear and suggests that the overriding cause was the credit crunch, not so much the politics of Michel, TNK-BP and the Ossetian War – whose effect was limited to short-term fluctuations.

Although up until recently this was the most visible facet of the Russian economic crisis, it was also the most irrelevant. Share ownership is very limited, so the effects on wealth will be limited outside the oligarchic circles; furthermore, most economic sectors are weakly tied to the RTS, much of whose capitalization could even be described as ‘prestige listings’. (In contrast, a great deal of American savings are locked up in stocks and equity financing plays a key role in the Anglo-Saxon ‘shareholder’ model). Thus, the 35% fall in the US S&P is far more damaging to the American economy than the much larger fall in the RTS. It must also be noted that stockmarkets in most emerging market stocks plummeted as well, although Russia was at the higher end.

The real crisis was unfolding in soaring credit costs and plunging commodity prices due to the incipient global economic crash. During the fat years, Russia bought up foreign currency reserves (e.g. T-Bills, US state-guaranteed mortgage securities, etc) to prevent an excessive ruble strengthening, which would have hurt manufacturers and exporters. However, this starved the local market of capital, thus forcing the domestic corporate sector to access foreign debt finance – therefore the rapid rise in official reserves were matched by a corresponding rise in private indebtedness, albeit the latter proceeded at a slower pace and allowed Russia to remain a large net creditor nation. This was a conservative and pricey choice, since the interest on the borrowing was substantially greater than the yields on Russia’s sovereign assets, thus forcing Russia Inc. to pay a ‘very substantial “spread” between the yield on its assets and the cost of the private debt in return for this foreign intermediation’. In light of the global credit crunch, it ended up providing only an ‘illusory degree of security’ for a ‘hefty price’7.

This is because now the Russian corporate system faced a triple whammy as credit availability dried up, existing creditors demanded repayments and and the commodity prices on which their balance sheets depended plummeted. The peak in the global liquidity and confidence crisis came in September-October and marked the tipping point in Russia’s real economy. In response, the Russian government mounted a ‘swift, appropriate and proportionate’ policy response8 to ensure the continued functioning of the banking system. To assess their chances of success, I will cover three interrelated areas of concern – the debt burden, balance of payments and future fiscal sustainability.

Despite the big debts incurred by Russian companies, overall the country remains very much in the black – its half a trillion US dollars in corporate liabilities are more than compensated for by the private sector’s half a trillion in net foreign assets and another half trillion in the Central Bank’s foreign currency reserves9. Thus the main problem facing Russia, unlike the US, is one of short-term liquidity rather than long-term insolvency10. This implies that the real issue at hand is the repayment structure of Russia’s foreign debt – all those net assets will not be of much use if companies can’t raise the cash quick enough to repay their short term loans. Of the total debt, some 120bn $ is due ‘on demand’ or sometime in Q3 or Q4 2008 – that is, almost a quarter of the total debt is short-term, including more than 40% for private financial institutions.

To counter this problem, the CBR began selling down its foreign assets, starting with US agency bonds (Fannie Mae, Freddie Mac, etc), and using the proceeds to inject much-needed liquidity into the financial system. For instance, the CBR placed a 50bn $ deposit at VEB development bank to reduce the rollover risk of short-term external debt and provided 35bn $ in subordinated debt to the three state-owned banks Sberbank, VTB and Rosselkhozbank. (Incidentally, these withdrawals constituted a major part of the 110bn $ fall in the CBR’s foreign currency reserves since September; not defense of the ruble from speculators and Russian bank runners, as some commentators would have it.) These measures are not bail-outs like those of AIG, or even implicit guarantees of debt as with Citibank or Fannie Mae and Freddie Mac; the underlying assets are mostly healthy and Russia saw little of the alchemical debt structuring that plagues the Western financial system. Unlike with the American taxpayer-funded buyup of ‘toxic assets’ – which truly are worth nothing, given the implosion of the US housing bubble, the final fiscal cost is likely to be modest.

The second area of concern is the balance of payments, which consists of the sum of the current account (mostly the trade balance) and the capital account (mostly foreign direct investment, or FDI). Let’s look at each of them in turn. Throughout the past decade, Russia enjoyed a healthy current account due to steadily increasing oil prices, which accounted for the bulk of its exports by value. Their collapse in recent months means that in theory it now runs the risk of a current account deficit, since imports had also soared. At least until recently, most economists were predicting oil prices would remain around 70-80$ per barrel next year; now, some are predicting collapse to 25$11. So let’s assume a median price of 50$.

A quick glance at Russia’s trade balance history and a few quick calculations dispel all the doom-mongery11. The last time the mean oil price was at 50$ per barrel was in 2005, when Russia earned a total of 117bn $ from oil and oil products exports (I assume volumes remain constant – the recent drop off in exports will have canceled out post-2005 gains12). The second major component in Russia’s export structure is natural gas – virtually all of it is sold to Europe on long-term contracts, so let’s conservatively assume it will decline from an annualized 70bn $ in 2008 to 50bn $ next year. The rest of Russia’s exports come to an annualized 156bn $ in 2008. About half of those are metals, which have plummeted along with other commodities; the others are chemicals and machinery, which I assume will remain roughly constant – thus, let’s assume this segment will add up to 78bn $ in 2009, i.e. equal to H1 of 2008 (of course, in practice the weakening of the ruble will boost exports of machinery). Adding up 117bn $ in oil, 50bn $ in natural gas and 78bn $ in other exports, will give us 245bn $ in total exports.

Although total annualized imports in 2008 were 271bn$, they will almost certainly fall next year. Creeping ruble devaluation coupled with credit contraction means that imports of foreign cars – the biggest contributor to Russia’s non-oil trade deficit – will plummet. Global deflation will lower the costs of food imports, amongst other things. Therefore, Russia’s overall trade balance will almost certainly remain in the black – assuming exports of 245bn $ and imports of 223bn $ in 200913, we get a trade balance of 22bn $. Even in the worst scenario of a 10% reduction in export volumes and a collapse to 25$ oil (which would translate to a Urals blend price of around 20$), oil exports will fall to 26bn $ and result in a still manageable trade deficit of 49bn $ – which amounts to about 10% of the CBR’s foreign currency reserves.

The World Bank expects the Russian capital account to go deep red, deteriorating to 50bn $ for 2008 and 100bn $ for the next year14. This is because of the near cessation of FDI inflows (due to global ‘flight to quality’) and debt repayment obligations for 2009. Therefore, Russia’s overall balance of payments will almost certainly go red next year – assuming all the above, to the tune of 78bn $ in the medium scenario (50$ oil) and 149bn $ in the low scenario (25$ oil). Considering the current 450bn $ in the CBR’s reserves, meeting Russia’s import needs will not present a major problem even in the context of a global depression.

Incidentally, the problem with some emerging markets is that they ran up huge current account deficits, paid for by strong but fickle capital inflows. Due to the aforementioned ‘flight to quality’ and debt repayment issues, their capital account went deep red and started draining rather than bolstering their reserves. Furthermore, a sizable chunk of their exports are commodities (Latvian wood products, Ukrainian metals), which have plummeted in value. Borrowing is not a realistic option because of the punitive CDS spreads on their sovereign debts. Suffice to say, they’re not in a good situation and considering the extent to which Latvia and Ukraine are already faltering, it will be hard or impossible for them to avoid a big devaluation, plunge in imports and severe contraction in aggregate demand and GDP.

Talking of devaluation, a fall of the Russia ruble by around 20-35% again the dollar by 2009 is inevitable15 and a creeping correction is already under way, with the CBR gradually widening the ruble’s trading band and giving it room to fall. The conventional wisdom is that the CBR should stop frittering away its reserves in an ultimately futile defense of the ruble that will only benefit speculators, and allow a sudden devaluation. Perhaps. But there are several caveats and good points to the current approach.

Firstly, as pointed out before a major part of the decline in reserves would have been accounted for by the government’s program of quasi-fiscal stimuli. Much of the rest is due to the dollar’s appreciation. Russia’s basket of foreign currency holdings is 45% dollars, 44% Euros, 10% pound sterling and 1% yen. Thus, its dollar-denominated reserves have fallen much faster than if one were to denote them in Euros, for instance. Since early August, sterling and Euros have fallen by around 20% against the dollar16. According to my back of the envelope calculations, the loss in reserves due to this currency effect is around 65bn $ or around 45% of the total17. In practice this figure will be somewhat lower, as I explain in the footnotes, but nonetheless this is an important and often overlooked component to the typica alarmist headlines about plummeting Russian reserves.

I would like to take a moment to debunk one of the more boneheaded predictions of imminent Russian economic collapse. The reasoning goes that because the reserves declined by 25bn $ in the past week, it must mean all of Russia’s reserves will be exhausted in 20 weeks. Firstly, I’d refer them to the fallacy of linear extrapolation18. Secondly, as we showed above, Russia’s total withdrawals from its reserves would have already been mostly accounted for by the government’s anti-crisis measures and by exchange rate effects.

Secondly, as we noted above a lot of debt repayments are scheduled for the last half of 2008 – around 120bn $, or 23% of the total19 of 527bn $, compared with 103bn $ for the whole of 2009. The rest are due later. As such it would make sense to repay foreign creditors now, when the ruble is still strong, and weaken it for the next year when the pressure will slacken. It is true that there are disadvantages to this slow approach – for instance, people know that the ruble will weaken substantially, but they don’t know when or how quickly. This creates uncertainty and hampers investment because of ‘jump risk’20. And the longer the ruble remains strong, the greater the strain on manufacturers and exporters. So I think it is reasonable to expect the CBR to accelerate the ruble’s decline after the New Year, or even fully take the floor from under it if they’re brave.

The final component of my analysis is the effect the crisis and government measures are going to have on Russia’s long-term fiscal sustainability. In this case, there is even less ground for worry that with debt or balance of payments. In their second to last biannual report on the Russian economy, the World Bank concluded that at constant prices of 60$ per barrel Russia would have to keep its non-oil primary fiscal deficit below an estimated 4.7% of GDP to maintain long-term fiscal sustainability21. Despite this year’s record oil windfall, the recent commodity bust and increased government spending may drop this year’s figure below that of 2007, when it was at 2.9% of GDP – but still well below the 4.7% marker, as it has been ever since the 1998 Russian financial crisis.

Obviously, that condition will almost certainly be unfulfillable in 2009. Lower taxes will take a smaller slice of a stagnant GDP. Meanwhile, there will be increased spending on social support for the unemployed, pensioners and homebuyers, as well as on health, education and infrastructure. The Finance Minister Kudrin predicts a possible budget deficit of 1% next year22, which would be met by transfers from a rainy day fund – of which Russia certainly has no shortage of. (The inflation risks of an aggressive countercyclical fiscal policy have receded due to the global deflationary forces unleashed by the credit crunch, although freedom of action is still limited by the inflationary effects of ruble correction.) Thus, barring a very highly unlikely economic collapse, longterm fiscal sustainability is still assured.

Instead of a conclusion, I offer several falsifiable predictions that could be used to assess the overall validity of the views presented herein in the future – though feel free to treat the later, more visceral forecasts with the amount of salt you think it deserves. The US economy will continue deleveraging and will bottom out by 2010 once a critical mass of formerly private liabilities finish being transferred to the public account. Obama will spend deeply on public infrastructure, greater social support and industry bailouts, further accentuating US fiscal imbalances – the budget deficit will exceed a trillion dollars, making up more than 10% of GDP. Economic collapse is postponed, not averted, since the administration will lack the discipline to fundamentally reform spending, encourage savings and address the looming issue of Social Security benefits at a time when many baby boomers start retiring. Growth in China and many other emerging markets, including Russia, returns to a decent clip sometime earlier, perhaps around mid-2009 – albeit badly singed by the credit crunch, their financial systems are fundamentally sound and solvent, and their countercyclical fiscal measures will reignite aggregate demand. Oil prices will remain around 40$ in the first half of 2009, but the incipient recovery starts raising them in the second half and resulting in an average price of 50$ for the year. Oil prices will accelerate upwards in 2010 on the heels of the global recovery.

Russia will recover from a short but sharp recession in the first half of 2009, and overall growth for the year will be at 0-3%; it will accelerate back up to 5-8% in 2010, although unemployment will keep rising into that year. A wave of consolidation will occur in the Russian banking industry, Russia Inc. will close the oil windfall-foreign intermediary-cheap credit loop that was its prior financing mechanism and the country will emerge with a stronger, self-sufficient financial system. The oligarchs, Moscow and the middle classes bear the brunt of the crisis, while the provinces, agriculture and domestic manufacturing benefit, thereby reinforcing already latent tendencies in national development.

All vital demographic statistics, with the exception of the total fertility rate, improve during this period – the expanding social safety net checks mortality increases, but the confidence crisis temporarily dents the former. The overall humanitarian impact is insignificant compared to the Soviet collapse and even 1998. Russia will prune regulatory inefficiencies, enhancing the prospects for long-term growth. Much of the post-Soviet space becomes a ruble zone after 2009. Relations with Ukraine greatly improve after the generous aid Russia bestowed upon its cold, starving multitudes following the utter economic apocalypse that precipitated the peaceful protests that overthrew its Orange regime and replaced it with a friendly administration seeking integration into Eurasian economic and security structures.

The world economy will strongly recover in 2010. With international credit channels once again unblocked, the consequences of the Fed’s liquidity flooding will make themselves felt. In the worst case, we could have dollar hyperinflation. I think it’s more likely that it will simply be highly inflationary, which will ease away the burden on America’s trade deficits and debts. Foreigners become less willing to buy up US debt, the world’s central banks resume moving away from the dollar and the greenback will fall sharply relative to other currencies. Oil prices will accelerate upwards, due to recovering demand and falling supplies (new supply additions from megaprojects are slated to fall from 2008 on, and this will only be exacerbated by current delays in new oil extraction infrastructure due to low prices; meanwhile, the rate of oil depletion in existing wells continues to accelerate23). This culminates in another spike, bringing us 250-400$ oil by 2012-13. The dollar loses its status as a global reserve currency, interest payments on US debt veer asymptotically upwards and the American empire goes into liquidation.

At this point the future splits into two. Down one, the newly-emergent multipolar system continues to mindlessly pursue materialistic growth, in the process straining against the energetic and environmental limits to growth and unleashing brutal, wasteful resource wars that doom humanity into the abyss of the Olduvai Gorge. Down another, there emerges a framework for global cooperation promoting peace, population limitation, conservation and advanced nano-manufacturing and AI technologies, thus ushering in the green Communist utopia that is the technological singularity. The choice, desert or forest, will be ours…


1 In particular, I am referring the economic commentary over at Streetwise Professor and his supporter Michel – although I consider it biased and conservative with the facts, some of their arguments deserve mention. On the other hand not only is La Russophobe insulting and completely devoid of logic, she is also an economic illiterate and as such she and her fawning cyber goons don’t warrant attention, let alone a thoughtful reply.

2 According to several sources (http://www.cdi.org/russia/johnson/7259-10.cfm, http://exile.ru/articles/detail.php?ARTICLE_ID=8518&IBLOCK_ID=35).

3 According to the US Census Bureau, real household median income peaked in 1999 and has stagnated through to 2007.

4 This phraseology was first used by Kudrin at the World Economic Forum in Davos in January 2008.

5 See p.5 of Hope by Eric Kraus’ Nikitsky Fund (http://nikitskyfund.com/files/tnb/Hope.pdf). According to Eurostat and Goldman Sachs, loans to Russian households make up less than 10% as a percentage of GDP, compared to 20-40% amongst most east-central European emerging markets and more than 40% in Latvia and Estonia. Some Googling reveals a figure of about 100% for both Britain and the US.

6 The RTS (http://www.rts.ru/) has an easy function whereby one can view its history for the past day, week, month, 6 months, year and 3-year period.

7 Explanation borrowed from Hope by Eric Kraus’ Nikitsky Fund (http://nikitskyfund.com/files/tnb/Hope.pdf).

8 For a detailed breakdown of the credit crisis in Russia and the government’s response, see the 17th Russia World Bank Report (http://siteresources.worldbank.org/INTRUSSIANFEDERATION/Resources/rer17_eng.pdf).

9 Data from Central Bank of Russia (http://www.cbr.ru/). The 193bn $ liabilities of the banking sector are mitigated by its 114bn $ in assets. Although the total size of Russia’s external debt stock in Q2 2008 was about 527bn $, overall solvency is assured by the financial sector’s net foreign assets of 450bn $ (Q3 2008) and foreign currency reserves that peaked at 598bn $ in August.

10 See p.3 of Things That Fall Apart by Eric Kraus’ Nikitsky Fund (http://nikitskyfund.com/files/tnb/Things_That_Fall_Apart.pdf) for a disturbing insight into the long-term unsustainability of American profligacy.

11 The 70-80$ prediction was made by the World Bank a month ago; as the depth of the global economic collapse became clearer in recent days – including China, on which hinged hopes of a recovery – Merrill Lynch warned that prices may drop to as low as 25$ (http://weblogs.baltimoresun.com/business/hancock/blog/2008/12/merrill_lynch_oil_could_fall_t.html). However, their ‘main scenario’ is still at 50$.

11 Data from CBR. All annualizing is based on data for H1 2008.

12 Russian oil extraction peaked, probably permanently, in 2008. The combination of high taxes on oil exports and plummeting prices have led to a big drop off in export volumes to 2004 levels in November (http://www.guardian.co.uk/business/feedarticle/8110057).

13 CBR. Imports of 223bn $ imply a mere step back to the level of 2007.

14 Again, see 17th Russia World Bank Report (http://siteresources.worldbank.org/INTRUSSIANFEDERATION/Resources/rer17_eng.pdf).

15 Goldman Sachs predicts 20%, while Troika says it could be 35% if oil falls to 30$ per barrel next year (http://www.bloomberg.com/apps/news?pid=20601087&sid=aV9a5OPsFqYk&refer=home). It should be noted that such a decline would be comparable to the falls in the Korean won, South African rand or numerous other emerging market currencies that have already occurred.

16 http://finance.yahoo.com/currency has exchange rate data going back 5 years.

17 Back of the envelope stuff. (46+0.8*(54))/100 = 0.892 is the dollar-denominated decline due to currency effects, with the 46 representing the portion in yen and dollars, and the 54 representing the Euro and sterling component. Multiplying that by peak reserves gives us the expected value in the absence of any other transfers in or out of the CBR’s reserves: 0.892*598 = 533bn $, or a dollar-denominated loss of 65bn $. Currently the reserves are at 455bn $, so the total loss has so far been 143bn $, so the loss due to currency flunctuations is around 45% of the total. Note: I make no pretense to precision, of course. Plus in practice the CBR will have continued receiving some transfers, thus ‘diluting’ the figure above. But the point remains that this is a very significant and overlooked component of the decline in reserves.

18 This really should be in any standard list of logical fallacies. They should it there, with me noted as its originator. :) Anyway, let’s demonstrate it with US total public debt. According to Debt to the Penny (http://www.treasurydirect.gov/NP/NPGateway), this increased by about 1tn $ in the last 3 months. Now if I reasoned like a Kremlinologist (or a dim Russian info-warrior), I would immediately start writing about how the debt will explode by 4tn within the year and treble within five years, leading to American economic apocalypse. In practice, those three months covered the period when the Fed was borrowing money for its TARP’s and bailouts. Albeit there’s at least a drip of truth to the above, unlike the case with Russia’s reserves – see footnote 10.

19 See CBR for the payment schedule of Russia’s external debt (http://www.cbr.ru/eng/statistics/credit_statistics/print.asp?file=schedule_debt_e.htm).

20 A good argument from Craig Pirrong, ‘Streetwise Professor’ (http://streetwiseprofessor.com/?p=1053).

21 See Longterm Fiscal Sustainability of the Russian Federation by the World Bank, 2008 (http://siteresources.worldbank.org/INTRUSSIANFEDERATION/Resources/rer16_Che2_Eng.pdf).

22 See http://www.reuters.com/article/marketsNews/idUSLK36695720081120?sp=true

23 See Fig.3 in IEA WEO 2008 – World Oil Forecasts on the Oil Drum (http://www.theoildrum.com/node/4792). There are many reports of expensive projects being delayed due to today’s low oil prices, which makes them risky and potentially unprofitable – not to mention oil companies’ problems in accessing credit. The Financial Times recently had a story on how the rate of oilwell depletion is accelerating, because a larger percentage of oil is coming from small fields that deplete quicker – you need to run quicker to stay still (http://www.reuters.com/article/GCA-Oil/idUSTRE49S0BB20081029).

(Republished from Sublime Oblivion by permission of author or representative)
 

As promised in the last post, here is a follow-up about Part II of the 17th World Bank Russia report, the reading of which cannot be stressed as too important in the current climate. Like in the last post, I summarize the main reports, using a lot of unattributed straight-out quoting of salient phrases and sentences of the report, interspersed with my own commentary (which I sometimes make explicit by adding NOTE). After this, I plan on writing one more post about the economic crisis in Russia to clarify and further expound on my views, hopefully in a more coherent and readable format that these first two Russia Economy Crisis posts.

The World Bank first describes the genesis of the crisis, when shockwaves from the US subprime collapse rippled into the world’s financial system. Although Russia was initially a rock of stability, it was eventually undermined by the collapse of oil prices and the cheap global credit its companies had come to rely upon to finance their expansion. This triggered a collapse of its stockmarkets and an acute liquidity crisis in September. The government responded with prompt and timely monetary and fiscal measures to ensure the continued functioning of the banking system – bank recapitalization, upholding the mortgage market, various monetary loosenings, etc.

The fiscal and monetary stimuli combined with ruble depreciation will boost inflation in 2009, but that will be countered by global deflationary tendencies and a rapidly cooling economy. (Or not – while the November drop has been very steep, there’s a chance the fall will subside once the stimuli permeate through to the broader economy. If the world economy recovers at about the same time, we might see an inflation spike. But given the depth of the crisis, Russia is putting inflation worries on the backburner like everyone else.)

The combined costs of the announced fiscal measures could get as high as about 200bn $ for 2009. As pointed out in the previous post, this is far from critical – although spending on other infrastructure projects will have to be scaled back, these temporary measures do not endanger long-term fiscal sustainability, as described in the last post. (Nor will Russia have to delve into its reserves to pay for this either, of course. It can just print money – albeit which, granted, will with time exacerbate the ruble’s weakening tendencies).

We end this post with a summation of the likely impacts of the crisis on broader aspects of Russia’s economy, including on private wealth, poverty, bank consolidation and housing.

A Perfect Storm

The origins of the current global financial crisis can be traced to the housing market collapse in the United States. By early 2007, the subprime mortgage market was beginning to collapse, taking down with it consumer incomes and confidence. Credit markets worldwide tightened as subprime mortgage backed securities were discovered to have afflicted large segments of bank portfolios and hedge funds around the world. On 10 August 2007, central banks around the world made their first coordinated effort to ease the liquidity constraints. By the fall of 2007, major losses of the banking sector begin to emerge: UBS and Citibank, for example, wrote down billions of dollars in afflicted assets. However, the initial crises – Northern Rock in November 2007, Bear Stearns in March 2008 – were contained. The impacts of the liquidity squeeze of August 2007 were short-lived, and Russia’s stockmarket continued booming due to high oil prices and its lack of direct exposure to subprime mortgage-backed securities. Thus, Russia was viewed as a rock of stability and attracted record levels of FDI in 2007.

By mid-2008, the global financial crisis began to reach Russia on the back of a weakening and highly oil-dependent global economy. Rapidly deteriorating global conditions affected Russia in two fundamental ways. First, the tightening of global credit markets resulted in a liquidity crisis around the world, which hit emerging markets, all suffering massive losses. Second, the perceptions of a global economic slowdown led to a sharp decline in the price of oil, Russia’s main export. The stock market lost close to two-thirds of its value between May and November 2008, triggered by investor-confidence sapping events like Mechel, TNK-BP and the Ossetian War. However, this should be kept in perspective, since stockmarkets were tumbling all around the world – there were falls of 57% in China’s CSI 300, 50% in Brazil’s Bovespa and 35% in the US S&P.

To analyze the financial crisis in Russia, we divide the present crisis into three phases: (1) the orderly decline phase; (2) the investor liquidity and confidence crisis phase; and (3) the ongoing and policy response phase.

Part I – Orderly Decline

The first phase began on May 19, the day the Russian stock market peaked, and ended on September 12. The drying up global liquidity and investor confidence and a rapidly slowing US economy led to a ‘flight to quality’ amid fears of world-wide uncertainty. During this period, the oil price and the RTS both fell by about 35-40% in close unison. (NOTE: as I pointed out earlier, however, this decline per se is far from disastrous since unlike in the Anglo-Saxon ‘shareholder’ economies, most economic sectors in Russia are weakly tied to the RTS).

With worsening global conditions, international investors began reassessing the attractiveness of the Russian market, and many investors, led by some large hedge funds, closed their positions in Russia. CDS’s on Russia’s sovereign debt rose sharply (an indicator of worsened international investor sentiment); these processes were accentuated by the fallout from Mechel, TNK-BP and Ossetia.

During the first phase there were no major official announcements of policy measures specifically geared toward addressing the stock market crisis. Importantly, the decline in the stock market was contained within that part of the financial system. While some banks were facing large external repayments, no Russian bank had yet experienced repayment difficulties or an acute liquidity crisis that would warrant a strong policy response. A key policy change was that the Russian Central Bank began switching from exchange rate to inflation targeting, increasing exchange rate volatility and uncertainty about short-term exchange rate movements.

Part II – September Liquidity Crisis

The second phase marks the peak of the liquidity and confidence crisis caused mainly by the Lehman Brothers filing for bankruptcy and the bailout of AIG, the world’s largest insurer. This was a turning point that moved world markets into panic-stricken selloffs. Consult the report for the dry technical details of the effects of the liquidity crisis in Russia and the government’s immediate responses. On September 17, a massive policy response was announced.

Part III – The Policy Response

The stock market meltdown and a clear sense that global crisis had moved to a panic prompted the Russian authorities to respond with quick and massive policy measures. The previous policy of gradual monetary policy tightening was abandoned as fiscal resources were committed to shoring up the banking system and ensuring liquidity in financial markets. This was appropriate since risks had shifted from inflation to the banking system and the real economy.

In addition to monetary measures like cutting CBR reserves requirements and administrative orders on banning short-selling of stocks and temporary closures of the stockmarkets, the fiscal measures undertaken included: a) a cut in crude export duty tax to help struggling oil companies from October 1, costing the government 140bn RU in revenue, b) providing a 3-month grace period for VAT payments due October to relieve liquidity pressures on private companies, costing a temporary 115bn RU, c) capitalizing AHML (agency of home mortgage loans) with 60bn RU, d) liquidity injections to the three biggest state-controlled banks (Sberbank, Gazprombank, VTB) of 60bn RU, albeit not yet implemented and e) making a temporary allocation of federal budget funds into short-term (3 month) deposits at selected banks, whose quasi-fiscal cost could be up to 1514bn RU. So in total these fiscal measures cost about 1900bn RU, which is about 70bn $ at prevailing exchange rates.

Because some announced liquidity measures were not immediately implemented or did not have the desired effect, liquidity conditions had remained very tight, especially for for secondary banks and highly leveraged sectors and enterprises (construction, retail, agriculture). The segment interbank market prevented the liquidity injections from trickling down to the smaller banks, since fear of counterparty risk dominated market sentiment.

The second set of policy measures announced on September 29 and October 14 was aimed at addressing the more systemic risks of the banking sector. The government recapitalized several major banks and increased the deposit insurance coverage to 700,000 RU (or about 28,000$). The CBR placed a 50bn $ deposit at the VEB bank to reduce the rollover risk of short-term external debt held by domestic financial and non-financial corporations and the government announced a plan to provide long-term financing in subordinated debt of around 950bn RU (35bn $), mostly earmarked for the three state-owned banks Sberbank, VTB and Rosselkhozbank. Other measures included a) support for financial markets of up to 350bn RU across 2008 and 2009, b) recapitalization of Deposit Insurance Agency (see above) costing 200bn RU, c) a further cut in oil export duty and other bits and bobs. Also, the CBR will be allowed to partially compensate the losses of a bank lender, if a financial organization, the recipient of the loan, fails to repay the loan (temporary measure until yearend 2009) and will be allowed to lend (short-term) without collateral. In total these later fiscal measures could end up costing more than 3000bn RU (110bn $+) .

(NOTE: Adding these two figures, 3000bn RU and 1900bn RU, gives us total potential fiscal costs of about 190bn $. Unexpected crises will crop up; but on the other hand, it’s far from guaranteed that all 190bn $ of the above measures will be needed. As such, the total cost of these fiscal measures up to year end 2009 should not exceed 200bn $.)

As a result of these monetary, fiscal, and quasi-fiscal measures, the authorities in Russia will affect both short-term and long-term interest rates. The impact of the second set of policy measures on equity markets was limited, however, against the backdrop of a further decline in the oil price and a panic in world markets. On November 7, the government announced a new plan for a broad set of policies to address the impact of crisis on real economy.

Impacts of Financial Crisis

The impact of global financial crisis on Russia will continue to be felt on several fronts in the remainder of 2008 and 2009. The final outcome will depend on the rather uncertain global economic outlook, including the price of oil and the continuing soundness of the policy responses. But some immediate effects can be estimated with some certainty.

Wealth effect: Russia’s high net worth individuals, large state owned oil and gas and related companies and a sliver of the middle class have been hard hit by the loss of about 1tn $ of stock market capitalization from May to November. This will have an effect on aggregate consumption, compounded as it is by tighter borrowing conditions and access to credit. (NOTE: In particular, the billionaires are reputed to have lost 300bn $ of their combined wealth of 522bn $ back in April, so expect a big reduction in the Forbes list of Russian billionaires from their peak of 110 individuals.)

Growth slowdown: Notes how the economy is expected to substantially slow down from Q4 2008 due to illiquidity and uncertainty. Covered in more detail in the previous post, but to reiterate – the World Bank believes Russian growth is projected to be 6% in 2008 and 3% in 2009 – albeit as I pointed out, there is a lot of evidence that economic output is already in free-fall, along with the rest of the industrialized world including China. Which is really bad, of course, because it was supposed to decouple at least somewhat. I think it’s now best to hope that the fiscal measures undertaken by Russia start bearing fruit sooner rather than later.

Social impact: the growth slowdown will affect real incomes of the middle class and of the poor and calls for a social policy response. The WB report has a one page box devoted to this issue, which argues that poverty reduction is going to slow down in the 2007-2009 period and that it calls optimize social assistance spending.

Inflation: Some of the economic slowdown represents a welcome cooling of an overheated economy and will also help reduce inflation from the current high levels. However, the relaxation of monetary policy and ruble depreciation, inflation pressures will persist in 2009.

Fiscal Costs: Although the direct fiscal costs of the announced measures are manageable, quasifiscal costs are much larger. Estimated direct fiscal costs are only 190bn RU, but the quasi-fiscal and contingent costs could reach up to about 4,639bn RU (185bn $, or about 14.7% of Russia’s GDP in 2007). (NOTE: close to my own conclusions above). These additional commitments have significantly reduced the fiscal space and halted many important initiatives, especially large capital expenditures to address infrastructure bottlenecks that might be scaled down or postponed. In the worst case, if the price of oil continues to decline toward the long-term average of about 30$ – something not envisaged by most analysts at this time – significant revisions in medium-term expenditure plans will be required.

Bank Consolidation: The loan-deposit ratio of the Russian banking system increased from around 105 percent in 2005 to more than 125 percent in the first months of 2008, reflecting greater reliance of banks on foreign borrowing as a source of funding. Although the aggregate ratio is high, it is not as high as in many CIS countries in a much more vulnerable position. But large external borrowings in Russia have put pressure on some small and medium banks, which in the absence of borrowing and refinancing options, have no other significant and stable sources of funding (such as deposits). Larger banks, including private ones, are generally in a stronger position to weather the financial turmoil. Over-reliance on massive external borrowings for funding purposes will decline as a business model.

Housing: Will continue unwinding, extending beyond construction to the banking sector, a provider of mortgage lending and other lending instruments collateralized with property.

In sum, the global crisis has affected Russia but the Government has so far responded
in a pro-active and comprehensive manner.
A lot more may need to be done to implement these measures. Transparency and effectiveness of such policy response is key to ensure that they limit the impact on the real economy. Attention will also need to be paid to longer-term issues of competitiveness, diversification, and growth of small- and medium- sized enterprises. Such reforms and modernization of the banking sector will lead to improvements in productivity and will help Russia emerge from the current crisis
with a healthier and more dynamic economy.

(Republished from Sublime Oblivion by permission of author or representative)
 

Recently the World Bank’s November issue of the biannual Russian Economic Report came out. At the time I was busy with other things, amongst others planning the move from Blogger to self-hosted WordPress; as such, I did not give it the comprehensive treatment that it deserved at the time. Of course, reading about these things today is much more important than at any time since 1998 (or 1987, or even 1929)…and if I devoted an entire post to the last November issue, surely this new compendium of graphs galore and pecuniary palaver deserves some special attention?

It was compiled with a keen eye to the unfolding global economic crisis, and as such is up-to-date and covers the entire period up to October 2008. We will focus on the first section, which is a comprehensive account of Russia’s economic position. (Part II, Anatomy of the Crisis, is an in-depth discussion of the causes and progression of the credit crisis with particular attention to Russia; I will cover this in a follow-up post, so that this one doesn’t become a bigger monster than it already is). My aim is to provide a succinct summary of the data, a readable summation of its main arguments and my own contextualization, especially relative to other countries and more recent (bad) economic news.

In summary, an incipient slowdown in the Russian economy was turbocharged into nosediving growth rates by the credit crisis. Russian companies are finding it difficult to access credit, while having to pay off a slew of short-term external loans. However, most of them are due in the final two quarters of 2008, so in this respect the situation should improve next year. The liquidity crunch in September was controlled in a ‘swift, appropriate, and proportionate’ by the government, which now plans on substantial counter-cyclical fiscal injections to limit the effect of the credit crunch on the economy. The inflation risks of doing so have receded due to the global deflationary forces, while long-term fiscal viability is not seriously threatened, even under an erroneous scenario of continuing low oil prices, because Russia has healthy reserves and the non-oil part of its budget runs a small deficit. Although the capital account will go into the red to the tune of 100bn $ in 2009, the current account will remain positive at 40bn $ and the Central Bank should not lose more than 100bn $ in reserves in that year – considering that today they stand at 450bn $, this is far from catastrophic.

Recent economic news indicate that Russia, along with much of the rest of the world, is in much worse straits than was the conventional wisdom even a month ago, when this report was compiled – for instance, it is very likely that it’s already in a full-blown recession. Nonetheless, as I calculate below, even in a very pessimistic scenario in which oil prices fall to 50$ for 2009, the current account deficit for the year should not much exceed 40bn $; similarly, even a total cessation of net oil transfers to state coffers in 2008 will not imperial Russia’s long-term fiscal sustainability.

So is Russia going to go red? On the capital account, yes; on the current account, almost certainly not unless there’s a full-blown global Depression and complete collapse of oil prices; on government spending, almost certainly not unless oil prices completely collapse or the Russian economy and tax base implode, both of which I consider extreme outliers on the probability scale. (However, the state will become more “red” in the political sense, because at least in the medium-term, it will assume more control over economic life and spend more on strategic long-term investments and social welfare – in any case, there have been latent tendencies towards the above in the last couple of years, anyway).

Nonetheless, one should take the doom-laden prognostications of political instability, and perhaps bloody revolution, made by the likes of Streetwise Professor with a pinch of salt – the populist discourse on red-in-tooth-and-claw silovik “clans” fighting for “resource rents” which hold the “natural state” together might appear superficially attractive, but is in fact meretricious, intellectually vapid verbiage that betrays the author’s preference for the mysticisms of Kremlinology over hardheaded observation and analysis of real economic data.

Output

After a decade of high growth (7% for 1999-2007) and an overheated acceleration to 8% in the first half of 2008, the economy began to decelerate. During the incipient stage of the world financial crisis, Russia was widely viewed as a safe haven due to its strong macroeconomic fundamentals (low sovereign external debt, big twin surpluses and impressive foreign currency reserves). This helped Russia delay the impact of the global credit crisis – “it is now clear that if Russia had not entered the current global financial crisis with such a strong fiscal surplus and large resources accumulated in the stabilization funds and foreign reserves, the impact of the crisis would have been much quicker and more severe than is currently the case”.

A slew of shocks transmitted the global financial crisis to Russia: they are, a) a reversal of capital flows due to the global flight away from emerging markets to ‘quality’, b) liquidity problems amidst short-term external repayment obligations, c) the tumbling oil price, which eroded Russia’s fiscal and current account surpluses and reserves and d) the collapse of its stockmarket. These shocks slowed domestic demand, Russia’s main driver of growth. On the supply side, tradable sectors were the first to register slower growth, but nontradables are also slowing from very high growth rates.

Manufacturing—the engine of Russia’s industrial growth—did well through September 2008, but a slowdown is likely in the last quarter due to lack of easy credit and easing demand. (NOTE: now not likely, but certain. VTB’s Purchasing Managers’ Index fell for a fourth month to 39.8 in November, from 46.4 in October – this is lower than at the depth of the 1998 default. The only ‘consolation’ is that everybody else is doing at least as poorly.)

This is happening amidst a background of increased borrowing costs (adversely affecting liquidity and credit) and slowing aggregate demand (affecting consumption and investment). Incipient signs of the latter were already being felt as early as Q2, when consumption growth slowed to 13.0% from 19.1% in Q1, and fell further to 9.9% in Q3, and investment slowed due to uncertainties about the world economy. The report repeats a criticism of the Russian economy that it frequently makes, that investment is heavily concentrated in a few, mainly nontradable sectors (resource extraction and in the transport and communication category, out of which pipeline transport accounted for a significant part) and 22% share of investment in the GDP, which is low by the standards of the east Asian tigers.

Labor Markets

Real wages continue to outpace productivity growth, undermining competitiveness, but wage growth has begun to moderate while unemployment—a lagging indicator to real economic activity––has declined further. However, this will not last since labor-intensive, nontradable employers in construction and retail, as well as restructuring banks, are going to lay off worker and thus the unemployment rate will likely start increasing by year end. (NOTE: again, breaking news have overtaken prior, cosier projections. Unemployment rose to 6.1 percent from 5.3 percent in September – and that’s for October.)

Externals: Current Account, FDI, Debt

In the nine months of 2008, Russia began to experience a globally incited “sudden stop” and a reversal of capital flows, followed by a rapid fall in oil prices—but the current account has held well. Despite rapid import growth driven by strong domestic demand, trade and the overall external current account continued to improve on the back of record high oil prices. The fall in oil prices will significantly affect the trade and external current accounts only in Q4 of 2008, when export deliveries based on past lower oil price will take place. More worrisome, however, is that the nonoil external current account continues to deteriorate quickly in 2008 as import volumes grow considerably faster than nonoil exports. In Q2 of 2008, the nonoil external current account deficit sharply increased to almost USD60 billion, and further to USD62 billion in Q3, making Russia’s balance of payments position particularly vulnerable to a sudden drop in oil and gas prices.

(NOTE: However, it is not critical, as could be gleaned from Russia’s balance of payments for H1 2008 and a few quick and crude calculations. Goods imports of 135bn $ were countered by oil/gas exports of 159bn $ and other goods exports of 78bn $, and add a deficit in services trade of 11bn $. Assuming everything remains constant except the value of the oil/gas exports* means that we need ((135+11-78) * 2 = 136bn $) in the latter to retain a positive current account. (* In practice, the value of Russia’s other exports will also decline because most of them are commodities like metals, lumber and grain; on the other hand, imports will certainly fall too due to global deflationary forces, a weakening ruble and falling consumer demand, thus presumably cancelling these effects out.) Even assuming a pessimistic oil price of 50$ per barrel for 2009 (in practice, most economists think it will be around 70-80$, albeit there is currently a downward tendency to revisions), that would simply take us back to 2005, when the average was 50.04$ (or 54.99$ inflation-adjusted). In that year, Russia exported 148bn $ of oil/gas (nor will export volumes change much between 2005 and 2009). Thus, even in this ‘low’ scenario we get a current account surplus of 12bn $ – and even if we undershoot, there still the matter of Russia’s 450bn $ reserves as of November. From this I’d venture to say Russia has ample resources to pursue a gradual correction, rather than sudden devaluation, of the ruble; and to undertake serious counter-cyclical fiscal measures. But more on that later…).

After record inflows in 2007, Russia has experienced a sudden reversal in capital inflows since mid-year. After reaching a peak 84.3bn $ in 2007, the capital account surplus fell to just 0.5bn for the first three quarters of 2008, due to a sudden reversal in Q3. It also reflected much slower accumulation of reserves of official reserves in 2008 relative to the previous year, despite a much stronger current account. This was due to changes in investment sentiment and changes in foreign exchange expectations that had previously bet on further ruble appreciation.

In 2008, capital flows became more volatile, and the banking sector experienced a sharp reversal of capital inflows. Foreign direct investment—non-debt-creating capital flows that can also bring new technology and knowhow—registered a decline due to changes in domestic laws and investor sentiment. Look into the report for greater detail into the structure of Russia’s capital account and reasons behind the fall and restructuring of FDI. The decline in FDI was partly offset by greater reliance on external borrowing. This made the capital account more vulnerable to changes in investor confidence and borrowing and refinancing conditions.

Russia’s private corporate and banking debt grew rapidly in the first half of 2008 and total external debt rose by 50.1bn $ in the second quarter of 2008. Meanwhile, sovereign external debt remained modest. However, the ostensibly ‘private’ corporate sector includes many state-controlled enterprises like Gazprom, which account for most of the debt stock. A graph of Russia’s external debt structure is provided below:

While the overall share of short-term external debt of Russia remains low, accounting for less than 20% of total external debt, the share of short-term debt in private financial institutions is significantly higher at around 40%. Many smaller banks with weak deposit bases are going to struggle with the higher borrowing costs and sharply increased rollover risk, although a positive effect would be to encourage consolidation in Russia’s fragmented banking system.

Russia’s external debt maturing in the final two quarters of 2008 is 120bn $, while the amount requiring repaying or refinancing for the whole of 2009 is less than 100bn $. Rolling over debt is going to be tough, especially for smaller private institutions, due to higher refinancing prices and drops in stock that could otherwise have been used as collateral. However, systematic risk remains limited because of the government’s resolve to support the systemically important banks and a sizable package of measures taken to date.

(NOTE: From the graph above, a great deal of debt repayments are scheduled for Q3 and Q4 of 2008, and I would imagine its likely that most of the ‘on demand’ lenders are also asking for their money back now. As such, the strain on Russian companies and banks with big external debts should ease from 2009, and presumably so too will requests for bailouts and pressure on the reserves.)

Monetary Policy

The central bank has gradually begun to change its policy of exchange rate switching towards inflation targeting, making the exchange rate more flexible. Monetary tightening, like raising reserve requirements and interest rates, reduced money supply growth from 27.8% to 8.3% in the first three quarters of 2007 and 2008, respectively – albeit not enough to rein in inflation driven by high inflation expectations and high aggregate demand.

But with liquidity risks rising sharply, the central bank moved decisively to support liquidity in the system and help restore confidence during the September liquidity crunch. Dramatic worsening of global financial conditions in the third quarter of 2008 and the liquidity crisis in September caused the central bank to change the policy course and provide substantial liquidity in its efforts to alleviate the confidence crisis and unfreeze the interbank credit market. These actions were swift, appropriate, and proportionate to the problem at hand. And they helped to temporarily stabilize the financial markets after the tumultuous week of 15-19 September. An estimated 400 billion rubles of additional liquidity (15bn $ or 1.2%t of GDP) were pumped into the economy in September and October, when the reserve requirements were dropped sharply to 0.5 percent. This temporarily alleviated the sharp liquidity and confidence crisis in mid-September, but liquidity pressures continued later in October and prompted the government to take additional measures to ensure the rollover of external obligations by banks and corporations (again see below). In hindsight, this was the right decision, helping avoid more difficult liquidity conditions in September and early October than otherwise.

Inflationary expectations, higher import prices, combined with loose monetary and fiscal policy in 2007 and early in 2008 have resulted in an upturn in CPI inflation, which reached 11.6 percent in the first ten months of 2008. Slowing growth and aggregate demand should alleviate these pressures, albeit not enough to meet the government’s 11.8% target for 2008 – the Central Bank recently revised its year-end CPI inflation target to 13%.

Fiscal Policy

Russia’s consolidated (general) budget was executed with the strong surplus of 11.1% of GDP in the first nine months of 2008, compared with 9.4% for the same period in 2007, mostly due to higher revenues from sky-high oil prices. However, according to preliminary data from the Ministry of Finance, the consolidated non-oil balance amounted to -0.2% of GDP, compared with about 0.7% surplus last year. Given the seasonality in expenditures, a sharp fall in oil and gas prices—and the recently announced increases in government spending to weather the impact of the global financial crisis—the fiscal position is expected to deteriorate toward year-end, with the non-oil deficit possibly exceeding the last year’s -2.9% of GDP. The report argues that given the risks to the financial system and the real economy, such a red-shift (ha!) is justified in the short-term; albeit if energy prices stabilize at the current low level, long-term expenditures must be adjusted to ensure fiscal sustainability.

(NOTE: for perspective, in their last April report on Russia’s economy, the World Bank concluded that at constant prices of 60$ per barrel Russia would have to maintain its non-oil primary fiscal deficit below an estimated 4.7% of GDP to maintain long-term fiscal sustainability. So even in a crisis year, Russia does not have to tuck into its seed corn – unlike some other countries, like the US, which have gorged on it even in the fat years (see p.3 of Things That Fall Apart, Eric Kraus). Furthermore, the constant 60$ per barrel scenario is unrealistic in practice – those who indulge in Schadenfreude at the recent economic difficulties in Russia or Venezuela should remember that oil prices have a cyclical element, and their recent collapse in no way invalidates the overriding long-term secular upwards trend – one which will in several years produce a far more devastating spike that in 2008, since from 2008 new oil supplies will fall off, average field depletion rates accelerate and the world economy and oil demand will presumably rebound. Anyway, I’m getting off-topic here and in any case this is material for a future separate post.)

After discussing details of the Russian 2008-2010 federal budget, the report goes on to confirm my support for a loosening of the fiscal policy stance, since ‘counter-cyclical fiscal policy has a better chance of affecting the real economy when there is a sizeable fiscal surplus, as in Russia, as opposed to when additional public debt might risk aggravating the underlying fiscal problems’.

Policy Challenges

Russia’s first challenge is to limit the overall impact of the crisis on liquidity and the real economy while not losing control of the public finances and not letting inflation get out of control. Although a delicate balancing act, in contrast to itself in 2008 and many other emerging markets today, Russia has strong macroeconomic fundamentals (huge reserves, budget and current account surpluses, a ratio of external short-term debt to total international reserves of around 0.18 (Q2) and a fairly low overall external debt of 35.9 percent of GDP) and its policy response so far has been ‘swift, massive, and broadly appropriate’.

The second challenge is to intensify the efforts to diversify the economy, strengthen institutions as well as the financial sector for sustained, long-term growth. A lot of standard platitudes about the need to diversify the economy, strengthen the financial sector and pursue structural and institutional reforms.

The third challenge is to continue the integration into the global economy, including
the acceleration of accession to the WTO.
Globalization and rule-based international frameworks and yadda yadda are great! (Not that I disagree, but first Washington has to let Russia into the WTO).

The fourth challenge is to limit the impact of the crisis at the regional level and be vigilant to the emergence of non-payment problems. Due to problems with obtaining credit, regions that rely on narrow tax bases or engaged in deficit spending may undergo problems, and recommendations on dealing with said problems.

Finally, a prolonged economic slowdown into 2009 might require an introduction of a well targeted and structured, fiscal stimulus package to enhance key drivers of sustained economic growth. Due to the growing output gap, receding inflation risks and comfortable reserve cushions, it would be a good idea to introduce temporary fiscal stimuli (a combination of spending
increases and targeted tax cuts) to unlock investment and boost flagging aggregate demand. More platitudes on the need for transparency and due attention to moral hazard.

Outlook for 2008-2009

The report emphasizes the global financial outlook is very much uncertain and could have wholly unforeseen ramifications. Their key assumptions are oil prices and world GDP growth of 101.5$ and 2.48% in 2008, and 74.5$ and 0.93% in 2009, respectively; and impacts on the Russian economy and policy responses so far. Thus, Russian growth is projected to be 6% in 2008 and 3% in 2009 (down from 6.5% pre-crisis), while employment will increase from 5.3% to 5.9% by year-end. (NOTE: as previously pointed out, it appears that Russia is already in recession (Edward Huge notes that PMI for both services and manufacturing below 50 in October), employment for that month already up to 6.1% and very gloomy figures for November manufactuing).

Inflation is predicted to be 13.5% for 2008 and probably no less than 12% in 2009. The situation is complicated since there exist ‘opposing factors of slowing economy, credit crunch, and reversal of capital inflows and additional liquidity and public expenditures’. (NOTE: one of the very few silver linings here is that since the severity of this sucker (to borrow Bush’s lexicon) is so great, the problem of inflation in Russia will recede, as in the US; the problem comes après le deluge.)

Twin surpluses (federal fiscal and external current account) will substantially decline and capital account deficit would widen with further capital outflows. Federal fiscal surplus in 2008 would likely remain within 3.5% of GDP range but could decrease further in 2009, reflecting lower oil export revenues and additional public expenditures now under consideration. Current account surplus would be around 100bn $ in 2008 and about 40bn $ in 2009. Capital account would deteriorate in 2008 to about 50bn $ and then to 100bn $ in 2009, largely reflecting the repayment obligations and the lack of large new FDIs or portfolio investments until the global crisis nears the end. The attendant impact on CBR reserves should be limited to a possible loss of no more than additional 100bn $ in 2009, including the announced policy interventions in support of the banking and corporate sectors.

As for the summary…well, see the first six paragraphs. I’m not going to repeat anything, except to remind you that I plan to make another post on the WB Report, this time on its second part, Anatomy of the Crisis.

(Republished from Sublime Oblivion by permission of author or representative)
 

Just wanted to point out there is an on-going four-way debate at Streetwise Professor‘s blog between him, commentator Michel, myself and (at times) Timothy Post. In SWP’s words, it is about “(a) the breadth of Russian prosperity, (b) its dependence on oil prices, and (c) the likely future course of oil prices” and despite the subject matter and our ideological differences, it has been generally civil and very interesting.


The Great Debate

Check out Michel’s Comments
(and Russian Poverty, later offshoot) – not really

The Debate

$67.88

EDIT: It’s a fast evolving situation…I find it easier to give a few more links of interest on international/Russian finance.

“One Babushka Said” – Timothy Post, an “on the ground” kind of person with well-argued (optimistic) post meshing stats, personal observations and analysis.

The contrarians (SWP) – never let it be said DR doesn’t link to opposing views…

Moscow Housing, Boy, I’m Glad He Cleared That Up!, Better and Better, Information Management – Flirting with Catastrophe, The $64 Question.

EDIT2: During the fallow period at Da Russophile before I moved to Sublime Oblivion, I spent (too much) time banging my head against the wall in the following SWP threads. This post however is now coming to a definitive end since now I have a new, vastly revamped blog to fill up with sublime goodness…

In chronological order since the last edit:

I Know There’s Some Leverage in There Somewhere, Human Capital, Nick Eberstadt is Not a Long Wolf*, The Price of Political Risk,The Market Price of Risk, More Generally,Roger That,Worser and Worser,If you believe that . . .,Life on a Volcano,That Was Fast,Like Minds,Hostages,The Financial Crisis in Russia Begins to Bite.

(Republished from Sublime Oblivion by permission of author or representative)
 

What with all the noise about the ongoing credit crunch, all around financial apocalypse and burgeoning signs that it is beginning to spill over into Main Street like a torrent of water from a collapsing dam, I thought it’s about time we take a look at this “sucker” (to use Bush’s blunt term) and it’s likely effect on Russia.

The MSM highlights the problems of Russian banks in attaining credit, which has lead to a drastic slowdown in construction, much harder access to credit and the near collapse of Russia’s major stock market, the RTS. Moscow house prices fell by around 25% from their peak, to my personal consternation.

Nonetheless, despite the torrent of sad tidings, I remain bullish on the Russian economy. Its strong fundamentals and relatively low level of integration into the world financial system mean that it will weather the storm much better than either the insolvent financial systems of the Anglo-Saxon sphere or the many catastrophically over-leveraged, deficit-wracked economies of East-Central Europe.

Other people have different opinions. La Russophobe has embarked on a bizarre series of posts purporting to show the ‘horror of life in Vladimir Putin’s Russia’ as supposedly reflected in the RTSI over the past month (but obviously not the past decade). Actually, the linkages between the real economy and financial markets are very complex and vary between countries. In the Anglo-Saxon ‘shareholder’ model, equity financing plays a key role in financing companies so stock markets are vital in assessing the overall state of the economy. In Russia, most economic sectors are weakly tied to the RTS, much of whose capitalization can even be described as ‘prestige’ listings. Even though the RTS has fallen twice as fast as the Dow Jones or FTSE, its collapse is far less damaging to the Russian economy than the latter are to the American and British economies.

(The same can be said for China, and to a lesser extend ‘stakeholder’ economies like Germany or Japan. For instance, the Shanghai SSE‘s implosion did not affect China’s GDP growth in the slightest. The contraction of the Nikkei by three-quarters from its 1990 peak resulted, or rather reflected, not a depression but merely a decade of slow absolute GDP growth).

Although the astronomical rise in the RTS from 1999 to 2006 has been correlated to Russia’s economic boom, it would never have reached such stratospheric heights without cheap global credit coupled with institutional investors chasing the best returns. The recent evaporation of credit has demoralized those investors, who have fled from risk towards ostensible safe-havens, e.g. US treasure bills.

Russia is not only an emerging market, but most of the value of the RTS is composed of energy companies. Since commodity prices have lurched sharply downwards due to weakening Western consumption and lower appetite for (risky) commodity speculation, Russia’s RTS has been hit with a ‘double wammy’, which explains why it has fallen so far down, out of all proportion to its fundamentals or most other emerging markets. Its armed intervention against Georgia’s invasion of South Ossetia had little to no effect – as the Nikitsky Fund’s most recent issue of their newsletter Truth & Beauty (and Russian Finance), Hope, shows in the article Anatomy of a Crisis, the RTSI has been going down at a linear rate from April 2008, with few discernable disruptions during or soon after that war.

In short, the collapse of the RTS does not herald Russian financial apocalypse, contrary to what La Russophobe thinks (but obvious to anyone whose views on the economy and finances aren’t exclusively shaped by the quack intellectual Illarianov and others of his ilk). It seems that the ignorance of Kim Ziegfeld and her fawning sycophants is exceeded only by their sheer hatred of Russia and its people (e.g. see Frank’s comments here – is that shit allowed on Blogger??).

Now I have only a layman’s knowledge of finance, so one would expect Craig Pirrong, a “Streetwise” Professor of Finance at the University of Houston (a respectable institution, AFAIK) with a special interest in Russia, to knock me down hard with amazing arguments and financial gobledegook well in advance of any objection I could muster. Alas and alack, I suspect his populist Russophobia got the better of him, based on his articles Under Pressure and Check Out Michel’s Comments.

Still, they’re useful in that they’ve provided me with a kind of focus to put down my own take on Russia’s financial straits. So what I’ll do is selectively quote from the two articles (selectively not in the bad smearing way, but in the summarizing, getting all the salient points down way) and provide rebuttals.

[Unsupported waffle about violence specialists in warring clans]

Everyone’s attention is turning to the stability fund. In virtually all of the commentary written since the beginning of the meltdown in August, the phrase “the $570 billion dollar stability fund” has been repeated like a mantra, an incantation that will ward off a return to 1998. As commentor Michel points out, however, the government has already committed a substantial fraction of this sum in various market and bank support schemes, none of which have stemmed the bleeding.

The market apparently has its doubts too. Credit default swaps (EEEEEEEK! CDSs! Run for the hills!) on Russian government debt rose 52 basis points to 352 bp, as compared to 36 bp in May ‘07. If the stability fund makes Russia immune from default, why the bulge in CDS prices? (Part of that is due to an increase in the market price of risk in these unsettled times, but certainly part reflects a perceived increase in the probability and severity of a default.)

I think Michel has put his finger on the matter. He conjectures that “[m]any have been lusting after those billions for years, and the crisis was the perfect cover to launder piles of money from the reserves to the offshore accounts of friends of the regime.”

In brief, although the existence of the fund makes survival of the current system in Russia more likely than it would be in its absence, it is not a talisman. If the crisis–in the US, in Europe, and in Russia too–shows anything, it shows that $570 billion can evaporate in a trice. That is especially true in a country like Russia, where the formal institutional safeguards are so weak. In a highly personalized natural state, rife with corruption, where the state is essentially the cash cow for aggressive and amoral individuals who are comfortable with the use of violence, when the deluge begins, no property is safe. So, to those who repeat “the $570 billion dollar stabilization fund” to lull themselves to sleep, I say–there are monsters under the bed. And it is at times like these that they come out and play.

OK so the main argument is that CDS prices on Russian sovereign debt has soared therefore things are bad. CDS are basically bets on the country or company or whatever defaulting on their debts. It’s his first (and I think strongest argument).

On the other hand CDS have soared throughout the world. Some casual Googling has revealed that oil-rich Kazakhstan, which also doesn’t lack for petrodollars, has a spread of more than 1000 points; Ukraine is at 1700. Many other countries in east-central Europe, the Baltics and the Balkans rate in the hundreds. Iceland is at 567, so…

What!? Granted the article is from September 29th, but Iceland in the same league as Russia (a large net creditor) and below Ukraine!? Iceland, whose liabilities even then had soared well past its puny GDP, since it had taken over Glitnir, and with its other main two banks about to hurtle into the abyss!? I can only conclude that CDS are driven mostly by market sentiment and don’t provide a realistic appraisal of the risk of default relative to other countries…

Now to quote the commentator Michel…

Today, the Russian media has answered my question as to how long it will take before the funds run dry.

According to gazeta.ru: 110 business days.

“Золотовалютные резервы России сокращаются, в борьбе с кризисом, и если в таком объеме тратить их дальше, то резервов, по оценке экспертов, хватит на 110 торговых дней.” (source: http://gazeta.ru/financial/2008/10/09/2852776.shtml).

Vedomosti put it a bit more poetically as their entitled their article “Reserves Melting Right Under Our Eyes.”

They give the reserves half-a-year at the present rate of spending: “Проблемы могут начаться, если продолжать такую политику полгода-год: в ситуации снижения темпов экономического роста накачка ликвидностью может вызвать необходимость девальвации.”

Taking foreign currency reserves have lessened by 16bn$ in a week and thus arriving at the idea that they will diminish to nothing within a few months is just meaningless linear extrapolation. It’s like saying that since the US total public debt grew 573bn $ in the last month from October 9th, it would reach 17tn $ (from 10.3tn $ today) by the same period next year.

But that’s not even the main point. What I’d like to ask is why did Michel not bother pointing out that of that week’s 16bn $ fall, some 10bn $ of that was directly linked to the strengthening dollar – which was mentioned on the very same article he linked to?

Finally, the entire point of having foreign reserves is to use them to avoid crashes in times of international financial crisis. I mean, that’s what they’re for, right? A continuation of smooth growth in a period of severe Western recession would be well worth the entirety of those reserves.

Michel then links us to another article, curiously enough entitled Russia: Better placed than most to weather the crisis. Curiously, because he uses it as the basis to continue his criticism.

One final comment. In reading the Financial Times, one article notes that “Alexei Kudrin, the finance minister, said on September 16 that the federal budget would begin to run a deficit if oil fell below $70 a barrel.” However, on September 19th, the Russian government announced that it would be increasing military spending by 25%. If you put these two facts together, you realize that if the price of oil drop anywhere near $70 a barrel, the Russian government will be running a deficit. The price of oil is already in the mid 80 dollar range and the global recession has just begun. This means that the Russian state may already begin running deficit budgets by next year, just as its reserve funds start to dry up.

All well and good, except that: a) average prices for the year, which is what matters, are well higher than 70$ (remember the recent 147$ spike and all that?), b) military spending has risen at those rates for years, in line with growth in its nominal GDP, and in fact most of that 25% rise is just a restatement of already existing spending plans that have been played up by the Western media rather than anything new and c) this ignores Russia’s and OPEC’s mutual interest in keeping the oil price high, at around 90-100$ (Saudi Arabia also needs those kinds of prices to balance their budget), and their recent moves towards closer co-operation to achieve that goal.

Now unless China suffers a serious shock to its economic ascent, reduced American oil usage will be more than compensated. Otherwise, the oil price will be squeezed up, wedged as it is between the Scylla of stagnant or falling extraction and the Charybdis of soaring demand from industrializing Asia (sorry, I’ve really fallen in love with that phrase. When that happens I sometimes just start incorporating them into my writing for a few weeks, whether the situation calls for it or not). Sorry to rain on your gas-fueled party, Michel.

You are right, they are probably there already. And, the 6-months predicted as to when the reserves disappearing is based simply on what the Central Bank has been dishing out to stabilize the ruble (i.e. keep it within the 25-26 ruble to the dollar range). The 200 billion or so in new spending will have to come out of the budget, which will push it deeper into the red.

This is wrong on two counts. Firstly, the budget for 2008 is projected to be firmly in the black (+4.5% of GDP). Secondly, and more importantly, the money for propping up the domestic financial sector is not even coming from the budget. It comes from repatriating Russian reserves parked abroad in G7 sovereign debt securities. Since the problem with the credit markets in Russia is overwhelmingly one of illiquidity (rather than insolvency, as in the Anglo-Saxon economies) it’s unlikely that a large portion of these reserves will actually be lost.

And now it’s time for the Professor to take the reins again…

The country teeters on the economic brink–the world does, but Russia is arguably closer to the brink than just about anybody else–and if the deluge comes, a disappointed people that had put its faith in Putin and Putinism will turn on him (and it) in a fury.

This statement is beyond my powers to comprehend. Iceland is worse off. So are many over-leveraged (mostly central-east European) states with huge current account deficits – Latvia, Estonia, Ukraine, Turkey, Argentina, Bulgaria, Hungary, Romania, etc. So is, in all likelihood, the US and Britain, who’s financial systems increasingly appear to be generally insolvent. Do you still live on Earth, Professor?

The $5 billion loan to Iceland, another extravagance apparently driven by geopolitical calculation, is another bizarre choice under the circumstances.

5bn $ in relation to 500bn $ is nothing. And it’s still far from decided. Although, I think paying 5bn $ for Keflavik without an Operation Red Storm Rising and neutralizing the SOSUS line (not that I think Russia will achieve so much, but still…) is far more cost-effective than spending 700bn $ on, erm – how exactly did the US benefit from Iraq??

Anyway, I’m done with the Professor. Though I’d like to thank him, Michel and La Russophobe for summarizing the Russia “doomer” arguments and making it easier for me to marshal my own take on it into what I hope has been at least a semi-coherent form.

My predictions? The RTS will continue its decline, but at a slower pace for the rest of the year. Then investors will realize that everything there is insanely undervalued, like in 1999, and it will explode back into four-digit territory next year. This will roughly coincide with a rally in oil prices from December 2008.

The construction sector will decline next year, although general consumption should not be affected as much since little of that depended on credit, even as late as 2008 (that’s the advantage of having weak linkages to the global financial system). Investment will fall for one or two quarters, but will stage a resurgence after that once confidence is regained. Russia will grow at around 7.0% this year and 5.5%-6.5% in 2009, while much of the G7 goes into a severe recession.

But before we go, what of the global financial crisis itself?

Notice that all these countries which depend on oil revenues to balance their budgets, from fiscal conservatives like Russia to populist spendthrifts like Venezuela and Iran to countries that live almost exclusively from oil exports like Saudi Arabia all need at least 70$ to balance their budgets.

Now consider that since oil is a relatively competitive industry on the global level and collusion generally fails even within OPEC, prices will tend towards marginal cost by standard microeconomic theory. The unpalatable implication is that the marginal cost of oil extraction has risen dramatically in the past few years, and is today well in excess of 50$ per barrel (a few Google searches confirm this deduction).

(Hence Kudrin’s, IMO misguided, push to lower windfall taxes on Russian oil company profits – I’d rather continue taxation, invest the proceeds in building up a more sustainable energy infrastructure and reap the benefits of higher oil prices for an oil-exporting country. Taxes can be lowered to boost production in the future when oil prices become much higher relative to today).

Supply has become limited and it now takes ever more capital and energy inputs to produce another barrel, thus costs rise exponentially and an ever share of the industrial base must be devoted to energy extraction to prevent decline. Meanwhile, gradually plateauing net energy extraction makes the prospect of continuous traditional economic growth far into the future an increasingly unrealistic proposition, and recognized as such. The result? Collapse of a financial system build on the assumptions of continuous growth.

Perhaps this crisis is simply an unconscious recognition of this inconvenient truth?

In any case I suspect it is merely the first of many that will percolate through the global economy as oil supplies reach their peak, ushering in an era of oscillation between grinding deflationary recessions and tepid, inflationary recoveries. The time has come when long-term planning becomes ever more difficult. I suppose you could model it as the tipping point when political capital no longer renews itself sustainably. Lol.

Gross output, starting with oil-importers who use energy with the most inefficiency, will decline. Demand destruction will presumably start with its most inefficient users, e.g. away from SUV drivers, air conditioners, etc. Energy flows will increasingly accrue either to those who would make the most efficient use of it (perhaps in proportion to their level of human capital and the energy-efficiency of physical capital in their industrial base, which would favor countries like Germany, Japan, Korea and China, but hurt the likes of the US, Britain, the Mediterranean and Mexico), or to those who can lock them in (either via sovereignty over energy sources, e.g. Russia, Saudi Arabia, Iran, etc, or through military conquest, e.g. possibly the US in Iraq).

However, overall world GDP will continue to grow until at least the point when energy production is at its maximum (and provided that it isn’t first overwhelmed by a pollution crisis). If by then a sufficiently large sustainable energy infrastructure is not yet in place, terminal decline and collapse will follow.

As I mentioned in my article on Russia and Limits to Growth, the fate of humanity will be determined by which of these exponential trends – resource and pollution limits to growth versus sustainability and universal informatization – will win out. Perhaps I should do a thesis on this or something?

(Republished from Sublime Oblivion by permission of author or representative)
 

Will Russia acquire Keflavik without the need for an amphibious invasion, as in the Clancy-verse? Potentially, they could neutralize the SOSUS (a long unrealized Soviet ambition) and reinforce their position in the Arctic-Atlantic region for just 5bn $. This is compared to the 700bn $+ the US has spent in Iraq to little discernible effect.

What the Russians want in return for bailing out Iceland

Near-bankrupt Iceland’s €4bn ($5.43bn) loan from Russia is still not a done deal. Iceland’s central bank Governor David Oddsson says that talks are still “ongoing” but that any aid from Russia would be “very much welcomed.”

You can understand why Iceland is desperate for a massive euro-injection in the current bank crisis: the Sedlabanki, the central bank in Reykjavik, urgently needs euros because it has only €4.5bn in its current reserves and the country’s banking system needs to refinance about €10bn before year end — not easy when the Icelandic krona has fallen 40 per cent against the Euro currency so far this year.

But what price will the Russians demand for their bailout? A highly-placed source in Reykjavik tells Coffee House that Iceland might look kindly on requests from Russia’s military to use America’s former military base in Iceland. America closed its Naval Air Station at Keflavik Airport two years ago, handing back the Nato facility to the Icelandic government.


Now the word in Reykjavik is that the Russians could have use of it in return for the loan. Not that Keflavik would become a Russian air base — Iceland is a member of Nato, so that is out of the question — but it would suit the Kremlin to be able to use it for, say, refuelling and maintenance. Having use of such a facility only a few hours flying time from North America would be a major Russian propaganda coup and cause consternation in Washington.

Iceland is in two minds. It wants to remain a loyal Nato member. But it is also in financially desperate straits and there is some resentment about the abrupt manner in which the Americans left, leaving the massive facility to deteriorate. So Iceland might look more kindly on any Russian request than the rest of Nato thinks.

UPDATE: Sources in Reykjavik, who’ve now read our story, tell Coffee House that Iceland turned to Russia for a loan after the EU, the Scandinavian countries and the US Federal Reserve turned it down.

EDIT: Looks like Lucas is also wondering what Russia is up to in the seas above Europe.

(Republished from Sublime Oblivion by permission of author or representative)
 

America’s desire to have Ukraine and Georgia accede to MAP foundered on European opposition from Germany, France and (somewhat surprisingly) the UK, despite Saakashvili’s implicit comparison of this to Nazi appeasement. Nonetheless, this is good for NATO as an alliance (as we’ve covered previously, the European desire for a rapprochement is linked to Russian logistical help on Afghanistan), as well as in line with public opinion about the importance of good relations with Russia amongst the Ukrainian and Georgian publics. This is not to mention Russia itself, where 64% think Georgian accession to NATO is a security threat and where Ukrainian accession could result in restrictions in territorial revisionism and new visa controls.

However, this was most certainly not a Russian victory, as RFE noted:

There would be no MAP at this time, that was true. But there would be what sounded like a pretty firm commitment of eventual membership. Not a firm commitment for MAPs — but actual membership. All the key players who famously opposed the MAP this time around were on board, including Germany and France. Moreover, NATO foreign ministers have been instructed to assess Kyiv and Tbilisi’s progress in December 2008 and have authority to issue formal MAPs as early as then — provided the progress was sufficient. It would all be in an official protocol by the evening, we were told. The mood in the Georgian and Ukrainian delegations pivoted on a dime, from bitter disappointment to unexpected elation. Ukrainian President Viktor Yushchenko said Ukraine had “broken the sound barrier.” Georgia’s Mikheil Saakashvili called the announcement a “geopolitical coup.” One top Georgian official, speaking on background, told my colleagues from RFE/RL’s Georgian Service that the decision was even better than getting a MAP. They would be admitted to NATO after all. The only question was when.

The US also got an agreement with the Czech Rep. on the radar station for their missile defence system. Meanwhile, east European countries led by Poland and Estonia have pressed for even more anti-Russian measures.

Yet at its core, the dispute within NATO is about the renewed threat from Russia. Members of “old Europe” may hope to avoid a clash with the Kremlin, but many countries of “new” Europe say the struggle has already begun. For them security lies in expanding the frontiers of what was once the transatlantic alliance to the Black Sea and ultimately to the Caspian.

Even its strongest advocates recognise that such expansion raises questions about the purpose of the alliance: should it be mainly a military organisation, or a political club of democracies? Radek Sikorski, the Polish foreign minister, questioned whether the promise of mutual defence from armed attack enshrined in Article 5 of NATO’s charter was becoming “diluted”.

Mr Sikorski wants NATO to move military infrastructure east. He complains that NATO hesitates even to make intelligence assessments of perils from Russia. Others want more attention to non-conventional threats, given last year’s cyber-attack on Estonia, blamed on Russia. Not that they ever bothered producing evidence. “We do a disservice to Russia by not taking it seriously,” said Toomas Ilves, Estonia’s president.

Putin opted for a pragmatic response, repeating Russian concerns about NATO expansion and missile defence (“an attempt to neutralise, whether immediately or in the future, its nuclear arsenal”), and recommended that a) the radar in Czechia be cemented into the ground, b) switching on the system only when an Iranian or other threat materializes, c) integrating early-warning systems and d) maintaining a constant Russian military presence at the sites. It would be interesting to see what the West, always accusing Russia of non-coperation, will make of these, but the augurs aren’t promising – the eastern Europeans have already objected to the last proposal.

According to rumors, Putin unloosed the rhetoric behind doors, hinting that Russia work to break up Ukraine and extend recognition to Abkhazia and South Ossetia, citing the Kosovo precedent.

President Vladimir Putin hinted at last week’s NATO summit in Romania that Russia would work to break up Ukraine, should the former Soviet republic join the military alliance, Kommersant reported Monday. Putin “lost his temper” at the NATO-Russia Council in Bucharest during Friday’s discussions of Ukraine’s bid to join NATO, Kommersant cited an unidentified foreign delegate to the summit as saying. “Do you understand, George, that Ukraine is not even a state!” Putin told U.S. President George W. Bush at the closed meeting, the diplomat told Kommersant. After saying most of Ukraine’s territory was “given away” by Russia, Putin said that if Ukraine joined NATO it would cease to exist as a state, the diplomat said. Putin threatened to encourage the secession of the Black Sea peninsula of Crimea and eastern Ukraine, where anti-NATO and pro-Moscow sentiment is strong, the diplomat said, Kommersant reported.

Not surprising, Timoshenko and Ukraine’s ambassador to Russia were not impressed. Nonetheless, the fact remains that pro-Russian sentiment is strong in Eastern Ukraine, Crimea was given away to Ukraine by Khrushev in 1954 and NATO expansion closer to Russia’s border cannot be allowed.

Russian Soviet-era dissident novelist Solzhenitsyn took a break from writing his glybs (a joke for those who’ve read Moscow 2042) to launch a diatribite against Bush for honoring the so-called Holodomor and ignoring the fight against fascism:

The interview came after Solzhenitsyn unleashed a memorable broadside last week against US President George Bush who, during a two-day visit to Ukraine, laid a wreath at a monument to victims of the great famine of the 1930s, in which millions of Ukrainians died. Ukraine’s pro-Western government has dubbed the catastrophic 1932-33 famine holodomor (literally, ‘death by hunger’). It claims that it was a genocide.

In a vituperative piece, however, Solzhenitsyn dismissed the claim as ‘rakish juggling’ and said that millions of non-Ukrainians also perished in the famine, which was engineered by the Soviet Union’s leadership. ‘This provocative outcry about “genocide”… has been elevated to the top government level in contemporary Ukraine. Does this mean that they have even outdone the Bolshevik propaganda-mongers with their rakish juggling?’ an incensed Solzhenistyn wrote. Bush had been duped by a ‘loony fable’, he added.

And from Russia Today,

This provocative outcry of genocide was voiced only decades later. At first, it thrived secretly in the stale chauvinist minds opposing the “bloody Russians”. Now it has got hold of political minds in modern Ukraine. It seems they’ve surpassed the wild suggestions of the Bolshevik propaganda machine. “To the parliaments of the world” – a nice teaser for the Western ears. They have never cared about our history. All they need is a fable, no matter how loony it appears.”

Just proves how the West, its rhetoric to the contrary, behaves just like any power – it uses you for its own interests, before casually discarding you when you become a political embarassment – a fan of President Vladimir Putin with an increasingly nationalist anti-western tone (perish the thought!). As they say, the Moor has done his duty, he can now go.


Russian govt. expects proposals to improve 2020 development plan, in particular “property rights protection, the development of corporate management, an environment of competitiveness, financial markets, and measures to enhance efficiency of state-owned companies”. As we’ve already reported, “Russia’s president-elect Dmitry Medvedev, who held his first State Council Presidium meeting in the West Siberian city of Tobolsk on Thursday, proposed a ban on unauthorized checks of small businesses”.

Russia should shift highly qualified people from industry to the innovation sectors. Russian banks flooded by foreign billions, forcing efficiency increases on domestic banks and improving access to credit. Russian firms ditch London for Asia for their listings due to booming economies and less stringent disclosure requirements. British supermarket chain Tesco has announced plans to expand in Russia. Increasing numbers of people in Britain are putting their pensions in Russia and other emerging markets – risks are perceived to be higher, but so are returns.

On 6th March the Nikitsky Fund released its always excellent Truth and Beauty (… and Russian Finance), Against Respectability. Here’s a few succulent quotes and comments from their article
Against Respectability – A Rant:

  • Viewing the media, we find that respectable commentary follows a well-defined pattern. Anyone who fails to respect an entire herd of sacred cows is quickly consigned to the lunatic fringe. Unlike the Soviet System, modern capitalism silences its critics not with gags and gulags, but by drowning them out with a cacophony of well-targeted info-tainment, asystem far more pernicious than anything Soviet censors could have aspired to (for, unlike the BBC, hardly any educated person believed what he read in Pravda).
  • Western-style corruption involves ownership of media by financial interests, government influence over editorial boards, state co-option of senior editorial figures, and occult financial flows. The end result is more pernicious – a well-orchestrated campaign of convergent disinformation, which most readers are too lazy or complacent to penetrate.
  • In the BBC/Economist world, there is a select group of countries (Iran, Cuba, Russia…) about which one can say virtually anything – from unbalanced criticism of real ills, to outright slander. A second group (e.g. Singapore, Brazil, Georgia) is susceptible to moderate criticism which must, however be kept credible; finally, even the most savage criminality by a third group (UK, US, EU) if it criticized at all, is discussed in the mildest and most balanced possible terms.
  • Why? 1) outright corruption, 2) an attempt to ingratiate themselves with the information-bearers (political leaders, etc) and achieving a sense of belonging to the inner circle that
    these hacks so desperately crave
    and 3) making up for past mistakes, e.g. the BBC on challenging Blair on Iraq.
  • BBC – made a hero out of Khodorkovsky and the Yukos/Menatep gang, claiming they have a massive following in Russia – even going so far as to interview Misha’s parents (but not the parents of those the organization murdered, obviously – that would spoil the mood).
  • Financial TimesThe FT is caught in the same terrible bind as much of the Western Press – is Russia a weak, spent force to be pitied, or instead, a deadly, looming colossus, to be feared? Unable to decide, they risk ridicule by alternating back and forth between the two… (and yes, it was terribly rude of those Russians to succeed when their betters thought they should fail). Lambasts its agitprop article Why Putin’s rule threaten’s Russia and the west, which fails by proving Godwin’s Law in its first sentence. Then it fails some more by contrasting Russia’s supposedly low growth with other former Soviet countries – an argument I demolished here (funny how all Russophobe articles all trot out the same points. So much for Western “media diversity”. Still, it makes my job easier. Shoot a few holes in one, and they’re pretty much all dead). Next on the list comes Kazakhstan – a thriving, Western style democracy (well, Dick Cheney likes it…maybe ‘cause it smells of oil). Belarus follows (another fine example of democracy in action), then come Tajikistan (don’t you wish you were there?), and the Balts.
  • Wolf – predictably – employs the oldest trick in the journalistic book: why bother trying to substantiate a weak argument when you can simply find someone to say it for you –quoting him gives it an aura of “fact” – reporting that is, not mere editorializing! Wolf thus approvingly quotes that “superb scholar” Ander Aslund (he who fatally discredited the Carnegie Endowment by soliciting a large bribe from Khodorkovsky, then shilling for Yukos so egregiously that in the end, even Carnegie had to force him out), the mad, Russophobic Lucas (he who in 1998 predicted, that Russian GDP would collapse, the rouble would go to 10,000/$, while Russia broke up into 4 warring regions), and tired old McFaul, who under Yeltsin was so important, and is now routinely and cruelly ignored. Wolf even stoops to quote the Neocon Freedom House, the home of such luminaries as Wolfowitz, without mentioning that it is a Washington-funded propaganda center.
  • While denying Russia’s success becomes exponentially harded year on year, these tools now resort to the myth that a) Russia was doing just fine in 1999 and b) all positive developments since then were despite, not because of, Putin (but heck, even Illarionov disagrees with that last bit!, at least when talking with other Russians). Not to mention that their likes were writing articles like Russia is Finished back in those good old days!
  • As anyone who lived here at the time will tell you, this is patent nonsense. At best, Russia had reached some slight degree of stabilization. Save for currency overvaluation, all of the problems which gave rise to the August 1998 collapse were still present – predatory oligarchs, regional Balkanization, budgetary chaos, and a dysfunctional tax system. If one simply reads the stories in Western press from that period, not one of them suggests that Putin would be any more a success than Yeltsin – he was to be nothing more than Berezovsky’s puppet – and Russia was receding back into the third world…so unfortunate that journalists are not obliged to defend their track records!…Eight years later and Russia is stable, wealthy and growing three times as fast as anyone else in the G8; average incomes have increased fivefold, poverty has fallen by 60%, the middle class has more than doubled. Since 2006, birth rates finally started to rise as people finally have enough trust in the future to risk having children.
  • Outside the smug and self-centered world of the sunset Western powers, Russia is respected and envied, if not always loved. Much of this was due to one man – “providential” hardly seems too strong a word. And whatever misery T&B still has to endure at the hands of the local bureaucracy, as Russophiles, we are deeply grateful to Vladimir Vladimirovich.

In geopolitics, Russia challenges US in the Islamic world. The Muslim world is no longer a good card for Washington to use against Moscow, in fact it has flipped. Russia is far more popular amongst Muslims than the Great Satan and with just a very few exceptions, no Muslim country recognized Kosovo. This positions it in good stead to build bridges between Islam and the West, or to lever the former against the latter, as it chooses. This is reflected in Russia constructing Saudi Arabian railways, building nuclear plants in Egypt and developing Iraqi oil fields, as well as selling arms to everyone.

As covered in previous News, Russian weapons sales to China fall due to rapid indigenous Chinese progress and Russia’s strategic concerns. Iran: Russia, China Unlikely To Welcome Tehran Into SCO - as long as SCO-US relations don’t deteriorate too much, anyway. Meanwhile, Russian intelligence sees U.S. military buildup on Iran border. The prelude to the Iran Plans, as uncovered by Seymour Hersh; or more posturing? Realistically speaking, however, Iran’s ADGE (Air Defense Ground Environment) is sparse and outdated; the USAF will face few problems conducting surgical strikes on nuclear facilities.

A very cold war indeed – the Guardian has awoken to the new Great Game about to be played out at the top of the world as Canada, Russia, Denmark and the US increase their military presence and claim territory suspected to be rich in hydrocarbons. Meanwhile, Russia has also extended its claims on the Sea of Okhotsk.

In addition to credit and sub prime woes, we are also facing the spectre of the oil peak. I must remind myself to write a more detailed exposition on the topic once the Demographics project is finished and time is freed up; otherwise, read the Futurist’s optimistic take on it and my response.

Meanwhile, we are also facing the end of cheap food, as wheat, corn and rice prices explode, triggering food riots and social unrest throughout the world. This is linked with China’s growing apetite for meat, oil price rises and adverse weather (driven by climate change – my predictions may already be coming true). But preventable and unnecessary factors include America’s biofuels splurge, which a) is very energy inefficient, b) diverts food from the global poor to SUV owners and c) accelerates climate change in a vicious circle.

Disappointing jobs figures offer yet more proof that America is in recession. The Nikitsky Fund report mentioned above has an entertaining (at least for non-Americans) description of the hole it’s in:

Welcome to The Wall Street Mortgage Meltdown

Like the mythical frog lured into complacency as he is slowly boiled to death, Investors are becoming accustomed to a daily flow of news which would have seemed utterly outlandish just a year ago; indeed, T&B was routinely mocked for predicting some of the current carnage – though by no means either the speed of the unwind, nor the extent of the damage.

1. The term “collapse” is being used with increasing frequency when referring to the
world’s erstwhile reserve currency, which – after meeting the initial resistance we predicted at the $1.45 level, the dollar now heading for our second support level – $1.57- 1.60. A classical currency crisis involving the dollar no longer seems outlandish. Investors would do well to treat the constantly renewed reassurances that it has “finally bottomed” with great caution.

2. The Chairman of the US Fed has just warned of the likelihood of collapse of some of the “smaller US banks” (we agree, but fear that for one or more of the bigger ones, it is just a matter of time)

3. When the credit crisis began last August, terrifying stories of overall losses to the banking sector ranging up to $50bn began to circulate. A few months later, Goldmans shocked the market by speaking of eventual losses ranging up to $200bn. Yesterday, UBS (and they should know!) warned that losses to the financial system would total $600bn. We await the next estimate with some trepidation.

4. Large segments of the US credit market have simply shut down – structured finance, high yield, CLOs, and much of the corporate and municipal loan markets. The solvency of the banking sector is no longer taken for granted. Frighteningly, it appears that only a small fraction of the expected damage has already been recognized – a collapse of the conduits and the CDS markets could yet bankrupt much of the financial system.

5. The US housing market is heading into a depression. The famous “nationwide
housing prices have never fallen on a year-on-year basis” has been firmly debunked. Goldmans estimates that prices are crashing at an annualized rate of 18%. As more supply continues to come onto the market due to completions and repossessions, a crisis is developing. According to RMS, if housing prices fall another 10% (ed: and they certainly will) – 20 million US homes will have negative equity value. We are utterly amazed by the inability in Washington to cobble together some sort of a viable rescue plan, as the crisis continues to worsen.

6. Having been aggressively pro-cyclical during the good times, the Bush administration’s legacy will be a Federal Deficit ranging up to $800 bn (source: Bill Gross, Pimco). As further structural factors kick in (lower returns on assets, retiring baby-boomers, underfunded state pensions, increased medical costs) huge cuts in
expenditures and increased taxation are inevitable.

7. The rating agencies have been fatally compromised. Corrupted by the easy money to be made in sweetheart deals with Wall Street Banks, they actively helped to stuff
toxic waste into every corner of the global financial system. By continuing to rate the soon-to-be bankrupt bond insurers triple-A (they must currently pay 1400 bp over Libor for their borrowings, i.e. deeply distressed levels); the agencies have forfeited any last remaining pretense to independence or credibility.

8. The childlike faith of international financiers in the safety and stability of the US dollar and US financial assets in general, has now imperiled the very survival of some of their institutions. This faith will not be restored. The dollar-centric system is dead. The ability of the US to run a trillion dollar military while maintaining domestic consumption and investment on other people’s dime is now history.

9. The fate of the global economy and of the G7 economies in particular, is almost
entirely dependent upon the ability of a select group of emerging countries to maintain their recent rapid economic growth. The tail now wags the dog.

10. As long warned by eco-crazies, numerous countries are seriously threatened not just with ecological havoc but with imminent famine due to explosive growth in food prices, driven by unsustainable population growth as well as the criminally irresponsible craze for Northern hemisphere biofuels.

11. Oil prices have broken through $100, wheat prices have more than doubled in one year, and gold is heading for $1000 (alas, we missed this last trade). Global inflation is being driven not primarily by excessive demand, nor by monetary madness, but by the uncontrollable increase in cost of commodity inputs – which are not amenable to control by monetary means. Supply is becoming the major issue. Competition for resources from emergent “Chindia” has fundamentally altered the relative positions of producers and consumers…to the benefit of the former.

12. Quite extraordinarily, amidst all the devastation – Russia is increasingly assuming the role of a safe haven! No subprime, virtually no structured finance, reasonably profitable banks, and a rouble seeing gradual appreciation. Add in the huge twin surpluses, political stability and sustained economic growth (8.1%), along with good domestic liquidity (with a little help from the Central Bank.) Only inflation
(largely commodities-driven) is a substantial issue. Doomsday scenarists and survivalists should take note of Russia’s self-sufficiency in energy, food and metals.

Russophobe developments include Tim Bell going to work for Lukashenko to polish his image. If his relationship with Berezovsky is anything to go by, the West will soon by lining up to lick dear old Batka’s boots. The West reveals its innate hypocrisy – Russia slams acquittal of Kosovo war crime rebel as biased. Slanderous serpent Aslund sells an asinine story, Putin’s last stand, venom practically poring out from its text. Loco Lucas scares us with a piece on Russia’s alleged SIGINT activities. Robert Service (We provoke Russian paranoia at our perilBy agreeing to place an American defence system in Eastern Europe, Nato has given the Kremlin the perfect excuse to further cement its autocratic rule) has the right idea, but for the wrong reasons.

Thankfully Russophiles balance out the picture somewhat. The excellent Russia scholar Nicolai Petro has a piece on the Russian elections, which makes the point that all the allegations levelled against Russia in electoral performance can equally be made against most European countries and the US, and that their cardinal sin was in making the “the wrong choice by voting in favor of a continuation of the present political course”, as in Palestine or Venezuela. His other article, Should Moscow Root for Obama?, comes to the conclusion that all the candidates are dinosaurs.

For now, the dinosaurs are firmly in control of US foreign policy toward Russia, on both the Republican and the Democratic side. Senior advisors from all three campaigns took part in the March 2006 Council on Foreign Relations report, “Russia’s Wrong Direction,” co-chaired by Jack Kemp and John Edwards. Criticized by Russian commentators as hopelessly out of touch with today’s Russia, it remains,
nevertheless, the touchstone of US thinking about Russia. So long as that is true, the only thing to expect from US policy toward Russia is a further slide into irrelevancy. The initiative for change, it seems, will have to come from Russia.

Note that both these pieces confirm the views expressed on this blog here, here (under The Myth of Sham Elections) and here (although I did say Clinton may be the least worst).

Russophile blogger colleen shows up Lucas, if indeed it isn’t obvious by now, for the incompetent lunatic he is.

Edward Lucas used to think and say that German Chancellor Angela Merkel hated
Russia, loathed it from birth, and will lead a strong European Union against Russia. I’m not sure exactly in which way, but Lucas could have easily contemplated economic embargoes and public slanders and stuff like that. He is a very fantastic and imaginative writer, no less. lol

But he does hate Russia a lot, no doubt, so maybe when it came to writing about ways a German-led E.U. would stick it to Russia, he would have thought of something clever.Anyway, something must have happened in the hot summer days of 2007, while I was probably at a beach in the still-affordable Hampton Bays, which led Lucas to change his mind. Did Angela Merkel telephone Lucas threatening a lawsuit for libel? Was The Economist scared that such a phone call was forthcoming and decided to pull the plug? Did the FSB pressure Lucas, or was it the KGB??? Was David Miliband in on it, perhaps trying to resuscitate British-Russian relations?Or, did Lucas himself decide to end the outlandish, misguided, and ill-conceived allegation himself?

Maybe, just maybe, Lucas realized that he’s just making things up after it became more and more apparent that the Russian-German strategic partnership forged between Putin and Schoeder is simply being reinforced during Merkel’s reign. This signifies that strong Russian-German relations are not reliant on any one political party in Germany and reflect more of a state-policy.

An Economist writer admits the obvious fact Russian is the world’s best language. A new feminine vodka brand was launched, thus joining the sovereign vodka Putinka and masculine Grazhdanskaja Oborona (Civil Defence), its supposed Nazi imagery criticized by the human rights folks and praised by the far right “White Pride” movement.

Topping off the ludicrous, Abramovich plans a bridge from Chukotka to Alaska. Then again, the source for this is “speculation within the Russian press”…so maybe not.


Following my introduction to Levada, I’m presenting a few more polls from their archives.

NATO poll – the number of Russians thinking that Ukraine joining NATO represents a threat to Russian national security increased from 60% in 2000 to 74% in 2008. For Georgia, it was 77% in 2008.

Can Western criticism of Russia on democracy and human rights be considered interference in Russia’s internal affairs? – 51% say yes, while only 27% say no. Take that, Russophobes of the world! You’re not needed, least of all by Russians!

Internet poll – the number of individuals saying they possess a mobile phone increased from 2% in 2001 to 19% in 2004 and 71% in 2007. The number of people whose families possess a computer increased from 4% in 2001 to 10% in 2004, 17% in 2006 and 28% in 2008, while the number of people saying they use one everyday increased from 9% in 2001 to a quarter in 2008. Weekly Internet use has expanded to 18% in 2008 from 3% in 2001. (Internet penetration in Russia as of 2007 is estimated from 20% to 25%.)

Electronics poll – From 2003 to 2007, the percentage of Russians saying they have access to a computer increased from 26% to 43%, Internet access increased from 15% to 29%.

How did things change in Russia in the past ten years? The percentage of people saying respect for the state has strengthened rose from 10% in 2000 to 44% in 2007, respect for marriage from 5% to 17%, respect for the law from 4% to 29%, personal responsibility from 11% to 33%, the work ethic from 12% to 26%, belief in God from 67% to 64%, concern for social outcasts from 16% to 31% and tolerance for others from 25% to 26%.

Two comments. Firstly, while more people said most of these situations got worse rather than better, it needs to be borne in mind that people generally mistake these questions for current perceptions rather than conduct a real analysis of trends. For instance, there are many cases when crime goes down but people say it increased. Secondly, goes to show that, if it isn’t already obvious to everyone who is not a religious nutjob, that belief in God does not necessarily correlate with more morality.

How would you rate Putin? – 70% are positive on living standards, 85% on foreign policy, 64% on security and 62% on democracy and human rights. As of 2008, his main achievements are judged to have been economic and social, while his greatest failures were in the war against corruption and crime.

Which country would you prefer to live in? – From 2000 to 2008, the percentage of Russians who’d like to live in a Great Power or in a small, cosy country increased from 63% to 75%; those who’d like to live in a country which actively defends its culture and traditions as opposed to a completely open country increased from 62% to 77%; the percentage of Russians who’d prefer to live in a country heavily influenced by religion as opposed to secular state decreased from 33% to 27%.

What do Russians believe in? – 45% believe in the Afterlife, 40% believe in the Devil, 45% in Heaven, 40% in Hell and 49% in religious miracles. Worryingly high figures.

According to this poll, Communists are by far the most pessimistic people in Russia, while those who are pro-Putin and pro-United Russia have the most confidence in tomorrow. The Liberal Democrats (ultra-nationalists) are in between.

(Republished from Sublime Oblivion by permission of author or representative)
 
Anatoly Karlin
About Anatoly Karlin

I am a blogger, thinker, and businessman in the SF Bay Area. I’m originally from Russia, spent many years in Britain, and studied at U.C. Berkeley.

One of my tenets is that ideologies tend to suck. As such, I hesitate about attaching labels to myself. That said, if it’s really necessary, I suppose “liberal-conservative neoreactionary” would be close enough.

Though I consider myself part of the Orthodox Church, my philosophy and spiritual views are more influenced by digital physics, Gnosticism, and Russian cosmism than anything specifically Judeo-Christian.


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