To What Extent Is Russian Growth Predominant by High Oil Prices - Statistics Project Example

To what extent is Russian growth predominant by high oil prices? Is the Russian economy managing to steer clear of the affliction of Dutch Disease? Introduction For the past five years, Russia’s economy grew at a fast pace, clocking a 5.1% year-on-year growth in gross domestic product (GDP) in 2001, which accelerated at its highest rate in 2003 by growing at 7.3%. While GDP growth slightly slowed down the following year at 7.2%, the economy still grew a healthy 6.4% in 2005. As Russia is one of the world’s top suppliers of oil, most economists attribute the growth to high oil prices, which remain at all-time highs (in 2006 crude oil stood at $79 per barrel, up from $51 in 2005). In contrast, in 1998, oil prices were at an all-time low at $10 per barrel. However, as to how oil prices influenced Russia’s GDP growth, measures have to be limited to indicators with the share of the oil industry in the overall GDP, specifically on the value added of the sector as measured by trade margins, and finally extrapolate on how these influenced the other sectors that make up Russia’s GDP. Some manifestations of the Dutch disease, defined as the negative growth impact on domestic industries due to inflationary pressures on domestic spending brought by the high exchange rate of the Russian currency, have been observed in the 1990s. The ruble which traded on the average at about 540 rubles to the dollar in 2006, started to recover its value in 2004, reached just before 1998 when it traded 400 rubles to the dollar. In 1998, the ruble was devalued to 220 rubles to a dollar and economists observed that it influenced the high growth rates recorded in manufacturing industries, machinery, metallurgy, chemicals and textiles until 2001. The negative effects of the competitiveness of oil exports and the way it affected the ruble, has revealed the vulnerability of Russian industries which was just making its transition from being centrally planned and managed by the State to being market-led where the reflection of real prices and costs would have to take precedence. This vulnerability has in a way roused Russian authorities to make the necessary changes in its macroeconomic policies – not just in the energy sector which for better or for worse, would take a big part in the economic future of the country, but also in the field of fiscal policy and public spending, to attract the necessary investments and uplift the standard of living of citizens that would boost consumer spending. GDP and oil prices One estimate of the actual contribution of the oil sector (which includes gas) was placed at a high of 18.9% in 2002, due to the sharp increase in oil prices and its volume of value added to exports. This is the largest increase since 1999 among the economic sectors. The value of total trade margins of oil and gas almost doubled by 2000 to 997.3 billion rubles from just 552.3 billion rubles in 1999. While it slowed by down to 942.7 billion rubles in 2001, trade margins of the sector again was up to 1.15 trillion rubles in 2002. However one comprehensive study on the influence of high oil prices on Russia’s GDP growth by Shinichiro Tabata, analyzed the contribution of the oil and gas sector (under industry) included not just under goods production (manufacturing), but also under trade (already mentioned above in the analysis of trade margins) as well as under taxes (net taxes on products). He noted that during the period of the recovery from the financial crisis in 1998, the industrial sector’s contribution which includes oil and gas, “was remarkable”. The trade sector has become the largest contributor to Russia’s GDP growth since 2002. Since some values on trade margins and taxes of oil and gas were not yet available for the years after 2002, the analysis of the contribution of oil and gas sectors would have to be confined only until the period of 2002. The total contribution of oil and gas to the growth of GDP grew from 0.3 in 1999 (when GDP grew by 6.3%) and hit a high of 2.2% in 2000 (when GDP was clocked at 10%). When GDP slowed down to 5.1% in 2001, the total contribution of oil and gas was at 0.4%. In 2002, when GDP grew by 4.7%, the industry contributed a total of 0.7%. A look at the sectoral contribution of the industry in 2002 revealed that under goods production it contributed 0.3%, under trade margins, 0.4%, under net taxes, -0.1. The influence of tax reforms can be seen in the decrease of net taxes, which turned negative in 2002, from a relatively large contribution of more than 6% in the two years preceding. In 2002, excise taxes on oil were removed and mineral extraction fees on oil and gas were introduced. The total rate of contribution (when GDP at market prices are considered 100%) of the oil sector totaled 13.8% of GDP in 2002. This is lower compared to its rate of contribution of more than a fifth (22.3%) of GDP in 2000. In 2000, oil and gas industry’s rate of contribution to GDP under production and trade was at 7.1% and 8%, respectively. Tabata also explained how the oil and gas sector affected the retail and wholesale trade sectors of the economy – trade being one of the primary drivers of the Russian economy in recent years. While retail trade contributed steadily to the GDP from 2000 to 2002, the contribution of wholesale trade fluctuated – that can be attributed to the changing dynamics of oil price during that time. The share of oil and gas constitutes a huge part of Russia’s total wholesale trade as wholesale traders of “solid, liquid and gaseous fuels and related products contributed 61.3% of the wholesale turnover in 2000. Learning from the Dutch Disease In a way, the negative impact felt by the Russian economy during the 1990s as a result of the rapid appreciation of the ruble from 1992 to 1996 was a clear sign to the Russian authorities that political economic reforms must be addressed. One reform that was put into place was the simplification of taxation on oil and gas that considerably increased state budget revenues. By abolishing excise taxes on oil, tax rates were aligned with world market oil prices, contributing to the continued economic growth in Russia. If Russia must continuously profit from its vast reserves of oil, it must take a hard look at the state of its oil industry. Though the industry had contributed a lot to export receipts, mainly due to the continuing high prices of oil in the world market, volume of production has decreased from 1990 to 2000, so that a sharp decline in oil prices would definitely put a damper on Russia’s economic growth. In 1990, Russia’s oil output was at 510mt in 1990, but was just at 300mt 10 years later in 2000; gas from 650 bcm in 1990 to 600bcm in 2000. Russian oil industry is hobbled by capacity constraints because of old pipelines and oil fields and the lack of applied technology. Because of the centrally planned economy by the Soviets, the economy was built upon by cheap energy and inefficiency was the result, reflected by the contribution of oil to economic output which was very low at $571output per barrel compared to the $922 output per barrel by the US and $1412 output per barrel by the EC (1990 figures). Despite the controversies surrounding the Yukos affair when Vladimir Putin’s administration cracked down on oligarchs who took upon themselves as private owners of formerly State-owned oil concessions, measures have been put into place to ensure the long-term viability of oil and gas resources in the economic future of Russia. Among these are policies are those that mandate companies in which current oil and gas extraction should be balanced with reserves exploration, including the threat of fines if license regulations are violated and those that check on the tendency of companies from hoarding oil and gas resources. While positive spillovers of the contribution of oil and gas sectors have been noted in chemical, metallurgical and machine industries, further diversification of the economy is needed. Here foreign investments with high technology inputs are needed. The question of more investments going to Russia in turn will depend on how Russian authorities could assure foreign investors that the Yukos affair will not reverberate in the conduct of business of prospective investors. The government must ensure through administrative and judiciary reforms that laws and regulations will be followed in a fair and regular manner. Reforms in GASPROM and other natural monopolies must be pursued, as well as the resolution to the problems of Russia’s accession to the World Trade Organization. Further, Russia can manage to steer clear of the Dutch disease for the long-term through the implementation of macro-economic reforms. Fortunately, with new taxation policies in place, more revenues have enabled the government to undertake budgetary spending that pump up domestic growth. A share of the oil revenues is now being spent on public expenditure, but as the International Monetary Fund noted, this is overwhelmingly spent on government salaries and public pensions. As a result, the areas that need infrastructure development have not been allocated with enough funds for their development. Among these are health, education, housing and communal spending. The IMF warns Russia that if such budgetary priorities will be maintained, reforms in those important areas will further take a back seat should oil prices drop suddenly. Conclusion While it has been shown that oil prices have indeed a large part in the economic growth of Russia in recent times, the manifestations of the Dutch disease on the economy during the 1990s has revealed that Russia needs to take a serious look not only at its oil industry, but to the larger economy in general and the factors underpinning its health and growth. Oil and gas, for which the country has huge reserves need to be given attention so that the country will have a long-term benefit from them, regardless of how world oil prices move in the future. From indications, the government has undertaken reforms to meet this objective, while checking the oligarchic abuse that resulted from the withdrawal of the State in managing the economy. On a larger scale, the diversification of the economy, both so that the government could lessen the vulnerability of the country when oil prices fluctuate as well as for the other sectors of the economy to perform at their optimum levels – is a goal that must be pursued. The necessary ingredients needed for these are the influx of much needed foreign investments, which in turn would depend on securing that business proceeds according to laws and regulations. Finally, Russia would strengthen the foundation of the economy by spending state revenues on areas that would ultimately spell the health of the economy in the long run, that is, adequate investments on health, education and housing. Read More