Figure 2:Real GDP growth.
Source: World Bank.
Russia was not unique among transition countries to experience negative growth in the early years of transition, and both the countries that later joined the EU (EU10 in Figure 2) and the other countries that came out of the Soviet Union (FSU11) had a similar start with declining incomes.2 However, the rebound to positive growth was significantly faster among the EU10 countries than in Russia and the FSU11 countries.
The differences in growth between Russia and the peer country groups may not look so striking, but when growth differences accumulate over several years, the differences in income levels are significant. In Figure 3, the lines are broken in the first, pre-Putin, phase of transition with income levels set at 100 in 1990. By the end of 1999, Russia had lost more than 40% of its initial income level, similar to the other FSU countries but far behind the EU10 group of countries that by then had come back to where they started the transition process in terms of income levels.
Figure 3:Russia and peers GDP index (1990 = 100 then 2000 = 100).
Source: World Bank and author’s calculations.
The second part of Figure 3 restarts the comparison at the time Putin became president for the first time. With 2000 as the starting point, the FSU11 group generated the highest average growth rate, and in 2017, income levels were 2½ times of what they were in 2000. Russia was for a long time ahead of the EU10 countries in terms of growth in this period, but after the very poor growth performance after 2013, Russia was overtaken by the EU10 group as well. Nevertheless, under Putin’s watch, income in Russia had increased by 1.7 times in 2017 compared to 2000, in stark contrast to the loss of 40% of income in the first decade of transition. It is not hard to understand that the arrival of a president that coincides with a shift in economic fortunes of this scale generates ample support in the population and that a narrative of Putin creating order from chaos can take hold.
There are many external factors that affect Russia’s macroeconomic performance and the volatile and unpredictable world market price of oil is of particular importance. Oil prices have explained around two-thirds of Russian growth and account for a similar share of 1-year ahead forecast errors in the recent decades (Becker, 2017a). Over the years, Russian policymakers have adopted policies to mitigate the volatility of oil prices by first creating different versions of oil fund(s) and then abandoning the fixed exchange rate and moving to inflation targeting. Becker (2017a) shows how these latter policies were important factors in dampening the downturn in 2014 compared with the more severe decline in output that was experienced in the 2008/2009 global financial crisis. Although these measures have been important steps to deal with the shorter run implications of Russia’s oil dependence, they cannot change the fact that policies aimed at diversifying the economy are the only solutions to generate stable and sustainable growth at a level that is sufficient to close the income gap with high-income countries and stay ahead of its middle-income emerging market peers (Becker, 2018). In its October 2018 forecast of the world economy, the IMF (2018) projected that Russia will grow by 1.8%, similar to the 2% growth in advanced economies but well behind the 4.7% growth in emerging markets.
Are “normal” growth models relevant for Russia?
If we turn our attention to regular growth models that focus on factors that the literature has identified as fundamental drivers of growth, we may better understand what Russia needs to do to boost growth going forward. Becker and Olofsgård (2018) use a robust empirical growth model to understand differences in growth across 25 transition countries in the first 25 years since the dissolution of the Soviet Union. The model was originally specified and estimated by Levine and Renelt (1992) with a focus on identifying the robust determinants of growth among the long list of variables that have been used in empirical growth models. In the end, the authors show that initial GDP, population growth, human capital measured by secondary schooling and the ratio of investments to GDP are the most robust determinants of growth across a large number of countries and over time. The model was estimated without the transition countries that we study in Becker and Olofsgård (2018). We could therefore use the estimated model to see how well it predicted the growth experience of transition countries to investigate the question if (and when) transition countries can be thought of as “normal” countries from a growth perspective.3
Using the same methodology here but with a focus on Russia and the country groups that we used in Figure 1, we can generate predicted growth and compare this with the actual growth for the first decade of transition and then do the same with the 17 years that coincide with Putin being the President and Prime Minister of Russia. For the initial period, the model predicts that Russia would grow at 4.8% per annum, while in fact, income declined by 5% per year on average. Russia thus underperformed the expected growth by almost 10% points per annum. This is similar to the other FSU countries but far behind the EU10 group that “only” underperformed the model by around 5% points.
The picture changes dramatically when we look at the period 2000–2017. Both Russia and the peer groups have growth that comes very close to what the model predicts; the residuals are a few tenths of a percent up or down. In this sense, these countries are in this time period indeed “normal” countries.
The numbers in Table 1 also allow us to discuss the quantitative importance of the different fundamental growth factors in generating the predicted growth rates. The general impression is that human and physical capital as measured by secondary schooling and investments to GDP are of equal importance and of more significance numerically than the other variables. However, the second observation is that there is much less variation in the growth that is generated by human capital than by physical capital. If Russia had the secondary schooling of the average EU10 country, growth would only increase by 0.15% points while if the investment rate was on par with EU10 countries, growth would increase by 1.3% points. In other words, differences in investment to GDP ratios explain almost all of the difference in predicted growth between Russia and the EU10 countries. For the political leaders of Russia, this is an important message. The various proposals to modernise and diversify the economy can have a large impact on expected growth in Russia and with the right incentives to invest in sectors that are less subject to external volatility, this would also make Russia’s growth more robust.4 It is therefore important to understand how investments have evolved over time and how this can be explained. This is the focus in the following sections.
Table 1:Russia and peers — predicted and actual growth.
Source: Becker and Olofsgård (2018) based on Penn World Data 9.0 and additional calculations.
Investments
There are a number of measurement issues related to investments (and other variables) in the national