OSW Studies

The Russian Economy under Putin. Growth Factors and Impediments to Economic Development

Key points

1. After a dramatic economic decline after the collapse of the Soviet Union and the financial breakdown of 1998, the Russian economy has begun to emerge from its deep crisis. The years 1999-2004 were a period of dynamic development in all sectors of Russian economy, and saw a rapid growth in GDP of over 7 per cent per year.

2. Russia owed the excellent macroeconomic results of that period to a combination of favourable factors. The key factors were: high hydrocarbon prices on the global markets; an increase in Russia's international competitiveness thanks to the "rouble devaluation effect" (following the 1998 financial crash); and the market reforms carried out within that period.

3. In 2004, despite very high oil and gas prices on world markets, a slowdown of the GDP growth took place. Even though the economy is still developing fairly rapidly, we are able to say that Russia is exhausting those traditional mechanisms (apart from oil and gas prices) which have hitherto stimulated GDP growth. Moreover, there are no new mechanisms which could replace the old ones. In the longer term, these unsolved structural problems may seriously impede Russia's economic growth.

4. The favourable economic situation has nevertheless failed to bring about the modernisation of the manufacturing sector. Nor has it made Russia give up the "oil-oriented" economy model. Institutions of a civic society, which are essential for achieving and maintaining stable economic growth, have not developed either. There are still no firm guarantees of ownership in Russia. The prosecutor's office, the courts and the militia are all subordinate to the Kremlin. The courts' verdicts at all levels (from district courts to the Arbitration Court and Constitution Court) demonstrate their political dependence. Despite tax reform, Russian state institutions still remain instruments of administrative and legal repressions.

5. Since the times of the Soviet Union, relatively low production costs (the raw material, energy and labour costs) have invariably been the only advantage of most sectors of Russian industry. Still, it is worth mentioning that in recent years (2003-2004) the production costs have been increasing systematically, which has in turn slowed down the growth rate. A common problem of almost all sectors is their technological backwardness and the low quality of produce. These factors actually exclude Russia from European and global markets of major manufacture production (e.g. in the automotive and aircraft industry).

6. Another factor impeding economic growth is the exhaustion of extensive growth possibilities. The reserves and capacity of the old post-Soviet industry base have been almost completely exploited in nearly all sectors. Further growth now depends on investments in infrastructure and new technologies. However, the political and economic processes taking place in Russia in recent years have discouraged potential investors.

7. The Kremlin's economic policy as of 2003 has also contributed to the slowdown in economic growth by increasing state interference in the economy and expanding state presence in the strategic sectors (oil, gas and finance). Another impediment is the evident change of relations between business and the authorities (best illustrated by the Yukos affair). A direct result of such situation is the limitation of business activity and Russia's damaged image on the global arena.