The Russian Federation, the largest of the Commonwealth of
Independent States with an area of 17 million square kilometers, has a 2000 population of
144.8 million people and a 1999 GDP per capita of US$2260 (latest available World Bank
estimate using Atlas method).
In 1992, the Russian Federation embarked on the long and difficult path
of transition towards a market economy. This process has resulted in a profound change in
Russia's economy, even though the transition is far from complete and has often been
accompanied by disappointment and setbacks. Recent economic developments have been
encouraging, with a brisk recovery following the financial crisis of 1998. Although
reforms appear to begin to bear fruit, the necessary restructuring is far from complete
and, in particular with a worsening international economic climate, the risk of setbacks
remains. The World Bank's will remain a partner of the Russian government and people in
that difficult process of completing the transition to a market economy until the basis
for sustain able growth is established in the years to come.
Historically, the economic situation appeared on the surface to have
stabilized in 1997, with a substantial reduction in inflation and the first signs of
positive GDP growth. However, there was no sustainable foundation for economic growth. The
principal reason for the financial crisis in 1998 was unsustainable levels of fiscal and
quasi fiscal debt, combined with continuing structural weakness. These fundamental
problems reflected weak implementation of fiscal and structural reforms, and also
insufficient involvement of legislative bodies in the design of reforms.
The trigger for the decline in Russia’s macroeconomic situation was
provided by the financial crisis in East Asia. In addition, the terms-of-trade suffered
from a world wide fall in commodity prices. The consequent rise in macro instability and
interest rates contributed further to the rapidly worsening fiscal situation,
characterized by an unsustainable accumulation of public debt with a large short-term
component. The rise in real interest rates highlighted the Russian Federation's
vulnerability to a changing sentiment in the international capital markets.
During this period, the Russian Federation experienced several episodes
of exchange market instability as investors sought to flee from ruble-denominated assets,
including government securities, into hard currency, depleting foreign exchange reserves
in the process. Following the first episode in November 1997, two others soon followed in
1998. The first of these occurred in late January 1998, the second and decisive episode
began in mid-May. Announcement of a US$22.6 billion dollar package from International
Monetary Fund (IMF), World Bank, and Japanese on July 13,1998 could not stem the tide. The
Ruble remained under attack until the August 17, 1998, meltdown.
This meltdown had three principle reasons: (i) an inability to
systematically and effectively implement structural reforms which resulted in a lack of
effective restructuring in the industrial and agricultural sectors, and low rates of new
investment and growth; (ii) an inability to close the gap between available resources and
public spending, resulting in incomplete stabilization, unsustainable debt accumulation,
and finally ushering into financial collapse; and (iii) the absence of broad-based
political support for state initiatives.
Accordingly, economic progress in 1998 was disappointing. Real GDP
contracted by 4.9 percent, and industrial output decreased by 5.2 percent.
December-on-December inflation reached 84.5 percent, compared to a target of 8 percent.
The Ruble exchange rate fell to 20.65 rubles per U.S. dollar by year-end, compared to 5.96
at the beginning of the year. Real disposable income dropped 28 percent in the fourth
quarter of 1998 relative to the same period of 1997, substantially increasing the number
of people living below the poverty line.
The large real devaluation, the rise in oil prices, and the separation
of the financial from the "real" sector which barter and other non cash
settlements provided, led to much better short-run results than expected. Buoyed by the
devaluation and a 40 percent increase in average oil export prices over 1999, real GDP
grew by 3.5 percent. Likewise, fiscal performance was strong, with cash revenues of the
federal budget increasing from 9 percent of GDP in 1998 to 13.5 percent in 1999. The
extent to which this initial recovery can be explained almost entirely by devaluation and
higher oil prices, and changes in tax-sharing rules with the regions becomes visible also
by the fact that, despite of the sizable US$30 billion trade surplus, Central Bank
reserves barely budged, indicating that exporters preferred to keep their money abroad.
The macroeconomic environment improved further in 2000. Real GDP,
increasing by 7.7 percent, by now has surpassed its 1998 crisis level; industrial output
grew by 9 percent. Increasingly, income substitution spread industrial recovery across
light industry, pharmaceuticals, ferrous metallurgy, machine building, next to chemical
& petrochemical sectors. Inflation continued to be moderate, declining from 36.5
percent in 1999 to 20.1 percent in 2000. Simultaneously, the nominal exchange rate
depreciated by 30.8 percent in 1999 and by 4.1 percent in 2000. Taken together, this
translates into a bilateral real appreciation of 1.3 percent in 1999 and 12 percent in
2000 (assuming 3 percent US inflation both in 1999 and 2000). However, the current account
retained its large surplus and, although capital flight also reached record levels in
2000, the Central Bank managed to build significant foreign exchange reserves- from $12
bln. in August 1998 to $29 bln. by end 2000. This had its price, pushing the Ruble to
appreciate in real terms, and thus reducing the competitiveness of domestic goods. On the
fiscal side, federal revenues increased from 13.5 percent of GDP in 1999 to 16.3 percent
in 2000, leading to the best fiscal position during the whole transition period. For the
first time in a decade, an overall budget surplus was registered in the year 2000 (2.3
percent of GDP, with a primary surplus of 4.7 percent). All revenues collected to the
federal budget since early 1999 have been in cash.
However, a closer look still reveals substantial structural weakness.
Investment in Russia’s economy, for example, grew 37 percent in 1999 and 17.7 percent in
2000, but these investments have largely been concentrated in a few sectors of the economy
(most notably fuel and gas, as well as the state dominated transport sector). Next to the
export proceeds from oil, gas, and metals, the present output rebound across industries
reflects largely an increase in capacity utilization from very low levels stimulated by
the expenditure switch towards domestic goods as a result of devaluation, rather than the
result of investment growth.
The recent strong macroeconomic growth performance has helped to reduce
unemployment, increase real wages, and as a result, reduce the share of the population
living below the subsistence level (as defined by the government) from 35 percent by the
middle 1999 to about 25 percent in the third quarter of 2000. However, wage arrears,
although declining from 2.9 percent of GDP in 1998 to .77 percent in the first 9 months of
2000, have not been completely eliminated and for some benefits, such as child allowances,
new arrears continue to be registered.
Overdue payables to suppliers and to the budget and EBFs declined by 6
and 4 percentage points of GDP respectively. They continue to represent a significant
source of vulnerability for the economy, amounting to 28.5 percent of GDP in the first 9
months of 2000.
The economy’s re-monetization and improved discipline becomes visible
also in a significant decrease of non-cash offsets in payments to the budgets and
transactions between enterprises. Gazprom and RAO UES were allowed to disconnect consumers
for nonpayments. Moreover, cash collection rates for RAO UES increased from 48 percent in
the first quarter 2000 to 101 percent by the end of 2000 (although some cash receipts for
past arrears are included in this figure). In 2000 the share of barter transaction
declined from 30 percent to 20 percent in comparison to 1999. There are signs that
subnational budgets’ non-cash execution declined drastically (from about 50 percent in
1998 to about 12 percent in the third quarter of 2000).
The ratio of public debt to GDP rose from 49 percent in 1997 to 142
percent in 1998 as a result of devaluation. In 1999 it declined to 105 percent as a result
of inflation erosion of domestic debt, repayment of debt, strong growth, and 13 percent
real appreciation of the ruble. In 2000 this ratio decreased even further to 65 percent of
GDP due to continuing strong growth of the economy, 20 percent real appreciation of the
ruble, and write off of $10.6 bln. because of the London Club restructuring agreement.
A balanced assessment overall has to recognize the great strides that
have been made in particular in macroeconomic performance without being silent as to the
fact that underlying structural reforms have not progressed to an extent which would allow
for comfort. On the positive side, the economic outlook for Russia can now proceed from
improved political stability, sound macroeconomic and in particular fiscal policies, and
the expected effects of export-let growth on the current account, the accumulation of
reserves, and investment. On the other hand, Russia’s economy remains vulnerable to
external shocks, especially to a decline in oil and gas prices. This vulnerability
reflects the need to increase the effectiveness of policies in hardening enterprise and
public sector budget constraints, and to increase its credibility. In particular, tax
collections from natural monopolies and energy bill payments exclusively in cash need to
be improved. On the external side, the rise in the real exchange rate and inflation need
to be carefully managed, to avoid loosing some of the competitiveness gained in the
aftermath of the 1998 crisis. In the long run, however, these policies can not substitute
for the need to accelerate enterprise reforms and, of particular relevance in Russia, to
accelerate the growth of a segment of competitive, new private firms.
The new Russian government, formed after the major reorganization of
ministries in May-June 2000, has embarked on a steady course of reforms, thus far with
more determination than most since the initial launch of reforms in early 1992.
Deregulation and increased transparency of the business environment; comprehensive
administrative, judicial and public service reforms; hardening of budget constraints at
the enterprise level: changing the nature of the social welfare system—these are just a
few major components of the new, ten-year government program, and the program of priority
measures for 2000 and 2001. This is a very challenging reform program, it would challenge
any government. The World Bank has repeatedly urged the Government of RF to speed up
reform process necessary for economic recovery after the 1998 crisis, by taking advantage
of favorable external factors including high prices for oil and other raw materials
exports, as the "window of opportunity" can close very quickly.
|Russian Federation and the World Bank|
Since the Russian Federation joined the World Bank in 1992, the Bank
has approved more than US$12 billion in loans for 48 operations. As of today, 33 of these
operations are under implementation, and due to some cancellations total commitments equal
US$11.23 billion. Cumulative disbursements to the Russian Federation as of March 1, 2001,
amounted to US$7.62 billion (US$2.67 billion for investment loans and US$4.95 billion for
The Bank's assistance since 1992 initially emphasized the vital role of
the emerging private sector and the importance of maintaining financial stability during
the transition. The operational objectives (i.e., development of a market economy based on
private sector initiative, institutional development, protection of the most vulnerable
during transition) underpinning the Bank's program have not changed appreciably since
1992. During the early years, the lending program emphasized rehabilitation—particularly
in energy— infrastructure and environment, and institutional development. A substantial
technical assistance and training effort was also mounted to support institutional
development in partnership with other donors. Because of the volatile economic, political,
and administrative environment of the early-to-mid 1990's, policy reform was pursued
largely through analytical work and dialogue: quick disbursing operations—apart from
Rehabilitation I and II — did not feature in the Bank's program until 1996.
Following the elections of July 1996 and the political and economic
developments of the ensuing twelve months, the Bank believed that the conditions for a
concerted reform effort — while far from the assured — were as favorable as could be
envisaged. At the policy level, support for reforms appeared particularly strong, The
Bank's fiscal (Fiscal year is from July 1 to June 30) 1998-99 strategy took advantage of
this perceived "window of opportunity" to support a comprehensive, accelerated
program of structural reform. The strategy envisaged — and delivered — a substantial
volume of adjustment lending in support of a comprehensive program of structural reform.
In February 2001, the Bank's Board of Executive Directors approved the
Country Assistance Strategy Progress Report (CAS Update). The last full Joint Bank/IFC
Country Assistance Strategy (CAS) for the Russian Federation was discussed by the Board of
Executive Directors on December 23, 1999. It was the first full articulation of a Bank
Group strategy for Russia following the August 1998 crisis. While it was developed in an
atmosphere of increasing economic stabilization, it remained influenced by significant
economic and political uncertainty. As a result, the CAS covered a shorter, 18-month time
Since the Board of Executive Directors discussed the last Country
Assistance Strategy for the Russian Federation, the Bank Group focused on (i) making
strong progress in improving the portfolio performance a pre-condition for new lending,
(ii) taking on incremental exposure through adjustment loans only when fully warranted by
commensurate progress in reforms, and (iii) and making selective new commitments with
primary focus on improved public resource management. Relative progress has also been made
towards improving the portfolio performance (including selected cancellations of
outstanding commitments), advancing project preparation, and taking steps to re-build the
Bank's knowledge-base with particular focus on poverty reduction and institutional
barriers to growth.
However, the positive developments in Russia over the past year, particularly with
respect to economic and political stability, ownership of the economic reform program, and
improvement in the performance of Bank-supported projects, provide the basis for a
stronger operational engagement by the Bank Group than has been the case since the August
1998 crisis. CAS Update indicates that the Bank Group assistance program will continue to
focus on systemic and institutional reforms, while pursuing related efforts at the
regional and local levels to inform the overall policy dialogue and support the
development of a consistent policy environment at all levels of government. Within this
framework, the emphasis remains on strengthening public sector institutions and
accountability, advancing enterprise restructuring, improving the investment environment,
and strengthening the social safety net. While much of the IBRD support will be aimed at
improving the policy environment and public institutions, IFC will complement these
efforts with direct support to the real sector. Synergies are particularly important in
supporting the creation of an improved investment climate.
The CAS progress report sets out a change in the criteria for
scaling-up the World Bank’s financial support to Russia. As most of the significant
reforms that had been agreed to as part of the now-cancelled Third Structural Adjustment
Loan are incorporated into the Government’s own program, the relevant criterion has
changed from implementation of adjustment loan conditions to the implementation of the
Government’s program – thus providing a broader base for assessing progress.
Similarly, the Bank’s approach towards supporting further structural reforms is now
centered around the Government’s program, whose implementation will be monitored by the
Bank and may be supported, depending on financing needs and reform implementation, by
future adjustment lending.
The August 1998 financial crisis had a devastating impact on the quality of the Bank
Group's portfolio. By July 1999, after a thorough review of the portfolio, only 33 percent
of IBRD projects were rated as satisfactory. The Russia portfolio accounted for one third
of the Bank’s commitments-at-risk. The July 1999 Country Portfolio Performance Review
(CPPR) set out a clear road map to address generic implementation issues, as well as
specific implementation issues on a project-by-project basis.
The February 2001 CPPR confirmed that the portfolio is largely back on
track. As of February, 80% of projects are satisfactory overall, up from 76%
at the conclusion of the July 2000 CPPR. The portfolio quality now exceeds the peak levels
recorded prior to the August 1998 crisis. This remarkable achievement was the outcome of
(i) restructuring and cancellations of components in investment projects amounting to
nearly $1 billion since July of 1999; (ii) an extraordinary effort by the Government to
satisfy conditions to upgrade a total of 12 projects, and (iii) the closing of four
unsatisfactory projects. The Bank proposed to the Government to have a brainstorming
session during the Spring Meetings with the participation of the Russian delegation and
the Bank’s country and sector staff on the agenda and mechanisms of the next thorough
review of the portfolio that has been scheduled for June 2001.
In the course of the current financial year (2001 fiscal year is from
July 1, 2000 to June 30, 2001) Russia could receive from the World Bank up to USD 600
million under six projects. Four projects have already been approved by the Board of
Directors, including improvement of traffic management in Moscow(USD 60 million) and
municipal heating in the Russian Federation (USD 85 million), USD 200 million guarantee to
help Russian coal and forest industries upgrade their economic performance in
environmentally and sustainable way, as well as USD 122.5 million project in support of
the most critical and immediate investments needed to improve operation of the water and
wastewater systems of 14 Russian cities. The Northern Restructuring project (USD 80
million) to help voluntary resettlement of Russians leaving in the Far North to other
regions and education reform project (USD 50 million) to test at the federal and regional
levels of models and mechanisms to establish organizational and economic conditions for
improving the quality of general secondary and primary vocational education could be
considered by the Board of Directors till the end of the 2001 financial year.