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. Last Updated: 07/27/2016

THE ANALYST: Investment Is the Cure for Commodities Addiction

The broad picture of Russia's economy has reverted straight back to the 1980s. Over the past 10 years the country's leadership has done virtually nothing to remedy its raw-materials dependency. As goes benchmark Brent crude, so goes the bear. This is a miserable way for a nation with such intellectual resources to live, and if the new president and his government are serious about addressing this age-old flaw, much must be accomplished in the next eight months. If they dilly-dally, the economy will suffer for years to come.

Exports last year amounted to $74.3 billion, slightly higher than in 1998. But imports declined drastically, and Russia was left with a $33.2 billion trade surplus, allowing the government to finance its foreign debt even as it was being shunned by international creditors. In this regard, the economic picture looked fine and dandy. But due to the steep devaluation of the ruble, foreign currency earning exports accounted for 40 percent of gross domestic product ($182 billion last year), a phenomenal increase. In 1998 they amounted to 26 percent of GDP; in 1997, only 20 percent.

In other words, Russia, in two years, has doubled the share - and importance - of exports in its national economy. The exports-to-GDP ratio is exactly where it was when the world learned of perestroika and glasnost 15 years ago. What's more, the structure of these exports hasn't changed: oil, gas, ferrous and nonferrous metals. According to the Trade Ministry, 44 percent of all exports last year (or $32.3 billion) consisted of raw materials. Last year Russia exported some 42 percent of all the crude it produced, 37 percent of natural gas, 78 percent of pulp and 86 percent of fertilizer.

Meanwhile, exports of finished goods have stagnated. If in 1998 exports of machinery and equipment accounted for 11.3 percent of all exports, last year they amounted to a paltry 10.8 percent. And even though revenues from arms sales increased from $2.6 billion in 1998 to $3.1 billion in 1999, the extra half-billion dollars means little in the larger scheme of things.

Once again, Russia's economic fortunes have become directly linked to commodity prices. Luckily 1999 turned out to be a banner year for commodities, particularly crude, so that bureaucrats are now patting themselves on the back for last year's 8.1 percent rise in industrial production and 3.2 percent rise in GDP. The folks at the Finance Ministry were right there every step of the way, and promptly used every opportunity to tax exports: By the end of the year tax receipts had far exceeded their budgeted targets, and duties on export revenues contributed 30 percent to all federal budget revenues.

Thankfully, the commodity-dependency, in comparison to totalitarian Soviet times, has been thoroughly discussed and documented among economists and in the mass media. In fact, the issue was never so blatantly illustrated as in March, when the 11 member-nations of OPEC gathered in Vienna to decide the immediate future of oil prices. The Russian press was inundated with reports on the meeting, and U.S. pressure on the Organization of Petroleum Exporting Countries to raise production - and therefore protect its 270 million consumers - was thinly interpreted as an attempt to undermine the "budding prosperity" of the Russian economy.

OPEC notwithstanding, the economic predicament of President-elect Vladimir Putin is quite clear. The Russia of 2000, as was the Soviet Union of the 1980s, is "addicted to oil." The point isn't so dire that, should commodity prices collapse across the board as they did in 1986, Russia will fracture and split. Rather, the economy will undergo a lengthy period of stagnation with the usual symptoms: high inflation, capital flight, refuge in the shadow economy. The government, which will be unable to tap international markets as it did in the '90s, will be unable to fulfill its budgets.

For this reason there is a wide discrepancy in economists' predictions as to how Russia will fare in 2000. Estimates in GDP growth fluctuate from 1.5 percent to 5 percent, and Putin proclaimed last week that the economy grew by 8 percent year-on-year during the first quarter (though many observers would like to check his data). The latest statistics show that direct investment and consumer confidence are on the rise, so the picture does appear to inspire hope.

But only in the short term. First, much of the direct investment is flowing directly toward the same commodities-related industry. Secondly, just because the Russian consumer is feeling more confident these days doesn't mean he is going to run out and buy a Lada. The task is to make Russian goods competitive on world markets and to diversify the country's export structure. For that the economy will need billions in foreign investment. And that will come only when lawmakers have adopted a conducive, predictable Tax Code and the nation as a whole has learned how to treat investors fairly.