Bubbles, pretty bubbles: unfortunately not in a champagne glass.

                                                       The Russian Economy

I’ve pulled these statistics from a number of sources, but most of them seem to agree. I’m assuming that most of you are no more interested in economic minutiae than I am, with the proviso that as always ‘the devil is in the details’.

Russia

Ø      Is the largest producer of oil in the World and has the eighth largest reserves.

Ø      Is the second largest producer of natural gas and has the largest gas reserves.

Ø  Has the second-largest coal reserves and is the third largest exporter of coal, mainly to the Asia/Pacific region (AIPAC)

Ø      Annual exports valued at US$429.4 Billion

Ø      Annual imports valued at US$247.7 Billion

So, they’re basically laughing and can afford, this time, to take on America in a High-Tec arms race, right? Weeeell, remember that devil lurking in the details?

Ø      80% of exports are either commodities or defense-related equipment

Ø      The biggest trading partner is the EU, 46.8% of over-all trade

Ø      Exports to the EU are 44.8%. Next is the US at 5%, yes 5%!

Ø      75% of direct foreign investment comes from the EU member states

With the EU currently enjoying some minor financial difficulties, the picture isn’t looking quite so rosy. The EU member state that trades the most with Russia is Germany, and they’re a little preoccupied with Southern Europe right now. They’ll be keen to maintain their exports but may well want or need to cut down on imports, particularly if the Euro is devalued. Gosh did I say that? Well it did just occur to me that one way of attracting manufacturing industries into Europe, and providing the  growth that Queen Angela doesn’t seem to be so keen on, would be to devalue the Euro. Hell fire, that might even make it easier for Greece to remain in the Eurozone. Maybe that’s why QA isn’t so keen on growth, because as far as I can see that’s about the only way of stimulating the European economy. Devalue the Euro, exports become cheaper and more attractive outside the EU, imports become too expensive for ‘the workers’, which also stimulates production within Europe. With wages effectively lower, foreign manufacturers might just be tempted to move back into Europe, Toyota for example. Any bets on who will be the first European politician to say ‘the Euro in your pocket is not worth any less this morning’?

Given the strong possibility of the odd Geo-political hiccup torpedoing Russian exports, gas for example, personally I wouldn’t be worrying about creating stealth ICBMs and having any sort of spending contest with America. Why did I mention gas? Well readers in Europe will remember in 2009 there were concerns about the physical supply of Russian gas. There was a spat in the Russian Federation and although they denied it, the amount of delivered gas dropped off until Moscow smacked Kiev (Ukraine) round the head.  Naturally, this occurred during a particularly cold spell in Europe, and in Ukraine as well come to that, and there were uncharitable mutterings that Ukraine had ‘siphoned off’ some of the gas from the pipeline to Europe which runs through it’s territory. The same thing happened earlier this year, so whatever the problem is (Ukraine wants more money for allowing the pipeline to go through it’s territory perhaps?) it obviously hasn’t been solved just yet.

Enter Israel and Cyprus, not such an unlikely pair as they both have problems with Turkey. There have been major gas fields discovered in Cypriot and Israeli waters. The two countries are co-operating in the development of these fields and there are estimates that these finds  potentially constitute the second biggest available supply of natural gas to Europe. Perhaps the supply will be more reliable. Perhaps Greece would like to build a pipeline across its territory, with all the attendant economic benefits. There are of course political problems with Turkey, but a deal seems to have been cut with Lebanon which had originally claimed that the Israeli Leviathan Field was partially in Lebanese waters.

Back to Russia. Apart from exporting oil, coal and gas, their manufacturing industry is in a bit of a mess and suffering from lack of investment. The Russian banking industry spent about one third of its foreign reserves, US$600 billion, in 2007 propping up the Ruble, and although it held its value, the economy has not expanded to any great extent. Reliance on commodity exports is a reliance on the price of commodities, oil in particular, and the price has swung wildly. The Russian banking industry additionally received a US$200 billion injection of liquidity during the 2008/09 global financial crisis to help non-energy or exporting businesses repay loans when foreign investments pretty much dried up. They avoided a slump but growth remains a problem, as does a shrinking workforce and a basic lack of infrastructure throughout Russia. And don’t mention the grain harvest. A look at the figures reveals that Russia periodically has a problem feeding itself.

To give but one example, there is precious little foreign investment in the Russian coal industry. Total investment in the Russian coal industry is running at US$2 billion per year, of which US$40million is direct foreign investment, around 2%. This is a representative example of the problems of attracting foreign investment. Corruption is rife in Russia and they haven’t quite got around to sorting out the laws pertaining to private property and private investment. Given time they will. Given time Putin may succeed in shifting local manufacturing over to a more High-Tec base. Given time Russia may be able to financially take on the USA in a High-Tec arms race, but not right now.

One final thought about coal. Russia is the third largest exporter behind Indonesia and Australia. In the last couple of years, the industry has shifted its export efforts from Europe, due to falling demand for coal there, to the AIPAC region. In the AIPAC region, China is the biggest importer, but China owns the Australian mining industry. China is also heading for a fall. Yes true their economy is growing at 6.7% pa, but it needs to grow at around 10% pa if it wants to provide jobs for all new entrants to the workforce. Except some of those jobs are about to be exported to Europe, with Toyota leading the charge.

Looking at the over-all picture, one might say that if Europe catches a cold then Russia is going to get a dose of flu, given that a collapsing Europe desperate to attract jobs and not able to afford imports will effect the AIPAC region’s economic performance by sucking in manufacturing industries and hence jobs. That will lead to a fall in demand for Russian exports.

Whilst Putin may not be completely convinced about democracy, nobody could accuse him of not having Russia’s best interests at heart. He just needs to realise that those interests would be best served by a period of introspective economic reform and growth promotion rather than indulging in global politics. Given the potential of the Russian economy, if he can overcome decades of inertia and resist the temptation to replay the Cold War, then in a decade or so Russia will be a High-Tec economic power to be reckoned with. Then it will be the counterweight to America that Putin would like it to be. In the meantime, America isn’t about to collapse, despite the gloom and doom merchants. More on that next time, but in the meantime…..

Made that call yet Vladi?

@peterbernfeld

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