With Putin in Power It's Laughable Russia is One of the BRICs

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The re-election of Vladimir Vladimirovich Putin last week means even more crony capitalism in Russia.

With Putin in power nothing will change.

In fact, it's laughable that Russia is still even considered among the group of the world's most glamorous emerging markets – otherwise known as the "BRICs."

The truth is Russian prosperity will last only as long as the price of oil keeps rising by 25% a year, and not one second longer.

Of course, that hasn't stopped one of Russia's boosters, Moscow broker Prosperity Capital Management from claiming that Russia is the third fastest growing economy in the world.

But since Russian growth is only expected to be 3.2% in 2012, according to The Economist, Prosperity's definition of the word "world" is as little suspect.

Presumably Prosperity is only including the wealthy countries, most of which are much richer than Russia and should be expected to grow more slowly.

The Economist actually ranks Russia 18th of the 58 countries it surveys, based on projected 2012 growth rate.

That looks reasonably impressive, until you realize that this modest growth is being achieved in a period of sharply rising oil prices. Oil is Russia's largest export.

After all, one of the countries that beat Russia, with a 4.2% growth rate, is Venezuela. Needless to say, few people outside Hugo Chavez' immediate family would claim that country was economically well run.

Apart from corruption and cronyism, Russia's main problem is its state budget, which depends crucially on oil revenues and hence on the oil price.

Before 2008, its budget was balanced at an oil price of around $90 per barrel, already up from a break-even of $30 per barrel earlier in the decade. Now according to the Finance Ministry as reported in Atlantic Monthly, today the oil price must be $117 per barrel for Russia to balance its budget.

In reality, since Putin announced $260 billion of spending programs during the election, plus a defense program totaling $763 billion, the oil price needed for balancing next year's budget is likely to be around $140 a barrel, rising continually thereafter.

Needless to say, the rest of the world is likely to be tipped into recession by any oil price that will make Russian budget managers happy.

In terms of oil, Russia is playing a game that will never add up.

What Russia Needs to Do Be One of the BRICs

Russia needs to diversify from energy into high-skill industries; after all it has a relatively well-educated workforce.

However, at present it's going the other way. Energy exports have risen since 2000 from 45% to 69% of exports, while at the same time equipment and machinery exports have declined.

As well as this imbalance in the economy, Russia suffers badly from its corruption.

Russia ranked an appalling 143rd on Transparency International's 2011 Corruption Perceptions Index, along with such trustworthy stalwarts as Nigeria and Belarus and well below Syria and Nicaragua.

It's a long-standing problem, but in 2001 Russia ranked 79th, and in 2005 90th which while not good were considerably more respectable.

While two other BRICs, India and China, can manage economic growth with fairly high corruption levels, Russia is currently well beyond the levels compatible with prosperity – except for the oligarchs extorting from the system.

Meanwhile, Russians themselves are voting, if not with their feet then with their rubles. Capital flight from Russia totaled $38 billion in the fourth quarter of 2011, and there is no sign of it slowing.

Putin's Russian End Game

There is one comfort: Even if Putin wants it to (which he may well) Russia cannot become the global threat the old USSR was; its economic position is far too weak.

Whereas President Reagan had to undertake a very expensive defense buildup to defeat the USSR, taming Russia today is much simpler and cheaper: fire Ben Bernanke, and maybe free up offshore oil drilling and onshore oil fracking.

Once Bernanke is gone, and interest rates revert to a more normal level of around 5%, say 2% above today's inflation rate of 3% or so (they may have to go higher if we delay) there will no longer be the cheap-money-driven upward pressure on commodity and energy prices.

If interest rates are allowed to move naturally, the price of oil will decline, because with $100 oil over the last few years, we have found gigantic new sources, especially through the development of fracking technology to extract oil and gas from shale.

In a very few years, possibly even within months, the re-imposition of normal interest rates would cause the oil price to decline to $50-60 a barrel, just enough to allow the most efficient tar sands and shale extraction companies to run at a profit.

And a bunch of very unpleasant regimes, notably those of Hugo Chavez and Vladimir Putin, will be left gasping for money, as their state budgets careen into bankruptcy.

Suddenly, $763 billion defense budgets will become completely unaffordable.

If Putin is not thrown out he will have to learn real economics, and allow the superbly educated Russian entrepreneurs (the real ones, not the billionaire crooks) to create engineering export giants.

Once that's done, Russia will be a much happier and more stable society, and most of its oligarchs would be left only with their Swiss bank accounts.

At that point, and only at that point, will Russia be worth investing in.

Today, Russia remains a threat to the world, and a source of endless criminal activity. Putin's election changes nothing.

How Russia is still one of the BRICs is mystery to me.

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  1. Observer | March 12, 2012

    I know there are some nice Russian people. I have met them. But when you execute any people who want to rise above or have new ideas the way Stalin did, you put a curse on a whole society. Stalin killed people in greater percentages than Ivan the terrible did and has driven the whole country back into darkness. It scares me the way our bailout bankers have become more and more like the Russian oligarchs.

    • martin | March 12, 2012

      rather the oligarchs became like our bankers. our bankers were here way before those oligarchs. look at history.
      they took back total control again in 1913 when they took over central banking in this country once again in the form of the Fed.

  2. martin | March 12, 2012

    If that's laughable what can we say about the anemic US growth and our budget. We wouldn't even qualify as a BRIC country then….
    As for crony capitalism …please. US is the king of crony capitalism. Just look at who got bailed out after they bet the farm on derivatives.
    US is on the decline and Russia is on the ascent no matter who is in power. As for Reagan – he didn't beat the USSR it beat itself. The soviet system was hugely inefficient and the welfare commitments which ranged from free healthcare to free education were unsustainable.

    • The Enlightened! | March 12, 2012

      Perfectly stated! Money Morning can fool some people sometimes but can't fool all the people all the time.

  3. Jeff Pluim | March 12, 2012

    I have travelled quite a bit in Russia and Ukraine, and from what I see as a visitor is that the corruption is so ingrained, it will take at least 2 generations of dogged enforcement to end the corruption. Until you live there for a while, you cannot even imagine how deep the corruption goes. Every cop is out to shake you down for money. A politician in Ukraine killed a political opponent by driving over him. He got away with it as a traffic accident. Then he did it again to another political opponent, and got off of that too. The wages paid to cops in Ukraine is about $300 per month, if converted to USD. They shake down anyone who looks like they may have money, just so that they can afford to live a modest life. It is totally expected by everyone. I love the people there, but lying is a national sport. The things people do to survive in those conditions would make the average North American cry every night.

  4. Robert Miller | March 12, 2012

    Capitalism, Communism, whatever, both enjoy supportable arguments. The problem is that they involve humans, and humans are, mostly, innately greedy.
    That is where America excels and why decent, simple people suffer.

  5. Igor Lavrovski | March 12, 2012

    What are you talking about total oil dependency? Russia's net export is only 10 per cent of GDP. And I do not understand why Jeff mixes up Russia and Ukraine. It's like mixing up Brasil and Argentina. Very different countries. Another observation – Russia's per capita GDP is significantly higher than in oil rich Azerbaijan, Kazakhstan, etc. and pretty much in line with its close neighbourhood from Estonia to Turkey. General living conditions in Russia are much better than in other BRIC countries. So what? You personally don't like Putin? 63 per cent of Russian voters apparently like him. Some don't. That's OK.

  6. Igor Lavrovski | March 12, 2012

    "Russia ranked an appalling 143rd on Transparency International's 2011 Corruption Perceptions Index, along with such trustworthy stalwarts as Nigeria and Belarus and well below Syria and Nicaragua". — For anyone knowing real business practice in Russia it proves only that the "corruption perception" is really blown out of proportion. Better ask IKEA, BP, Auchan and other large foreign investors to Russia.

  7. eric taylor | March 12, 2012

    I do agree that it would be great for the U.S. to bring down energy prices, especially oil, which will
    not be likely done without alternative energy, although Obama has raised the vehicle fuel
    conservation levels higher than Bush ever dreamed, and that is the best of our political efforts
    in practice, so far, to wean off of foreign oil. The move to natural gas is second to conservation.
    It is a shame that Russia is not following the European Union's efforts in alternative energy, which
    will make up a third of future European Union energy. Both Europe and Russia have a huge elderly
    population retiring, just as the U.S. does, but Russia's retirement population is larger. At least
    Russia has been balancing its budgets as one of the strongest potential currencies for a developing
    country. I hope they don't blow it. The U.S. debt to GDP is much worse here in the United States!

  8. Darryl Hanson | March 13, 2012

    Fire Bernanke? It would take Ron Paul as Treasury Secretary to attempt that, or a President Paul. Maybe Mitt and Ron can team up to get that jod done!?

  9. Dieter | March 13, 2012

    You obviously belong to those people who know very little about Russia and even less about Putin. Under his leadership Russia became what it is today:
    480 billions $ in foreign currency reserves, less then 10% debt on GDP, a net creditor to the world and all this in 3 presidencies ( the third one proxied by Medvediev). 63% of the people wanted him for a 4th term, they for sure know why. Does the US have a web cam in every voting location ?
    Btw. If so many people sold their roubles recently, how comes that the Rouble appreciated quite nicely against the dollar AND the Euro.
    Wanna rethink your investment advice?

  10. Lauro Norbert Costa | March 14, 2012

    Tha popularity of Putin is easily explainable. The russian people is used to strong leaders. The czars, Stalin, Beria, now Putin. Why the hell do you think Putin poses as an animal chaser, showing off his courage? Simply because the russian people love these attitudes. It's in the russian way of facing things and Putin knows his people very well. He behaves as a dictator, but he's popular.

  11. Igor Lavrovski | March 15, 2012

    'He behaves as a dictator' —– If you, dear readers, would understand Russian and read original unadapted Russian information sources, you'll see that he DOESN'T behave as a dictator. And there is no particular 'russian way of facing things'. Yes, there are many shortcomings in Putin's management of the situation, but there are not the ones that are readily discussed in the West. His biggest problem is the shortage of good quality administrative staff, not of being a dictator.

  12. Doris Kelsey | March 15, 2012

    If interest rates are allowed to move naturally, the price of oil will decline

    I am not following this. Could you explain the logic? You say if interest rates go up, the price of oil goes down. I'm not following.

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