Russian Economic Report 24: Sustaining Reforms under the Oil Windfall

March 30, 2011

Moscow, March 30, 2011 – After a 4 percent growth in 2010, Russia’s real output is expected to grow 4.4 percent in 2011, increasingly driven by domestic demand, says the World Bank’s Russian Economic Report №24 launched today in Moscow. The report analyzes recent economic developments over the past year and Russia’s economic outlook for 2011-12. The Report also provides short analytical notes on major structural issues in Russia, including the effectiveness of public expenditures and investment climate.

Russia emerged from the global recession with lower-than-expected unemployment and national poverty level, low sovereign debt, and gradually improving credit conditions. But although in the short term high oil prices will help Russia’s export and fiscal revenues, there is no room for complacency.

“Improving the efficiency of public expenditures to create fiscal space for productive infrastructure, and strengthening the investment climate for the private sector remain among key long-term challenges facing Russian economy,” said Pedro Alba, World Bank’s Country Director for Russia. “The ongoing rethinking of the Government’s long-term strategy provides an opportunity to focus on these long-term issues more forcefully than during the global crisis.”

The challenge for the Government is to sustain reforms under the conditions of a new oil windfall. Economic policy should focus on the short-term objective of controlling inflation and making medium-term adjustment towards a long-term, sustainable level of non-oil fiscal deficit and a more productive, diversified economy.

“Although oil prices are high right now, Russia’s budget remains vulnerable to a sudden drop in oil prices and there is a policy risk of an unsustainable rise in public expenditures,” emphasized Zeljko Bogetic, World Bank’s Chief Economist and Country Coordinator for Economic Policy for the Russian Federation and the Team Leader for the Report. “This period of new oil windfall should be used to reduce inflation, accelerate fiscal adjustment, and advance the long-standing structural reform agenda.”

Supported by continued output growth, labor market conditions improved noticeably, with unemployment falling to 7.2 percent at end-2010 from the peak of 9.2 percent in January of the same year. This permitted a renewed decline in the national poverty rate to an estimated 12.7 percent, down from the actual 13.2 percent at end-2009. Yet the unemployment situation remains difficult in many of Russia’s regions, varying widely from 1.4 percent in Moscow to 47.5 percent in the Republic of Ingushetia. In about a third of the regions unemployment rate averaged above 9 percent during the year.

“Inflation is not just a problem for businesses; it’s a tax on the poor and the middle class who often live on fixed incomes. The recent steps of the Central Bank of Russia in tightening of monetary policy are in the right direction. But vigilance will be needed to reduce inflation, and much depends on the timing and pace of further tightening during the year,” added Sergey Ulatov, Macroeconomist at the World Bank’s Moscow Office and the co-author of the Report.

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This report was prepared by a World Bank core team consisting of Sergei Ulatov (Economist), Karlis Smits (Economist), Olga Emelyanova (Research Analyst), and Victor Sulla (Economist), under the direction of Zeljko Bogetic (Lead Economist and Country Sector Coordinator for economic policy for Russia and the general editor of the report). Lucio Vinhas da Souza (Senior Economist) and Shane Streifel (Consultant) contributed on the international environment and the global oil market. Karlis Smits (Economist) prepared the note on public expenditures. Sylvia Bossoutrot (Sr. Operations Officer and Country Coordinator for Private Sector and Finance for Russia) and Lawrence Kay (consultant) prepared chapter on business climate and competitiveness. The team expresses gratitude to the World Bank Global Economic Prospects team led by Andrew Burns (Manager, Development Prospects Group) for close collaboration and discussions on global economic environment and its links with the Russian Federation. Advice from and discussions with Pedro Alba (Country Director for Russia); Yvonne Tsikata (Director for Poverty Reduction and Economic Management in the Europe and Central Asia Region); and Benu Bidani (Sector Manager for Russia, Ukraine, Belarus, and Moldova) are gratefully acknowledged.

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