At first glance, Russia’s economy looks strong. In 2012, when the global economy was losing momentum and the Eurozone was stuck in recession, growth in Russia was solid, based on resilient domestic consumption. The pace of economic growth in Russia was faster than in Brazil, South Korea, and Turkey, something that was unconceivable only two years ago. But a closer look reveals weaknesses.
Achievements were not limited only to economic growth:
- In 2012, the current account was strong thanks to a large surplus in the trade balance.
- Capital outflows declined, allowing the Central Bank of Russia (CBR) to add again to its stock of reserves.
- The budget was balanced, and the Government started to replenish its reserve funds that were depleted during the crisis. While average public debt in advanced economies exceeds 110 percent of GDP, Russia’s public debt is no more than 10 percent of GDP.
- Unemployment dropped to 5.4 percent in January 2013, a record low for the last two decades, and wages grew at a solid pace.
- Low unemployment, a growth in wages, and a reduction in inflation are set to reduce the number of poor people from 16.9 million in 2012 to 15.9 million in 2014.
However, a closer look reveals weaknesses:
- Economic growth dropped to half the level of the decade up to the 2008 crisis. Industrial output declined in early 2013 for the first time since 2009.
- Fixed investment remains dependent on public funds, and foreign direct investment is subdued. Inflation increased in the second half of 2012 and is set to remain stubbornly high in early 2013, weighing on consumption.
- Russia is also stagnating in global economic rankings. Measuring the size of the economy in current U.S. dollars, Russia did improve globally from 18th to 8th position between 2000 and 2008, but it remained in this position in 2012.
Russia’s economy grew 3.4 percent in 2012, down from 4.3 percent in 2011. Growth will continue slowing further to 3.3 percent in 2013, and then is set up to pick up modestly to 3.6 percent in 2014.The weak external environment, elevated inflation, flat oil prices, and sluggish domestic demand could postpone a pickup in growth in Russia toward the second half of 2013.
Growth declined mainly due to the weaker performance of investment. Inventories were flat as the restocking cycle after the crisis came to an end, and fixed investment expanded only moderately as business remained cautious about future prospects. In part due to high investment spending in late 2011, the contribution of investment to growth declined throughout the year. In contrast, consumption growth remained almost as strong as in 2011, thanks to low unemployment, wage increases, credit expansion, and government spending. As a result, consumption became the main growth driver instead of investment. Finally, the weak investment dynamics dampened import growth. This translated into a lower negative contribution of net exports to growth in spite of weak external demand due to the recession in the European Union (EU).
Inflation continues to be high. Headline year-on-year inflation reached 7.1 percent in January 2013, compared to 4.2 percent in January 2012. The increase in inflation in Russia is striking from an international perspective and is related to three factors. First, it reflects the increase in food inflation triggered by the drought in Russia and among international grain producers, as well as higher excise taxes on alcohol. For example, year-on-year food inflation increased from 1.2 percent in April 2012 to 8.6 percent in January 2013. Second, the rise in administrative prices in July and September 2012 and January 2013 pushed up services inflation. As a result, year-on-year services inflation increased from 3.8 percent in June 2012 to 7.8 percent in January 2013. Finally, there was some uptick in core inflation, which excludes food and gasoline. It increased from 5.1 percent in May 2012 to 5.8 percent in October 2012, and then stabilized at roughly 5.7 percent in recent months.
By 2014, growth in Russia is set to be once again lower than in Brazil, South Korea, and Turkey. In order to revive and modernize the economy and reduce its dependence on natural resources, policy makers face two challenges. First, Russia has to manage macroeconomic policies so as to ensure economic stability in the face of domestic and external vulnerabilities. This implies three policy priorities: sticking with prudent spending plans and saving oil revenues that come in over and above budget; focusing monetary policy on low inflation to keep inflationary expectations in check; and strengthening banking supervision and taking additional measures to mitigate emerging risks in consumer lending.
Russia has to step up structural reforms in order to lift its growth potential. Reviving growth requires, among other things, reducing the state’s footprint on the economy and improving the investment climate; confronting the challenges of an aging and shrinking population; and strengthening governance through more transparency, better regulations, and more effective control of corruption.
The current World Bank Group 2012–16 CPS was discussed by the Bank’s Board of Executive Directors on Dec. 20, 2011. It is aligned with Government priorities and covers four themes: (i) Increasing Growth and Diversification, (ii) Expanding Human Potential, (iii) Deepening Russia’s Global and Regional Role, and (iv) Improving Governance and Transparency (as a cross-cutting theme). The strategy endorsed an envelope of up to US$5 billion in IBRD lending to support the program over the five-year period. IFC foresees total investments of between US$3.8 and US$4.8 billion for its own account, plus the significant mobilization of counterpart funds. The Multilateral Investment Guarantee Agency (MIGA) continues to support foreign investors through the provision of political risk guarantees.
Russia is a strategic partner for the Europe and Central Asia unit of the Bank . The Bank’s engagement with the country is unique in that it is three-dimensional: global, regional, and national. At theglobal level, Russia has increased its contributions to IDA and supports the provision of global public goods through contributions to global funds. The Bank offers its expertise to help prepare Russia’s presidencies of international forums. At the regional level, the Bank supports Russia as an emerging donor for less-developed countries in ECA. Russia is already a significant provider of development assistance through a growing portfolio of IDA-IBRD-administered trust funds. At the national level, the Bank aims to maximize its development by reaching out to the regions in Russia with the most development needs.
The Russia strategy has several unique cooperation initiatives. These include IFC-IBRD sub-national lending, reimbursable technical assistance, and a joint strategy that gives IFC (International Finance Corporation) and MIGA (Multilateral Investment Guarantee Agency) a key role in private sector development.
The new strategy aims to consolidate the Bank’s support for Russia through greater synergy among its members—IBRD, IFC, and MIGA — in support of the Government’s development goals in diversifying growth through more effective management of public finances, better investment climate, stronger financial sector development, more sustainable development, and maximizing Russia’s human potential through better education, health, social protection, and social inclusion.
The Bank will continue to support Russia’s growing and varied civil society in its public-private partnership roles. It will also foster partnerships with leading Russian universities and academia and encourage close cooperation with other multilateral institutions, such as the International Monetary Fund (IMF), the Eurasian Development Bank (EDB), the European Union (EU), and the European Bank for Reconstruction and Development (EBRD).
Russia’s Regional and Global Role
Russia has taken on an important regional and global role through its memberships in the Group of 8 (G8), the Group of 20 (G20), the Asia-Pacific Economic Cooperation (APEC). Russia is shaping its own unique profile in addressing the major challenges of the 21st century as the chair of APEC in 2012, the G20 in 2013, and the G8 in 2014. Russia is already on track to become a member of the OECD.
During the past decade levels of Russia’s Official Development Assistance (ODA) have been steadily growing, and rose from about US$50 million in 2002–03 to US$515 million in 2011. Favorable macroeconomic conditions based on strong economic growth and changes in the emphasis of Russia’s foreign policy after Vladimir Putin was elected president in 2000 have had a notable impact on Russia’s growing role in development cooperation and increasing levels of ODA. Russia officially started to report its level of development assistance to the OECD Development Assistance Committee (DAC) in 2011.
The majority of Russian development assistance is currently being channeled through multilateral institutions, including the Bank. The Bank is a partner of choice for Russia’s development cooperation with the poorest countries. During the period of 2008–13, total Russia WBG development aid contributions amounted to US$660 million. International Development Association (IDA) represents 32 percent of the total contributions (US$213 million), Financial Intermediary Funds, 42 percent (US$273 million), and IBRD/IDA Trust Funds (TFs), 26 percent (US$172.6 million).
Russia has increased its regional role and become the second largest trust fund donor in ECA region in the Bank after the EU. Russia has five trust funds (US$74 million, or 31 percent of total Russian trust fund pledges) exclusively targeting ECA countries: (i) Public Expenditure Management and Peer-Assisted Learning (PEMPAL), (ii) Public Financial Management (PFM) trust fund, iii) ECA Statistical Capacity Building trust fund, (iv) ECA Capacity Development trust fund, which finances program and project preparation, and (v) Global Food Price Crisis Response Program for Tajikistan and the Kyrgyz Republic.
Russia is increasing its regional role in ECA also through the Eurasian Development Bank (EDB), a multilateral organization focused on the Commonwealth of Independent States (CIS) countries, and the Eurasian Economic Community (EurAsEC) Anti-Crisis Fund managed by EDB. The Anti-Crisis Fund received resources in the amount of US$8.514 billion, of which US$7.5 billion were contributed by the Russian Federation to support CIS countries in response to the 2008–09 crisis. On March 14, 2011, the Bank and the EDB signed a Framework Agreement that outlines their collaboration with regard to the projects of the EurAsEC Anti-Crisis Fund via parallel cofinancing of investment projects and joint analytical work.
Deepening Russia’s global and regional role is one of four strategic themes of the Bank-Russia 2012–16 Country Partnership Strategy (CPS). The Bank has been involved in development assistance policy dialog with Russia since the 2006 G8 St. Petersburg Summit. An up-to-date capacity building program for the Russian development aid system started in 2009 as “Russia as a Donor Initiative (RDI),” funded by the UK Department for International Development (DFID), and has since been extended by the Bank. The RDI has laid the foundation for Russia’s system of development assistance by providing support in the areas of ODA statistics (resulting in Russia’s reporting its ODA in November 2011 for FY10), ODA strategic communication, andelaboration of a learning curriculum on international development cooperation for Russian universities. The Bank has built up and will continue to grow a larger than usual portfolio of technical assistance and analytical activities to support Russia’s regional and global role as provider of public goods, enhancing Russia’s contribution to international forums such as the G8, G20, and APEC.
The World Bank
The Russian Federation joined the World Bank (IBRD and IDA) in 1992. The Bank has provided financing for 66 projects in different sectors totaling slightly over US$10.5 billion in IBRD loans. About 95 percent of the total portfolio has already been disbursed.
The current IBRD portfolio consists of 11 projects, including nine active projects and two recently approved by the Board of Executive Directors and awaiting signing and effectiveness, for a total current commitment of US$816 million (as of March 2013). All of the Bank’s financing to Russia is currently provided in the form of investment lending operations. Reimbursable Advisory Services (RAS) show steady demand, with continued interest from the regions and growing demand from the federal government.
The portfolio quality is relatively high. Except for the Housing and Communal Services and Registration Projects, which hold moderately unsatisfactory ratings, all other projects are rated at the moderately satisfactory or satisfactory level. The Judicial Reform Support Project went through intensive restructuring and has been upgraded to moderately satisfactory. In February 2013, the disbursement ratio was at the level of 13.9 percent, which was slightly below ECA’s average of 17.6 percent. The average project age is 5.4 years, attributable to the fact that the majority of the projects are designed as five-year investment operations.
The Russia program is distinguished by several cooperation and innovation initiatives. These include IFC-Bank subnational lending, RAS, and a joint strategy that capitalizes on IFC’s and MIGA’s work in the private sector. The WBG is in constant search for innovative engagement opportunities and instruments, such as direct lending to regions with sovereign guarantees and a mechanism to fund analytical work and technical assistance to the poorer regions.
Analytical and Advisory Services (AAA) remain an important part of IBRD’s engagement in Russia. In close cooperation with the Government, AAA products are helping to modernize public finance and administration, and improve social service delivery and investment climate. The Bank expanded its technical assistance to areas of early childhood development (ECD) and social development, such as technical assistance on indigenous people and social accountability. In FY13, the Report on Professional Education and Skills is to be presented along with two Russian Economic Reports, the traditional flagship product, which provide advice and recommendations to address structural constraints to sustainable growth. A Report on Social Mobility is also being prepared for release in FY13.
In October 2012, the Bank and IFC presented the “Doing Business 2013: Smarter Regulations for Small and Medium-Size Enterprises.” The report found that Russia has made obtaining a construction permit simpler by eliminating the requirements for several preconstruction approvals. It also eased the administrative tax burden for companies by simplifying procedures for complying with the value added tax (VAT) and by promoting the use of tax accounting software and electronic services. This was part of a broader e-government initiative. Starting a business became faster in Russia, thanks to improved coordination between the federal agencies involved in the business start-up process. The report also found that since 2005, Russia has implemented a total of 17 institutional or regulatory reforms that improve the business regulatory environment for domestic firms.
Demand has grown rapidly for RAS. The demand covers a wide range of activities that are well aligned with Russia’s development challenges, from human development to social assistance, PPPs, and capacity building for ODA. Since 2007, the Bank has provided government-endorsed RAS to about 40 of Russia’s subnational governments, including 24 active projects.
In Russia, as in other middle-income countries, one of the areas of demand for RAS is support for large-scale projects. One of the examples is St. Petersburg Pulkovo Airport expansion, which was awarded the title of “Global PPP Deal of the Year” by Infrastructure Investors in 2011. As international experience and analytical components are often the critical success factors in the human development and social assistance sectors, demand from clients has led to widespread use of RAS in these sectors as well. Recent trends show that for the past two years, RAS are also in demand for improving the investment climate and capacity building for ODA management.
International Finance Corporation
Russia became an IFC member in 1993. Since then, IFC’s investment in Russia has totaled US$10.7 billion (including US$3.2 billion in syndicated loans) in 287 projects. IFC’s current committed investment portfolio in Russia is US$2.2 billion, which makes it IFC’s fourth-largest country exposure. There are currently no NPLs out of 115 projects with 78 clients. In FY12, АIFC invested US$1.2 billion in Russia, including US$465.5 million in mobilization.
In line with the Bank’s CPS, IFC promotes sustainable private sector development through its advisory and investment operations. IFC’s investments support key sectors, including financial services, infrastructure, manufacturing, retail, agribusiness, health care, telecommunications, and information technology. Across all sectors, IFC prioritizes investment in Russia’s less-developed regions and in projects that contribute to greater economic diversification and modernization. Active advisory programs focus on (i) developing the market for investment in sustainable resource use to mitigate climate change and increase economic competitiveness, and (ii) building risk management and NPL management capacity in the financial sector. IFC seeks to introduce new models and innovative approaches to address pressing development challenges and open new markets (for example, PPPs and resource efficiency, described below). IFC works closely with the Bank’s partners, the Russian government, and other international financial institutions (IFIs) to maximize the impact and reach of these programs, which are often replicated in other markets, making Russia an important platform for innovation within IFC.
The development of PPPs in partnership with IBRD is one example of IFC’s strategic engagement in Russia. The success of Pulkovo Airport, Russia’s first large-scale PPP, should have an important demonstration effect in the market, leading to additional public-private investment in infrastructure. Going forward, IFC is seeking to develop projects in frontier regions with a strong resource efficiency component, for example, municipal solid waste and district heating; or with social impact, for example, health and education, as well as opportunities in transport infrastructure. IFC has shared its new study “Municipal Solid Waste Management: Opportunities for Russia” with the Deputy Prime Minister for Industry and Energy. The report recommends that Russia adopt a national waste management and recycling system to manage growing volumes of waste and the current limited landfill capacity, using private sector involvement, including PPPs, to introduce best practices and technologies to the Russian market.
Building on a Bank energy-efficiency study and passage of a new Energy Efficiency Law (2009), IFC has developed strong working partnerships with government agencies, the private sector, and other stakeholders to create a favorable environment for investment in resource efficiency. IFC’s initiatives include a Global Environment Facility (GEF)-funded project to develop renewable energy at the national level and in pilot regions through policy dialogue, analysis, and support of project developers. IFC also supports the commercialization of sustainable energy finance (including residential energy efficiency) through private banks, and provides direct advice and financing to businesses seeking to boost competitiveness through greater resource efficiency.
Multilateral Investment Guarantee Agency
MIGA’s gross exposure in Russia is close to US$700 million (with a net exposure, after reinsurance, of slightly more than US$364 million) in 11 active projects as of December 31, 2012—MIGA’s third largest net exposure (behind Croatia and Ukraine).
In dollar terms, MIGA’s exposure is still heavily concentrated in Russia’s financial sector, having mainly supported the investments of global financial institutions in their banking, mortgage, and leasing subsidiaries in Russia in 2008 and 2009.
As these financial sector transactions are starting to roll off MIGA’s books (currently about 65 percent of MIGA’s net exposure in Russia resides in the financial sector, forecasted to decline to about 40 percent by the end of FY2013), the Russian portfolio is starting to look more diversified. This is especially since all new transactions signed since the 2008–09 crisis have been in the nonfinancial sectors—manufacturing, telecom, and agribusiness—with the latter project establishing MIGA’s first presence in Russia’s rural “black earth” regions of Penza and Tambov (400–600 miles southeast of Moscow).
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