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The Globe and Mail (Canada)
June 9, 2003
Trouble seen in booming Russian economy
Beneath rosy surface, conditions are ripe for a crash
By MARK MacKINNON

MOSCOW -- Glance around Moscow, and you'd think perhaps that the Russian economy has never been this good. In the south of the city, the giant, Western-style "Mega Mall" has just opened its many doors. Near the old KGB headquarters, a new showroom for Bentley luxury cars flaunts its gleaming wares.

All around the capital, ostentatious displays of disposable income are the norm. Last month, some tickets for a Paul McCartney show on Red Square sold for $3,000 (U.S.) a pop.

The headline economic figures are good, too. The country's gross domestic product has been growing in spurts every year since 1998, the year of its traumatic, $40-billion, economic collapse. The government is running current account surpluses of tens of billions of dollars. The Russian ruble is gaining vis--vis the U.S. dollar.

Foreign investors are taking note. Earlier this year, British Petroleum announced the single biggest investment ever in Russia, a $6.5-billion deal to buy half of one of the country's largest firms, Tyumen Oil.

In his state-of-the-nation speech last month, Russian President Vladimir Putin, who was among the VIP guests at Mr. McCartney's show, pointed out that the country's GDP had grown 20 per cent in the past three years, second among emerging economies over that period to only China. The country's goal, Mr. Putin said, should be to double the size of the economy over the next decade.

Brave, optimistic words. But scratch a little at the surface, many economists here say, and you'll see that the boom fuelling such talk is a concentrated and shallow one, and that the conditions are disturbingly ripe for another crash like the one five years ago.

At a seminar last week in which he was to introduce Russia's finance minister, Alexei Kudrin, Peter Jennings, the chief executive officer of the Moscow investment house Renaissance Capital, said he was "amazed at the similarities" in the underlying economic conditions between now and 1997, just before the fall. It's a theme that's been picked up by a nervous Russian media.

Then, as now, the stock market was on a runaway upswing. Last week, the benchmark RTS stock exchange moved over 460, approaching its 1997 peak of 470, having climbed a startling 30 per cent in the first five months of this year. As they did in 1997, trading volumes have doubled, as new investors have rushed in.

Of course, none of this is necessarily bad news. But in an economy that remains heavily reliant on oil -- Russia is the world's second-largest producer and crude accounts for half of all the country's exports -- some see a growing bubble that is just waiting to pop as soon as the oil price falls back down to Earth.

"If the oil price goes down -- say below $20 a barrel -- there will be a depreciation in the Russian ruble, and a very rapid depreciation," said Gennady Nech, president of Necco Industries, a company that advises Russians on how to invest their money abroad.

Some worry that with questions clouding the future of the U.S. economy, and with Iraqi oil soon to re-enter the market, the oil price could be in for precisely such a plunge.

And that could preface a wider economic tumble, some worry. Though the country's GDP officially grew 4.3 per cent last year -- and another 6.4 per cent in the first quarter of 2003 -- there's concern that Russia's economic roar could be in fact emanating from a paper tiger.

"I really do not trust Russian numbers," Mr. Nech said. "[The government] has a long history of manipulation, and I don't trust their numbers at all."

Others worry that the government has now conceded that it will miss its 2003 target date for accession to the World Trade Organization. Or point out that the boom is occurring almost entirely in Moscow while the rest of Russia -- all 11 time zones of it -- remains largely mired in poverty.

There are other worrying signals. The International Monetary Fund last week cautioned that GDP growth in the country would be just 3.5 per cent this year, not the 4.2 the government had been predicting. Inflation remains in double digits, and most troubling, corruption continues to cripple the economy, forcing much of it underground.

Transparency International last year ranked Russia 71st among 102 countries in terms of openness, a dead heat with Zimbabwe.

Some dismiss such talk as poor-sported naysaying, perhaps even fear-mongering driven by those who'd like to shake the electorate's confidence in the government during an election year.

In an interview, former finance minister Boris Federov said that he thought the economic forecast for Russia over the next few years was "generally quite good" and wondered why some were suddenly raising the spectre of another crash. "As an economist, and having lived through 1998, I have to ask, what is the basis for that?"

Unlike in 1997, he said, the federal government is in good fiscal shape. Mr. Putin has balanced the budget every year since he took power in 2000.

But for all his optimistic talk about doubling the size of the economy by 2013, Mr. Putin appears to be among those uncertain of what the future holds for his country. He sounded a long note of caution in his state-of-the-nation speech.

"Some have . . . the feeling that all our problems have been resolved, that Russia's future is totally predictable, a success story, and that it is just a matter of whether our economy should grow at 4 per cent or 6 per cent, and how much to spend. I want to tell you that this is not so," he said solemnly in the televised address.

"Our economic foundation, although it has become considerably sounder, is nevertheless unreliable and very weak. The political system is not sufficiently developed. The state apparatus is ineffective. The majority of industries are not competitive. And meanwhile the population is continuing to decline in number and poverty is receding extremely slowly."

His words could have been seen as a warning, akin to U.S. Federal Reserve Board chairman Alan Greenspan's famous "irrational exuberance" talk amid the boom of the late 1990s.

However, when the markets re-opened the following week, the RTS continued to rise.

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