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Sectoral analysis of the Russian economy

Sectoral analysis of the Russian economy. Svetlana Ledyaeva Aalto University School of Business. What we have learned from previous lecture. Decline of the price of oil at the world market and the role of Mikhail Gorbachev`s reforms were important in the collapse of Soviet Union.

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Sectoral analysis of the Russian economy

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  1. Sectoral analysis of the Russian economy Svetlana Ledyaeva Aalto University School of Business

  2. What we have learned from previous lecture • Decline of the price of oil at the world market and the role of Mikhail Gorbachev`s reforms were important in the collapse of Soviet Union. • Transition reforms were quick, rather spontaneous and have led to a rather deep crisis in the Russian economy. • However, in the period 1999-2013 due to the rise of oil price in the international market and “not bad” macroeconomic policy, Russian economy started to grow.

  3. Learning outcomes of this lecture • Transformation of Russian industrial structure in recent two decades. • Industrial aspects of privatization and ownership in Russia. • Concept of Dutch disease – fundamental theoretical concept of Russian economic development. • Dutch disease in Russia.

  4. Role of industries in Soviet Economy (4) • Soviet times: one of the world's three top manufacturers of heavy industrial products (including aviation and arms) + richness in natural resources. • Unbalanced economic structure (agriculture, light industries and services were neglected). • Plan allocation of industries. 5 year central plans: First plan 1928-1933; Last plan (12th) 1986-1990. • Prices were determined by government: Soviet enterprises obtained raw materials such as oil, gas, and coal at prices below world market levels, encouraging waste. • Transportation costs were heavily subsidised, so it encouraged inefficient allocation of some industries.

  5. Industrial structure of Soviet Russia (5) Russia’s deviations from “normal” structures of market economies were substantial: • the greater shares of heavy industry, • the low shares of services, • the high shares of food, consumption, • the underutilization of foreign trade. • These structural distortions contributed to the stagnation and decline of the planned economies.

  6. Restructuring process of the Russian economy (Yasin 1996) (6) Volume of GDP Stabilization Passive phase Active phase Equillibrium in the low point of crisis Time

  7. Restructuring process and dynamics of output of main idustrial sectors in Russia (Yasin 2013) (7) Fuel and energy Level of output Metallurgy Food Chemistry&petrochemistry Machine and metal processing Met. Forest processing Food Forestry Construction materials Chem. Mach. Constr.mat. Consumer goods Years Passive phase Active phase

  8. Changes in industrial structure during transition: Summary (8) • The output of natural resource-based sectors fell by about 30-40% during 1992–1994, other industrial sectors declined by roughly 50-60%. As a result theweight of natural resources- based sectors in the economy increased. • A significant shift from goods production towards the service sector, usually neglected by Soviet planners. In 2003 for Commonwealth of Independent States (CIS) service sector accounted for about 46% of GDP (in 1991 - around 30%), and share of industrial production in GDP has fallen from around 54% to about 41%. • The share of raw-materials-producing sectors in industrial output and exportshasrisen sharply, whilethe share of processing industries has contracted.

  9. Indices of industrial production, % to previous year (9)

  10. Indices of industrial production, processing industries; % to previous year (10)

  11. Indices of industrial production, % to 1991 (11)

  12. Indices of industrial production, processing industries; % to 1991 (12)

  13. Indices of industrial production, % of 2007, 2009, 2010, 2013 and 2015 to 1991 (13)

  14. Industrial structure of GDP in 1960 for Soviet Russia, %(Shumkov 2010) (14)

  15. Industrial structure of GDP in 2010 for modern Russia, %(Shumkov 2010) (15)

  16. Industrial structure of Russian GDP, 2002-2014 (Rosstat data) (16)

  17. Industrial changes in employment structure, %; 1980-2007 (17)

  18. Industrial changes in employment structure, %; 2005-2014 (18)

  19. Time dynamics of employment shares by industry, %; 2005-2014 (19)

  20. Russia (2011) and the World (2002-2010): Sectoral structure of GDP (20)

  21. Russia and the World : Sectoral structure of employment (21)

  22. Open questions Were these structural changes inevitable in Russia during transition? If no, what went wrong in your opinion?

  23. What factors determine successful development of a sector in transition? (23) • Sector’s position before transition • Size of enterprises in the industry: transition road very different in big companies and SME –consolidation of ownership • Favorable world prices • Domestic demand • Productivity (change), reorganization in companies /industry • Type of privatization and ownership (who owns which industries) • Ability to attract the funding • Whether a sector is a strategic sector (determines allowed ownership and investments)

  24. Effect of different types of privatization/ownership (24) • Nominal, insiders’ privatization didn’t mean much changes in the way the company was run, and in the industry (i.e. forestry) • State control meant not so much changes in efficiency/ productivity/ investments (i.e. gas) • New private owners who got their shares through vouchers/loans for shares/auctions made changes in management, investments, markets (i.e. oil, machinery, metals) • Foreign/mixed ownership is likely to affect industry in successful way (FDI, management practices, corporate governance , e.g. in food industry).

  25. Industrial aspects of privatization (25) Mandatory privatization (light, food industries) Privatization with the permission of the privatization ministry (larger firms, yet not operating in any of the important strategic industries) Requiring government approval for privatization (natural resources and defense) – in fact could not be privatized. Prohibited privatization (space exploration, health, and education)

  26. Industrial aspects of ownership in transition Russia (Dolgopyatova 2010) (26) High level of concentration of ownership irrespective sector or size of company. From mid 1990s – rapid growth of concentration of ownership in Russia. Corporate governance: main player – a majority (dominant) shareholder. Growth of ownership concentration: Share of dominant shareholder in the beginning of 21st century - 25-40%; in the end of 2000s – higher than 60%. High ownership concentration – not only a Russian phenomena. The same – in some developed countries; in all transition economies. Why? Bad institutions and availability of highly profitable assets for which businessmen are ready to fight. Shleifer and Vishny (1997) argue that ownership concentration can serve as a substitute for weak investor protection rights. Therefore ownership concentration should be positively related to corporate performance especially in environments of weak legal systems.

  27. Industrial patterns of ownership distribution and concentration in the 90`s (27) • 23 largest private owners control at least 36-38% of output and employment (Guriev and Rachinsky, 2004). • The largest owners are much more strongly represented in energy, natural resources and the automotive industry. • The sectors that produce consumer goods are mostly controlled by other private domestic owners and foreigners. • Smaller domestic owners also tend to dominate manufacturing sectors. • Mid 90s: trend for industry consolidation -expansion of financial-industrial groups. These groups built mostly around natural resource industries.

  28. Ownership distribution and concentration (28) Concentration of ownership in the hands of a few major players: “+” Can reduce inefficiencies due to suboptimal firm size and cost duplication. “—”Can also result in collusion, create barriers to entry and eliminate healthy competition.

  29. Shares of different categories of owners in sales of respective sectors, beginning of 21st century (29) (data from Guriev and Rachinsky , 2004; for the sample that covers 60% of Russian industry)

  30. Breakdown of Russian industry by ownership categories in the beginning of 21st century (Guriev and Rachinsky, 2004/2005) (30)

  31. Video: Russian oligarhcs https://www.youtube.com/watch?v=LiWxxMEqKCE

  32. Current tendencies of ownership concentration in industries (32) • Intensifying state ownership and control over the key industrial sectors and strategic industries in particular. • Leading vehicle for the consolidation of state ownership in Russia’s industry is a giant industrial holdingRussian Technologies (Rostechnologies), which is set to acquire and control nearly 400 Russian enterprises by a presidential degree of late 2007. • Oil and gas are dominant and big: containing no more than 12 of the 100 largest companies, the oil and gas sector is responsible for almost 40% of the aggregate turnover of the top-100 Russian enterprises (many already state owned, Gasprom and Rosneft).

  33. Ability to get funding/strategic industries (33) • Development of financial institutions. • Large number of banks, but credibility was questionable, pocket banks. • State is trying to get back control over strategic industries using different strategies (i.e. oil –Yukos), limiting foreign investors etc. • Foreign investments –most reliable, but available only for certain sectors (not strategic).

  34. Limitations for foreign investors in strategic sectors – Russian Federal Law 7 May 2008 (34) • National defence sector: working with nuclear materials, activities related to weapons and other military equipment, aviation and space, coding and encryption equipment; • Natural resources sector: including exploitation of subsoil areas of federal importance, fishing; • Activity of natural monopolies (including energy sector); • Mass media sector, including television, radio broadcast and printed media covering a significant share of Russia's  audience; • Telecommunications, including activities of the major telecom providers. 

  35. Part 2: Dutch disease and Russia

  36. Dutch disease (36) Is the apparent relationship between the increase in exploitation of natural resources and a decline in the manufacturing sector (or agriculture). The term was coined in 1977 by The Economist: the decline of the manufacturing sector in the Netherlands after the discovery of a large natural gas field in 1959. Bad institutions: prerequisite for Dutch disease.

  37. Dutch disease vs. resource curse (37) are often used interchangeable, But: Resource curse refers to the political and social consequences of country`s high dependence on resources` export. Dutch disease refers only to the effects of the resulting currency appreciation and changes in the cost of factors of production.

  38. Dutch disease (38)(Bruno and Sachs (1982); Corden and Neary (1982)) Spending effect Tradable resource (oil) sector Tradable (manufacturing) sector Non-traded sector (services) The resource movement effect What happens when world oil price goes up? The spending effect; The resource movement effect.

  39. Dutch disease (39) A result: A fall in the output share of non-natural resource tradables (manufacturing sector) relative to non-tradables (mostly service sector) and resource tradables (e.g. oil industry).

  40. Is there any empirical evidence of Dutch Disease? (40) Relatively robust evidence that terms of trade increases cause real exchange rate appreciation in natural-resource-rich countries (for example Spatafora and Warner 1995).  Vostroknutova, Brahmbhatt, Canuto, VoxEU 2010.

  41. Is there any empirical evidence of Dutch Disease? (41) The shrinking of the manufacturing sector in response to terms of trade: mixed evidence (Sala-i-Martin and Subramanian 2003). Ismail (2010) finds strong evidence for Dutch Disease effects, with a 10% increase in an oil windfall/income associated with a 3.4% fall in value added across manufacturing sectors. On average in resource rich countries the tradables sector (manufacturing plus agriculture) is around 15% of GDP lower than the norm (Vostroknutova, Brahmbhatt, Canuto, VoxEU2010).

  42. Dutch Disease is good or bad for growth? (42) Positive: -higher incomes and allowing more consumption of both non-tradables and tradables; -increased resources for investment in public goods. Negative: ForManufacturing -possess specific long-term, growth-enhancing qualities: positive technological spillovers, learning by doing effects, or increasing returns to scale in production. -more labour intensive than natural resource industries:implications for employment. The effect for economic growth is inconlslusive. Negative: bad institutions.

  43. Dutch disease in Russia (42) Victoria Dobrynskaya & EdouardTurkisch (2009) 1999-2007 For Dutch disease: • The appreciation of the rouble in real terms in 1997-2007; • The decrease in employment in manufacturing; • The rise in services sector. Against Dutch disease: • Manufacturing production also increased.

  44. Dutch disease in Russia (43) Mironov and Petronevich, 2015, BOFIT discussingpaper Russian economy reflects a combination of “Soviet” and “Dutch” diseases Main arguments: • Eruptive flows of export revenues have resulted in significant appreciation of the real effective exchange rate. • The manufacturing sector tends to shrink and is relatively small. • The mining and service sectors have expanded. • Positive significant impact of the real effective exchange rate on employment rates in the services sector.

  45. Dutch disease in Russia (44) Another opinion: FORBES`12: At the present time, one of the very few economic risks that Russia doesn’t face is Dutch Disease: its currency isn’t overvalued and, if anything, is actually trending lower against the main reserve currencies.

  46. Total natural resources rents (% of GDP) (45)Total natural resources rents are the sum of oil rents, natural gas rents, coal rents (hard and soft), mineral rents, and forest rents.

  47. Time dynamics of Russian export by industry, billion USD (46)

  48. Growth rates of Russian export by industry between 1996 and 2013 (47)

  49. Change in industrial structure of Russian export bw 1996 and 2014 (48)

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