Emerging Markets: Analyzing Russia’s GDP
By Prableen Bajpai, CFA (ICFAI) AAA |
Russia, the world’s largest country, became independent with the fall of the Soviet Union in 1991. The initial years for its economy were tough, as it inherited a devastated industrial and agricultural sector with the fundamentals of a closed centrally planned economy. The regime introduced multiple reforms that made the economy more open, but a high concentration of wealth in a few hands continued.
Russia’s economic growth rate remained negative during the majority of the 1990s before the start of the subsequent golden decade, when it grew at an average rate of 7%. This stellar growth brought Russia to a level where it was recognized as a fast-growing economy. Although the economy did exceedingly well during 1999-2008, it was majority driven by the boom in commodity prices, especially oil. The Russian economy got a jolt as oil prices dipped, triggered by the 2008-09 global financial crisis; this exposed Russia’s weakness and dependence on oil. The economy gradually recovered as oil prices stabilized. (See also: Why The Russian Economy Rises and Falls With Oil.)
The Russian economy grew at a decent pace during 2010-12, but structural issues started to emerge that caused a slowdown during 2013 when the economy grew by 1.3%. The year 2014 was hard for Russia, as it faced multiple issues: crashing oil prices, geopolitical pressures and sanctions by the West. The GDP dropped to a 0.6%, the currency lost value, inflation spiked and stock market tumbled. Russia is currently in recession combating high inflation and weak business sentiment at home. The Russian economy is expected to contract by 3.8% in 2015 and a further 0.6% during 2016, according to the International Monetary Fund (IMF). (See also: How US & European Union Sanctions Impact Russia)
Russia’s gross domestic product is largely contributed by three broader sections: agriculture or the primary sector, which contributes a small 4% share to its GDP, followed by its industrial sector and service sectors, which contribute 36% and 60% respectively, according to the 2014 World Bank data.
Harsh weather and geographic conditions make cultivation of land arduous and restricted to few small areas of the nation. This is one of the main reasons behind the minimal role of the agricultural sector in Russia’s economy in terms of its contribution to the gross domestic product (GDP). The agricultural sector makes up just about 4% of Russia’s GDP, but it does provide employment to almost 10% of the population, making it more significant in indirect ways. The agrarian sector is characterized by the coexistence of both the formal sector, represented by large producers for commercial purposes, and the informal sector, where small land holders produce for self sustenance. The sector includes forestry, hunting, and fishing, as well as cultivation of crops and livestock production.
Agricultural land is just about 13% of Russia’s total land area, much less than that of other prominent nations. According to the World Bank, agricultural land refers to the share of land area that is arable, under permanent crops, or under permanent pastures. However, since Russia is a huge country, this small percentage also works out big enough in terms of hectares of land. Russia’s main agricultural production includes wheat, potatoes, sunflower seeds, sugar beets, tomatoes, apples, vegetables, barely, rice, maize and onions.
Despite being a large exporter of certain food items, Russia is a net importer in agriculture and food. According to the World Bank 2013 data, Russia’s food exports are just 3% of the merchandise exports, while its import of food is 13% of the merchandise imports. According to the World Bank, food comprises food and live animals, beverages and tobacco, animal and vegetable oils and fats, and finally oil seeds, oil nuts, and oil kernels. Other than the non-availability or shortage of certain food products domestically, a few factors explain Russia’s rising food imports. One is the higher inflation in Russia vis-à-vis its trading partners, which makes foreign imports more price competitive. The second reason is its sound economic progress, especially during 2000-2008. This boom period led to income growth, further pushing up consumer demand for food, which was met by imports. The country apparently relies on imports for 40% of its domestic food needs.
Russia was slammed with embargoes from the West over the Ukraine issue in 2014, to which the Putin administration retaliated by imposing counter-embargoes on food imports from the U.S., Canada, Norway, Australia and the European Union. The natural consequence of this decision has been the shortage of food supplies, sending inflation upwards. The Russian administration is looking to make the country self-reliant for food needs. The ban on food imports according to the government will cause short-term pain but will help develop the agricultural sector. “We are a country that can and must feed itself – and not only feed itself but supply other countries,” stated Prime Minister Dmitry Medvedev. (See also: How US & European Union Sanctions Impact Russia.)
The contribution of Russia’s industrial sector to its GDP has remained more or less stable, averaging around 37% over the years. The industrial sector comprises mining, manufacturing, construction, electricity, water and gas and currently provides employment to around 27% the Russian population. Russia has an array of natural resources, with a prominence of oil and natural gas, timber, deposits of tungsten, iron, diamonds, gold, platinum, tin, copper and titanium.
Major industries in the Russian Federation have capitalized on its natural resources. One of the prominent industries is machine building, which suffered heavily with the disintegration of USSR as there was a severe shortage of capital and disruption of the economic structure. It emerged back with time and is the leading provider of machinery and equipment to the other industries in the economy. Next is the chemical and petrochemical industry which contributes about 1.5% to Russia’s GDP. According to an Ernst & Young Report, “A large number of products with higher added value (such as specialty composites and additives) are not produced in Russia. China and Europe, for example, produce about 25% and 20% of the world’s primary plastics, respectively, while Russia produces only 2%.” Going by importance, the fuel and energy complex (FEC) is one of the most crucial for the Russian economy. It comprises the mining and production of energy resources, processing, delivery and consumption of all types of energy. The FEC complex not only supports multiple sectors in the economy, its products are Russia’s main exports. The other competitive industries of Russia include mining and metallurgy, aircraft building, aerospace production, weapons and military machinery manufacture, electric engineering, pulp-and-paper production, the automotive industry, transport, road and agriculture machinery production.
The service sector’s contribution to Russia’s GDP has increased over the years; from 38% in 1991 to 57% in 2001. The service sector currently contributes almost 60% to its GDP, while employing 63% of its work force. The important segments of its service sector are financial services, communications, travel and tourism, advertising, marketing and sales, real estate, healthcare and social services, art and culture, IT services, wholesale and retail trade and catering. It is often pointed out that as the crisis that accompanied the fall of the Soviet Union devastated agriculture and industry, it gave services a chance to pick up.
The Bottom Line
Russia needs to diversify its economy further to establish a more balanced economy that is less vulnerable. Focus on its manufacturing and service sector can help achieve more sustainable long-term growth. Although the GDP composition reflects the growing importance of services, it’s oil exports that command most of its economy as they directly and indirectly affect everything else. (See also: How Embargoes Affect International Business)
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