Speeches & Transcripts

A New Model of Growth

January 23, 2012

Philippe Le Houérou Gaidar Forum Moscow, Russian Federation

As Prepared for Delivery

Dear Professor Mau, senior officials of the Government, distinguished guests,
Thank you for the opportunity to address such a high-level forum. I am always delighted to come back to Russia. Russia is a country of special importance to me. Having worked in Russia as an economist at the start of the economic transition in the early 1990s, I could not possibly start discussing Russia’s economic prospects without first noting the tremendous progress and achievements in Russia’s economic and social development since that time.
The difference between the turbulent situation in Russia’s early transition and the situation today is simply phenomenal. In the past decade only Russia’s GDP per capita grew from $1,339 in 1999 to $10,440 in 2010. And average life expectancy increased from 65 to 69 years; and millions of people were lifted out of poverty. These impressive achievements are not just a result of high oil prices but of sound macro-economic policies both prior and during the crisis of 2008-2009.
Russia — weathering the 2008-2009 crisis
Indeed, Russia managed the crisis of 2008-2009 very well. The government took decisive action to provide emergency support to banks and enterprises. It also took social protection measures, which helped prevent a collapse in consumption. As a result, Russia’s economy returned to growth in 2010 andrecovered its pre-crisis output level in 2011.

Potential impact of Eurozone crisis: short —term challenges
Still, Russia faces some short-term challenges. Russia remains vulnerable to a prolonged recession in Europe that would trigger a global slowdown.
The sovereign debt crisis in Europe is putting renewed pressure on Russia’s banking sector. Russian banks have limited direct exposure to European sovereign risks; but they increasingly rely on funding from Eurobonds and syndicated loans from Europe. As a result, they have recently started to face tighter access to wholesale funding in international markets. In these conditions, debt refinancing could be a challenge for Russian banks.
Russia may also face fiscal pressure, if the prices for its main commodity exports decline due to a slowdown in global demand.
To reduce this vulnerability, Russia needs to exercise fiscal restraint and to rebuild fiscal buffers while oil prices are still high. This requires a prudent spending plan and saving of oil revenues. A fiscal policy aimed at improving the non-oil fiscal balance would put Russia in a stronger position to weather a new crisis. Currently Russia’s non-oil fiscal deficit remains above 10% of GDP. At the same time, there is much potential to raise the quality of public spending to improve public services without additional spending.
Need for change — two critical challenges
Looking beyond the crisis, Russia needs to establish a new growth model that addresses two critical challenges: increasing the competitiveness of the economy; and coping with demographic change. These challenges are not unique to Russia, as most European countries are struggling with similar problems. These are indeed complex challenges that call for coordinated actions by all levels of Government. Russia must rise to these challenges to reach its goal of becoming an advanced, high-income economy. Indeed, Russia’s Strategy for the period until 2020 clearly recognizes these critical challenges.
Competitiveness and business climate
The first challenge is to improve competitiveness and foster innovation to diversify the economy. Unfortunately in the past decade, diversification has not made much progress. Instead, the dependence of Russia’s economy on oil and gas exports has actually increased. The share of these products has risen from one half to two-thirds of total exports. This reliance on oil and gas exports is not a sustainable growth strategy for the longer term.

Russia needs to invest more in infrastructure to improve the business climate and stimulate growth. Improvements in electricity connections, transport infrastructure, and telecommunications, especially broadband connectivity, will be particularly important in this regard. The competitiveness of Russia’s economy has also much to gain from investing in energy efficiency.
An attractive business environment, including at the regional level, is critical for promoting innovation and increasing competitiveness. A favorable business climate is key to stimulating firms to invest in efficiency and innovation. Despite some serious efforts, Russia’s overall business climate remains poor. In the latest Doing Business report, it still ranks 120th out of 183 economies. Russia needs to continue its efforts to further strengthen regulatory institutions, cut red tape and corruption, reduce the role of the state in the economy, and foster competition in the domestic market. According to a recent OECD study, market concentration among a few firms appears to have increased. Low competition reduces firms’ incentives for efficiency and innovation.
A better business climate requires a clear regulatory framework with a reasonable compliance burden on business. Most importantly, it entails consistent enforcement of the rules by credible institutions at all levels of government. Recent surveys (BEEPS in 10 regions) show wide disparities in the way regulations are enforced in different regions. In this regard, the federal Government is very appropriately encouraging regions to compete in adopting business-friendly reforms.

Russia’s competitiveness will also benefit from further economic integration with the rest of the word. The accession agreement with the World Trade Organization is an important step, as trade openness will stimulate Russian firms to increase their competitivenessAlso, the operation of the Customs Union between Russia, Kazakhstan and Belarus could widen regional benefits of stronger trade ties, especially if it leads to a reduction in the many non-tariff barriers that persist.

Coping with demographic change
The second critical challenge is to mitigate the economic impact of demographic change. Russia’s population has been shrinking and is projected to decline by some 10 million by 2050 (from 141 million in 2009 to 131 million in 2050 — a drop of 8%). This decline has been going on since 1992 due to lower fertility rates high mortality rates.
Even worse, Russia’s working age population is projected to decline by about 25 million people by 2050.
This demographic decline will have far-reaching impacts on economic activity as well as profound fiscal implications.
The economic impact of demographic change can be managed with the right policies, but will require a clear strategy and close coordination of implementation of reforms across policy sectors and levels of government.
Russia needs measures to arrest the population decline and increase labor force participation. Measures to improve the demographic situation could include better childcare provision for working parents and tax initiatives for families. Increasing the pension age, as many other countries have done, would help increase labor force participation. It will also have a positive fiscal impact by increasing tax revenues and also increase the sustainability of the pension system.
Russia also needs to increase the productivity of workers by investing in education, including vocational training and life-long learning. Labor and skill shortages in key sectors are already affecting the Russian economy’s growth prospects. Shortage of skilled labor is identified among the top constraints to firms’ growth.
An older and decreasing population also creates an urgent need to improve the health status of the population. Poor health among the working population has additional economic costs. It is a cause of absenteeism, incapacity, early retirement, and high healthcare costs.
Russia has much scope to improve the efficiency of its spending on health, education, and social assistance.
Such reforms would involve rationalizing the school and hospital systems to match actual needs. Russia’s social assistance spending is not well targeted, meaning that few of the benefits actually reach the poor. Russia can significantly improve the efficiency of social assistance and further decrease poverty by expanding means-testing and improving the targeting of social assistance programs.
To conclude, we fully support the Government strategy to keep a stable macro framework, diversify the economy and improve human development. These are difficult reforms. But Russia came a long way in the past 20 years and it can successfully manage them.
And I can think of no better way to honor the memory of Yegor Gaidar.
Spasibo bolshoe.