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Friday, December 07, 2007

A Requiem for Russia

Robert Amsterdam refers us to a post on Fistful of Euros that explains the horror of the beast called inflation that is soon to devour Russia: Investment and increasing personal incomes, to the extent they are occurring, will obliterate an economy which has never been able to keep up with demand by sending prices beyond the means of ordinary people. Chaos, crackdown and failure -- just as in Soviet times -- can be the only result.

Russia has been in the news over the last few days, as much as anything for its recent attempt at “unfair” (the term is the one used by the OCSE) elections. Both Alex and Doug have already commented on this (and Manuel Alvarez has a useful summary of the electoral system and the outcomes it produces here), so in this post, I would like to draw attention to another reason why Russia should be in the news, its growing inflation problem.

As you may, or may not, know, inflation is currently accelerating in Russia, as indeed it is across a large part of Eastern Europe and Central Asia. Regular readers of this blog will know something of the precarious situation which exists in the Baltic States (Latvia, Estonia, Lithuania, a fuller summary of some of the issues arising here can be found in this post). Some, like the Economist, would more or less dismiss the Baltic phenomenon, since the Baltics are, at the end of the day, “pipsqueaks”. But Russia is no pipsqueak, and should Russia be falling victim to some variant or other of the “Baltic syndrome” then this will be no laughing matter (could this be a case of the Baltics sneezing and the global economy catching a cold?). Unfortunately the early warning signs are that it may well be.

The argument I will present is that the sudden acceleration in inflation which we are now witnessing across a whole swathe of emerging economies in Eastern and Central Europe is not simply accidental, or coincidental. Nor is it a simple by-product of collective poor institutional quality, bad government and/or endemic corruption. Of course there is no shortage of all of these, and in varying measure, but there are larger, and in historical terms grander, “big picture” processes at work here, and what is so striking about these countries is that no matter the differences in their policy and institutional mix, under the right circumstances they all go shooting off in the same direction. So what is happening?

Well it seems to be the case that this sudden acceleration in growth and inflation is intimately related to the very specific and unusual demographic profile which most of Eastern Europe has inherited from its recent past. So one of my central arguments is that what we have here is certain a kind of mis-match. A mis-match between a basically third world. “developing-country-type” income level (for this reason they tend to be called “emerging economies”) and a very-first-world-type age structure - in the sense that many of these societies have had below replacement fertility for several decades now, and that the key 25 to 49 age group is now peaking nearly everywhere as a proportion of the total population. Before going further, perhaps I should make one thing clear. The cryptic reference to the standard Econ 101 definition of inflation that I make in the title to this post has nothing directly to do with the concentration of wealth and power which is to be found in today’s Russia. It is rather a reference to Russia’s ongoing population decline, and the way in which the Russian workforce is steadily contracting. Two charts essentially tell it all:

What we should all be able to see at a glance here is that over the next few years Russia is almost certainly going to face a serious crisis in its labor markets (indeed arguably, as we will see below) this is already happening. According to data from the Russian Health and Social Development Ministry, between now and 2010, the country’s workforce is likely to fall by almost 9 million (assuming participation rates remain unchanged, for which see below), from the presnt 74.5 million to the reduced figure of 65.5 million.

This scenario sounds becomes even more preoccupying when we begin to think about the fact that Russia is already losing over 700,000 working-age people every year, due to a lethal combination of high mortality and low birth rates. The low fertility level which currently exists in Russsia is almost normal and commonplace among the ECA (Europe and Central Asia) countries but the high levels of adult mortality at relatively young ages are more or less unique to Ukraine and the CIS, and the persistence of this phenomenon raises a number of very important questions, only some of which are economic ones.

Apart from being in absolute decline Russia’s labor force is also aging rapidly. Russia’s working-age population is shifting from the younger age groups (15-39 years) to the older ones (40-64 years). Of the looming 11 million decline in Russia’s working-age population, over 95 percent of the decrease will come from a decline in the 15-39 age group while less than 5 percent will come from a reduction in 40-64 age group. Of particular importance is the fact that the 25 to 49 age group has now finally peaked, since this age group is of special importance for economic growth for a whole series of reasons.

And the problem only gets worse when we begin to think about the low relatively level of labor mobility and labor flexibility which exists in Russia, the relatively low-level work ethic which characterizes social values in some parts of the country, and the poor quality provision which is on offer in much of the vocational and training system. The labor market development plan for 2007-10, presented recently by Health and Social Development Minister Mikhail Zurabov, is supposed to be an attempt to begin the work of addressing the huge challenge that the situation represents, but even given the best of intentions and an ability to act decisively (both of which are should not by any means be automatically assumed to be present in the world of contemporary Russia), the plan, giving it the very best possible benefit of the doubt, can only be described as a declaration of intent, and meanwhile Russia’s labor market problems remain, surviving from one day to the next in what could only be described as a state of organized chaos.

At one point Russian inflation did seem to have been coming gradually under control, and remained this way into the first quarter of 2007. Since then, however, it has steadily been gaining and sustaining momentum (see chart here), and the problem has only deteriorated with each new monthly reading as the year has advanced. In fact inflation reached a cumulative total of 9.3 percent over the first ten months of 2007, with the rate accelerating to 10.8 percent in October, the highest level recorded since February 2006. This was up from the 9.4 percent registered in September and a month on month increase of 1.6 percent.

The Russian authorities now appear to be resigned to the idea that by year’s end inflation will be running around around 11 percent (Dec-on-Dec) as compared to 9 percent for Dec-on-Dec registered in 2006. And this inflation is, of course, moving on down the line and entering industrial producer prices, and this rise in manufacturing costs is, in turn, the key factor in turning round Russia’s trade surplus (see the Producer Price Index chart here).

The article continues at great length, click through to read the rest.

1 comment:

Anonymous said...

The full article is a MUST READ for anyone trying to understand/comprehend what's up with Russia. It also confirmed my personal suspicions that Moscow shouldn't be worried about the United States and Europe, but about their Eastern neighbor. It won't be a horde of horsemen on shaggy little ponies that will be stomping outside the gates of the Kremlin, but an army of migrant workers (legal and otherwise) demanding rights, work, citizenship, and maybe...Russian brides?

And will the Putin Plan address any of this?