State-funded infrastructural projects won’t pull Russia out of recession

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By Marina Romanova

harta-rzdInvestment in infrastructure is a poor antidote to Russia’s economic ailments, Andrey Movchan, well-known Russian financial manager and director of the Economic Policy Program at the Carnegie Moscow Center, writes in his critical review concerning Russian economic slowdown.

Unlike the former First Deputy Minister of Economic Trade and Development Mikhail Dmitriev, who has actively promoted the idea of investing at least 3 percent of Russia’s GDP in infrastructural projects annually, Movchan doubts that doing so will result in long-term GDP growth of 3 percent per year.

His main point is that government investments in infrastructure must correspond to an existing market demand from business, and only in this case will be regarded as a congruent response to a growing economy.

On average Russia use to spend 3.4 percent of the GDP on infrastructure projects (before the western sanctions were imposed), which is below the general global level of 3.8 percent. In 2006-2010 Russia’s infrastructure investment as share of GDP was around 4 percent.

Dissimilar to other high-level economic discussions participants, Andrey Movchan, who is also founder and former head of the Renaissance Investment Management Group, believe that infrastructure is not the limiting factor inhibiting Russia’s economic growth.

“High transportation, communication, and logistical costs pale in comparison to the to bigger issues businesses face, including the absence of the rule of law, the lack of legal protections for investors and entrepreneurs, political uncertainty, and corruption,” Movchan opines. He also added that as of now Russia lacks the capital and labor resources necessary to fuel rapid economic growth.

Poor economic climate combined with the ongoing labor force shrinking, which substantially undermines Russia’s potential economic growth, large-scale government infrastructure projects are bound to face a number of challenges impossible to avoid.

According to some estimations, Russia’s labor force could shrink by as many as ten million people by 2020. The country’s working-age population peaked at 90 million in 2006 and has fallen by around 5 million since, a rate of decline that is expected to accelerate in the coming years.

“In the next five years the number of working age people is set to decline by 1 million a year on the back of limited labor inflows from the ‘below-working age’ cohorts as well as the increasingly large number of people reaching the official pension age of 55 years for women and 60 for men,” The Financial Times quotes Vladimir Osakovsky, Russia and CIS economist at Bank of America Merrill Lynch, as saying.

According to Movchan, large-scale government infrastructure projects would not be able to avoid favoritism, which limits the pool of potential tender participants to successful lobbyists with close ties to the government. Second of all, they will have to deal with problematic financing when substantial amount of money (some expert approximate that “expenses” to as much as 50 percent of the gross investment) to end up in some offshore zone. Which undoubtedly diminish already weak national currency (the ruble value dropped by 85 percent in 2014). Thirdly, government is unlikely to make the necessary investment into maintenance of the get off projects, that, combined with poor quality control standards, could lead to projects’ short lifespan.

The last but not least challenge Movchan has itemize is his review is “net negative effect on overall demand: funds for investment will be raised through monetary emissions, which will lead to inflation and a decrease in demand, further reducing the utility of the projects.”

“Even if all of the above challenges were addressed, he continues, and there were significant demand for infrastructure in Russia, it would still take a colossal amount of government investment to invigorate the economy”.

According to the Carnegie Moscow Center’s expert estimation, in order to for GDP growth to reach 3 percent per year, Russia would need to increase state investment by 36 percent the first year, the initial investment should volume by 18 percent the following year, 9 percent the year after that, then 4.5 percent, and so forth.

Some other calculations suggests that Russia will needs investment of about US$30billion a year to upgrade its infrastructure, www.infrastructure-intelligence.com speculates. While conservative estimates inform that Russia would have to invest 15 percent of its GDP in infrastructure annually for many years to have a significant effect on the economy. Which Movchan consider impracticable compare to other countries investment policies, as India, for instance, spends 10 percent of its GDP on infrastructure, China – between 6 and 11 percent.

Over the last 10 to 20 years the lack of infrastructure investment has dropped Russia to 93rd globally in quality of overall infrastructure. In 2014, countyry held 74th place among 144 states, which is 19 slots up from the previous year, The Global Competitiveness Report 2014-15 says. It is also rather uneven: in the case of quality of railways, Russia’s rank is 31, and for roads 136, air transport 102 and ports 88. In 2013 the country held 93rd place and in 2012 it was in the 101st.

The transport network accessibility is also very uneven geographically as Russia’s infrastructure is heavily Moscow-centred, with most transport channels of economic significance emanating from the capital.

Overall, it is densest in the European part of Russia, while some areas in Siberia and the Far East lack regular connections with the main transport network, implying an important barrier to economic development of these regions. One third of all rural settlements are still not connected with the national paved road network.

Although, Russia’s wealth as a resource-based economy solely comes from the remote parts of the country, which are Siberia and Russian Far East.

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