Russia: Encyclopedia II - Russia

More than a decade after the collapse of the Soviet Union in 1991, Russia is now trying to establish a market economy and achieve more consistent economic growth. Russia saw its comparatively developed centrally-planned economy contract severely for five years, as the executive and legislature dithered over the implementation of reforms and Russia's industrial base faced a serious decline. Moreover, an emergency livestock shortage in 1987, which triggered large-scale international aid, severely bruised the ego, as well as the economy, of the emerging Russian state.

After the breakup of the USSR, Russia's first slight recovery, showing the signs of open-market influence, occurred in 1997. That year, however, Asian financial crisis culminated in the August depreciation of the ruble in 1998, a debt default by the government, and a sharp deterioration in living standards for most of the population. Consequently, the year 1998 was marked by recession and intense capital flight.

Nevertheless, the economy started recovering in 1999. Then it entered a phase of rapid economic expansion, the GDP growing by an average of 6.7% annually in 1999-2005 on the back of higher petroleum prices, weaker ruble, and increasing service production and industrial output. The economic development of the country, however, has been extremely uneven: the capital region of Moscow contributes a third to the country's GDP having only a tenth of its population.

The recent recovery, made possible due to high world oil prices, along with a renewed government effort in 2000 and 2001 to advance lagging structural reforms, has raised business and investor confidence over Russia's prospects in its second decade of transition. Russia remains heavily dependent on exports of commodities, particularly oil, natural gas, metals, and timber, which account for about 80% of exports, leaving the country vulnerable to swings in world prices. In recent years, however, the economy has also been driven by growing internal consumer demand that has increased by over 12% annually in 2000-2005, showing the strengthening of its own internal market.

The country's GDP shot up to reach €1.2 trillion ($1.5 trillion) in 2004, making it the ninth largest economy in the world and the fifth largest in Europe. If the current growth rate is sustained, the country is expected to become the second largest European economy after Germany (€1.9 trillion or $2.3 trillion) and the sixth largest in the world within a few years.

The greatest challenge facing the Russian economy is how to encourage the development of SME (small and medium sized enterprises) in a business climate with a young and dysfunctional banking system, dominated by Russian oligarchs. Many of Russia's banks are owned by oligarchs, who often use the deposits to lend to their own businesses. The 2005 Milken Institute's ratings place Russia at the 51th place in the world by the availability of capital, alongside with countries like Tunisia, Bulgaria and Peru.

The European Bank for Reconstruction and Development and the World Bank have attempted to kick-start normal banking practices by making equity and debt investments in a number of banks, but with very limited success.

Other problems include disproportional economic development of Russia's own regions. While the huge capital region of Moscow is a bustling, affluent metropolis living on the cutting edge of technology with a per capita income rapidly approaching that of the leading Eurozone economies, much of the country, especially its indigenous and rural communities in Asia, lags significantly behind. Market integration is nonetheless making itself felt in some other sizeable cities such as Saint Petersburg, Kaliningrad, and Ekaterinburg, and recently also in the adjacent rural areas.

Encouraging foreign investment is also a major challenge due to legal, some cultural, linguistic, economic and political peculiarities of the country. Nevertheless, there have been significant inflow of capital in recent years from many European investors attracted by cheaper land, labor and higher growth rates than in the rest of Europe. Amazingly high levels of education and societal involvement achieved by the majority of the population, including women and minorities, secular attitudes, mobile class structure, better integration of various minorities in the mainstream culture set Russia far apart from the majority of the so-called developing counties and even some developed nations.

So far, the country is also benefiting from rising oil prices and has been able to pay off much of its formerly huge debt. Equal redistribution of capital gains from the natural resource industries to other sectors is however a problem. Still, since 2003, exports of natural resources started decreasing in economic importance as the internal market has strengthened considerably largely stimulated by intense construction, as well as consumption of increasingly diverse goods and services. Yet teaching customers and encouraging consumer spending is a relatively tough task for many provincial areas where consumer demand is primitive. Some laudable progress has however been made in larger cities especially in clothing, food, entertainment industries.

The arrest of Russia's wealthiest businessman Mikhail Khodorkovsky on charges of fraud and corruption in relation to the large-scale privatizations organized under then-President Yeltsin has caused many foreign investors to worry about the stability of the Russian economy. Most of the large fortunes currently prevailing in Russia are the product of either acquiring government assets at particularly low costs or gaining concessions from the government. Other countries have expressed concerns and worries at the "selective" application of the law against individual businessmen, though the government actions have been received positively by most of the aggravated Russians.

Additionally, some international firms are investing in Russia. According to the International Monetary Fund (IMF), Russia had nearly $26 billion in cumulative foreign direct investment inflows during the 2001-2004 period (of which $11.7 billion occurred last year alone).