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“Concept of strategic development of Russia for the period ending in 2010”
(was formulated by a working group under the supervision of a member of the Presidium of the State Council of the Russian Federation, V.I. Ishaev, D.Sc. (Economics)

CONTENTS

Preface

Introduction

1. Social consolidation as the groundwork for the state’s development

2. Development concept

3. Main elements of the economic policy

4. Reform of power and strengthening of social base of reform

5. Basic elements of the short-term economic policy

The Concept of Strategic Development of Russia for the Period Ending in 2010 was formulated by a working group under the supervision of a member of the Presidium of the State Council of the Russian Federation, V.I. Ishaev, D.Sc. (Economics).

Materials and proposals used hereinafter were contributed by the following scholars:

Academician of the RAS	A.G. Aganbegyan
Cand.Sc.(Economics)	A.R. Belousov
Corresponding Member of the RAS	S.Yu. Glazyev
Academician of the RAS	A.G. Granberg
Academician of the RAS	V.V. Ivanter
D.Sc.(Economics)	Ya.I. Kuzminov
D.Sc.(Economics)	V.N. Melnikov
Corresponding Member of the RAS	P.A. Minakir
Academician of the RAS	A.D. Nekipelov
D.Sc.(Economics)	A.N. Shokhin

PREFACE

At the first session of the Presidium of the State Council of the Russian Federation held on September 29, 2000, the President of Russia asked that a working group be formed to map out a strategy for the state’s long-term development. Myself as a member of the Presidium of the State Council of the Russian Federation, was made head of the group. The group included prominent economists, noted politicians, members of the government and heads of parts of the Federation. The group promptly wrote a report, “Development Strategy for the State for the Period Ending in 2010.” The concept of the Strategy, the ideas basic to it, and the strategy’s principal elements, i.e. a comprehensive vision of the perspective, and of the goals and objectives of state construction, were reported in advance at a session of the Presidium of the State Council, were approved by those present and recommended for presentation in report form at the first session of the State Council.

The report was made at the first session of the State Council of the Russian Federation on November 22, 2000. Its basic provisions were endorsed. President of Russia V.V. Putin asked the working group to finish formulating, jointly with the Government, the state’s development strategy through the year 2010 and put it before the State Council of the Russian Federation for consideration in February, 2001.

The basic provisions of the Strategy for development of the state and society went through several rounds of discussion. The work commenced by the working group was carried on even subsequent to the session of the State Council held on November 22, 2000. The development plan was widened owing to the enlistment of specialists working in the public, economic, legal and political fields.

Discussion of the principal ideas underlying the strategy at an enlarged session of the Department of Economics of the Russian Academy of Sciences, held in late January, 2001, constituted an important stage. At it a number of proposals were made for the plan’s further development and its principal provisions were supported. The Programme was supported by noted scientists and political leaders including such as the chairman of the Upper Chamber of the Federal Assembly of the Russian Federation Yegor Stroyev, the mayor of Moscow Yury Luzhkov, the President of the Republic of Tatarstan Meitimer Shaimiyev, the mayor of St. Petersburg Vladimir Yakovlev, the academician and secretary of the Department of Economics of the RAS D.Lvov, the leaders of the Security Council of the Russian Federation, and the leaders of a number of factions in the State Duma. That support and the repeated discussions of the materials convinced us that the principles, goals and objectives, and the means of their attainment set forth in the Development Strategy, were consonant with the endeavour of establishing a strong and effective state which is to play its role in the transition period and create conditions for ensuring a worthy life for the country’s citizens.

The Development Strategy is based on the idea of the social consolidation of society. This can only be done if the citizens have a worthy life. Forming, strengthening and increasing the middle class numerically and furnishing a new pattern of consumption on the basis of the Russian standard of well-being is at the very core of the idea.

This idea cannot be realized by distribution and re-distribution of the national income. Therefore, the State Council accords top priority to the goal of attaining stable and dynamic economic development. The development strategy consistently and comprehensively sets forth the conditions, constraints and factors that determine economic growth. The authors of the Strategy believe that the development trajectory for the period covered by it cannot be flat. We have formulated the concept of the stages of economic dynamics and of the requisite conditions under which Russia’s economic development will really be progressive and dynamic. The economic dynamics of such a vast country cannot fail to take due account of the economic and geographical diversity of its system. Therefore, incorporation into the Strategy of the task and mechanism of forming an effective regional economic system that fits in with Russia’s is a logical continuation of the concept of economic development.

The monitoring and analysis of Russia’s development in the 1990s and research into the experience gained by countries widely differing in their political systems and levels of economic development give us grounds to assert that there exists a certain uniformity governing effective employment of methods for overcoming crises. It is a matter of state regulation of the transition processes and crisis stages with due account being taken of the national and economic specifics of this or that country. State intervention is characteristic of a number of countries: their recovery from crises and the creation of conditions propitious to efficient market economies is linked to the names of President F.Roosevelt in the USA, D.MacArthur in Japan, M.Thatcher in Britain and Deng Xiao Ping in China. A majority of the people in Russia are pinning their hopes for an improvement in their lives and for recovery of the Russian economy from the crisis on President Putin, first of all.

Advanced democracy and a stable market economy with guarantees to secure ownership rights and with equitable conditions for competition for all economic entities whose development proceeds on the basis of the self-organization of civil society and entrepreneurial initiative are the indisputable goal of the state and society. The state must not renounce the liberal values and institutions of the organization of society. And it is pursuing precisely that course. Moreover, the state has the goal of creating a truly liberal society with an efficient market economy. The market alone can guarantee high and sustained economic growth.

This is precisely why the institutional conditions for the formation and development of an effective market are set out in the Strategy’s extensive and substantial section on the state’s economic policy.

The authors of the Strategy realized that it would be insufficient to merely declare the goals, objectives and intentions connected with ensuring the people’s well-being, security and worthy life. The state has a duty to guarantee an effective elaboration and implementation of any decisions through concerted efforts by the Federal Centre, the Russian Federation regions and the business community. This being so, creation of a legal and organizational mechanism to ensure such concerted efforts is fundamental to the strategy of the state’s development. Effective development of society, the economy and the social sphere is only possible if the government is efficient. The reform of the government administration and the strengthening of the social groundwork for the reforms presuppose, as we see it, establishment and unswerving adherence to the principles of assignment of competence and of the compatibility, applicability and supremacy of the laws, elimination of overlapping and duplication in regulatory measures and accordance of precedence to Federal legislation.

The experience of 1999-2000 has given us grounds for a certain optimism what with the encouraging economic growth, a pickup in the investment process and improvement in the population’s real incomes. The long-term strategic goals and objectives should unquestionably be based on the said favourable (so far) micro-tendencies. Therefore, a separate section is set apart in the Strategy to deal with the task of furthering the key positive tendencies. On the strength of the said tendencies we have formulated essential measures designed to raise the rates and enhance the stability of economic growth as a condition crucial to attaining the strategic goals and objectives of Russia’s further advancement.

The working group has mapped out the Strategy for the state’s development, but the work having to do with its improvement and implementation already has its own short history, and, therefore, I would like to express my sincere gratitude to all those who directly worked on it and who made their proposals, remarks, comments and observations in the course of its corrections and amendments, and discussion.

Head of the working group,
member of the Presidium of the State Council of the Russian Federation,
Head of the Administration of Khabarovsk Territory,
Doctor of Economics
V.ISHAEV
February, 2001

INTRODUCTION

Formulation of the strategic goals and objectives is a crucially important function of the country’s top government officials. The absence of well-formulated and clearly-presented goals and objectives of development, or their inaccurate selection, could have serious consequences for the entire society and could plunge the country into a protracted social and economic crisis. In the past few decades Russia has had to witness and withstand such adversities quite a number of times.

The state strategy for socio-economic development can be a widely used tool for anti-crisis regulation, mobilization of resources for attaining the objectives of structural and technological and institutional modernization of the economy (including the policy of “catch up development”). The Strategy is also a source of information for those operating in the market and is very important for making investment decisions.

We assume that the market reforms are not a self-sufficing objective. From the point of view of the public’s interests, any economic mechanisms are but a means for attaining a certain sought-after end. An economic system can be considered effective only to the extent that it is able to ensure, under concrete macro-economic circumstances, the attainment of society’s basic objectives: high living standards for the population, harmonious social relations and stable development dynamics.

Not just any market economy meets the said criteria. The smooth functioning of a market economy is achieved due to fine-tuning of the interacting markets, the attainment of completeness and maturity of its system of institutions and the appropriate social prerequisites. Under present-day conditions the natural evolutionary formation of a market economy in Russia will require quite some time, will cause the country to further lag behind other countries — the leaders of world economic development, and will be accompanied by a substantial loss in its production and resource potential, and also by prohibitively high social costs.

Therefore, an efficient market economy must be built. It must be the result of implementing a strategy of transformation and modernization that entails the coordination and harmonizing of the goals and objectives pursued: market transformations, anti-crisis regulation, structural & technological modernization, raising the people’s living standards and the country’s effective incorporation into the world economic system.

This kind of socio-economic development strategy should widen the system of “goal-oriented guideposts” and furnish the groundwork for the ongoing and medium-term programs of the macroeconomic policy being formulated and implemented by the federal government.

Important long-term goals and objectives worthy of Russia and, simultaneously, attainable must be made basic to the Strategy. The transformation of Russia into a dynamically developing economic power ensuring through intensive and dedicated labour and business initiative, and a judicious and consistent policy the average European living standards, in Russia’s natural-climatic and geographical conditions can be adopted as such a strategic goal today.

The objective prerequisites for attaining this goal are Russia’s high current economic growth rates, that appreciably exceed those of the neighbouring countries and of the world community taken as a whole. This being so, the creation of conditions propitious for effective economic growth, based on investments in the structural-technological modernization of the country’s economy and ensuring advancement of the well-being of the citizens of Russia is becoming a vitally important goal for the Russian state.

The qualitative characteristics of the country’s economic dynamics have been assuming paramount importance. Attainment of merely “high growth rates” cannot be regarded as a strategic goal of development. Even less so if those rates are attained as the result of “production for the sake of production”. Growth rates must be the result of attainment of concrete improvements in well-being important to the population, they must derive from successful solution of the problems posed by structural-technological modernization, and they must partly be due to the additional competitive edge gained by Russia on the international arena.

In the contemporary Russian reproduction crisis and in the initial stages of the transition to market relations peculiar to our country, operation of the market forces must be reinforced and/or adjusted by a judicious state socio-economic policy. Elaboration and implementation of the long-term strategy for structural-technological and institutional modernization ensures that the growth of the state’s activity in the economic sphere is adequate to the reproduction situation that has taken shape and to the complexity of the tasks involved in building an effective socially-oriented market economy.

1. SOCIAL CONSOLIDATION AS THE GROUNDWORK FOR THE STATE’S DEVELOPMENT

Society’s deep division remains a key factor hindering the strengthening of the Russian state. Society’s principal segments have been drifting farther and farther apart in their value orientations, living standards, lifestyles, behavioural patterns and norms. This breakup and “flight to the poles” makes the establishment of democratic institutions of the state and civil society extremely difficult inasmuch as the very foundation of democracy, i.e., the social accord on the basic values and principles of life, has been disappearing.

Effectively, two models of value orientations diametrically opposed to each other, have been evolving in society. One of them gravitates towards state paternalism and collectivism, the other — towards rugged individualism and the attainment of personal success. The later espouses pragmatism and financial gain.

Today there have evolved in Russia two unequal social strata: the well-off and the poverty-stricken. The well-off have either retained or raised their pre-reform living standards. The stratum of the well-provided-for includes 25-30 million people, or one fifth of the country’s population. Eight to ten million people in that category (5-7 percent of the population) have practically reached the Western standards of consumption of foodstuffs and articles of wearing apparel, consumer and household goods, and durables, and services. Those in the poverty category have average per capita incomes which do not cover even the subsistence minimum. They number about 60 million and account for 40 percent of the population. Note that the cash incomes of 25-30 million people have fallen below the cost of the minimal consumer goods basket, i.e. to the poverty level (Fig.1). Entrenched poverty, with the behavioural norms and stereotypes peculiar to it, has fast been growing within that stratum.

The Existing and Feasible Distribution of the Population of Russia according to Living Standards

Fig. 1

Therefore, Russia has increasingly been becoming similar to “third world” countries. The well-provided-for social groups find themselves hemmed in by the low-income population with paternalistic value orientations, but (so far) with cultural and consumption standards higher than those in “third world” countries. Under such conditions consolidation of society and development of effective economic motivations is hardly possible. On the contrary, pre-conditions for social discord and conflict continue to exist and prevail.

In this social environment the state turns out to be alien and even hostile to the principal social groups. The estrangement of the social segment espousing the values of paternalism from the state is linked to the scaling down by the latter of its social functions, such as social welfare, labour remuneration, education, public health, housing, safety, and protection against social injustice. On the other hand, to the well-to-do part of society even the remaining social functions of the state appear to be needles and are regarded as contributing to the tax and administrative burden. Meanwhile, in Russian society it is precisely the state that has always played the key role, acting as an arbitrator among various social groups, lessening the acuteness of social conflicts and introducing into society the necessary social order and a set of common goals and objectives.

At all times the Russian state’s most important function has been to maintain a delicate balance and dialogue among various social strata and groups. The policy of state paternalism and performance by the state of a wide spectrum of social functions played a special role in that.

The ratio between state and individual expenditures made for social needs and requirements (public health, education, housing and utilities) gives an idea of the extent of paternalism. For instance, in the USSR the ratio was by an order of magnitude greater than in the USA.

The experience gained in the past few years shows that, today as always, the establishment of a strong and efficient state is only possible on the basis of social consolidation and public support for the goals, objectives and actions of the government. Attempts to achieve that relying solely on the consolidation of the business community and the political elite are doomed to failure. Social consolidation is an indispensable condition for democracy and the development of a civil society.

With the “bipolar” structure of Russian society now, two essentially different approaches to the role of the state and its social functions have evolved today. One of them is based on state paternalism, large-scale support for the low income population strata at the expense of the state. The limits of this approach, considering today’s economy and the prospects of its development in the near future, are obvious. To date, the social expenditures made by the state, including financial support for housing and utilities have reached 10 percent of the GDP. Their share is higher than in 1990 (8 percent of the GDP). And yet, the problem of poverty remains. Certainly, the present 10 percent of the GDP is way below the 9 percent of 1990 in absolute value terms. But a substantial increase in the total amount of social expenditures is infeasible without a massive increase in the tax load on the commodity producers which would lead to a new period of stagnation in Russian society (but under much worse social and economic conditions). That kind of stagnation would not become a mode of survival of society and the state; it would become a strategic deadlock, “quiet death under a social anaesthesia”. This means that any attempt to solve the problem of poverty exclusively at the expense of the state has no real prospects.

Another approach involves accelerated implementation of the model of a subsidizing state based on the following principle: the state is responsible only for the provision of a minimum of social services; the bulk of the citizens (not the needy) are to earn their own living. Under this scheme, social expenditures, are re-distributed in favour of the most vulnerable population groups with a simultaneous reduction in the social transfers to the well-provided.

In reality, none of the said models can be implemented in its “pure form” today. On the whole, Russia should strive for the subsidizing state model. Yet, this variant is feasible only given high and, the main thing, stable rates of economic growth. In the short term they will also help retain a minimal level of paternalism.

So, for there to be social consolidation, the following interlinked objectives must be attained:

smoothing out the relations between the principal social groups;
on that basis, formation of a contractual framework for the behaviour of various social groups and the mechanisms of answerability for any violations;
widening the base of social support for the government authorities on the strength of their real responsibility for the attainment of socially important objectives (rising living standards, citizen safety and welfare).

The heart of the problem is that, in the absence of a numerous middle class, consolidation of a divided society can only be guaranteed by the state.

And in order to launch the interdependent processes of social consolidation and strengthening of the state, fulfilment of the following conditions is indispensable:

selection of a strategic goal of state development which has a consolidating potential and is capable of integrating the efforts of various social groups;
the drawing up of a “social contract” between the state (the government), the business community and society on which the institutions of legitimacy of the state and property must be based;
establishment of a new social order regulating the behaviour of the principal social entities in the overall setting for attainment of the state’s strategic goals and objectives.

One of the main goals of state development and having the greatest consolidating potential is the raising of living standards, security, and a worthy life for the citizens of Russia. This is precisely how the state’s main task is formulated in Article 7 of the Constitution of the Russian Federation. Consequently, the high level of organization, preparation and utilization of all forces and resources of the state for carrying out that task should be the principal criterion of its development.

The mechanism of “the social contract” consolidating the state, the business community, and society in their efforts to reach the goal of advancing public well-being could look something like this:

vis-a-vis society, the state assumes the real responsibility for creation of conditions propitious to the raising of living standards and securing social guarantees and security, with society, for its part, giving it legitimacy and public support;
vis-a-vis the business community, the state provides the guarantee of ownership rights, creates a favourable climate for free enterprise, supports our businesses outside Russia and, in return, gains support from national capital and strict adherence by the members of the business community to the norms and rules established by the state;
the balance between society and capital is built on the following principle: socially-responsible behaviour of the business community in exchange for public support of its interests, goals, objectives and efforts.

Creation of an appropriate legal mechanism ensuring harmonization of the interests of the Federal Centre, Russian Federation parts and big business (corporations) and coordination of their efforts is to be the basis for the new social order. This presupposes division of responsibility between the government and the principal economic entities for achievement of the agreed-upon parameters pertaining to the standard of living. Creation of such a mechanism will make it possible, on the one hand, to strictly delimit and accurately define the commitments and spheres of responsibility of the Federal Centre, Russian Federation parts, bodies of local self-government, the business community, and citizens themselves, for raising living standards and carrying out social tasks and, on the other hand, to arrange for a continuous dialogue between the principal participants in the economic and social processes.

The success of the state’s development according to the principle of “well-being for the majority” will be determined by the dynamics of the formation of a numerically large middle class. It must encompass at least 50-55 percent of the entire population. Simultaneously, the proportion of the population with incomes below the subsistence level must be only 10-15 percent towards the close of the decade. The state will simply be unable to keep together the diametrically-opposed segments of society for long unless accelerated formation of its natural social mainstay, i.e., a large stratum of people with average incomes, begins. Formation of a middle class will impart the requisite stability to the entire society and will serve as the basis for overcoming the worst consequences of the social split.

The formation of a middle class presupposes evolving a new pattern of consumption, “a Russian standard of well-being” corresponding to the consumption propensities of the given social group. What is meant is not a “socially-guaranteed minimum” but consumption rates corresponding to a worthy living standard which are simultaneously attainable by the mass of Russian citizens and, therefore, can give them tangible incentives to work and engage in entrepreneurial activity. This standard of well-being includes the following: good housing, a country house, ready accessibility of durable goods, a car, health care and an education. Implementation of the “well-being for the majority” strategy presupposes that precisely that standard, as the most widespread and typical, should serve as the basis for long-term economic development.

Reformation of the social sphere to be pursued under the “well-being for the majority” strategy should be based on the following general principles:

the impermissibility of lowering the living standards of most population groups at this stage of the reforms;
a firm guarantee of universal accessibility to the basic social services, and, above all, high-quality medical care and education;
provision of welfare allowances, benefits and grants, and other cash payments to the needy;
a gradual changeover to the principle of payment for social services and abolition of “cross-subsidizing”, in strict conformity with the growth of citizens’ real incomes, of salaries of state employees, and of welfare payments.

It has been calculated that in order to form a numerically large middle class the consumption level in the Russian Federation will have to increase by 70-80 percent on average as against today’s figure. This gives rise to a number of concrete tasks to be accomplished in the 2000-2010 period:

ensure at least a 75 percent increase in citizens’ incomes;
sharply “scale down” poverty, reduce the number of the people with incomes below the subsistence level by roughly three times;
increase (by the year 2003) pensions to the subsistence minimum;
ensure support for and development of social institutions determining the quality of “human capital” (education, health care and culture). To that end, the expenditures from the budgets of all levels for the social sphere are to be increased by 2010 by no less than 60 percent as against the year 2000.

A key condition for carrying out the said tasks is implementation of the wages reform whereby labour remuneration could be doubled step-by-step and even raised by 150 percent. Then the working population would be able to pay more of the cost of housing and utilities, and medical care, etc.

The existing remuneration system in Russia is unrelated to the market. Its structure has endured since Soviet times, and with the average monthly earnings being equivalent to 80 dollars (100-120 dollars, considering “shadow” earnings), the bulk of the population cannot afford to pay for housing and utility services at market prices. From such wages one cannot transfer money to personal pension accounts or for the compulsory health insurance. Under the existing conditions, 70 percent of all expenditures for the maintenance of housing, almost 100 percent of the pension payments, and the bulk of the expenditures for health care are borne by the state. The low level of the wages has led to emergence in Russia of an anti-market taxation system under which the population pays but about one tenth of all taxes (40-60 percent are the respective figures in countries with market economies) while the bulk of the fiscal load falls to business which significantly limits the enterprises’ capacity for development. Moreover, business has to pay more for gas, electricity, freight, communications and a number of other services, thus subsidizing the reduced tariffs and rates for the population which make up but 50-70 percent of their actual cost.

The extremely low wages cannot provide incentives for productive labour.

The simultaneous reform of the taxation system, of the sphere of services to the population, and of labour remuneration, will lead to a situation in which the population will, on average, spend some 40-50 percent of their earnings on goods and services, not 70-75 percent as today. That is comparable to the situation in the USA (about 25 percent) and in Western Europe (about 30 percent). Then tax payments and other payments made by the population will increase significantly. That, together with the reduced budgetary expenditures for maintenance of housing and subsidies to the pension fund, will permit reducing the rates for corporate taxes and fees and dues from 35-40 percent of the value of the products sold to roughly 25 percent.

A law establishing the normal minimum wage at enterprises of all forms of ownership so that the average wages would not be more than four times the minimum wage could be one of the ways of carrying out this reform. This principle would permit significantly increasing the incomes of the ill-provided population strata. Introduction of full pay for housing and utilities for the bulk of the population would also materially contribute to this. As a rule, the low-income population groups live in smaller and often substandard flats, with much lower maintenance costs. So, individual reduced rents and utility rates could be introduced for the needy.

On the whole, the reform of the wages and taxation systems should be aimed at reducing the difference in incomes between the rich and the poor. The goal is to achieve a distribution of incomes such that the mean combined income of the rich, making up 10 percent of the population, would not top the mean income of the poor, also accounting for 10 percent of the population, by 14-15 times, as today; the sought for difference is 7-8 times, as in the West-European countries.

The need to solve those social problems, while providing a sufficiently high level of national security, imposes extremely stringent requirements on economic growth. Economic growth rates must not be lower than 5-6 percent per annum. And since, in the long term, the annual average rates of growth of primary resources cannot exceed 2-4 percent, economic efficiency should be raised at the rate of no less than 2-3 percent per annum. Hence an investment breakthrough will be decisive in ensuring economic growth (and, consequently, the entire strategy of Russia as a social state). This presupposes:

a firm guarantee of the accelerated growth of capital investments (they must at least double in the coming decade, i.e. they must increase at an average rate of no less than 8-9 percent per annum);
execution of an investment manoeuvre in favour of the sectors capable of ensuring the competitiveness of the Russian economy within the world economic system;
provision of investment support for a number of key sectors whose investment potential is insufficient today, e.g. agriculture and the power industry;
provision of investments in the sectors of scientific and technological innovations (failing to do that will lead to reproduction of obsolescent technologies and perpetuation of economic backwardness).

So that investments could really become a significant factor in final demand and an incentive to economic growth, the domestic production of investment goods, especially plant, machinery and equipment, must play a substantial role in backing them up. This presupposes accelerated modernization of this economic sector on the basis of both domestic and imported equipment and technologies.

It should be emphasized here that only a model of economic growth oriented on raising the living standards of the majority of the population can help the country get out of the current socio-economic crisis. Its acuteness is today being masked by a temporary market driven wave of production revival. If the country’s economic policy stakes on “growth for the sake of growth, a social upheaval in the country could one day cut short both production growth and the state’s normal development.

2. DEVELOPMENT CONCEPT

2.1. An Economy of Growth

Achievement of Russia’s mid-term goals of strategic development is only possible on the condition that an economy of growth is restored. Not only quantitative but also qualitative characteristics of economic dynamics are crucially important for that.

Russia’s “bright” future can only be assured if precedence is accorded to development of the processing sectors of industry, the “soft” and “heavy” infrastructures, and the sphere of modern services. It is precisely their dynamics that determine, on the one hand, the level of investment activity and technological renovation of production and, on the other hand, the dynamics and pattern of consumption by the population. The population’s consumption standards in turn determine development and reproduction of incentives to work and, consequently, the possible contribution of social factors to the enhancement of production efficiency.

Development of the domestic manufacturing industry and construction, and of the infrastructural and service sectors is capable of ensuring a cardinal improvement in the quality of life for the people of Russia, and providing possibilities for changing the conditions of life for the better owing to large-scale provision of affordable housing, production and sale of automobiles and priority development of the infrastructure.

The primary sector of the Russian economy, including the processing industry and especially its export-oriented branches, furnishes the most important material resource for economic growth and maintenance of the level and dynamics of the revenues derived from exports. The latter is especially important in this period of restoration of the technological capacities of the manufacturing sector, construction and transport. If the primary sector is to fulfill the tasks of material support for economic growth in Russia and of maintenance, in the intermediate term, of the positive values of net exports, then a comprehensive, fully-integrated, processing of raw materials must be developed in the extractive industry and the share of final products in the exports increased.

Conditions for economic revival. In order to ensure dynamic economic growth in the intermediate term it is necessary to fulfill at least the following three prerequisites:

retention inside Russia of the financial resources generated in the Russian economy and their conversion into the main source of demand for domestic products; the modern level of the export of capital annually amounts to 15-20 billion dollars which is tantamount to a loss of 450-600 billion roubles of final demand or 6-8 percent of the potential increase in production output on average per annum; the outflow of financial resources from the country is actually one of the principal causes of the recession which has lasted for a number of years now;
the maximum possible utilization of the production capacities;
intensification of investment activity for modernization of the existing facilities and creation of new ones for ensuring the process of extended reproduction; comprehensive development of the technological and scientific-technical capacities.

It is with a view to providing such conditions that one should consider all matters of economic policy and formulation of the concept of Russia’s economic development over the long term.

Growth capabilities. The main prerequisite for the concept of development is the assumption that economic growth in Russia in the intermediate term at a rate of 5-7 percent for total production and at a rate of 10-15 percent for the separate branches of the manufacturing industry is not only necessary but also feasible. (Fig. 2).

Average Annual Growth Rates for Crucial Economic Indicators in the Short Term, percent

Fig. 2

In the next few years these capabilities will be determined by a number of positive factors including those that have emerged as the result of the recession in production which has lasted several years.

First, there is “natural” or physical capital, that is buildings, machine-tools, mechanisms, and thermal and electrical facilities, and service lines which, in the ongoing serious economic crisis, have been used for manufacturing products far below capacity or have been held in reserve. Part of them cannot, for various reasons, be put into operation but a significant proportion of them has been preserved and can be included in the category of functioning capital in the event of an increase in effective demand. An increase in the size of the functioning capital due to putting to work the said capacities, furnishes a practically “free” source of economic growth, inasmuch as the first stage will not require significant investments for commissioning new facilities.

Secondly, there are “moderate” constraints on the resources affecting economic development. At present the Russian economy as a whole does not have stringent constraints on energy, metal and raw material resources and on the throughput of the transportation system. A very serious limiting factor is the dearth of skilled labour, the loss by many enterprises, especially those of branches in the manufacturing industry, of their skilled workers, engineers and technicians in the years of economic stagnation. Restoration of the potential of the personnel will require strenuous efforts and a fairly long time. But special efforts and financial resources for formation of reserves and protective stocks for economic growth will not be required in the first stage.

Thirdly, a relative reduction in domestic expenditures, in view of devaluation of the rouble, has made imports on the Russian internal market less competitive. This has made it possible, even with practically unchanged investments, to start up the underutilized industrial capacities which have made their positive contribution to economic dynamics, above all, as a factor for increasing final demand.

Fourthly, there has been a relative reduction in production costs in many branches of the manufacturing industry against the background of a relatively slower growth of prices for capital and engineering goods in 1989-1999. Simultaneously, improvement of the conditions for traditional Russian exports on world markets has permitted substantially raising the financial status of our export-oriented sectors.

In a number of sectors that has led to accumulation of substantial revenues which could furnish the financial basis for economic growth.

Therefore, the Russian economy has the principal prerequisites for continuing the economic upsurge: unused production facilities, a supply of the bulk of the resources for current productive consumption, and financial resources seeking effective employment. An important objective of the economic policy lies in joining together these factors of growth. Thus, it would be possible to realize a less capital-intensive variant of development for most sectors of the national economy. Calculations show that within the next 2-3 years output could be increased by at least a further 25-30 percent exclusively owing to utilization of the existing production capacities. This, however, presupposes the utmost utilization of domestic final demand as a factor for economic growth. External demand is capable of ensuring no more than a 3 percent economic growth in the long term. That will be utterly insufficient both for overcoming stagnation in living standards in the forthcoming decade and for raising the role of Russia in the world economy and politics.

Nor is the available resources potential eternal. Any delay in formulation and implementation of an adequate socio-economic policy will inevitably reduce the possibilities for positive economic development due to that potential and puts in doubt its attainable results.

2.2. Problems and Constraints of Growth

Inefficiency of the pattern of domestic demand. At present a situation has evolved in the Russian economy which is characterized by the fact that in one part of it there are revenues which cannot be efficiently used and are redundant in that sense, whereas the other part of the economy suffers from an acute need for financial resources for production development.

The bulk of potential additional demand is today formed out of the revenues generated by the export-oriented sector and obtained because of devaluation of the rouble and improvement of the situation on the world markets. In reality, however, this sector is not ready to generate a demand on the internal market corresponding to the growth of its revenues either in remuneration of labour or in increasing investments. Therefore, the additional revenues of the export-oriented sector are actually a potentially exportable capital.

At the same time a significant number and proportion of the enterprises of the real sector of the economy are inadequately provided with their own current working capital. The banking system, having a relatively large reserve of liquidity, is still incapable of performing the function of moving capital from sector to sector. This results in the inaccessibility of bank credits and in the absence of real possibilities for long-term borrowing. In these conditions the deficit of enterprises’ own resources in the real sector causes both the low level of demand and constraints on production growth.

Therefore, the strategic economic development prospects will in a large part be determined by whether or not the additional revenues of the economic entities can be channeled into the internal market and into investments above all.

Foreign debt. Should the obligations pertaining to payment of the foreign debt be discharged in full (the debt payments are to average 16 billion dollars per annum in the space of the first decade of the 21st century) the result will be stagnation of production and a further deterioration of living standards.

A rescheduling of the foreign debt through negotiations would be the best and most natural way out of the situation both for Russia and for its creditors.

The following positions should, in our view, be basic to the negotiation process.

First, the Russian economy, unlike the Russian state, is solvent already now (a favourable balance of trade on the order of 5-60 billion dollars per annum, continuous improvement of the investment position of the lending organizations, a reduction in the debt obligations of the Russian corporations.

Secondly, restoration in Russia of economic growth in the event of a tangible reduction in capital outflow abroad and utilization of the additional resources developing as a result of this for financing domestic investments, along with retention of the competitive advantages of the Russian economy that have arisen as a result of a large-scale rouble devaluation and large-scale development of external economic relations through eliminating discriminatory, and other, impediments to domestic imports, could turn the Russian state into a solvent entity in the field of international relations.

Thirdly, the efforts of the government of the Russian Federation and the Bank of Russia must be aimed at curbing the illegal export of capital and also at limiting imports by pursuing a suitable currency exchange and customs policy. This will help preserve the favourable trade balance, on the one hand, diminish the pressure being exerted on the internal market and make room for import substitution, on the other hand.

Fourthly, the creditors are not interested in a conflict with the Russian state but in repayment of the money owed to them and in the preservation of Russia as a significant market of goods and investments. Rescheduling Russia’s debt to the private sector and writing-off the debts incurred for political and not commercial motives would, unquestionably, facilitate Russia’s recovery from the crisis.

In negotiating the rescheduling of the debts, the foreign creditors could be offered a scheme providing for partial discharge of Russia’s debts through implementing joint commercial projects on the territory of Russia.

Under such a scheme, foreign companies could invest in various lucrative investment projects. Therefore, the Russian side must support such projects by making available land, production facilities, communications, etc. to foreign investors. Moreover, in such cases, the Russian side must provide legal guarantees enabling the foreign investor to retain, under any circumstances, the right to its share of the revenues and output created in the process of implementation of a particular project. In such cases repayment of part of Russia’s debts will be made either from the Russian share in the revenues derived from implementation of particular projects or from the Russian contribution to the said projects (this contribution must be assessed in accordance with market criteria).

Thus, the most important criteria for transition from a “solvent economy” to a “solvent state” include: a) economic growth; b) a significant favourable trade balance; c) reducing the scale of the export of capital; d) an effective system of tax collection ensuring the growth of budget revenues; e) maintenance of an acceptable level of protection of the internal market through a customs policy which will permit regulating the currency exchange rate in order to lighten the burden of the external debt.

According to our assessments a rescheduling which would provide for payment of but half the obligations linked to the debt of the USSR would be quite acceptable to our country. In that event, Russia’s payments would be on the order of 8 billion dollars per annum the next three years. The maximum size of the debt payments which Russia can afford under present-day conditions without causing serious damage to its economic development is approximately 10 billion dollars. Therefore, no matter how strong the pressure exerted by our foreign creditors, we must convince them that going beyond that would eventually be unprofitable not only for Russia but also for themselves.

Insufficient mobility of resources. Over the long term the problem of provision of resources in support of economic growth cannot be underestimated. For example, the “balance” surplus of energy resources and construction materials which developed in the crisis years and were exported in significant volumes, is not completely mobile and can but to a limited degree be shifted to help sustain internal economic growth.

First, export deliveries of “surplus” resources are essential to maintaining foreign trade and taking advantage of its effect. Orientation towards exports in the raw materials sectors is also objectively determined by the need to service the foreign debt and by import requirements.

Secondly, the regime of reproduction of production capacities which has evolved in the export sectors determines the weight of exports as a source of financing for maintaining production or ensuring the quality of products required for effective competition on world markets.

Thirdly, one should bear in mind the expenditures caused by the excessive difference between the internal prices and world market prices. This causes “rent-oriented behaviour” of a number of enterprises which, notwithstanding the potential demand for their products on the domestic market, stop turning out the products satisfying that demand and change over (when it is possible) to external users. Thereby they enter into the external chains of inter-sectoral cooperation and turn into an “enclave” of the world economy within the Russian economy. Their production potential is thus “tied-down”.

Constraints on the operation of investment funds. In the conditions of the investment crisis, which has lasted for many years now, the sectors of the investment complex not only lack demand but have in large part lost their strategic development guideposts. Their functioning under a survival regime has caused a degradation of their production potentials, both quantitatively and qualitatively. The sub-sectors constituting the technological nucleus of machine building, as well as those oriented towards ensurance of reproduction of the assets in the sectors of the manufacturing industry and in agriculture have found themselves in a dire plight.

At present the production facilities of the investment complex are not in a position to commission and put to work progressive assets in a vast majority of the sectors of the Russian domestic economy. At the same time, capabilities for “non-investment” growth are rather limited, and 2-3 years hence all free resources may be committed. Consequently, without a substantial increase in investments and the commissioning of new assets in the competitive sectors having a steady market, further growth will be impossible.

Successful fulfillment of the tasks having to do with structural and technological modernization is infeasible without a prior renovation of production in the Russian investment-oriented machine-building industry. A substantial increase in competitiveness of the machine-building sector can be linked to introduction of the products and technologies developed and manufactured in the domestic innovational sphere.

This makes it imperative to put to use the reserve investments within the investment complex. The one and only economic entity which can initiate this kind of investing is the state realizing its role in predetermining the country’s historical prospects and implementing a policy of reforms as a long-term programme for socio-economic transformations.

Price ratios. Economic growth the past two years has to a great degree been due to the favourable price ratios. For the raw-materials (export) sectors, the growth of the prices on the world markets at a time when the gap was widening between the currencies exchange rates and the parity of the rouble’s purchasing power due to the devaluation effect has been the main source of growth and accumulations of money. For the sectors of the manufacturing industry, the relatively slow growth of the transportation tariffs, as well as of the prices on electric energy, fuel and the services of the trade & intermediary sector constitutes a crucially important factor in the positive economic dynamics.

On the other hand, a reverse tendency has been in evidence since the outset of 2000. More particularly, the growth of the prices of fuel and energy has begun substantially outpacing the dynamics of the prices on the final industrial products. A further development of that tendency is apt to sharply reduce possibilities for economic growth.

The problem of the infrastructural (natural) monopolies. In Russia, with its cold climate and long distances, reliable energy supply and transportation services have always been an indispensable technological condition for the stability of the national economy. Largely for this reason, the spheres of electrical, heat and gas supply, as well as carriage by railway, have fallen under the sway of large companies which are essentially monopolies. And the level of the prices on goods and services, provided by infrastructural monopolists has become, as stated earlier, an important factor in the economic dynamics of the country.

The world and Russian experiences show that monopolies are always more interested in the solution of their own corporate problems than in advancing the national economic interests. If allowed to do whatever they like, the monopolists in the power industry and transport are apt to bury any economic growth and later turn the country into a multitude of small economic enclaves having almost no common economic interests.

Therefore, for the duration of the transition period, the state must retain strict control over the formulation and pursuit of the financial policy of the infrastructural monopolists. Task Number One for this control is holding the prices of the products of the infrastructural monopolies steady within a corridor which, on the one hand, makes it possible to sustain economic growth in the country and, on the other, enables the monopolies to develop independently. With this end in view, the state must make use of the entire spectrum of instruments of market regulation and, if necessary, of administrative regulation.

2.3. Stages of Development

A thorough analysis of the resource and production capabilities of our economy show that the effective trajectory of economic growth in the intermediate term naturally falls into three periods (Fig. 3).

Variants of Economic Growth Depending on Investment Dynamics

Fig. 3

1. A period of high rates of growth and increase in investments: hitherto unused potential and associated possibilities for a significant enhancement of efficiency of utilization of resources would be drawn into the economic sphere. Considering, on the one hand, the available reserves and partial mobilization of those reserves which already took place in the period of growth (1999-2000), the said period will cover no more than three years. In that period it is possible to achieve rates of economic growth at the level of 8-10 percent per annum.

2. A period of a marked reduction of rates of economic dynamics caused by the depletion of the existing resources and by a lag in the commissioning of new facilities owing to the investments made in the past few years. The length of that period, as well as the degree of lowering of the growth rates are directly linked to the extent of our ability to augment investments in the first period. Calculations show that it could last on the order of two-three years. The rates of economic growth could, in this event, drop to 2-4 percent per annum. At the same time, the quality of economic growth will increase inasmuch as it will be secured due to the development of advanced high-technology production lines and facilities. A fall in economic dynamics can only be forestalled if super-high rates of capital investments (over 25 percent per annum) are guaranteed the next three years.

3. Beginning with the year 2006, it is possible to launch the economy into a stationary trajectory of development with maintenance of the rates of economic growth at no less than 5 percent per annum over the next decade. The task is to ensure the stability of the Russian economic system even during world market fluctuations and create conditions propitious to extended reproduction on the basis of mainly domestic accumulations and investment potential.

2.4. Formation of an Efficient Regional Structure in the Economy

Aggravation of inter-regional differences is one of the negative consequences of the preceding stage of the reforms. At the outset of the liberal reforms the ten more advanced parts of the Russian Federation accounted for over 40 percent of the Gross Domestic Product; now this share has increased to 48 percent. The gap between the ten wealthiest regions and the ten poorest regions increased from 2.86 times to 3.3. times in per-capita cash incomes. And although this increase cannot be called catastrophic, a number of dangerous tendencies are linked to it.

First, an excessive concentration of economic potential and of revenues in a limited number of regions in a country as vast as Russia threatens to reduce a greater part of its territory to “an economic desert”. That will inevitably be followed by an outflow of the economically active population from the said regions and an increase in budgetary expenditures to support for them as economically distressed territories.

Secondly, an excessive concentration of economic might in a few regions changes the very nature of inter-regional economic interactions. The regions situated in the distress zone gradually fall out of the system of inter-regional exchanges and develop into mere consumers of resources and end products. This leads to the development of breaches in the market and progressive disintegration.

Thirdly, as is known, with globalization the market produces a maximum of macroeconomic output but only for the national economy taken as a whole and not for every regional economy. Moreover, certain regional economies, especially the peripheral ones or those located in zones with inclement climates, can lose much from their participation in “open tenders”.

Fourthly, the intensive circulation of financial capital in the past few decades, actually bypassing the real sector in the absence of appropriate restrictions and controlling priorities established by state regulation, is capable of hindering any efforts designed to optimize the regional economic structures for the purposes of the public weal.

Fifthly, decentralization of policy and localization of it in separate Federation parts aggravates inter-regional differentiation. In some regions the policies of the local administrations serve to reduce investment risks, in others, on the contrary, they increase such risks. This, in turn, leads to a further redistribution of revenues and economic capabilities in favour of the leader regions.

Naturally, that does not mean that the independence of the economic policies of Federation parts should be diminished. That would in effect mean a return to the command-directed economy. Yet, preservation or perpetuation of the present-day redistribution of resources in favour of the strong also contradicts the principle of mutual benefit of inter-regional relations and retards the processes of integration and convergence.

The streamlining of budgetary expenditures alone is not sufficient for countering the growth of inter-regional differences. It is necessary to have an active policy of the Federal Centre aimed at implementing priority objectives and structural policy on the regional level. The North, the Russian Far East and some other strategically important regions are to become the foremost of the said priorities.
The fact that production in those regions is not competitive has been invoked as an argument against their development as integrated economic systems and for limiting that development to selective development of natural resources. Yet, from the state’s point of view, a more compelling argument is that it is necessary to have comprehensive social and economic development of all regions. Only thus will it be possible to preserve the unity of Russia’s economy, have real freedom to choose one’s place of residence and protect the military-strategic interests of our country.

From the point of view of economic theory, a regional economic structure is effective only if the maximum macroeconomic results are achieved on a countrywide scale with preservation of the requisite balance (prevention of excessive discrepancies or differences) among all regions and the socio-economic communities. This calls for, as all-important tasks of state policy, the lifting of artificial restrictions on mobility of resources and creation of a special mechanism permitting the curbing of the growth of inter-regional differences.

This is especially important for peripheral regions and those with inclement climates. A purely market solution of their problems would only be possible if superfluous labour could freely move to the west and south of Russia. But precisely that is not in evidence: the regional labour markets are freeing up much more slowly than the capital market does (nor can the latter be considered totally free). And, finally, the long distances separating the western and eastern regions of Russia and the high rates for land transport (especially for raw-materials cargoes) hold the danger of separate parts of our country “growing into” various segments of the world market. And that, in turn, would lead to a further, and worse, weakening of the inner ties. “Coalescence with parts of the world market” is inevitable if the country’s economy continues developing as a raw-materials appendage.

All that necessitates the pursuit of a special policy aimed at establishing efficient regional economic structures. We believe a suitable combination of economic self-sufficiency (in cadres, and financial and managerial) at the level of Russia’s large regions and organization of their intensive interaction to be a salient feature of such a structure.

3. MAIN ELEMENTS OF THE ECONOMIC POLICY

3.1. Strengthening the Market Basis of the Economy

An indubitable conclusion that Russia can draw from world experience in the 20th century is that a market economy should play a major role in any nation’s march to economic prosperity. Moreover, as we have already mentioned before, the strategic objective of the State is to build a truly liberal society with an effective market economy. Only a market can provide for stable and rapid economic growth.

This does not mean, however, that deregulation of the economy, in its primitive sense, should become the main economic policy. Effective mechanisms of creating and running a truly competitive market are also very important.

The market economy in Russia is at the initial stage of development now. A number of most important markets, market institutions and instruments are lacking, and there is a shortage of legal and information support. It means that market mechanisms cannot consolidate their grip on the Russian economy by themselves, and so government support is required in order to further develop the Russian market. The main objective is to create the prerequisites for the effective functioning of the market and, at least, its relative controllability.

One of the illusions predominant in the nineties was the conviction that liberalization and privatization are by themselves essential and sufficient prerequisites for the development of a market economy. The experience of Eastern Europe and China, though, demonstrated that new effective market institutions can be created only by a strong government which knows how to run things, keeps its commitments and exercises strict control over the observance of the rules of the market game by both the market entities and the state machinery.

Therefore, generally speaking, it is too early now to talk about deregulation of the economy, though this subject has become quite popular in recent years. First it is necessary to secure the effective functioning of the market and, at least, its relative controllability. A really helpful intermediary result would be de-bureaucratization rather than deregulation of state control.

The problem is that in Russia both a stationary market and traditions of democratic state regulation are lacking. The current practice of federal and municipal control bears the imprint of the spontaneous dismantling of the socialist system. As a result, the state has, on the one hand, admissibly slackened its control over a number of processes determining the vital capacity of society (ensuring the defense capability, the development of education and fundamental science, the structural development of the economy, people’s security and the like). On the other hand, there remains the inertia of unjustified, unfunded, and therefore deleterious, intervention of the State in those processes of social and economic development which have a great potential for self-regulation. Therefore, after taking stock of the tasks and functions inherent in state and municipal management, it is necessary to renounce those of them which cannot or should not be implemented.

At the same time the realities of the present stage of development and the medium-term outlook require that the State considerably heighten its responsibility and the effectiveness of its control in such traditional spheres of social life as management, defense, social support, fundamental science, and education. In addition to that, the State, taking into account the peculiarities of the transition period and the Russian economy in general, should significantly widen the scope of its responsibility in the economy as well.

This does not mean, however, that the State should direct all its efforts towards direct participation in the economic life of the country as a business entity. First of all, the government should form the so-called public sector, as the theory of market economy demands. The state sector in the economy must be managed effectively, but it is necessary to realize that it serves not so much the attainment of any commercial goals as rather the development of strategic markets, job creation, extension of the taxable basis and maintaining the proportions of reproduction. Such indirect effects are the main result of state investment activity.

The institutional reforms of the late ‘80s and early ‘90s produced doubly negative results which were worse than expected because of their inconsistency.

State regulation was oriented primarily towards creating and reconstructing the sphere of currency circulation and financing. No mechanisms of coordinating branch-wise and regional strategies had been worked out yet then, not to mention constructive strategies at the general economic level. Lack of consolidating strategic goals and values explains why economic entities suffer from a shortage of distinct guidelines and end up having multidirectional strategies and activities.

The poor development of economic institutions does not allow big business to use its advantages, though small and medium-size enterprises have been developing more or less dynamically in recent years. Real processes of vertical integration in the processing industry have become visible only the last one or two years.

The credibility gap in the economy has not been fully bridged yet. Complex cooperation networks have been destroyed while those that have remained intact are overtaxed or incur excessive costs.

Today’s social policy is very unpractical. It is always more expensive to compensate for consequences than to prevent them. There are practically no institutions that would provide savings on costs by transferring them to preventive measures.

Modernization of the economy requires a new stage of institutional transformations, a new approach to their development and implementation. It is necessary to shift the emphasis and change the method of guiding the economic processes. In the present situation, classical regulating controls over the markets are insufficient; above all, it is imperative to pay attention to their quality and efficiency.

Improving market efficiency includes two main constituents: (a) saturation of the economy with essential market institutions and instruments and b) legal and information support of the markets.

First of all, we are talking here about accelerated market development which is essential for economic growth. In Russia, for example, the market of commercial credits and the market of commercial promissory notes hardly functions, and the inter-bank credit market is too segmented and enfeebled to provide for adequate redistribution of financial resources. Experience shows that without governmental support it is very unlikely that the above-mentioned markets will start functioning effectively in the near future. The State is in a position to facilitate the development of a number of institutions (the institution of commercial evaluation of debts, the institution of financial expert examination of economic projects) and instruments that would significantly ease the development of corresponding markets.

The main goal of institutional reforms at the next stage is creating the conditions for maximum possible integration and cooperation in the economy and in the social sphere. Only on this basis it will be possible to coordinate the strategies of different economic entities. To that end it is necessary to accomplish several tasks:

1. Reduce investment, financial and economic risks and increase the reliability of cooperation ties. Today their low reliability causes a noticeable rise in production and sales costs for businesses in the real sector and tangible losses as a result of tardiness and inaccuracy in fulfilling contractual obligations. It leads to growing prices and dropping profitability. High distribution costs hamper expansion of cooperation and development of the processing, let alone science-intensive industries. The problem of building stable technological chains between enterprises is coming to the fore.

2. Encourage the consolidation of capital on the financial, insurance and investment markets; establish large strategic intermediary structures for the development and fast assimilation of modern banking, insurance, commercial, informational and intermediary technologies which considerably reduce production and trading costs for businesses in the real sector of the Russian economy, set the standards for quality support of businesses in the real sector of economy and lower prices for these services due to their increased customer credibility, low risks and high informational support of these structures.

At the same time it is necessary to pursue a policy of informational openness (so much as it does not disclose banking and commercial secrets of the clients) encouraging reliable banks and creating a rating system and “white lists” of reliable banks. Consolidation of banks and identifying the most reliable ones will allow the Bank of Russia to develop a system of discounting and rediscounting which will certainly have a beneficial impact on the system of currency circulation, stimulate growth of the real sector and improve the Russian investment climate in general.

3. Build and promote trust in the economy. To do this there must be a judicial reform, development of civil legislation (though much has already been done in this area) and of a varied and balanced system of sanctions against transgressors of the contractual discipline, and triumph of the inevitable punishment principle not only in criminal law, but also in the sphere of economic conduct. It’s very important to realize that any such policy will be ineffective unless the State starts building and strengthening a system of partnership relations and business ethics. Moreover, in this respect the state should “begin with itself”.

Firstly, the authorities must set an example of meticulous fulfillment of their engagements in the sphere of budget relations, the arrears for work done under government contracts, the provision of adopted laws with financial resources and approval of new special federal programmes only after previous ones have been fulfilled, etc.

Secondly, the State must set an example of observing business ethics, since it is one of the biggest and most trustworthy economic entities which enters directly and indirectly into miscellaneous partnership relations.

Actually, it is the State, as the main representative of big Russian business, that needs to be anxious about improving its “credit history”, building a reputation as an honest partner, first-rate borrower an so on. Strategically such a policy would be much more beneficial, in the long run, than today’s rather short-sighted policy of securing small gains from breaking state commitments.

Building a system of trust is advantageous both to the State, businesses and to citizens, because it makes it possible to develop complex types of economic activity which depend on the development of cooperation in the processing and, especially, in science-intensive industries. They are still absent today – mainly because of the high costs caused by the lack of partnership support mechanisms.

4. Elaboration and implementation of a complete and consistent strategy of development of the state sector. There is practically no mechanism for defining the goals of its development, and it is not managed as an integral economic entity. There is no understanding that the state sector is needed not so much for commercial purposes, but rather as a source of stability for the economy in general and may stimulate its growth. Procedures for determining priorities in the development of different branches, product specialization, and a co-ordinated marketing policy for state enterprises are needed, and the programmes for state investments must be realized on their basis.

It is important to emphasize that the State in itself is not a regular, but rather a special type of investor. In this particular case it is not so much the direct profit from implementing a project that matters, but rather the total, combined benefits of its implementation. The State must be interested in the development of the infrastructure, strategic markets and in the accomplishment of complex investment programmes. The economic gains for the State in these cases are limited to indirect effects — the creation of new jobs, the expansion of the taxable basis, and a growth in production in adjoining industries.

In establishing order in the state sector, it is necessary to carry out a thorough inventory of state enterprises, to determine the scope and structure of their subsidiary and affiliated structures, to nip in the bud and in a very resolute manner any attempts to “remove” state assets from state control. In order to raise the efficiency of budgetary expenses, special emphasis should be put on introduction of the principles of competitiveness and transparency in the sphere of state procurements and state financing of different economic activities and programmes (the northern delivery, support of various branches etc.).

At the same time a system of control over separate enterprises must be established through planning and financial-economic indices as well as control over their top managers who are responsible for fulfilment of those business plans. As regards the state enterprises which are fully accountable to the government, it is necessary to use directive management procedures in compliance with the objectives of their development determined by the State. As to the businesses with limited state liability, the management procedures should not be so tough and must include mainly strategic decisions dealing with control of assets and investment policies.

5. Restructuring in the private sector of economy. According to our rough estimation, about half of non-governmental property is in the hands of inefficient owners who are unable to ensure the profitable work of their businesses. On the whole such businesses are not capable of self-development. It is essential to work out and set in motion a mechanism that would encourage and provide for the transfer of control over such businesses to efficient owners. That is to say that the property reform must be carried on.

6. In order to stimulate economic growth, it is imperative to review the tax policy. Russia has reached that stage of economic development which demands intensive investments into technological modernization of almost all business spheres. Therefore domestic manufacturers need both easing of the tax burden and simplification of the tax structure and bringing it into accord with contemporary economic realities.

7. An integral and balanced investment policy is needed. At present we have no investment policy as such. Instead there are various individual projects, measures and ideas. A real upturn of investment activity is hardly possible if the State does nothing to reduce risk in the main sectors of the investment market. The present liquidity of the banking system could be transformed into investment projects of the real sector either with the assistance of the State or within big established financial-industrial groups. It is necessary to spur the investment stimulation projects developed earlier — for instance, the project of establishing an investment guarantee fund for small businesses. Similar projects could be developed within the framework of regional and branch-wise development programmes. A number of regulations included in the programme for state property control (the security of shares and the like) could also be used to this end.

Besides direct measures aimed at widening the investment potential of the Russian economy, it’s worthwhile to mention two aimed at “clearing” the ground for investment activities. It is necessary to work out, firstly, a single set of rules for restructuring the liabilities of businesses (in the form of a law) and, secondly, to elaborate a transparent and effective mechanism for lodging complaints not only against the actions of state representatives formalized as non-normative acts, but also against actions that were not legalized by any acts, or against negligence manifested by public officials.

Regarding foreign investments, it is high time today for their regulated admission to those branches and industries where the domestic manufacturers have gained a foothold, and where the production and competitiveness of our goods have good growth potential. The regulated admission of foreign capital, besides spurring domestic manufacturers, will reduce the outflow of capital (at least, that part of foreign investments which has a Russian origin) and therefore their concealment from taxation.

8. The programme for the development of the stock market must become an important constituent of the institutional transformations aimed at economic growth. With the present economic growth, it is only natural that capitalization of the stock market is growing as far as corporate securities are concerned: their future dividend yield is outpacing their current value and investment risks are going down. This growth of capitalization could again cause (as in the years 1993-1997) the emergence of numerous small market operators that would impede the process of forming big investment structures. It could result in another relative rise in the prices of investment resources for the real sector. On the contrary, encouraging the process of consolidation on the market of capitals must result in a gradual reduction in their prices thus stimulating investments into the real sector and a rise in their total volume, which would improve the investment climate in general. In addition to that, transition from finely dispersed investments to large investment projects will make it possible to heighten the efficiency of using investment resources.

Therefore it is necessary to encourage the consolidation of investment intermediaries, to stimulate the establishment of investment banks and funds more intensely, to hasten the establishment of the Russian Bank of Reconstruction and Development for accumulating insurance reserves, temporarily free money from the state non-budget funds, pension fund assets and other financial resources.

9. There is an urgent and obvious need to give a spur to the development of the insurance market. In the first place, it protects the interests of the population and legal entities, substituting the costs of preventing accidents for the costs of loss indemnity, builds up motivation to develop prevention strategies and the like. Secondly, it helps to strengthen reproduction ties, to cut losses caused by forced self-insurance through overcharges, excessive production costs, binding the circulating assets of a business to make up for transactions with unreliable partners and the like. Thirdly, the development of voluntary life insurance and accumulation of adequate insurance reserves by insurance companies create a considerable amount of investment resources. Fourthly, it favours considerable legalization of business transactions, since insurance companies themselves are interested in exercising strict control over the condition and circulation of insured property.

3.2. Spurring Final Demand

Available production capacities, skilled labour, and lack of any significant limitation of natural resources are surely the most important reserves and factors in strengthening the positive dynamics of the economy. At the same time they may remain the dead capital, unless they are brought to life and impregnated with real solvent demand. Thus the key task of the state economic policy in the long run is spurring the final demand. To do this, the State must effectively use all available means and take steps to extend the potential of regulating influences upon the volume and structure of the final demand.

At the present time this potential is extremely curbed and limited to state demand. Meanwhile the experience of developed countries indicates that it is possible to apply various mechanisms of the state that would have an impact upon both the final household demand and on the corporate investment demand.

Regulation of revenues. As has already been mentioned, household demand can be regulated through the legislative establishment (and subsequent expedient change) of the minimal remuneration of labour. Such regulation can be social guarantees to employees, on the one hand, and “softly” influencing the whole remuneration strategy in the national economy through the mechanisms of social-remunerative stratification, on the other hand. In the long run it will predetermine the dynamics of consumer household demand. In addition to that, a low salary makes the problems of raising the quality and competitiveness of the output as well as labour efficiency basically insoluble, since it is the salary that defines the value of a job. A market economy can function normally only when a worker treasures his or her job. And this is possible only when a given job can ensure standards of well-being acceptable in the society.

Taking into account the extremely high income differentiation in various economic regions and branches, it is practically impossible to fix a national minimal salary in Russia. Therefore the only reasonable alternative is to establish a certain set of regional-branch-wise minimal salaries and then gradually reduce their number in time. In the end no more than two minimal salaries should be left – for the whole economy in general and for the districts of the Extreme North, for instance.

Elaboration and application of regional-branch-wise minimal salaries will heighten the responsibility of the State and employers for the living standards of their employees and make possible state regulation of both an average level of income and the degree of its differentiation. It is obvious that the level of paid pensions and other types of social welfare must be tied to the fixed rates of minimal remuneration of labour.

Thus, the State must legislatively fix that level of labour remuneration which is acceptable to the society as a minimal salary. It is clear that this is not a living wage, but rather a salary ensuring the usual living standards for a worker of standard qualification.

This goal cannot be attained by adoption of a one time act. However, it is necessary to synchronize the process of economic growth and labour remuneration demands made by the State since a high salary is the main prerequisite for high labour productivity.

Increase of investments. Creation of a favourable investment climate. Crediting. The tendencies exhibited after the August crisis of 1998 clearly reveal both the existence of internal resources for financing economic growth and the capability of the Russian economy to respond to opportunities in a positive way.

At the same time it is necessary to emphasize that, despite the important role of investments in fixed capital, the top priority at the present stage is an increase in investment in the circulating capital. It is the build-up of the circulating capital that is the main material prerequisite for high rates of economic growth at the first stage of post-crisis development. The only problem is how to use the available resources.

The first resource is “excess” liquidity which amounts to about 100 billion roubles according to our estimation, and if a positive foreign trade balance continues, this figure will inevitably grow, unless enterprises possessing this liquidity start carrying out investment programmes and raising the salary of their employees. From the perspective of economic growth, it is extremely important to motivate enterprises to implement investment projects. However, enterprises which do not export their products will be left out of those projects anyway. Therefore, even in case of a favourable turn of events, we can hope only for one-sided economic growth. Hence it is extremely important to use the potential of “excess” liquidity of the export-oriented branches for crediting other branches of the real sector as well.

At the present moment big banks are ready to finance both production projects and consumers’ crediting schemes. They are hindered only by the lack of search and selection mechanisms that could help them implement such projects. That particularly concerns the Savings Bank of the Russian Federation.

Excessive liquidity in the banking system reduced the desire to work out refunding schemes for the banks crediting the real sector (particularly, rediscount of commercial bills programmes) and made the financial authorities seek ways of managing free liquidity.

The government policy of arm-twisting aimed at reorienting national banks towards crediting the real sector resulted in appreciable deterioration of credit assets in the banking system, as estimated by some of the bank experts. Even though some banks have promising investment portfolios, credit availability is as great a problem to them as it is to their clients. Mechanisms for transferring resources from financially loaded to financially insufficient banks are not working at the present moment.

Inaccessibility of credits for businesses in the real sector on account of unrealistic terms and interest rates causes high microeconomic risks (potential failure of a project because of the borrower’s incapability to repay the loan) and macroeconomic risks (a high rate of inflation and a low exchange rate of the rouble). Therefore the efforts made by the State to increase the crediting of the real sector must be directed at lowering and hedging those risks. As to the “excess” liquidity, it is a useful resource which can assist in handling this problem.

Below is a basic approach to solving this problem.

The State, in the person of the Central Bank of Russia, proceeding from the priorities of economic policy and the current situation in the monetary domain, allots a certain part of “excess” reserves for arranging credit auctions among the commercial banks planning to finance enterprises of the real sector. Since profitability is different in various branches, it is but natural to hold branch-wise auctions (for example, for enterprises of the light, food, motor-car industries, etc.).

At the initial stage enterprises make up business plans and defend them at a commercial bank. The commercial banks accumulate whole packages of business plans which can pay off handsomely according to their estimation. So banks assume financial responsibility in case a project fails.

At the second stage commercial banks come to a credit auction with the above-mentioned projects.

At the third stage, a credit auction is held with the Central Bank of Russia assigning the total amount of credit available as well as minimum and maximum crediting rates and terms. Competition between different business projects supported by commercial banks is organized at the same auction within the bounds of the set parameters. As a result of such auctions, the most effective projects which, when implemented, will allow paying a higher price for the credit offered come out the winners.

At present it is extremely important that credit rates should be closely connected with the macroeconomic goals of the government as regards the inflation process. In case of long-term credit, credit rates must be corrected in compliance with the actual inflation rate, so that the real interest rate (adjusted by the inflation rate) will not exceed the effectiveness of a specific project, on the one hand, and will not make the credit resource free, on the other hand.

The second resource is shrinkage of the “shadow” sector of the economy and involvement of the greater part of the “shadow” money in the legal turnover. As estimated by various experts, from 25 percent to 40 percent of the GDP ($60-90 billion) falls on the shadow sector of economy, including about $30 billion being circulated as instruments of payment mainly serving the shadow sector.

The main way to involve the “shadow” money in the legal turnover is to curtail the outflow of capital. In order to accomplish this, it is necessary to increase the role of the Ministry of Taxes and Dues and ensure its close interaction with the Central Bank of Russia in the area of currency exchange regulation and well-directed efforts to eliminate fake banking transactions and the so-called cashing transactions, as well as to cut down clearings in cash. If the above-stated measures are a success, the extra financial resource can be divided into two parts: (a) an increase in budget revenues at all levels; (b) increase in the business liquidity factor. The first part ought to be used mainly to relieve the tax pressure on the real sector of economy and to repay the public debt; the second part should be used to finance economic growth either directly through the activities of enterprises, or indirectly through the above-mentioned schemes.

State control of financial transactions must become one of the principal instruments providing for the economic security of the Russian Federation and for the protection of State and society from unlawful actions in the sphere of legal financial relationships. The main principle of increasing state control over financial transactions by having a national centralized system implies that a double-link institutional system is the optimal structure.

The first link should be established by the Bank of Russia. Within its own network it would open a united centre of financial information with the express purpose of collecting, processing, monitoring, analyzing, “filtering” and keeping information about large-scale financial transactions, including those which have to do with legalization of criminal gains.

The second link should be the law-enforcement bodies which would inquire into various deals on the basis of the information received from the united centre of financial information when all signs of possible financial offences are available. Those who commit unlawful actions should be answerable before the law.

The effectiveness of the system of state control over financial transactions largely depends on a well-weighed legislative foundation. It is necessary to adopt several basic federal laws; the main ones being: “On Organizing State Control over Financial Transactions” which defines such basic concepts as a “financial transaction”, “financial intermediary”, symptoms of unusual financial transactions (which are not typical for the financial-economic activities of a legal entity), the order of information transmission, rights and obligations of financial intermediaries and the bodies of state control over financial transactions, responsibility for violating the norms specified in a given law including the responsibility of those working in these bodies for unlawful disclosure and use of confidential banking or commercial information; “On the Bodies of Financial Police in the Russian Federation” and “On Counteracting Legalization (laundering) of the Profits Gained in a Criminal Way”.

We may assume with a high degree of certainty that establishment of a system of state control over financial transactions will call forth a positive response in Russian society which is sick and tired of the criminal influence upon the economy — it turns out that each citizen pays an extra “tribute” to criminals and corrupt officials. The international community, which has long been calling upon Russia to set up a system counteracting the “laundering” of the capital, will certainly respond in a positive way to the measures of state control over financial transactions. Moreover, this will serve an additional incentive for big foreign investors to come to Russia.

The third resource is the savings of the population. These are a natural resource for a market economy. But their use as a source of invested capital is attended by a number of problems. First, it is necessary to take into account that the cost of energy for the population will gradually rise in the future and approach its prime cost. It means that in the near future the population will spend more on current expenses and have less savings. Furthermore, because two thirds of the savings kept in the Savings Bank are pension deposits, measures should be taken to establish an institutional basis that will allow pension deposits to be used as a source of investment resources.

The fourth potential source of investment resources is the increase in real earnings of the middle class. As real earnings of the population grow, the middle class will also expand. Its saving preferences are not so dependent upon housing and energy prices. This stratum would rather prefer to save money in the insurance system, and this very resource should be brought into focus. The booming sales of housing, personal transport and other durable commodities are usually followed by a greater demand for insurance policies. So the State may stimulate the insurance market, since it will be a more powerful source of invested capital than the usual bank deposits due to the inherent durability and stability of insurance savings.

Personal loans. One more way of using “excess” resources is stimulation of personal loans. Described below is the most technologically accessible form of stimulating personal loans.

The Bank of Russia is opening a special-purpose credit line to the Savings Bank for granting personal loans. Of course, this kind of the loan may be offered only for buying domestic durable commodities, non-elitist housing and for reclamation of countryside properties. At the initial stage the Savings Bank should offer personal loans mainly to those citizens who have received guarantees from the companies and organizations, employing them. It would be natural to expect that the interest paid (minus the interest expenditures of the Bank of Russia) will be used to replenish the resources of personal loans. At the initial stage it would be expedient to limit the term of loans to businesses and citizens buying durable commodities (with the exception of cars) to six months, make sure this mechanism is working, and adjust it if necessary.

When granting a loan for a car, it is natural to obtain funds from the car manufacturers as an extra resource, and when granting a loan for housing, it is possible to obtain funds from the local authorities and developers.

Another mechanism of large-scale personal loans is mortgages. The experience of countries with a market economy demonstrates that the average family spends from 25 percent to 35 percent of its income on housing. This is more than it spends on food, health care, education and culture combined. The need to repay a mortgage credit is one of the main incentives to increase personal income. Mortgages make it possible to intensify house-building which accounts for 20-25 percent of all investments in developed countries whereas in Russia this figure is only about 15 percent. Nevertheless it is more capital than is invested in the FEC (Fuel and Energy Complex) or the AIC (Agrarian-Industrial Complex). Thus mortgages increase solvent demand and mass house-building that stimulates the development of many other branches. It is not accidental that coming out of a crisis and depression in countries with a market economy usually starts with booming investments in house-building which, in their turn, result from the improved terms of mortgages.

On the whole, a large volume of personal loans in the economy raises the living standards of each citizen, motivating him or her to work harder and increase personal income in order to pay the interest on loans, insurance and the like. So it can be said that the personal loan generates extra earnings in the economy, and its development leads to a general upturn of the population’s economic activity and labour productivity.

Growth and diversification of exports. Globalization of the world economy and expanding international trade is opening new opportunities for Russia to build up the export of its commodities. Our country has a number of competitive advantages such as skilled and relatively inexpensive labour, plentiful mineral resources, transit, intellectual potential, etc., which give Russia good opportunities to enlarge its niche on the world market.

This niche has appeared due to various degrees of saturation of different national economies with production factors. Some countries enjoy an abundance of capital and technological opportunities (USA, Japan and others). Other countries are saturated with manpower (China, Indonesia and the like). The third group includes countries possessing considerable mineral wealth (the countries of the Middle East and others). Because most countries have an abundance of some resources and shortage of others, they try to find an acceptable solution to their economic problems through the international division of labour and foreign trade. Russia, with its high economic potential, can offer international markets both raw materials, advanced technological products and its high intellectual potential, and so it has a good chance to increase its export deliveries to all three groups of countries. This chance must be used in the near future.

An important prerequisite for Russia to be part of economic globalization and to use its advantages in international division of labour is its joining the World Trade Organization (WTO). It will certainly have both positive and negative effects. In the short run the disadvantages of joining the WTO may outweigh the advantages, because over a short period of time Russia’s opportunities to use its advantages from the perspective of technological and intellectual factors are extremely limited.

Therefore, in order to arrive at a final decision and determine the tactics of joining the WTO, it is of paramount importance for Russia to work out the terms of joining this organization. It is essential to take into account both the specifics of Russia — a country with a transitional economy — and the peculiarities of trading in certain goods and commodity groups. An important condition for joining the WTO is obtaining certain privileges and preferences for each commodity group and each signed protocol that would be fraught with economic loss without them. The given benefits and preferences must be worked out during the negotiations with the WTO, and they should be deemed an indispensable condition of our final decision to join this organization. Therefore it is quite likely that the negotiation process will take much time. However, strategically it is inadmissible to speed it up at the expense of our national interests.

Regardless of the final outcome of our negotiations with the WTO, it is essential to build an efficient system of economic and organizational support of export activity at the federal level. It must include the following: defending the interests of Russian exporters abroad using the opportunities of the State (first of all, on such partially liberalized markets as trading in weapons, high-quality metal production, etc.); development of the engineering infrastructure for export transactions (construction and extension of sea ports, terminals, communications and transportation routes); direct and indirect financial support of the projects which are promising from the perspective of their export opportunities; State establishment and enforcement of law and order in such expressly criminal branches of export-import exchange as trading in scrap metal, sea products, etc.

If Russia is more active on the foreign markets, it will be able to overcome the limited demand existing within the country, and this activity will become an important factor in maintaining high rates of economic growth.

3.3 Establishing a System of Financing the Economy

There are two ways of redistributing financial resources and, accordingly, two types of organizing the financial structure in contemporary market economy:

an economy of financial markets (a system of exogenous tender of loans) — an American-type system with predominant financing through financial markets;
an economy of debts (a system of endogenous tender of loans) — a French or Japanese-type of financing through bank credits.

An economy of financial markets makes extremely high demands on the markets themselves (on the quality of the corresponding institutions and instruments), also on the circulating market information and capabilities of individual markets to assimilate it. To make redistribution through a market effective, it is necessary that investors possess rather complete and reliable information about the debt instruments offered for sale on this market and can properly compare prices, liquidity and the quality of different instruments. It means that the debts offered for sale must be well structured. In addition to that, the above-mentioned comparisons would be impossible without steady expectations of key parameters of the general economic process — at least, for the medium term.

In today’s Russia where markets are still in the process of development, commercial liabilities are not structured, and their quality is almost beyond any estimation. Therefore it is unrealistic to expect the financial market to be able to perform redistribution functions efficiently.

An economy based on bank financing has a better potential for efficient regulation: it is less vulnerable to skew economic information and offers almost unlimited opportunities for resource transformations (with adequate participation of the creditor endowed with supreme authority — the Bank of Russia). Therefore in the foreseeable future an effective arrangement of financing in Russia implies domination of financial redistribution through banks.

On the other hand, the recent events in the financial sector of the economy aggravated the problem of the steadiness of the banking system, and right now it is unable to perform its redistribution function satisfactorily. Hence it is unable to provide adequate financial support for economic growth. At the same time financial markets (except the currency market) are down and are unable to redistribute financial resources on any significant scale.

Therefore in the years 1999-2000, the positive dynamics of production were mainly based on the self-financing of businesses in the real sector of economy. This tendency will of necessity be preserved in the near-term outlook.

However, total self-financing is far from being the most effective arrangement of the financial structure of an economy. On the one hand, the supply of financial resources cannot adequately respond to the demand of financially insufficient agents, i.e. the economy remains relatively underfinanced. On the other hand, it is impossible to use a considerable part of the demand balance for financing economic growth, and so it is used for speculative trading.

In this connection restructuring and strengthening of the banking system with the purpose of ensuring real mobility of capital is being brought to the forefront.

Practically speaking, the most responsible and challenging part of the monetary and credit policy is to provide an inflow of banking credits into the real sector of the economy. For the real sector of economy to heighten its liquidity, it needs normal market credits at normal market rates. At the same time the current rates of bank credits are apparently overcharged with respect to the economic opportunities of the real sector which limits considerably the scale of production loans. Bank crediting rates cannot be considered fully market, since the weight of the systems risk in crediting Russian economy is too high when estimating credit risks. The task of the State in the given situation is to eliminate systems risks and to ensure the smooth functioning of the entire financial sphere. Many instruments could be used to achieve this end within the framework of monetary management and the fiscal-budgetary policy, but unfortunately only a small portion of them have been applied in Russia. Only when the systems risk has relatively small weight compared to other risks of crediting the real sector, will it be possible to talk about a market of bank credits.

An increased flow of financial resources into the real sector also means that the flow of liabilities from the real to the banking sector is increasing. The main objective facing the monetary authorities is to formalize and structure the corresponding liabilities, and to ensure their quality. The monetary authorities have sufficient opportunities to raise the quality of the real sector liabilities and structure them through the establishment of several new institutions and instruments. A system of warranties and bails will make it possible to curb credit risks, and refunding provided by the Central Bank will reduce the risk of unbalanced liquidity.

We believe that improvement of the informational support of the financial market and its segments should play a key role in the development of the Russian financial system. It is necessary to create a ramified market infrastructure that would enable a borrower to find a corresponding investor, an investor — a debt for effective allocation of his means and its possible refunding.

In this connection the development of rating agencies and involvement of the State in their work becomes vital. It is also very important to establish an institution (possibly having a hierarchic structure) that would be responsible for the expert examination of commercial projects. If part of the flow of bank credits into the real sector is formalized as circulating liabilities, the guarantees and warranties of such an institution will give them the status necessary for refunding transactions. We are talking about a market institution, rather than an establishment. It means that the respective functions can be distributed between numerous banks through licensing financial expert examination activities.

Among the most important reasons for the failure of credits to flow into the real economy, the following deserve to be mentioned:

too high interest rates and lack of efficient mechanisms of liquidity redistribution in the banking sector;
an unduly narrow spectrum of rouble financial instruments;
low production profitability;
excessive market speculation and instability of the rouble against foreign currencies;
discrepancy between the terms of the banks’ resources and credit demands of the real sector and the Bank of Russia having no way of refunding commercial bank credits;
the high risk of investments into the real economy which is largely generated by its heavy financial state and also the inability to appreciate the market trends in view of the artificially deformed solvent demand;
the inability of Russian banks to work with clients.

All those problems are typical to a greater or lesser degree to different banks and financial groups. In different situations any of these problems may turn out to be a main hindrance to transforming banking liquidity into capital working in the production sphere. It is practically impossible to solve the above-stated problems at the level of a single commercial bank, but this is quite possible for the entire banking system assisted by the Central Bank of Russia and the biggest banks controlled by the State.

The appropriate measures should include:

activating the mechanisms of liquidity transfer from financially bulging agents of the banking sector (for example, the Savings Bank) to financially insufficient agents;
extending the practice of refinancing commercial banks, crediting the real sector through the development of the enterprises bills discount and rediscount system, and also including market loans of first-rate borrowers (at the initial stage these are the biggest companies) into the portfolio of the Central Bank of Russia;
reduction of the crediting (refinancing) rate to a level which does not exceed normal profitability in the economy;
developing ways of channeling the monetary issue to meet the production needs;
cutting down the profitability of alternative speculative financial investments;
stimulating the establishment of financial-industrial groups with the purpose of optimizing financial flows.

The above-mentioned set of measures as well as the augmentation of money supply and a special programme aimed at cutting down non-payments in the economy and exclusion of non-monetary settlements will enable normal financing of economic growth.

3.4 Budgetary-Taxation Policy

The relationship between the budgetary and taxation sphere is another key element of the financial system in modern-day Russia. It is practically unfeasible to boost fast economic growth without finding a full-fledged solution to the problem of tax collection and replenishment of the federal budget. In recent years the following problems have crystallized:

Firstly, the tax burden in the real sector of economy (with the exception of export-oriented branches) makes it impossible to finance even simple reproduction.

Secondly, a significant part of the economy (the shadow sector, the circulation sphere and the financial sector) is exempt from taxes.

Thirdly, the total amount of arrears and unpaid sanctions has exceeded all possible limits.

A budgetary policy oriented towards economic growth is characterized by its orientation on outpacing growth of budgetary revenues and effective control over items of expenditure. The earnings generated by economic agents must be the main source of budgetary income growth. Therefore tax privileges play a special role in retaining a favourable economic situation, especially in the sphere of small and medium-size business. The following factors ought to play an important role in budget replenishment: (a) revenues from state property — it implies efficient control over this property and pursuing a balanced policy of privatization; (b) rental income from the exploitation of Russian natural resources; (c) higher rates of taxes for luxury items, real estate and alcohol.

Although the Government has already started a tax reform, the following measures should be given top priority:

1. Restructuring liabilities with an emphasis on transferring the maximum possible amount of “live” money to the budget and strict adherence to the schedule of further budgetary payments (under present conditions the current payments security is more important than the collection of debts — not only fines and penalties, but the total sum of debt).

2. Immediate simplification of tax payments for small and medium-size businesses and the establishment of just two payments for small businesses – a social tax and a licence charge, and for medium-size businesses – three payments (besides the two above-mentioned taxes, they should also pay VAT).

3. Reforming the tax policy for enterprises in the real sector of economy which should result in a reduction of taxation rates and augmentation of tax aggregates (especially in the form of monetary payments). In particular, a substantial reduction in the tax burden for enterprises duly paying taxes is very important. It is also necessary to give a chance to all other enterprises to enjoy preferential taxation after they pay back their arrears.

4. Prompt switching of the whole budgetary sphere to an estimated system of financing with introduction of a list of staff members, rates of consumption etc.

5. Improving the procedures for government contracts based on budgetary expenditure (both at the federal and regional levels). The government contractual work is to include not just volumes, but also prices and qualitative characteristics of the products to be purchased. Tenders can and must be arranged with the purpose of securing lower prices and higher quality. The level of prices fixed for the government contractual work will be the most important stabilizing factor, beating down inflation. It is the Government that must impose prices on commodity producers – not the other way round. But this is all feasible only in case the government pays real money for the contractual work in a timely way.

6. Total transfer of all budgetary money to the Treasury (for budgets at all levels), to be managed by the structures of the Central Bank. It concerns both the revenues and the expenditures. But for all that the Treasury must perform all its functions with respect to the items of expenditure, including cash payments. Even if some expenditures are required to pursue this policy, they will be much less than the current losses of the budget and budget recipients. At the same time, because manipulating available residual amounts on budgetary accounts is an important instrument currently used by regional administrations for influencing the economy in their territories, it is essential to provide for a mechanism allowing a local administration to use temporarily untied budgetary means for the short-term crediting of regional economies.

Realization of the main goal of social development – creating of conditions ensuring the well-being, safety and dignified living standards for Russian citizens – implies achieving a balance in the budgetary policy between social commitments of the government and its potential for mobilizing financial revenues both at the federal and at the regional levels.

To realistically assess the chances of the government to fulfil its commitments, it is necessary to have a clear picture of how matters stand in the budgetary sphere. At the present time a deficit-free budget is mere fiction. In reality the deficit of the federal budget “overflows” into the budgets of the Federation parts. It happens, because in reality social commitments of the regional authorities, which are virtually another type of government obligations, are not taken into consideration (Fig. 4).

The Dynamics of Revenues and Expenditures of the Consolidated Budget of the Russian Federation

Fig. 4

The elementary truth is that a consolidated State must have a consolidated federal budget. It should reflect the total sum of revenues and expenditures for the corresponding year on the territory of the country.

The state budget ought to be elaborated and adopted in strict conformity with the interests of different regions of the Russian Federation and must provide for their needs and expenditures. The procedure of approving a federal budget as a federal law must be supplemented with the procedure of considering revenues and expenditures of the consolidated budget of the Federation parts which existed before 1995. The forecast for the consolidated budget ought to be submitted by the Government of the Russian Federation to the Federal Assembly concurrently with the draft of the federal budget.

With all that, the principles of the Budgetary Code regarding distribution of revenues between budgetary levels must be strictly observed. Excessive centralization of the state budget revenues makes obligations of the Federation parts unfeasible. In particular, redistribution of the revenues between the levels of the budgetary system in the year 2001 will result (as estimated) in such a situation where Federation parts are unable to fully meet their social commitments since their budgets will lose about 130 billion roubles (while the federal budget will lose only 6 billion roubles).

The high odds of a further considerable reduction in tax proceeds from the real sector of the economy necessitate the urgent relief of the tax burden in shortest possible time. At the same time we need to proceed from the assumption that competent reduction of the tax rates could lead to increased tax proceeds not only in the future (owing to the build-up of production volumes and raising its effectiveness), but also at the present time (thanks to a reduction in arrears and a general stopping of non-payments).

As we see the situation, it is necessary to set up such rates for the main taxes and compulsory payments that they would not undermine the financial base of businesses in the real sector used for extended reproduction. The roughly estimated VAT rates (for the budgets of all levels) should not exceed 10 percent. The rates of the income tax should not exceed 20 percent. And as to all other social allocations (the retirement fund, the employment fund, social and medical insurance funds), they should not exceed 25 percent of the taxable base. Beyond that, if profit is invested in the fixed and circulating capital, tax benefits will reduce the tax rate to zero. Businesses should enjoy this mode of taxation, for at least two years.

It is but natural that such a privileged mode of taxation should apply only to those businesses which do not have any unsettled payments to the budget (for instance, during one or two quarters); other businesses will be taxed on the basis of the pre-existing rates. These businesses must be given a chance to enjoy reduced tax rates after they repay their outstanding tax debts, or (if these are big enterprises) sign an agreement with fiscal bodies about restructuring their debts. To overcome bureacracy and red tape, it is essential to fix strict terms of check-ups from the moment a business submits an appropriate restructuring application.

3.5. Regional Policy

It is essential to overcome today’s narrow interpretation of the regional policy as smoothing away of the differences between the development rates of individual regions through transfers from the Federal Fund of Financial Support. Experience has vividly demonstrated that the differences cannot be smoothed over in this way. Furthermore, backward regions notably lose any motivation to raise their own revenues.

The actual goals of the regional policy are much broader: development of the social sphere, organization of resource reproduction and creating favourable conditions for business undertakings. Therefore the basic test of the state regional policy is its ability to maintain the social and economic development from the perspective of preserving a single economy to ensure social guarantees and the freedom to choose one’s domicile, and to uphold the geopolitical and military-strategic positions of our country. It is necessary to create such federal institutional conditions which would favour effective development of the regional initiative in building efficient reproduction, infrastructure and institutions.

The main challenge which regional and municipal government bodies are facing today is ensuring the effective functioning and development of the social sphere in their territory. The federal government must assume responsibility for the attainment and reproduction of average living standards in each part of the Federation. Business is also responsible for the preservation of social stability in a territory. It should be interested in this stability since it is the most important element of the business and investment climate. In organizing the reproduction of resources – labour, capital, natural, organizational (entrepreneurial) and informational (scientific and technological), regional and municipal bodies will interact with the corporate structures. And in organizing the market infrastructure they will interact with the bodies that carry out similar reforms at the federal level. Thus a system of labour division is developed where regions are responsible for the reproduction of resources and improvement of the investment climate, while Moscow is responsible for creating conditions favourable to the development of these regional initiatives in the best possible way.

It is necessary to mention those major responsibilities of regional and local bodies which have been crowded out to the background. As always, the focus has been shifted to the huge list of current challenges: production movement (which is a prerogative of the corporate management in a normal market economy); undoing the non-payment crisis (which is a direct responsibility of the monetary authorities); ensuring there will be no more “gaps in supply”; maintaining a dignified level of regular pensions; and seeing to normal functioning of federal structures (including the industrial control department, armed forces, control authorities, and the Ministry of Internal Affairs), and many other particulars.

Such a state of affairs can well be explained by the transitional nature of our economy. However, the territories cannot shirk responsibility for the development of the social sphere and resource potential. Under these conditions the task of normalizing the long-term aspect in the activity of territorial administrations is brought to the forefront. It is important that they separate it ideologically, organizationally and financially from their current activities. This problem is by no means new and allows for a wide spectrum of solutions – right up to the establishment of special authorities responsible for long-term development, both in Moscow and in the regions.

Therefore, the regional policy is not to be focused only on rescuing separate, usually depressed regions. Of no less importance is the task of developing “locomotive districts”, i.e. stimulating these regions to use their comparative advantages.

It is clear that the above-stated considerations cannot completely tree the federal centre from the burden of compensating inter-district income differentiation when it is very great and rises in rental prices (in such areas as transportation, power engineering, agriculture, etc.).

At the same time there are a number of problems that cannot be solved effectively by the efforts of the federal centre alone or by the efforts of individual Federation parts (or their associations). Environmental problems, ensuring a power supply and food safety, the modernization and restructuring of manufacturing plants, or the development of arterial infrastructure may serve vivid examples. Finding a solution to these problems will require a coordinated policy pursued by the federal centre and parts of the Federation and elaboration of programmes aimed at the development of inter-regional ties – first of all, in such areas as power engineering, fuel supply, transportation and communication.

Another important sphere of regionalization is the regulation of foreign relations. The point is that the policy of import substitution which applies to Russia as a whole is to be corrected for individual regions. In particular, a strategy of stimulating export (surely with full utilization of the available potential of import substitution) is more effective for frontier regions and regions that specialize in export trade. This is especially important for the Far East, Tyumen and Kaliningrad regions and some other frontier districts.

Distribution of functions and responsibilities between different levels of territorial administration remains a present-day challenge. So far the delegation of responsibility to Federation parts and local governments has not been accompanied by an adequate (in scale) transfer of powers and resources. Moreover, the proportions of revenue distribution between the federal and regional levels have been manifestly changed in favour of the former. Such a tendency may finally lead to the build-up of both resources and social commitments at the federal level. The capabilities of the regions to regulate social development and build up the resource potential will be underused.

In this connection one of the problems requiring immediate solution is the change in proportions in revenue distribution between the federal and territorial budgets. Its solution (given the proportions in revenue distribution specified in the budget for the year 2001 remain as they are) might be the establishment of such an order of things: when extra revenues of the regions (exceeding the planned revenues for the year 2001 adopted as basic parameters) are received as a result of its own wise economic strategy, they would be distributed between the federal and corresponding regional budgets on the basis of the ratio 30:70. Such an arrangement could last till 2005-2007. After that it would be possible to get back to the question of setting up a reasonable proportion in the distribution of budgetary revenues.

And finally, improving upon all aspects of federal relations remains the most important regional challenge. The skewness of our Federation that arose at the first stage of reforms and has been preserved until now, has both advantages and disadvantages. The main thing now is to realize that federative relations cannot be handled only from economic or political perspectives. A total strategic approach to this problem is needed which would take into consideration all its aspects – the multinational nature of the Russian Federation, historic traditions, globalization challenges and many other factors.

3.6. The Role of the State

The realities of the present stage and of medium-term development compel the State to heighten its responsibility considerably and influence more effectively such traditional spheres of social life as administration, defence capacity, social support, fundamental science and education. Beyond that, the Russian government, given the peculiarities of the transitional period and the Russian economy, must substantially widen the sphere of its responsibility in the economy.

The joint responsibility of the State in the economy must apply to:

the military-industrial complex (MIC);
the infrastructure;
the agrarian-industrial complex (AIC);
the sphere of land relations.

The military-industrial complex pertains to a sphere of exclusive competence and responsibility of the State.

The central goal in the sphere of MIC is its social-economic modernization. This modernization should be directed, firstly, at ensuring the national defensive capability and secondly, at achieving the technological and economic competitiveness of military and civilian output on the home and foreign markets. Achievement of new parameters of competitiveness implies integration of the state and commercial funds for activating the process of diffusing high technologies developed in the defence sector into the manufacture of consumer products.

Social-economic modernization of the Russian MIC implies the following measures: firstly, selective state support of technological requirement processes, taking account of the different opportunities of enterprises in various MIC segments to adapt to a market economy; secondly, promoting modernization of the management structure and methods both at the level of the MIC in general and at the level of individual enterprises, holdings, financial-industrial groups; thirdly, a special programme for supporting the processes of staff structure renewal in the MIC which is in keeping with the measures of technological renewal of production.

Such branches as telecommunications, aerospace industries, high-quality metallurgy and the manufacture of special-purpose transport vehicles have the greatest potential for the development and diffusion of double-purpose technologies.

The production infrastructure creates the conditions for the normal functioning of manufacture (an integrated market), glues together and provides for the single economy and common national interests. Russia, as a northern nation, a sea power and a country with vast territories, should place great emphasis on the development and reliable functioning of heat and electric power supply systems, pipeline transportation, highways and railways and sea ports. Development of these spheres, which yield no immediate commercial benefits, should be the main focus of the State, because they predetermine effective functioning of the whole economy. Any privatization and denationalization programmes in the area of infrastructure must be subjected to thorough economic scrutiny to prevent demolition of the infrastructure at the base of the national integrity and infringement of basic human rights.

In the sphere of AIC it is necessary to distinguish between assistance offered to villages and aiding the farming industry. Significant assistance offered to villages eliminates any necessity to support the proper farming industry.

Given that one third of the Russian population lives in the rural area, the State ought to offer these people direct financial support which will help them solve such problems as electrification, road building, construction of schools and medical centres. In this case the working conditions in the farming industry will be in no way different from those in industrial production.

At the same time the State must tackle the two most important problems, institutional by nature, which will determine the future of our agriculture: (a) the problem of price discrepancy (to solve this problem, it is necessary to remove the monopolism of commercial-intermediary structures and those processing agricultural produce); (b) the problem of building a civilized land market.

The sphere of land relations is connected both with the development of the land market and with the protection of public interests (military safety, environmental balance, aesthetic preferences etc.). The history of our country demonstrates that Russian society has always been very sensitive to the land problem, and so its solution demands special carefulness and patience. So far there has been no large-scale demand for agricultural land in Russia, and therefore we still have some time for making the right decisions.

Under these circumstances the State should set about establishment of the institutional infrastructure attending to land relations. It should do a complete land survey, create land banks under the government patronage; perfect the methods of regulating land purchase and sale; make the bodies in charge of the use of land less bureaucratic, etc.

At the same time the State is to use the current situation where the available land far exceeds the real demand for it to its own advantage and formulate a distinct position in respect to liberal market circulation of land.

All available land is to be divided into three categories.

The first category will consist of land and properties which are engaged in the liberal market turnover (or might be moved into this category right now). Most urban lands (the property of private enterprises and offices, empty lots, lots with private housing on them, etc.), the property of the countryside communities, lawn-and-garden plots, the property of private households and of industrial enterprises in the rural area ought to fall in this category. Any restrictions on the use of this type of land may be justified only by sanitary, environmental, architectural and other similar standards or considerations.

The second category will include agricultural land. During the transitional period this land should be withdrawn from liberal market turnover. Only as a civilized land market forms, should purchase and sale restrictions for this category of land gradually be removed.

The land completely withdrawn from market turnover should be referred to the third category. Among them is the land which must serve public interests (border lands, preserves and other reservations, grounds of military units, historical monuments, etc.). It is very important that an appropriate decision is taken without delay so that certain types of land (for example, border lands) will not be privatized.

4. REFORM OF POWER AND STRENGTHENING OF SOCIAL BASE OF REFORM

There must be an effective system of government if society, the economy and the social sphere are to develop effectively. At the outset of the 21st century the Russian state needs consolidation. It needs to overcome the lack of coordinated action and the discrepancy between the proclaimed policy and that which is actually pursued. This does not mean giving up the principles of power-sharing and federalism. There is a need to establish and stringently observe the principles of determining areas of competence, of law enforcement and supremacy of law as well as overcome contradictions. There is a need to eliminate the criss-crossing and duplication of regulative measures, and to observe the priority of federal law. It is important that the federal authorities refrain from interference in decision-making and implementation at the level of parts of the Federation and that the regional authorities keep from interfering in decisions made and effectively implemented by local self-government bodies.

When there is a developed economy and a stationary market economy, a country develops mainly through self-organization of civil society and entrepreneurial initiatives which are augmented and adjusted by specific goal-oriented measures of the state. Every such measure, be it the state’s taking possession of certain facilities, a change of the tax rates, budget allocations and subsidies, steps for economic regulation, etc., should be based, on the one hand, by a clearly-formulated goal and, on the other, by proof of the adequacy of the steps taken.

The problem in Russia is the lack of both a stationary market and the traditions of democratic state regulation. The existing practice of state and municipal management bears the imprint of the anarchic dismantling of the socialist system with its total state control over the economy and society. This resulted, on the one hand, in the impermissible weakening of the state’s control over a number of processes vital for society (the ensurance of a defence capability, the development of education and fundamental sciences, structural development of the economy, the ensurance of people’s security, etc.). On the other hand, the state, by inertia, continues to interfere in the processes of development of society and the economy that have a high potential for self-regulation. This interference is unjustified, unensured by resources and, therefore, harmful.

In a market economy the state acts simultaneously as:

the organizer of the economic order that sets the “rules of the game” and guarantees their stability and observance;
an entrepreneur that is involved in economic activity within the preset norms and rules;
the personifier and expressor of society’s goals and interests.

The course of the state’s development is defined by the functions it must perform to achieve its main aim — to create the conditions for the well-being, security and a worthy life for Russian citizens.

Based on the assessment of the tasks and functions of the state and municipal management now proclaimed and being implemented, it is necessary to give up the functions that the state must not or cannot implement effectively. The structures of the state and municipal apparatuses must be brought into strict accord with the structure and scope of problems they are called upon to decide.

The main functions of the state in the economic area are the following:

maintenance of the macroeconomic and structural balance where the market mechanism cannot achieve this;
establishing and ensuring of the economic order through working out and guaranteeing the implementation of norms and rules of conduct and the relations of economic entities;
working out a strategy of development, the creation of a favourable investment and business climate, as well as favourable social conditions for the functioning of the economy, including the ensurance of social backing for ways and means of implementing the national strategy for development;
support for the national businesses competing on the world market, coordination of the activity of national businesses to maintain and promote competitiveness of the national economy now with globalization of the world economy;
ensuring of economic security and countering threats and factors of instability.

Performing these functions presupposes improving a number of organizational mechanisms, including:

the procedures for drawing up and implementing programmes at the federal level and methods of control over the achievement of their aims;
plans and methods of tapping and concentrating resources in priority directions (for instance, the granting of state guarantees, credits, and state contracts);
the procedure for legal guarantees for the development programmes and other instruments of state policy.

In order to create an effective Russian state oriented on the future as fast as possible it is necessary:

to do a socio-economic review of the legislation on regulatory intervention of the state in economic and social processes;
to optimize the structure of the executive governmental bodies at every level and to enhance the programme- and goal- oriented approach to the planning and financing of their activities;
to reform government service following the principles of effectiveness, flexibility, dynamism, and absorbing positive world experience;
to attract qualified and resourceful managers from the private sector to government bodies, to create the stimuli for real cuts in the apparatus with a substantial rise in salaries;
to reduce cardinally the area where government employees make decisions at their own discretion;
to create a modern system of administrative justice.

It takes a strong state to provide such conditions and mechanisms. The creation of a strong and effective state capable of ensuring the conditions for the well-being and a worthy life for the country’s citizens is the key strategic task formulated in the Address of the Russian President (in the year 2000).

One of the top priorities in building such a state is overcoming the active or passive resistance of key political and economic entities who stand to gain from the ineffectiveness of the governmental and market institutions.

Ensuring well-being and a worthy life cannot be a matter only for the government, let alone just one of its branches. This strategic goal requires the coordinated actions of the federal authorities (responsible for everything), the regional authorities (responsible for the socio-economic development of their regions) and big business (responsible only for itself but that assumed control over basic branches of the economy). Coordinated actions must be ensured by the appropriate legal and organizational mechanisms that will determine and enhance the effectiveness of the state.

The implementation of the social goals of the state’s development presupposes the existence of effective legal, political and economic mechanisms of power-sharing among the federal authorities, parts of the Federation and local self-government bodies and the main economic entities (businesses and households) to achieve the sought-for living standards and make it possible to draw up an appropriate social contract. This plan must be ensured by the adoption of a number of laws, including:

a law that formulates the basic framework of relations, interactions and mutual responsibility of the government, society, businesses and citizens in the drafting and implementation of the strategy, as well as guarantees the democratic norms of governing the state and managing the economy;
a law on the development of federal relations determining (a) the areas of competency and responsibility among the federal, regional and local levels of government in order to achieve the goals of social and economic development and ensure the social guarantees in the Constitution, and (b) the areas of competency and responsibility in governing the country in the context of the law;
a law on the social and economic protection of the Northern and borderline territories that will create the legal basis for the consolidation and effective use of the presently scattered resources to achieve strategic goals in the development of the territories which are essential to state security;
a law on the youth that must create the legal basis for the protection, preservation and replenishment of the country’s main resource — its people;
a new version of the Law on Security creating the legal basis to ensure the safe progress of society and to implement the development strategy, serving as the basis for the consolidation of the activity of power-wielding institutions and other elements of the direct line of power in matters of home policy and construction of a law-governed state and being an effective tool of fighting corruption.

A systemic combination of such laws could serve as the legal basis of state management meeting the requirements of the strategy of Russia’s development, the constitutional principles and the essential democratic criteria.

5. BASIC ELEMENTS OF THE SHORT-TERM ECONOMIC POLICY

5.1. The Current Macroeconomic Situation

The economic results of the year 2000. It would not be an overstatement to say that the economic results of the year look excellent, particularly when compared with the previous decade. The gross domestic product rose to an estimated 7.6 percent, industrial output to 9 percent, and agricultural output to 5 percent. The real incomes of the population grew 9.1 percent, though they are still 22 percent lower than the pre-crisis 1997 level since the 1998-1999 crash. The growth of investment in fixed capital reached 17.7 percent, which, though easing the acute need for investment, is still much less than is needed for the normal renewal of fixed assets (it is estimated that the level of investment should rise by another 90-100 percent to achieve this). Inflation (120.2 percent from December to December) actually remained within the level expected at the beginning of the year (118 percent). The federal budget revenues rose from 13.5 percent of the GDP in 1999 to an estimated 16.5 percent of the GDP, which made it possible to almost fully pay up all the wages owed by the government. The economy has become more “monetarized” and the syndrome of “nonpayment and barter” that plagued it in recent years has largely become a thing of the past.

At the same time it should be noted that an “expanding economy” which would guarantee a high and stable growth of production and consumption is not yet working. The economic upswing was largely circumstantial. The revenues, net demand and production have not yet formed the reproduction contour promising development. Moreover, a number of negative tendencies persist and may become stronger this year what with the instability of the world raw materials markets and the growing competition from imports. All this makes the sliding of the Russian economy into long-drawn out stagnation quite possible.

Key macroeconomic tendencies. The development of the economy in the third and fourth quarters of 2000 was marked by stabilization that embraced, above all, the production area. At the end of the first six months of the year there appeared clear signs of a slowing down of the pace of industrial recovery. This was seen, specifically, in a sharp decrease in industrial output. The average monthly growth rate of industrial output, discounting seasonal and calendar factors, was 1.4 percent in the first quarter of the year and only 0.5 percent in the second quarter. The rate of growth of industrial output dropped to zero in the third quarter and showed a negative index, - 0.9 percent, in the fourth quarter.

A tendency for stabilization of the domestic net demand has been clearly manifested. Taking into account the seasonal factor, its average monthly growth rate dropped from 1.7 percent in the first quarter and 1.1 percent in the second quarter to 0.5 percent in the third quarter mainly due to the cessation of investment growth. The domestic net demand picked up to a certain degree in the fourth quarter, to 0.9 percent a month, mainly due to consumer spending.

These changes in the basic tendencies are of a fundamental nature and reflect the qualitative changes in the model of economic development in 1999-2000.

The period of the economic recovery that started in 1998 comprises two cycles of economic dynamism, including the stages of upswing and stabilization of production (see Table 1 and Figure 5.)

Table 1

Phases of Economic Dynamics (discounting seasonal changes, percent)¹

	Upswing 10.1998- 06.1999	Stabilization 07.1999- 10.1999	Upswing 11.1999- 05.2000	Stabilization 06.2000- 09.2000
Gross domestic product	8,9 (0,9)	0,1 (0,0)	6,5 (0,9)	2,5 (0,4)
Industrial output²	23,6 (2,4)	1,5 (0,4)	7,6 (1,1)	-2,0 (-0,3)
Domestic net demand for goods	-4,9 (-0,6)	0,7 (0,2)	8,7 (1,2)	5,4 (0,7)
Retail trade turnover	-10,3 (-1,2)	1,6 (0,4)	5,3 (0,7)	7,1 (1,0)
Investment in fixed capital	14,4 (1,5)	-1,8 (-0,5)	17,8 (2,4)	1,1 (0,2)
Foreign net demand for goods (export)³	-8,1 (-0,9)	1,1 (0,3)	8,5 (1,2)	1,8 (0,3)
Real incomes of the population	-1,3 (-0,1)	6,8 (1,6)	5,9 (0,8)	8,2 (1,1)

¹Rates of growth for the given period (monthly average in brackets).
²Discounting the seasonal and calendar factors.
³The total for 19 kinds of goods making up 70-75 percent of the exports.

Stages of Economic Dynamics in 1998-2000
(growth in percentage to October 1998, discounting the seasonal factor)

Fig. 5

The first stage of the upswing, from October 1998 to June 1999, was marked by intensive industrial growth at the average monthly rate of 2.4 percent with the seasonal and calendar factors discounted. Both the domestic and foreign net demand showed a tendency for going down.

Both the dynamics and structure of the industrial upswing were of a marked nature compensating for the industrial recession in May-September 1998. Its factors at the given period were:

the replacement of import made possible by the devaluation of the rouble and the weakening of the main cost-forming factors (the lowering of relative prices of products of natural monopolies and real wages);
the investment of enterprises into the circulating assets stocks (while the stock accumulation norm was -17.3 percent of the GDP in the fourth quarter of 1998, it was -2.3 percent of the GDP in the first quarter of 1999 and +0.8 percent of the GDP in the second quarter of 1999).

The main contribution to the growth of industrial output was made by machine building (44 percent, see table 2) and the raw materials industries (29 percent) with consumer industries making a modest contribution (17 percent).

The upswing halted by mid-last year as the potential of the “superficial” imports replacement unrelated to qualitative product renewal has been exhausted. The industrial output growth rates lowered to the stagnation level of 0.4 percent a month.

Table 2

Characteristics of Two Stages of the Industrial Upswing

	First stage of the upswing (10.1998-06.1999)		Second stage of the upswing (11.1999-05.2000)
	Growth index1	Contribution to the total growth output	Growth index1	Contribution to the total growth output
Industry total	124	100	108	100
Export-oriented raw-materials industries²	116	29	105	30
Machine building	142	44	111	37
Consumer industries³	125	17	109	19
Consumer industries⁴	115	11	108	13

¹The growth rate for the period discounting seasonal and calendar factors.
²The fuel industry, ferrous and nonferrous metallurgy, chemical and petrochemical industry, pulp-and-paper industry.
³The light, food and medical industry.
⁴Electrical engineering, the building materials industry, the flour, cereals and combined fodder industry, the microbiological industry, and others.

The second stage of the upswing that started in November 1999, unlike the first stage, was associated with the expansion of the domestic and foreign net demand rather than imports replacement. The average monthly industrial recovery rate was 1.1 percent.

The key aspect was that various segments of the Russian industry stood to gain from the increase in net demand, although not to the same extent. The growth of industrial output for seven months (107 percent, discounting the seasonal factor), almost coincided in scale with the expansion of the domestic net demand (108.7 percent) and export (108.5 percent). The recovery of domestic demand was prompted by an increase in the real incomes of the population (0.8 percent a month) and of the incomes of enterprises that had edged upwards in the previous period. The growth of foreign demand was related, above all, to a radically improved situation on the world market.

Machine building remained the leading sector of the economy ensuring the industrial upswing. Machine building output (discounting the seasons and calendar factors) rose 11 percent and accounted for over a third of the overall increase in industrial output. This result was achieved mainly due to the fact that machine building, relying as it does on investment, was able to adjust to the “investment boom” observed over the period. A significant role was also played by the growth of machinery export — its value for seven months reached 119 percent.

The role of the consumer goods production has increased. The contribution of consumer goods to the total growth of industrial output rose to 19 percent as compared with the first stage of the upswing. The growth rate of their output (9 percent) was almost double the index of retail trade turnover (5 percent), which testifies to the use of the residual potential of import replacement by consumer goods industries.

The raw materials sector (export-oriented industries) was influenced by two different factors. On the one hand, the growth of raw materials export resulted in an increased demand for the products of these industries. On the other hand, stocks of circulating assets started going down again since late 1999. The stock accumulation norm in percentage to the GDP was -8.4 percent in the fourth quarter, -2.8 percent in the first quarter of 2000 and -2.1 percent in the second quarter. These factors left quite a narrow space for the increase of the output of raw materials goods — 105 percent for seven months, which accounted for 30 percent of the total growth of industrial output.

The phase of stabilization that set in since June apparently is a sign that the energy of the industrial upswing has been spent. Alongside the economic recovery, “restorative” processes of various intensity are taking place in the Russian economy. They reflect a spontaneous return to the pre-crisis (mid-1998) proportions of the system of prices and distribution of primary incomes:

outpaced growth of prices of primary resources (energy sources, transport tariffs);
the steady growth from the end of the first quarter of the real exchange rate that reached 15.3 percent a year.

These processes adversely affect both the dynamics of the net demand and the ability of enterprises to respond to its increase. As these processes develop the financial results of the economic activity of enterprises gradually worsen.

The profit rate in industry (the balanced financial results in percentage to gross output) fell from 22 percent in the fourth quarter of 1999 to 18.7 percent in the fourth quarter of 2000 and to 18.1 percent in the fourth quarter of 2000. The polls of chiefs of industrial enterprises conducted by the Centre of Economic Situation (CEF) also show that the growth of profits petered out in the second half of 2000.

As a result the Russian economy stalled and this had various effects:

a cessation of the investment growth when the sources of financing comprise over 50 percent of enterprises’ own funds (over 70 percent in industry);
a reduction in the stocks of circulating assets with a gradually deteriorating state of working capital;
stabilization of the volume of exports due to the growth of production costs and of the real exchange rate;
stronger competition from imports.

The three above-mentioned components of the demand (investment in fixed capital, stock accumulation and export) make up about half the net demand for goods. So even though the dynamics of retail trade turnover somewhat picked up compared with the previous stage of the upswing (0.7 and 1.0 percent average monthly growth discounting the seasonal factor) the industrial upswing was interrupted.

Stronger limits to the industrial upswing have manifested themselves alongside the above-mentioned circumstantial processes. A shortage of equipment at enterprises is becoming a significant factor limiting the industrial growth. This fact was mentioned by 20 percent of the heads of industrial enterprises polled by CEF in September while this was pointed out by 15-16 percent of them early last year (25-40 percent of the heads of industrial enterprises in the fuel, pulp-and-paper and light industry, and in ferrous and nonferrous metallurgy).

The onset of stagnation is, however, far from irreversible. The economic growth in the past two years was achieved step-by-step with the stages of stabilization being replaced with the stages of higher rates of growth (see graphs 1-3). Now, basically, is the decisive moment: either the Russian economy will remain on the plane reached or edge a step higher.

Graph 1. Industrial Output
(billion roubles in comparable prices for 01.1998)

¹The scale on the right represents the average daily industrial output discounting the seasonal factor, the scale on the left shows the actual monthly output

.
Graph 2. Retail Trade Turnover
(billion roubles in comparable prices for 01.1998)

Graph 3. Investment in Fixed Capital
(billion roubles in comparable prices for 01.1998)

The prospects for a new industrial upswing are linked, above all, with the monetarization of the economy, with the growth of the real balance of funds remaining on the accounts of enterprises, on an average 3-4 percent a month. This growth was accompanied by ousting barter out of settlements between enterprises. According to the data of the “Russian Economic Barometer” during eight months of the year 2000, the share of barter dropped from 36 to 21 percent of the sales in industry, to the level of 1994-1995. Monetarization of economic circulation is manifested in the steady increase in solvent demand which is invariably pointed out by respondents to CEF polls.

Monetarization of the economy has so far been linked mainly with the foreign economic activity of enterprises (the sale of part of the foreign currency proceeds of exporters to the Bank of Russia is accompanied by the issue of money which is then redistributed down economic chain). The upkeep of monetarization will in the long run depend largely on the banking system.

It should be noted that although the real value of credits has a tendency to grow, the banking system on the whole is not yet prepared to increase loans to enterprises on a large scale. The reasons for this are connected both with the banks (the low capitalization rate, the shortage of long-term funds, etc.) and with the enterprises (the persistence of high risks).

The banking system acts as a borrower with regard to the sector of nonfinancial enterprises: the funds of the real sector attracted by commercial banks (without taking into account the Savings Bank) grew by 220 billion roubles in January-November 2000, while borrowed funds supplied by banks to the real sector increased by only 183 billion roubles.

The optimistic version of the development of tendencies on a short-term basis is linked with the implementation of the following provisions:

tapping the reserves of the investment growth, above all, through cutting the export of capital and drawing on the savings of enterprises and the population;
stabilization and lowering the relative prices of goods and services of natural monopolies;
continued monetarization of the economic turnover with the reduction of nonpayments and barter;
the expansion of the real volumes of bank credits for nonfinancial enterprises.

If this is done, the resumption of the industrial upswing can be expected and this stage will last for no less than five to six months. The annual index of industrial production will reach 103.9-104.0 percent in 2001. The retail trade turnover and investment will grow at a higher rate (105.8-106.0 and 110-111 percent, respectively) and the ever growing demand will be covered by imports.

A favourable situation with prices in the world raw material markets will help stabilize the export at a high level (97-98 billion dollars). However, because of the faster increase of import, the trade balance will considerably decrease, from 60 to 45-46 billion dollars. The growth of official gold-and-currency reserves will drop at least to a quarter as a result. The issue of money connected with this increase in the reserves will not be enough to meet the predicted demand of the economy for money supply. As a result, there will be a need for extra channels for expanded money supply, first of all through refinancing banks that give credits to enterprises. In this version, the forecast GDP is 8,520-8,530 billion roubles, 770 or 780 billion roubles more than is estimated under the 2001 budget.

5.2. Measures to Maintain Stable Rates of Growth in the National Economy

Creating the conditions to overcome limitations to economic development that will arise in 2003-2005 will undoubtedly be a task in near future. There limitations will result from:

the increased scale of removal of fixed production assets because of their becoming worn out and obsolete;
the operation at capacity of presently idle enterprises;
the peak of payments on the national debt.

It is necessary to work out a programme to tap possible extra revenues to create the conditions for a more favourable development of Russia’s economy. And there is no need to use the balances on accounts for taking stock of the federal budget and the revenues above the endorsed volumes to make payments reducing the debt. Repaying debts is, naturally, one of the government’s most important tasks. But it is also obvious that the repayment of debts above the required sum draws funds from the economy and slows down economic growth.

The infusion of the existing funds into the economy could undoubtedly heighten the inflation rate. At the same time, it is the government’s natural task to channel funds so that the effect for the economic growth be the utmost, and consequences of inflation be the least.

This means that median values in ranges characterizing economic growth and inflation rates should be used in calculating the budget. It is estimated that the dynamics of the main indexes of the forecast is within the following limits: the GDP — 5-7.5 percent, industrial growth — 8-11 percent, investment growth — 9-12 percent, and growth of the index of consumer prices — 14-19 percent. Even if the understated estimates of export prices of raw materials and volumes in Russia’s foreign trade turnover are used in the calculation, the revenues of the budget, based on an average annual currency rate of 30 roubles to the dollar, will grow roughly by 50 billion roubles.

The problem of the wear of fixed assets has become very acute of late. This applies to most enterprises but, above all, to the large companies maintaining the country’s energy and transport infrastructure. There is, indeed, a huge demand for funds in these areas which is difficult to meet in the current economic situation, not only because of the lack of borrowed funds, but mostly because of the large indirect expense of replacing fixed assets. A large part of these replacements must be imported equipment, and the current foreign trade and customs policy of the state impedes the import of the production assets. So in order to get the production assets needed to preserve the country’s industrial potential, industry would have to pay so large foreign trade duties and taxes as to put in question the advantage of replacing the worn-out fixed assets. And in the present conditions it does not make sense to replace fixed assets.

Thus, the state priorities include changing the tax-and-customs policy and lifting customs taxes on the import of equipment that is not manufactured or is in short supply in Russia. The customs policy, on the whole, should switch from taxes on the import of industrial equipment to the export of raw materials and import of consumer goods. This must ensure the growth of domestic demand for home-produced consumer goods and promote the expanded supply of such products on the domestic market.

Russia’s foreign trade turnover could be much more effective and dynamic if there were a mechanism for the use of surplus and actually frozen currency reserves. The constant growth of currency reserves of monetary institutions resulting from the foreign trade surplus creates the conditions for a boost in the export of products of the processing industry and considerable renewal of the technological base of the economy through expanding the import of equipment. To achieve this it is necessary to run the “excess” currency reserves through the banking system of the Russian Federation, permitting the Central Bank and the Ministry of Finance to keep a certain amount of currency reserves in what are actually state commercial banks (the Foreign Trade Bank, the Savings Bank, the Russian Bank of Development, the Russian Agricultural Bank) so that these banks could credit export and import operations, above all the export of products of the processing industry and farm produce and the import of high-tech equipment.

These actions, at the most modest estimate, could augment the value of exports by 4-6 billion dollars and imports by 8-12 billion dollars with the increase in imports largely going for investment into fixed assets. That would mean an increase in investment activity in the country by roughly 20 percent.

We believe it would be expedient to use the existing and potential surplus revenues next year to expand state demand and support the development of production credit. It would be possible to substantively increase investments into the Russian Bank of Development, the Russian Agricultural Bank, and the Agency for Restructuring Credit Organizations. The duly formed capital of these organizations would make it possible to considerably step up investment into the infrastructure, into industry (including loans for the conversion of enterprises of the defence industry), and into the agrarian sector, including for purposes of seasonal credits and the development of leasing.

The problem of the effective management of the Savings Bank’s assets also needs to be solved. The Savings Bank’s reserves have largely been formed thanks to state guarantees on deposits of the population. The Savings Bank actually plays no part in working out and pursuing the state economic policy. We believe that the present situation where the Savings Bank acts as the ultimate creditor for the real sector is ineffective both for technological reasons (the shortage of personnel and structures capable of duly assessing the need for investment and its effectiveness and of controlling the purpose-oriented use of the resources) and for socio-psychological reasons (the sway of lobbyism over regional authorities, commercial structures, etc.) Besides that, there is a considerable difference in the possibilities of the Savings Bank and the overwhelming number of ultimate borrowers. In these conditions, alongside the broadening of direct cooperation between the Savings Bank and enterprises of the real sector, it is expedient to start forming a system of crediting the real sector on the pattern — the Savings Bank — a specialized bank (investment company) — the ultimate borrower.

It would be expedient to use part of the Savings Bank resources for programmes of medium-term and long-term consumer credit, especially, mortgage credit.

State demand should concentrate, above all, on investment in the infrastructure and high-tech development. The state policy of intensifying the scientific and technical potential of the national economy should include the following elements:

stage-by-stage repayment of the accumulated debt of the state for defence contracts, and the fulfillment of its obligations to allocate money for the purchase of military equipment and conducting research-and-development as required by law;
state support for the conversion and stimulation of the transfer of technologies from military to civilian production;
subsidizing the import of promising contemporary technologies and scientific and technical information;
creation, with the state’s assistance, of an infrastructure ensuring the commercialization of the results of research-and-development;
exempting from taxation enterprises’ expenditures for research-and-development, modernization of products and introduction of new technologies;
protection of intellectual property and ensurance of the right to it.

It is extremely important when using extra resources to ensure the required amount of financing for road building and maintenance. This could be done either directly through beefing up the Federal Fund for the Financial Support for Parts of the Russian Federation, or by setting up a lending fund of the Russian Federation that would give loans to Russian subjects expressly for the development of the regional infrastructure. The latter would be particularly relevant and would offset the effect of the amendment to the budget code that, if adopted, would prohibit parts of the Federation from borrowing money outside Russia.

The draft budget envisages a change in the mechanism of financing the carrying out of a number of federal laws: “On Veterans”, “On the Social Protection of Disabled Persons in the Russian Federation,” “On Child Welfare Allowances”. This change is, undoubtedly, more in accord with the principle of a uniform social area of the Russian Federation as it ensures equal rights of veterans, disabled persons and persons with children regardless of where they live. This may initially lead to the worsening of the social situation of considerable numbers of people in these categories, as the degree of the implementation of these laws was different in various regions of the Federation. In this connection it seems expedient that the federal budget endorses a volume of financing these laws that would ensure their 100 percent implementation either through redistributing the articles of budget expenditures or using residual funds on budget accounts as of January 1, 2001. In the latter case these funds should be remitted to the budget of the regions of the Russian Federation, barring their use for purposes unrelated to the fulfillment of the laws.

A considerable cut in the rate of income taxes on the wealthier Russian citizens seems a timely and even belated measure. But having distrust for the state as a whole and its fiscal bodies in particular, many taxpayers regard the introduction of a uniform income tax as a way to find out about all their incomes, which would subsequently be confiscated. We think there must be at least two rates while it should be legislatively decreed that they could not be raised for a minimum of five years. An increased tax should be imposed on persons with incomes much larger than average. Such incomes, for the year 2001 could be fixed at 700,000 roubles and taxed at a rate of 25 percent.

We deem it necessary to announce a stage-by-stage programme of transition to standard world practice of control over citizens' incomes and property. This programme could envisage the following important measures:

the introduction of due control over the financial activity of private enterprises (bringing to light fictitious operations leading to cashing or export of capital, as well as expenses of enterprises that are really to the personal advantage of their owners);
stock-taking of property belonging to private individuals and taxing it (with the timely declaration of property) at a minimum level for quite a long period;
pardoning the non-payment of taxes on incomes of private individuals for 1992-1999 that were not declared in time upon receiving payment for the legalization of incomes proportionate to these incomes (the payment, on the one hand, should not be a mere token, and, on the other, should not exceed 5 percent of the value of the property that the private individual declared for pardon).

The latest events brought to light once again Russia’s extreme dependence on the situation on the world market of energy sources. Sustained economic growth is impossible without the steady functioning and development of such life-support systems as electricity, gas, etc. At present there are such acute problems as providing supplies to Russia’s Northern territories, supplying fuel and lubricants for sowing and harvesting, the ever more frequent instances of confrontation between the fuel-and-energy monopolies, and between these monopolies and the regional authorities which result in the disruption of the energy supply to the national economy and the population and hazardous for the country’s energy security in the future. There is a need for tighter state regulation in the energy sector so that the current and prospective balance of fuel-and-energy resources makes it possible for Russia’s economy to develop without snags. The government must work out the long-range energy policy of Russia, as well as the mechanism of its implementation.

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The present concept contains the basic points of the long-term strategy of Russia’s social and economic development. A much more detailed analysis of all the problems related to the development of the economy and society will be required to create a full-scale strategy (programme of long-term development).

For this purpose, it is necessary, first of all:

to clearly formulate both short-term and long-term aims of the country and society in every area of social and economic life;
to link, also through forecast, the purpose-oriented principles of the development and resource potential of the country;
to coordinate all the main parameters of development in the strategy.

In addition, the strategy should set out in detail the ways and means of solving a whole range of long-term problems.

The functional aspects of development are as follows:

setting up an effective mechanism ensuring the early redistribution of assets among the truly effective proprietors;
developing the production capacity of the national economy;
intensification of scientific and technical progress;
improvement of the demographic situation and enhancement of the quality of the work force;
fighting poverty;
improving the quality of state management and raising the qualifications of state employees;
introducing high business ethics; etc..

The branch and regional aspects of development are as follows:

defining the priorities of the structural development (including branches of the “new economy”, etc.);
actions to develop the social area and the housing sector;
measures to develop the basic industries of the Russian economy, including the agro-industrial sector, energetics, the infrastructure, the military-industrial complex, etc.);
implementation of regional and interregional development programmes, etc..

Thus the creation of a full-fledged development strategy will require extra work. In the course of it all the constructive viewpoints and all the necessary supplements and additions must be taken into consideration.