FREE ESSAY ON RUSSIAN ECONOMY

RUSSIAN ECONOMY

The global economy has been brought about through innovation, technology and
de-regulation. To the extent the government prints more Rubles than the equivalent of the
hard currencies earned on exports, it will lower the real exchange rate value of the
Ruble. In effect the government makes itself a forced partner of anyone with Rubles,
whenever it prints Rubles for which there was no corresponding production of goods. By
laws and policies it transfer this money from the poor to the rich. Printing Rubles is
the same thing as collecting a tax. But it is a tax on possession of money not production
of money and is therefore parasitical.
If a country runs a current account deficit it needs to finance it with a capital account
"surplus" (i.e. inflow). If it has a current account surplus, it must have a
corresponding capital account "deficit" (i.e. outflow). Comparing 1979-81 with 1985-88
West Germany's capital balance moved from an inflow of $8 billion to an outflow of $40
billion. Japan's from an inflow of $5 billion to an outflow of $75 billion, and America's
from an outflow of $2 billion to an inflow of $129 billion. But this yardstick is hardly
of any use: it is inaccurate and misleading. A balance of payments yardstick for capital
flows gives a misleading impression because they show net rather then gross flows of
capital. In 1980 total world bank cross border and foreign currency lending was $324
billion.
By 1991 it was $7.5 trillion. The combined GDP (Gross Domestic Product) of the 24
industrial countries in 1980 was $7.6 trillion; in 1991 it was $17.1 trillion. 1996 GDP
of Russia as half a trillion. So during the past ten years bank lending has risen from 4%
of GDP (Gross Domestic Product) of these 24 nations to 44%. From 1970 to 1988 the
ownership of American bonds by foreigners increased from 7% to 17% and for Germany from
5% to 34%. Turnover in foreign exchange is now $900 billion each day. There are now
35,000 trans-national companies with 147,000 foreign affiliates. Finance has become
totally global.
History shows that the countries whose governments do not involve themselves in business
and have the fewest regulations about business, get the most investment. Russian budget
"investments" are not investments at all but subsidies. They is no substitute for real
capital. Neither are Western government budget allocations investment. Elimination of
regulations about business (Freedom) is what develops economies. Currency risk is the
greatest deterrent to investment. In an international economic system of global
integration, differences between interest rates precisely match the expected changes in
the relevant exchange rates. If a one year dollar assets yields 5% and a one year Ruble
asset yields 600%, investors must expect the dollar to appreciate 595% against the Ruble
over the next 12 months.
It is more difficult to steer economies with Monetary policy and fiscal policy when
capital flows freely in a global economy. Financial interdependence has neutered
government economic policy makers. Monetarists believe that all you have to do to control
inflation is control the supply of money. The "quantity equation" of monetarists says
that the supply of money in circulation multiplied by the number of times it turns over
in the economy each year must equal the price level, multiplied by the amount of output
produced. Under these conditions slowing the growth of money will slow the growth of
demand. The events of the 1980's have obliged us to disregard this theory. It has however
been accepted that output is driven by supply-side factors and not by demand. For
monetarism to succeed it must be possible for the government to control the supply of
money and there must be a stable relationship between the amount of money and the amount
of demand in the economy. Due to financial innovation and the expansion of global finance
neither of these conditions was met in the big industrial economies in the 1980's.
Raising interest rates no longer controls the money supply. Domestic interest rate policy
is undermined in a global economy. Higher interest rates increase exchange rates. If
governments chose to limit exchange rate fluctuation they cannot increase interest rates.
The truth is that there is no longer any such thing as money in the historic sense.
Charles Goodhart proclaimed the following law. Any statistical regularity breaks down
once pressure is placed upon it for control purposes. Governments change the way an
economy works when they try to act upon it (control it). In a time of rapid innovation,
expanding cross-border flows of capital, diminishing control through regulation, and the
creation of new borders, the opportunities for statistical regularities to break down in
unforeseen ways are multiplied many times over. Loosening fiscal policy (budget deficits)
together with tightening monetary policies (currency exchange controls, higher taxes,
business regulation) create high interest rates. Russian policy has driven $260 billion
in flight capital out of Russia in the past five years negating the effect of all foreign
investment.
International capital has played a big role in supplying the needs of the American
government. America's account balance worsened from a surplus of $1 billion in 1980 to a
deficit of $160 billion in 1987.- the mirror image of the country's inflows of capital.
If capital controls had been in place, America would have had to finance its fiscal
deficit domestically. That would have required interests rates to rise significantly. If
the deficit had been financed by printing money, as Russia has done in 1991-1996, rising
inflation would have resulted. Without open borders to capital and a free market economy
absent of government regulation of business, interests rates, or exchange rates, the
choice facing Russia is the same. Since Russia has limited borrowing credit abroad it
cannot be irresponsible in spending or it will inflate the Ruble. That is a useful
reminder. The ability to borrow money can be harmful to an economy. Russia can follow the
example of Baltic currencies or those of The Ukraine.
The greatest opportunity for Russian economic recovery is to eliminate all rules and
regulations and allow business the opportunity to expand GDP (Gross Domestic Product) and
thereby pay more to the government at lower rates of taxation. This will permit the
government to spend more of this revenue on social services and invest in expansion of
future production by providing credit to industry at affordable interest rates. To
survive through the transition period it will be necessary to substitute compensatory
finance for printing of currency. It is also necessary to repay debt by transferring
ownership of industry.
The market is self disciplining with punishment (bankruptcy) for failure. This is much
preferred over government regulation by fiscal policy. Open capital markets lets business
men pass a vote of no confidence in the government by moving money abroad. Such exercise
of discipline by the market over government is the best self correcting economic policy.
The threat of capital flight is a powerful sanction on the government and assures
efficiency. It vetoes unaffordable programs and establishes priorities. It delays
purchases until the purchase price can be earned by producing it. Is the market vicious,
frightening and unfair? So far those Governments who live by it have survived and reached
the highest standard of social services for their citizens. America, which has increased
its capital inflow to compensate for its trade imbalance, is surviving on trust that it
will not start the printing presses and inflate its currency, thereby settling its debts
by inflating them away. America continues to attract capital because its creditors trust
it not to inflate. Will Russia inflate? Currency appreciation continues to be a reward
that investors expect to receive from dollar assets at low interest rates. Does Russia
have the courage to join the group of market economy nations. Do its leaders have the
vision to take the people there by refusing to finance through printing money and rising
inflation? That only Russia can answer. Thus far the answer has been wrong. The ruble has
dropped to 5747 = $1.00 from R40 =$1.00 on 1990.
The availability of overseas financing has altered the character of Russia's fiscal
policy options. Budget-making is no longer simple. International flows of capital respond
to changes in monetary policy and complicate the task of economic management by effecting
the exchange rate. International flows of capital also respond to fiscal policy. The more
open the Russian economy becomes, the more sensitive it will be to changes in interest
and exchange rates. Unsurprisingly the result depends upon the government attitude
towards exchange rates. Russian policy makers have to choose between monetary policy
(strong under floating rates, ineffective under fixed) or fiscal policy (weak under
floating rates, strong under fixed). Preferred monetary policy, chosen with domestic
inflation in mind, most likely will not conform to the preferred exchange rate, chosen
with international competitiveness in mind. Often the two will conflict and one will have
to go. Frequently the exchange rate must go to where the interest rate sends it. The
notion that the exchange rate can be used to preserve competitiveness, even as monetary
policy is fighting inflation, belongs to an earlier era. - to a time when current account
imbalances, not interest-rate differentials, drove currencies . The expansion of global
finance has tied money policy and exchange-rate policy inextricably together. So much so
that shifts in competitiveness (as expressed in changes in current account balances) now
have no detectable effect on exchange rates at at all. It will be some time before
economic policy and the new global market for capital learn to get along.
A drive towards more tightly regulated domestic markets, if attempted, would fail because
financial markets have knitted themselves together and it will take more than the wit of
governments to separate them. The country that tries to regulate more tightly will find
that it has delivered its financial industry into the hands of foreign competition.
Governments must not themselves become a source of financial instability. Budget deficits
must be kept small. Central banks must be allowed to go about their work unmolested.
* If you give complete freedom to business managers to produce goods and sell them to
anyone they will produce more.
* If you make the tax only one single income tax ON PROFITS AFTER EXPENSES NOT GROSS
REVENUES FROM SALES a company can survive and be profitable. That level is about 12% of
GDP (Gross Domestic Product)
* The lower this tax is (not more than 30%) the more taxes in the aggregate the
government will actually receive.
* The normal world standard is that industry supports the government not that government
supports industry.
* No one can be supported, if nothing is produced.
* If the government takes money from the people who earn no profit, to support the
government, then the government will exhaust the people and the government will go
bankrupt.
* Everything that is not specifically prohibited should be permitted without asking for
permission. Everything that is legal can be done by anyone at any time without any
restriction or permission.
* the purpose of the government is not to give permission but only to prevent actions
which are not morally legal.
* The market economy cannot be regulated. A market cannot be defined, it can only be
measured. If you have rules about the market there is no market. A market has no rules.
* The freer the market the more taxes the government will receive.
* To attract investment you must be willing to export profits.
* The market does not stop at the borders to Russia. The world is not part of Russia.
Russia is part of the world. Free trade on a global basis is economic development.
Economic activity within Russian borders is impossible without economic activity outside
Russian borders.
* Mechanisms must be created to assure the government that it will receive its fair share
of profits in the form of a reasonable tax. Russian industry must have complete freedom
to use its profits to invest in machinery and production and grow, or to become bankrupt
if it cannot earn a profit.
So far Russia has never tried a radical reform. It has not even tried a reform. What
government has done is try to support its existence by taxing assets rather than income
and by redistributing (transferring) money from the poor to the rich and powerful.
Government is suffocating Russian business before it can even get started. The result
will be the death of the goose that could lay the golden egg. The existing production of
Russia is simply inadequate to give the total population a decent living. Production must
be increased. Nothing can be gained by sharing what is left. Industry must be left
sufficient capital to support itself. If it is not, Government will drag down industry
and they will sink together. For production to occur, investment is required. For
investment to occur, economic freedom to produce and retain a fair portion of the results
of labour is necessary. There is no other way. Government investments are not
investments. They are subsidies, obtained from producers and given to non-producers. Such
government transfer cannot last. Such rules will keep capital far away from Russia. Look
at Taiwan and what it has accomplished in 40 years without any natural resources. The
greatest resource of Russia is not what is in the ground but what is in its people. The
people will rescue the government if the government has the good sense to permit it.
* Industry must make its own decisions on a completely free basis. Government does not
have competence in Economic affairs other than to collect a fair tax.
* In exchange for freedom, industry must guarantee the government a fair amount of taxes
on its profits. The government must guarantee to live within the budget allocated by GDP
producers.
* Ownership of profits belongs to it producers, not to government. Industry has sovereign
rights of private property over its profits and capital. Government rights are only for
the fair amount of tax on such profits.
* Industries which earn no profits should not have to pay any taxes.
Until such civilized norms are observed export license auctions will remain bribes to
government for exporting flight capital, decent housing will be provided only to
foreigners, and international investors will include in their expectation of return an
assessment of risks, the cost of arbitrary blocks on their bank accounts, fixed currency
exchange rates, printing press inflation, withdrawal of work permits, sudden legislated
increases in their costs, retroactive cancellation of tax moratoriums and incentives and
potential imposition of back taxes. Such risks will be added to the cost of their
contracts during negotiations.
Why is Russian labour worth more money outside Russia's borders then inside Russia? Why
are Russians successful, optimistic, positive, creative, competitive, and even joyous
outside their borders, where they miss their home land. They are the same
people in both places. Why can't their energies be freed where they are, without a brain
drain of the motherland? Why do Westerners, who are successful outside Russia fail inside
Russia. They are the same. Could it be that at something within the borders is the
problem? If it is not the Russian people, then what and who is it that is causing so much
difficulty?