‘The Biggest Losses for Russia are Still Ahead’
July 27, 2023
  • Nikolai Kulbaka
    Independent expert
  • Tatyana Rybakova

    Journalist and writer
Nikolai Kulbaka on how Russia’s budget deficit is planned to be addressed, whether to trust Russian official statistics and why nominal GDP growth does not mean a healthy national economy.
The Ministry of Finance has reported that, according to preliminary estimates, the budget went into surplus in June: RUB 0.8 trillion versus a deficit of RUB 0.4 trillion in May. In your view, what is the reason for this? And can we expect the budget deficit accumulated since the beginning of the year to continue to decline?

I am not sure that the budget deficit will decrease so much – rather, it should even increase slightly. It is still difficult to say by how much, as now almost the entire budget is classified, and we do not have a very good idea of where the money goes and in what amounts. At this point, we can assume that a budget sequestration is in the offing (officials are already talking about it), which is how they will try to prevent the deficit from growing.

What budget deficit do you see at the end of the year?

I think that if nothing crazy happens, then around RUB 5 trillion at most.

My second question is actually about the fact that the Ministry of Finance has proposed a 10% reduction in “discretionary spending.” The first question, of course: why is the Ministry of Finance coming up with such a proposal at a time when the budget deficit is already shrinking? And second, what are these discretionary budget items and where do you expect the biggest cuts?

Discretionary items are not social welfare spending, but most likely culture, education and science. As for why a sequestration was brought up, I have a feeling that the Ministry of Finance has de facto already started pursuing a policy of cutting expenditures. Moreover, with an eye toward further sequestration. It is no coincidence that we see spending cuts already for May of this year – this means that a sequestration is already being prepared.

In what areas do you think there will be the biggest cuts? For example, will funding for infrastructure projects like the Moscow-Kazan highway and the like be cut? Or will it be an even “haircut” of 10% across the board?

I do not really believe in a 10% even cut, as the announced size of the cut is more of a bargaining chip. The Ministry of Finance has announced its position – and next the various ministries and departments will begin fighting under the rug. Thus, most likely, whoever will not be able to resist or prove their worth will see the most cuts. I suspect that
“Firstly, health care, education and culture will be cut further. In health care, there has been a slight reduction in spending since Covid ended. The logic of bureaucrats is simple: the epidemic is over, you can cut spending a little.
Currently under construction, the Moscow-Kazan high-speed motorway is scheduled to be completed in 2025, but there are doubts that this deadline will be met. Source: Wiki Commons
However, Prime Minister Mishustin, in a late-night meeting with Putin, reported that the Russian economy is expected to grow more than 2% in 2023. How realistic is this forecast given the budget deficit and the Ministry of Finance's efforts to cut spending?

Let's get things straight: the country's budget and GDP are two different things. The budget can have a deficit, a surplus, whatever, but GDP – the volume of output of final products, including the private sector – is a little different. Our budget now, if I am not mistaken, is about 30% of GDP. So, GDP is triple the size of the budget. Now, with regard to GDP growth.

The game could be very simple. Let’s say our GDP grows by 12% in nominal terms. We report that we have inflation of 10% in the country. So we have 2% growth. But if we say that we have inflation of 14%, we will have a fall in GDP of 2%. So, playing with these figures – nominal GDP and inflation – you can make the situation a little better looking by reporting lower inflation. I am not saying that the government plays these games, I just want to point out that it is easy to play them. Unfortunately, it is very hard to trust Rosstat figures on GDP, and it is almost impossible to verify them – no one has the volume of data that Rosstat does.

Then my next question is about discrepancies in the data. For example, the Telegram channel MMI (one of its creators is Kirill Tremasov, the current director of the Central Bank’s Monetary Policy Department) calls attention to one: in May, according to Rosstat, there was a sharp jump in wholesale sales, which added 0.5 pp to year-on-year GDP growth. Meanwhile, the largest component in wholesale trade is gas sales. And gas is doing bad – the decline in production, which is directly correlated with wholesale sales, actually intensified in May (down 15.4% in May versus down 13.0% over the previous five months). However, Rosstat does not provide the dynamics of individual components of wholesale trade. Previously, they had also pointed out the discrepancy between the rapid growth of manufacturing industries and construction and the weak performance of the transport sector, which are also correlated. The same discrepancy in the data can be found for the consumer segment with Rosstat and Sberindex. Is the opaqueness of some statistics and the distortion of others hurting the private and public sectors? After all, they are having to make decisions based on inaccurate data.

Here it makes sense to look at the experience of the USSR. We can now see in which periods the publication of statistics was curtailed the most. It is the second half of the 1930s, the end of the 60s, and the 70s and 80s. Meaning that statistics practically ceased to be published during periods when the economy grew weakly, which was supposed to be concealed. Therefore, we can assume that since there are less statistics, it means that they are not very good.

The second point is the inconsistencies you noted that we see in related industries. For example, transport is indeed a very good indicator – it always correlates very closely with the economy. And there is a real decline. I literally just looked at the data on rail transportation, and there is a drop compared to previous years. So, I would not say that there is some sort of rapid growth. And what Mishustin says is a question of what is being compared and what euphemisms are being used. You can always play with words without saying anything directly and explicitly.
Central Bank Governor Elvira Nabiullina. According to some reports, Nabiullina was "leading a push" to declassify some economic data, as it is practically impossible for financial sector officials to make the right decisions without good statistics. Source: Twitter
You are also right that the opaqueness of statistics is already hurting government policymaking. Central Bank head Elvira Nabiullina spoke about this not so long ago at one of the meetings: it is practically impossible for financial sector officials to make the right decisions without good statistics. The more information is hidden, the harder it is for them to do their jobs, so everyone suffers from this. We have a huge number of marketing, analytical, rating agencies whose business is to collect information to reduce uncertainty for business. When this information becomes extremely scarce, then all these entities cannot provide high-quality information – and the markets suffer, because uncertainty rises. This is now a common problem throughout our economy.

Returning to GDP growth. According to Rosstat, the manufacturing industry continues to be the engine of growth this year. Even official sources acknowledge that this is mainly due to the military-industrial complex. But here the question arises: how much is defense-fueled GDP growth connected with improvement in people’s welfare, the growth of private business? On the one hand, sure, the employment of people in the military-industrial complex is growing, wages are growing in the sector. On the other hand, a tank or a missile is not a useful product, so is it not taking out more from the economy than adding?

According to official data, GDP for 2022 slightly decreased, and for the first quarter of 2023 the figure was still below the 2021 marks; meanwhile, manufacturing growth was recorded. To comment on this, we need to understand what this GDP is made up of. If we calculate it through expenditures, then its composition will be: consumer spending, private investment, government spending and net exports (the difference between exports and imports).

Of all these components, government spending and net exports increased in 2022. This means that consumer spending should have fallen sharply, as well as private investment. So,
“More efficient private investment is being replaced by inefficient public spending while consumer spending is falling.
Thus, in general, people are worse off. If employees of a defense enterprise in your city started making more money, this does not mean that the city is now better off. On the contrary, most likely, people generally become a little poorer. The fall in GDP just means that the sum of all incomes in the economy has not risen, but fallen. In other words, the money spent on the military-industrial complex was not enough to compensate for the overall decline in the economy. Although, thanks to these expenditures, the fall was not so noticeable.

I will add that, instead of investing in new, efficient production facilities, the military-industrial complex is spending most of its money on duplicating and repairing long-obsolete defense products. New designs have been shelved. As have long-term infrastructure projects. So, the biggest losses for Russia are still ahead.
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