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Thursday, 31 October 2013

Russia’s Fiscal Options: Trick or Treat?


Yup, its Halloween Day! The thing about trick-or-treat is that someone opening the door will ask to see the trick before the kids get the treat. As many a little one found out this evening!

Faced with slow growth and anaemic private demand policy-makers often opt for the treat to assuage their voters: we’ll spend our way out of the downturn.  

Russia is at least one of those economies that has had genuine “fiscal space” and discretion for Putin and co to press on the accelerator.

And which makes the current situation in Russia very much the Trick or Treat scenario. With domestic demand flat and external demand –  with oil in particular the major driver – keeping the trade and current accounts close to balance (together with a deepening services deficiet and increased interest payments to pesky foreigners), “what do we do?” or perhaps “Что мы делаем?” is the big macro-cum-political question in Moscow.

And Russia has ample public resources, taking into account both fiscal and monetary reserves. The two fiscal reserves each have $86bn or a combined fire-power equivalent to 8.5% of GDP. And FX reserves at the central bank another $0.5 trn or 26% of GDP.  A bag of treats indeed.

The trick? Capital expenditure ain’t easy: shovel-ready projects don’t materialise and take time to plan.
And anyone familiar with the economics of the Soviet Union – and by implication the source DNA of current politician-policy makers in Russia – will attest to the massive failure of past investments in terms of rate of return (a Sahay and Fischer paper from the Fund comes to mind) that in part led to its ultimate bankruptcy and dissolution.

So what to make of the current appetite for grand projects or counter-cyclical expenditure in the jargon?
The structural adjustment in Russia or the lack of remains the biggest hurdle to medium-term growth. This means the rule of law, bankruptcy and creditor rights and ease of doing business and a major clamp down on corruption. A checklist that – unless you’re a Georgian – is unlikely to be fast-tracked in Russia, whatever Putin 2.0 stands for.

The Ministry of Economy has proposals for 3 major projects – a new ring road III, a high speed rail-link and railway upgrade as well as for high tech and aerospace projects . Gosplan back in action?

To be fair these are the same ideas coming out of western capitals and lets be fair, there have been many a white elephant project in the EU. But there tends to be greater feasibility analysis and accountability of expenditure assignment (just look at the airtime our Public Accounts Committee in the UK has or the sterling work of the National Audit Office, its erstwhile cousin) – needed when you ain’t flowing in hydrocarbon manna.

So Trick or Treat?

  1. I expect a rebound in external demand to push growth above the 1.5% the IMF was projecting (now oddly 2.5% although hidden away in the tables of its Article IV Report)  and at or above the 1.8% the government expects so the demand for increased capital spend will decline
  2.  MinFin has a good cadre of bureaucrats and I expect them to win the initial turf war with MinEc – barring a further tail-off on growth into 2014. And in fact the budget submitted to Duma, all 15Kg of it, is more about expenditure restraint than expansion. 
  3. The ­de facto securitisation model proffered by MinEc has significant flaws.   Briefly, the idea that the lucky companies for the new capital expenditure will issue bonds to MinFin backed on future cashflows  lacks credibility – remember many of these companies remain state entities and subject to price controls and quasi-fiscal liabilities.


No trick, no treat.

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