Rethinking Russia’s renationalization plan

The controversial privatization measures in the 1990s under Boris Yeltsin were widely resented by average Russians. While these measures gave rise to a new class of fabulously wealthy oligarchs, the greater majority of Russian citizens faced a sharp and unprecedented decline in wealth and income.

With the painful memory of the 1990s still fresh, the Russian population overwhelmingly favored the steps toward partial renationalization under Vladimir Putin. By 2005, Putin had asserted the Kremlin’s control over Sibneft, Yukos oil (now essentially Rosneft) and Gazprom. Rising oil and gas prices from 1998 onwards helped Russia achieve between five and ten percent GDP growth every year until the effects of the crisis were felt on the economy.

With the help of the Kremlin propaganda machine, Russians were (and to a large extent still are) convinced that commodity price rises would not have improved the average Russians’ welfare to the extent that it did had it not been for the renationalization of the oil and gas industries. This conception is highly erroneous and has even managed to prevail outside of Russia.

In the near decade or so since the Kremlin has controlled the Russian oil and gas industries, profits from the commodity giants have been directed at government spending on only one occasion. A few months ago, the Kremlin insisted it should keep a modest amount of Rosneft’s profits (and use it for non-Rosneft related spending).

The implications of such actions are far-reaching. First, generous public spending on pensions and other entitlements that improved the financial standing of so many Russians did not depend on profits from any of the so-called “national champions.” This means that incomes and savings would have risen as they did even if the oil and gas industries were controlled by privately run companies. In fact, given the questionable management of these giants, Russians may have profited more if they remained private and more efficient. The Russian government profited mostly from the taxation of these companies, the oil and gas exports and issuing drilling and exploration licenses. The often-generous government spending during the oil boom years came primarily from that. The state’s management of these companies had nothing (until the unique case a few months ago) to do with the Kremlin’s new luxury of being able to raise entitlements.

The highly controversial manner in which the Kremlin renationalized the energy giants led to an unfriendly business and risky investment environment. It made all foreign oil companies in Russia a lot less comfortable and less willing to expand their business there. Unsurprisingly, Russia’s vastly abundant natural resources still keep many foreign oil companies implacably pursuing drilling licenses and deals. But the deep bureaucracy, hazardous business environment and candid favoritism that plague foreign enterprises in Russia have deterred these oil companies from committing and expanding in a way that could create many new job opportunities.

The aggressive renewable energy initiatives, for example, are completely separate from anything these businesses do in Russia. Furthermore, while the most shameless display of favoritism comes in the commodities industry, it has affected Russia’s business reputation in other industries. The World Bank ranked the massive and fast growing country 112th on its ease of doing business index. Bribes and corruption aside, many fear the Russian government may arbitrarily obstruct their business’ growth and development. They then avoid coming to Russia because of the not-so-free market environment.

The repercussions are undoubtedly negative for Russians’ incomes and wealth. Job and career development opportunities that should have appeared in a country with upwards of six percent growth were markedly less exceptional because renationalization scared so many entrepreneurs and businesses away. The type of small businesses that everyone praises for creating jobs and wealth for the middle class in the west (albeit somewhat exaggerated), were precisely the ones that did not appear in Russia.

The inefficient management of these national champions is also an important part of understanding why their growth did not bring as much prosperity to ordinary Russians. First, much of the activity of these firms is guided by politics, and not business sense. The management in Gazprom, Rosneft, and Sibneft (to name a few) answers primarily to Kremlin officials rather than shareholders. The Kremlin has used its control over Rosneft and Gazprom to push for energy deals with certain companies from select countries. They have chosen their supply routes and customers in a very politically motivated fashion, rather than considering what would most benefit the individual firms’ profitability.

The Nord and South Stream pipelines may ensure a risk-free link to Germany and other parts of Europe by avoiding Ukraine, but the construction of these pipelines and others made little business sense. The current pipelines that linked much of the EU to Russian gas were only operating at a maximum of 80 percent capacity at any given time, making it very impractical to invest so heavily in additional pipelines.

If Hopkins had 100 buses and only 80 were being needed to carry all of the people between Homewood and JHMI, investing heavily in more of the same buses would be wasteful. These decisions prevented prosperity from reaching average Russians. The opportunity cost is quite high. Instead of using the phenomenal financial prowess of these energy giants to develop new technologies, more efficient drilling mechanisms and research and development in things like fracking or renewables (both of which threaten to revolutionize the energy industry), the leadership within these “national champions” prioritized politics.

Investments in new technologies would have created promising job opportunities in construction and engineering, in addition to expanding the business. More opportunities should have and could have been available for Russian citizens during this era of growth.

Unfortunately, the future is also quite bleak. Since this form of outdated protectionism shields the semi-state owned firms from true competition, there is less urgency to develop and become more efficient. Eventually, if and when they are not able to compete with the more adaptive and efficient private firms, the Russian energy giants will either lose sizable portions of the market share, or more plausibly, will need even more help and protectionism from the Russian state. That could make them a serious burden to the Russian economy. There is indeed a correlation between partial renationalization and increases in wealth, but the former did not cause the latter. Believing it did may lead to more flawed policymaking and less of an increase in wealth and prosperity for ordinary people.

Stefan Kay is a sophomore International Studies and Economics double major from Rotterdam, The Netherlands. He is a staff writer for TheNews-Letter.