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. Last Updated: 07/27/2016

Kudrin Defends 2 Years of Reforms

If by no other measure, the government's reform effort over the last two years can be called a success for bringing 400,000 new small and medium-sized enterprises above the radar, Deputy Prime Minister Alexei Kudrin said Tuesday.

"The shadow economy has started to shrink," Kudrin told an American Chamber of Commerce conference attended by leading economists and business figures.

"This is the most sensitive sphere to changes in the economy. And if the flow is increasing, it means we are doing the right thing," said Kudrin, who is also finance minister.

The right thing, he said, includes lowering the tax burden and weeding out administrative barriers through registration and licensing reforms, which he credited for drawing companies out of hiding.

"Implementing reforms is the most important component, the government's main task."

The country's gray economy is often cited as one of the government's most vexing problems. According to various estimates, between 20 percent and 40 percent of the nation's gross domestic product takes place under the table.

Even so, GDP growth was 5.1 percent in 2001 -- one of the highest in the world -- and is likely to stabilize at between 2 percent and 4 percent for the next several years, Yevgeny Yasin, head of the Expert Institute and one-time economic advisor to former President Boris Yeltsin, told the conference. The economy is functioning "perfectly normally," he said.

Yasin, one of the most respected economists in the country, in introducing a report his institute wrote together with AmCham and Big Five firm Ernst & Young, also said that foreign investment should grow by a healthy 5 percent to 6 percent this year.

Much of Russia's "foreign investment" is actually Russian cash being repatriated through offshore havens, a trend that is beginning to slow the explosion of capital flight that occurred in the 1990s. Kudrin said government reforms had managed to slow capital flight, which dropped nearly a third to $17 billion in 2001 from $24.4 billion in 2000, under methodology used by the International Monetary Fund.

Central Bank Chairman Viktor Gerashchenko is less optimistic than Kudrin, saying recently that capital flight has grown to $4 billion a month since currency rules were changed last year to allow exporters to retain 50 percent of their hard currency earnings. Before, they were forced to sell 75 percent of their export revenues to the Central Bank for rubles.

But Kakha Bendukidze, head of United Heavy Machinery, told the conference that currency regulations are a leading cause of capital flight. Because of stringent requirements, $5 billion in net profits leave the country every year through fake companies, said Bendukidze, who also heads the Union of Industrialists and Entrepreneurs' working group on the issue and has sponsored a draft law currently under review by the State Duma.

"This is equivalent to about $1 billion in annual losses to the federal budget," Bendukidze growled. He warned that the government would suffer further as companies pull up stakes and register abroad.

Bendukidze called the current rules -- in particular mandatory currency repatriation and sales and limits on investment abroad -- a violation of property rights and a chill on the investment climate. It is a risk factor mentioned in every document used by investors and creditors when weighing their interests in Russia and thus pushes up the cost of borrowing by two to three percentage points, he said.

Kudrin said the government was responding to such concerns and is putting the finishing touches on its version of a currency regulation law aimed at "lifting a whole series of restrictions." It will be ready before the end of March, he added.

The U.S. Export-Import Bank -- which gives loans and guarantees to foreign companies that do business with American companies -- also gave the government the thumbs up, indicating it would soon offer long-term loans for exporters to Russia, said Paul Tumminia, Ex-Im Bank's director for the Commonwealth of Independent States and the Baltics.

Ex-Im Bank currently offers only short-term insurance and medium-term loans and guarantees.

Tumminia said the bank is looking to boost its involvement in Russia from the $150 million that was authorized in 2001, which was down from $200 million in 2000. It also plans to diversify its portfolio, moving away from sovereign and sub-sovereign guarantees, which account for 40 percent of the bank's activity here, and boosting both structured and bank financing, which account for 4 percent and 1 percent, respectively.

The bank, an independent federal agency, has a list of 16 banks it will work with in Russia, and plans to expand this to 22, he said.

Tumminia said that Russia has one of the lowest default rates of any country the bank does business with, excluding Inkombank and SBS-Agro in 1998.

Additionally, U.S. Ambassador Alexander Vershbow said the United States is drafting projects to help spur growth among small and medium enterprises. Investments in Russia are less than 1 percent of all U.S. foreign investments.

Regarding another thorny issue for Russia -- its huge foreign debt load -- Kudrin praised his ministry's work in meeting and even prepaying its obligations. Sovereign debt was 50 percent of GDP at the end of 2001. It should fall to 40 percent of GDP by the end of 2002 and stay at that level for at least the next three years, he said.

The Finance Ministry will shift some external borrowing to the domestic market, Kudrin said, echoing recent statements by Prime Minister Mikhail Kasyanov, which were strongly condemned by the president's liberal economic advisor Andrei Illarionov.

Kudrin defended the government's tough negotiating position as regards its attempts to enter the World Trade Organization. One of the major concerns of domestic producers is that tariffs on imported goods will fall dramatically once Russia becomes a WTO member, making their goods less competitive.

But Kudrin said the average effective tariff on imported goods, which is currently 10 percent to 11 percent, will actually rise to 16 percent to 17 percent during the WTO transition period. Thereafter, the government will push it down to 10 percent in the short term, with a commitment to match the United States and Europe with rates as low as 3 percent in the long term.

Russia should join the WTO so that it isn't "thrown overboard from the club that's making the rules," said Andrei Kuznetsov, head of the Higher Economic School, which recently set up a corporate government center with the support of the Canadian government. Besides, he said, Russia already comes up against WTO rules on a one-by-one basis because they are used by Russia's major trading partners -- developed countries.

In addition, joining would give Russia an independent legal arena for resolving disputes with the United States and Europe. "In disputes between two partners where one is weaker -- say Russia -- independent arbitration cannot exist. But in the WTO it does," Kuznetsov said.