Russian Economic Reform

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New Russian steel industry on China’s door step!

Published on June 11 2011
Posted by: jeff

Dr. Kimelman, from the Academy of Mining Science, and a member of Group 1, has called for of large-scale Russian industrial development on China’s door step. He claims that China will not be able to import all its iron-ore needs in coming decades (due to lack of world supply!!) and that Russia should take advantage of this by finding and developing iron ore deposits in regions which are situated close to China. But rather than just export raw materials, he wants to see the “economic rents” (super/excess profits) used for a “new industrialization”. He says that that if Russia “does not move away from dominance of the raw materials model, and if we do not now move to development of a diversified economy, we will fall behind forever”. Unlike other some other Russian commentators, he does not urge Russia to give up exploiting its natural resource exports and, instead, “modernize”. He says that it is well known that many countries (Norway, Australia, Saudi Arabia, United Arab Emerites and others) which do not aspire to be  processers of raw materials, use the income from this trade to develop other spheres of economic activity.

Jeff says that ….

(Hopefully, someone from Australia or Norway will have views on this last point, the world supply of iron-ore, and/or the general theme of the whole article. The two tables, summarising “models of economic development” are particularly worth noting.)

Kimelman is particularly angry (and this is the appropriate word to use given the tone of his writing) that a “myth” is being actively pressed on the people of Russia, which says that it “may consider an economy to be nothing if it is not firmly based on the idea that trade in raw materials is unprofitable and unworthy” – ie that the “export of natural resources model means a “bad” economy.

He writes that in order to make the natural resources the “real locomotive” of the Russian economy, it is necessary to change legislation to prevent economic-rents flowing out of the country (to off-shore tax havens etc) and direct those rents towards raising socio-economic welfare by way of priority development of industry, infrastructure, agriculture, information technology and the social sphere.

He is scathing of many of the big infrastructure/development projects presently being undertaken in Russia, and says that there is no explanation as to why some major projects receive massive public funds. The state, together with business, is continuing to implement some disparate infrastructure projects which are the result of “oligarch” lobbying and which have no common theme. Moreover “there is not one significant project which is for development of the raw materials sector, and which now brings real income”.

He slams large expenditures of public funds on things such as Rosnano, Russia’s special firm to develop commercial projects based on nano-technology (which, he says, has precious little to show for the funds spent so far); the apparently arbitrarily Putin decision to move the route of the East Siberian – Pacific Ocean oil pipeline, being built by Transneft, further away from Lake Baikal (which has, he claims, increased its cost by one and a half times); and the massive construction project in Vladivostok for the 2013 APEC Summit.

Kimelman complains that over the last 10 years big resource companies have had too much independence from the Government to decide “where to extract, how much to extract, where and to what extent to process the extracted resources, and what price to sell” and that this has resulted in “lopsided” development of Russia’s natural resources and also stagnation in processing industries. “Presently, its development is spontaneous and completely dependent on oligarch structures and vertically-integrated companies” which often act rapaciously. The resource companies have also successfully lobbied for a string of large scale disparate infrastructure projects which benefit themselves.  

Kimelman wants Russia to develop a “strategy, institutional structures and economic mechanisms for the participation of Russian (but not “off-shore”) business in world natural resources”, and aimed at implementation of large-scale projects, such as the Soviet project to develop the hydro-carbons of Western Siberia in the 1970s and 1980s.

For this, he says, it will be necessary to have federal laws of the type creating the “Skolkova” scientific center. There is a need to unfold an effective program with detailed plans and steps for implementation.

Kimelman is critical of two unsystematic “thematic” mistakes in government thinking in recent years.

First of all, is the attitude to creation of “special economic zones”. He says that he does not understand why legislation covering natural resources has been excluded from that covering special economic zones. Moreover, such zones have been unsuccessful because of an absence of real economic reasons for their existence, lack of rules for attracting investors, and lack of specific legislation, concessions and preferences (such as, for example, in the case of “Skolkova”).

The second mistake, he says, emerged in late 2010. Vedomosti (Russian language business newspaper) reported that parts of the government were suggesting the creation of between 20 and 25 municipal “conglomerates” which would include relatively dense populations, mainly in the form of cities, each growing and unified as a result of “complex multi-component dynamical systems” which would include inter-related production, transport and cultural facilities. It was suggested that 40% of the Russian population could live in these conglomerates.

Kimelman does not seem to think this idea would work, but he says that there is “no harm is without good” and he likes some aspects. Bringing the “special economic zones” (with the inclusion of natural resource projects in them) and the “conglomerates” ideas together, he envisages “mega-projects developing the mineral-industrial base of the southern Siberia-Far East geopolitical area of Russia”.

The necessary conditions for implementation of such mega-projects include integrated and synchronized interaction between government, business and civil society on the principle of private-public partnerships and social-state regulation and control — so that there is unconditional approval by society and confirmation by government (passing federal legislation).  

These new-type regional “special economic zones”, conglomerates, operations and infrastructure projects can be financed by the mining royalties and taxes on super-profits. Thus, Russia can organize its own full metallurgical processing of extracted raw materials. Creating such facilities in Siberian – Far East region should be considered a national priority. No less important, are projects to produce various types of fuel for China.

Kimelman points to a 2009 report by one Russian business lobby group, “Business Russia”, which aims to represent businesses which are not in the natural resources sector. It was titled: “Exiting the Crisis: rejecting the raw materials model, new industrialization”.

It contained this table to illustrate the difference between Raw-material Export Model and Competitive Model of Economic Development, and included this table:

Indicator Export of raw materials model Competitive model and “new industrialization”
Main source of income Natural rents Highly productive labor force in all economic sectors. Implementation of innovation.
Main mechanism of growth Government/State Private initiative and competition
Main characteristic of economy Government/State and super-large raw materials companies Millions of private companies, mostly not in the raw materials sector.
Stimulus for growth External demand for raw materials Internal demand on a wide spectrum of the domestic economy
Economic policy Controls, hands-on management Economic incentives, regulation of market development
Fundamental source of social security stem Government/State Private sector

 

Kimelman  has his own table of objectives, although he does not offer much explanation about it and I am sometimes unsure what he means (hopefully some native Russian speaking economist may be able to help here!):

Indicator Raw materials (mineral resources) sector Non-industrial sector Raw materials and “new industrial” sector
Segment (part) of sector Export (import) mineral resources and basically processed products.   Processing sectors. Export (import) of products processed beyond the basic stage. Diversification and integration of types of activities
Form of ownership State Predominantly private, but also Central Government  Private and co-operative
Main source of income Mining royalties and taxes on super-profits Value added (processing sectors) Growth in productivity of labor, competitiveness, innovation and modernization.
Main source of growth  State regulation of access to natural resources Private initiative and competition Stimulatory taxation and regulation of demand and supply
Main economic characteristic  State and natural resources monopoly, oligarchy Industrial holdings (metallurgical, oil-refining, liquefied natural gas, mining and chemical, agro-chemical etc) Vertically integrated companies and holdings, combining exploration, extraction, and processing of raw materials
Growth stimulus Internal and external demand for mineral resources and products basically processed Internal and external demand for products at secondary and later stages of processing and a broad spectrum of domestic goods Synergies resulting from integration of both sectors
Economic Policy  Controls, providing valuation of subsoil resources. Economic stimulus, regulating market development Economic rent orientated social-direction
Main source for providing social system. State regulation of investments in natural resources, and in the creation and maintenance of social infrastructure. Public-private partnerships Consolidation of the budget. Providing targeted infrastructure projects.
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