Thursday, February 18, 2010

A Russian Resurgence (Part Two)

By Nader Elhefnawy
Originally published in the SPACE REVIEW, November 17, 2008

The Russian boom
In place of the basketcase of the Yeltsin years, Russia commonly figures as the tenth or eleventh largest economy in the world when its gross domestic product (GDP) is measured in nominal terms (just ahead of India, and behind Brazil), the sixth or seventh when those economies are measured using purchasing power parity (making it about equal to the United Kingdom). This is due to strong rates of growth for nearly a decade, about seven percent a year, with the result that Russian GDP has doubled since its low point in the late 1990s.

This growth is widely expected to continue into the future, and those bullish on the Russian economy can much more easily point to reasons for it than they were able to ten years ago. An energy exporter rather than importer, Russia is benefiting rather than suffering from high oil prices, which have helped the country turn its trade deficit into a trade surplus (Russia’s current account balance is $76 billion, while the US’s is $738 billion in the red), pay down its public debt (a mere 5.9 percent of GDP to the US’s 60.8 percent), and amass the world’s third-largest reserve of foreign currency ($476 billion to the US’s $70 billion). In fact Russia, like China, has become an important financier of the US national debt, as Raj M. Desai and Itzhak Goldberg point out in their recent study, Can Russia Compete? A comparably formidable producer of metals, only Japan compares with it as an exporter of steel (the price of which has also trended upward). Where earlier Russia had seen dramatic capital flight, it is now receiving considerable foreign investment.

And all of this seems to be apparent not just in the statistics, but on the ground. In recent years it has been a commonplace that wages are no longer in arrears, the pensions are being paid, the unemployment rate falling, prisons emptying, the poverty rate receding, the middle class expanding. The higher incomes and rising consumption, in their turn, have led to booming activity in retail (Russia has recently been reckoned the world’s tenth biggest consumer market), as well as construction, real estate and other "non-tradables."

However, when looked at in other ways, the country’s situation seems less impressive. Russia may well have the sixth largest economy in the world in the aggregate, but when looked at on a per-capita basis, it falls to seventy-fifth place in the current edition of the CIA’s World Factbook, behind Latvia, the Seychelles, and Trinidad and Tobago. (Indeed, the figures it posts here are not much higher than the estimates of Soviet income taken for granted two decades ago.)

Also testifying to this contradictory situation is Russia’s comparatively low ranking in the human development indexes. While doing comparatively well in the area of education, the state of public health in the country is a disaster. Russia ranks an appalling 161st out of 223 states surveyed by the CIA in the area of life expectancy (with male life expectancy down to fifty-nine years), with a higher mortality rate than Somalia. Russia’s combination of a First World birth rate and a Fourth World death rate has resulted in its population shrinking at the rate of one half a percent a year, despite net immigration (mainly from other former Soviet republics). The country’s infrastructure is also in need of a trillion-dollar overhaul.

Additionally, it is well worth remembering the nature of the economic growth seen to date, which derives so much of its impetus from oil and gas prices, and so little from the rebuilding of Russian industrial power. Russia is actually less industrialized than it was in Soviet times, and it is not the case that a large, uncompetitive base has been traded for a smaller, but leaner and more viable one. The country’s productivity (while rising) still compares unfavorably not only with the advanced nations of North America, Western Europe, and Northeast Asia, but developing economies like China, India, Brazil, and South Africa.

This is evident in the results. The country’s production of energy, steel, and chemicals is admittedly impressive, but even the low-end manufacturing sectors (like textiles) are often underdeveloped. The picture is no better at the high end, as its export profile outside of aerospace, nuclear energy technology, and arms demonstrates. Russian corporate R&D is an area of particular weakness, according to Desai and Goldberg, and the output of the country’s relatively large research establishment dismayingly low when indicators like papers and patents are considered. And predictably, what strides Russia is making in areas like car manufacturing or information technology are a consequence of the limited foreign investment that has taken place so far, rather than the success of the Soviet enterprises privatized under Yeltsin’s watch, or new Russian startups.

Nor is that influx of foreign capital the happy ending to that part of the story. Particularly in the energy sector, that stream suffered as a result of the Yukos affair (which also damaged domestic, private investment in that area). This, combined with the underdeveloped state of the Russian banking system, is blamed by many observers for Russia’s relatively slow rate of overall capital investment, just half of China’s, and well below what one would expect in a booming country at a comparable level of development.

Russian prospects: possibilities and pitfalls
In short, far from Russia being truly "back," it seems that Russia is simply floating atop a sea of oil, at best buying it a window of opportunity through which it might try to stage a comeback—in what must be considered very daunting circumstances.

Some might point to concerns that Russia will alienate the rest of the world with aggressive actions like those it has undertaken in the Caucasus. However, the Tiananmen Square massacre, the occupation of Tibet, and the periodic intimidation of Taiwan have had no discernible effect on China's economic development and trading relationships. Russia also has oil politics working in its favor, as an exporter in what is today very much a seller’s market.

Others worry about corruption. Russia ranks 143rd out of 180 states surveyed by Transparency International with a confidence score of 2.3 (on a scale of 1–10, Denmark, Finland, and New Zealand being the top scorers, each with a 9.4). Nonetheless, the effect of corruption on the prospects of growth is a much more complex matter than generally appreciated, as Ha-Joon Chang argues persuasively in his recent book, Bad Samaritans. It is particularly worth noting that China and India fare only a little better, with a score of 3.5 each. Clearly, corruption as such, while certainly no asset, has not been sufficient to hamper the rapid growth of their manufacturing and service sectors.

More worrisome is the likelihood that Russia has already achieved its easiest gains. The chaos of the Soviet Union’s collapse left it performing well below capacity, something which is no longer the case, making additional growth more difficult. This even extends to the income from energy exports. The demand for Russian oil and gas seems unlikely to slacken, but it is implausible that the price rises seen in past years will continue. Not only is Gazprom chief Alexei Miller likely exaggerating when he predicts $250 a barrel by the end of 2009, but it is unlikely prices could continue even at the rate they have for the last ten years—from their low point in 1998, to their recent peak in July, around 25 percent annually as measured in constant US dollars. (If this did go on, oil would sell for $1,000 a barrel by 2016; the world economy would collapse long before that point.) A more slowly rising, stable, or slipping price for oil could slow Russian growth, and do very serious damage to government finances. Eliminate the oil income, and the Russian government’s budget surpluses turn to very sizable deficits. And while it is hard to tell where things will go from here, it is worth noting that at the time of this writing, oil is going for under $60 a barrel, far below the July price.

Additionally, Russian oil production may be "peaking," which is to say that the output of Russian oil fields will no longer continue to rise, but start to drop. Whether this is due to the diminished attractiveness of the investment environment after the Yukos affair, or geological facts about which little can be done, will not matter very much for several years (getting a new oil field going is a decade-long process), but the loss of sales assuredly will.

This is not to say that Russia cannot hope to maintain or even increase its income from oil exports. It is conceivable that continued rises in oil prices will compensate Russia for the smaller volume of oil it can sell to foreign markets. It is also conceivable that Russia could free up more oil for export by increasing its domestic energy efficiency and its use of alternative energy sources. However, it may be too much to expect that any gains in efficiency can hold down consumption rises as its economy develops. (The figures available from the Energy Information Administration indicate that Russia's oil consumption rose a mere 11 percent from 1998 to 2005, but this is likely due to how little internal development has taken place in that time, despite the high growth rates posted for many of those years.)

On the other hand, the Russian government has shown no intention of passively accepting its country’s current place in the world economy as a natural resource exporter. Indeed, it has actively pursued an industrial policy, identifying key sectors and accordingly acquiring assets where the previous government has privatized them (the Yukos affair only the best known), developing plans for public-private partnerships and special economic zones, and even imposing some classically mercantilist regulations (as in its efforts to discourage the export of scrap metal).

Proponents of orthodox economics, of course, cringe at this unfashionably statist course. Nonetheless, as Chang persuasively shows in his book, the same economic approaches intended to maximize the efficiency of an existing trade system run contrary to those which are best for turning undeveloped countries into developed ones. Tariffs and other trade barriers; regulations on foreign investment; state-owned enterprises—virtually every industrialized state used such devices. Their critics argue that they were incidental to their success, or even a drag on it, rather than a necessary condition of it, but they have yet to point to an example of successful development that did not involve these or other comparable devices.

Nonetheless, this strategy can produce failure as well as success, and Russia in particular faces an obstacle that the success stories generally did not, namely the "resource curse" that has haunted so many developing countries before, their natural resource wealth interfering in manifold ways with their attempts to move up the value-added ladder. The record also suggests that oil exporters like Russia are even more susceptible to such problems than the exporters of other kinds of resources.

Optimists about such situations often argue that a country with high educational levels (which Russia enjoys) need not go down that route. However, the assessment of Russia in the International Institute for Security Studies’ 2006 Strategic Survey indicates Russia is already a textbook case. In the survey, the authors point to such symptoms as the neglect of needed economic reforms, signs of the "Dutch disease" in which the strengthening of the country’s currency by demand for its energy exports undermines other sectors such as manufacturing, and the failure to plow enough income back into the crucial oil and gas sector (evidenced in the lack of oil field development in Siberia).

In short, it remains to be seen that Russia will succeed in following the course traveled by countries like South Korea, rather than returning to something like its earlier stagnation, perhaps softened by the higher oil prices. However, it is worth thinking about what Russia’s situation would look like were that to actually happen.

Russia, 2020: A space superpower again?
Russian Minister of Economic Development and Trade Elvira Nabiullina estimated last year that should her country manage to sustain its current rates of growth, it will have a roughly $5 trillion economy by 2020.

This would make it the third largest economy in the world today (or even second, depending on how it stacks up in nominal terms), and the fifth in 2020, after only the United States and the Asian giants of China, India, and Japan. Russia would be a distant fifth, with about a quarter the GDP of China, here projected to be the leader of the pack. Nonetheless, it would also have a higher per-capita GDP than China and India, over $33,000 a head, on a par with many of today’s First World nations. The country’s greater affluence (and a broad experience of being better off) would leave it in a position to commit a higher share of its national income to projects like exploring and developing space.

Moreover, culture should not be totally ruled out as a factor. The experience of a broad improvement in living conditions' contribution to a willingness to invest in initiatives like space exploration aside, perhaps no country on Earth has derived as much of its national prestige from space as Russia. And perhaps nowhere does a “futurist” streak, especially one bound up with space, run more deeply than in the nation that gave the world Nikolai Fedorov and Konstantin Tsiolkovsky, a point acknowledged by Brian Harvey in his writing on the Russian and Soviet space programs. All of these could well factor into the degree of commitment to a space program in which Russia has historically had no peer, as not only the exceptional Soviet-era investment in that program suggests, but also the survival of that program through the extraordinarily trying times of the 1990s.

As a result, what seems overambitious from the standpoint of 2008 might begin to be practical by 2020 if things go well. Still, a return to Soviet-era funding levels even then (which would come within the realm of the possible if Russia achieves a $5 trillion GDP) is implausible, since the country's developmental problems will inevitably absorb long overdue rubles.

Additionally, the fact remains that even Soviet-era budgets would not return Russia to its earlier standing because the US and China would remain in a position to outspend it in any serious competition (barring a major upset like a sharp economic contraction due to rising energy prices, serious political instability in China, or a debt-and-currency crisis in the case of the US). And of course, even they will not enjoy the stature of the space superpowers of the 1960s, due to the broader diffusion of satellite ownership and space launch capabilities evident since the beginning of the space age. That process would still be more advanced today than it was in 1989, even if the Soviet Union had managed to thrive and survive into the twenty-first century; and it will be that much further along in 2020.

The end result would be that rather than Russia (or any other state) being in a position to pursue clear-cut dominance in orbital space, or settling for being one of two (or three) leviathans surrounded by comparative minnows as remained the case during the Cold War, a successful and aggressive Russia will end up just one of the larger participants in a much broadened arena.

Rather than Russia (or any other state) being in a position to pursue clear-cut dominance in orbital space, a successful and aggressive Russia will end up just one of the larger participants in a much broadened arena. The Russia described here is still likely to be one of the world’s most prolific space launchers (if not the most), and one of the very few to go on operating a manned space program at any level, if dependent on existing rather than new system types and facilities. It is also likely to have a bigger budget and larger portfolio of space assets than India, perhaps leaving it in third or fourth place (depending on whether the European Union is taken as a single power or disparate states, and also the level of effort Japan is willing and able to make). Russia’s constellation of satellites may not be very much larger in total numbers than it is now, but a larger part of it would be functional, operating within their normal service lives.

More importantly, Russia would retain a robust base on which it could build, and a return to something like Russian leadership may not be entirely ruled out should things continue to go favorably after that. This would especially be the case if Russia’s leadership displays more will and insight on the issue at a fortuitous moment than other states—as was the case where rocketry was concerned in the late 1940s and early 1950s, when the United States largely neglected these possibilities. While it is a long shot, the next space age may yet see its own Sputnik moment.

Back to Part One.

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