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Current trends in the development of the RFs military economy and possible ways to find solutions to the military economic problems........................Introduction Key directions of economic policy Russias finances are stable. The budget is drawn up with a surplus. The State has cut its expenditures on the servicing of external debt. In terms of its gold and foreign currency reserves, the country has become the third in the world, being be hind only China and Japan. One might think that Russia can no more be faced with financial disasters similar to those that occurred in the late 1980s early 1990s, that this nightmare is a thing of the past. The estimates made by the IET in coopera tion with the CSR1 have demonstrated that the accumulated reserve of stability will enable this country to live through the period of 2007 2009 without any economic difficulties comparable in scope to the 1998 crisis, even given an unfavorable sce nario of the global economys development. But life will not end in 2009. The budget horizon of 3 years is not sufficient to adequately assess the strategic prob lems associated with national finances.

Lessons provided by historic hindsight In 2000 Russia was recovering from the crisis caused by the bankruptcy of the Soviet Union and by the post socialist transition, this crisis having been further ag gravated by the default in 1998. It was obvious that financial resources were lim ited, and the budget depended on foreign credits. Nowadays it has been already forgotten by many, but during that period the looming problem to be faced in the year 2003 was being widely discussed. The peak of payments against external debt scheduled for that year was viewed as a strategic challenge faced by this country.

The main theme of the politico economic discussion going on in early was the choice to be made between cutting the share of public expenditures in GDP and improving the quality of economic institutions. These were two alterna tives, but by no means two opposite directions: the improvement of economic insti tutions may create appropriate conditions for cutting public expenditures, while cuts in public expenditures require that the quality of institutions should be im proved. However, the discussion was very acute. Neither of the parties involved in it became the winner. But the orientation toward diminishing the share of public ex penditures in GDP became one of the important components of economic policy.

During President V. Putins first period of office, the growing public revenue was boosting up the budget surplus and the foreign currency reserves. The growth rate of budget expenditure was, as a rule, no higher than that of the growth of GDP.

The budgeting policy was based on the standards of conservatism, reminiscent of the realities of the 19th century. Why do we resort to such an analogy Because, when discussing long term financial problems, it always helps to think in terms of a longer historic perspective.

In Great Britain the worlds most developed country of the 19th century, which was the leader in everything that had to do with finances, prevalent was the CSR Center for Strategic Research.

RUSSIAN ECONOMY IN trends and outlooks opinion that private persons could better manage their incomes than state officials could manage public revenue. Very weighty arguments had to be put forth, if the necessity of increasing public expenditure was to be properly substantiated. One of the principles of budgeting policy was that, in peace time, the government should not take upon itself any financial obligations for which its successors would have to be responsible.

In the 20th century, the situation changed. Now, the governments would often make decisions that did not incur too high a cost in a short term perspective, but were fraught with serious future problems. The period of growing public revenue provided a favorable background for increasing budget liabilities. One vivid exam ple is the Western Europe of the 1950s early 1970s. The rates of economic growth during that time were, when measured against historic benchmarks, ab normally high (Fig. 1).

6,0% 5,0% 4,0% 3,0% 2,0% 1,0% 0,0% France Germany Italy United Kingdom 1950 - 1973 20th centurys average Note. The calculations are based on the data on GDP per capita in 1990 international dollars.

Source: Estimations based on: Maddison A. The World Economy. Historical Statistics, Paris, OECD, 2003.

Fig. 1. The rates of economic growth in 1950 1973 and the 20th centurys average indices in some Western European countries The introduction of new taxes (VAT, the taxes on wages and salaries providing the sources of financing for social insurance systems) resulted in high growth rates of budget revenue. In France, on which the tax policies throughout the whole Introduction Key directions of economic policy Europe were modeled, public revenue grew in 1950 1973, in real terms, by 8.4 % per annum (Table 1).

Table The growth rates of public revenue in France in 1950 (average indices, by decade) Years Growth rates, % 1950 1960 7.1960 1970 5.1970 1980 10.Source: International Financial Statistics, IMF 2006.In such a situation, the assumed social obligations seem to be realistic. The politicians who put forth such programs of public expenditure do not give a thought to the financial capacity of the future generations of taxpayers to meet such costs.

When it so happened that the taxpayers were not prepared to pay the growing taxes, certain reforms had to be carried out, with cuts in budget liabilities. This posed a challenge to the political elites of developed countries. A succession of de feats of the ruling parties of Western Europe was a logical outcome of the situation when the dismantling of the social welfare systems, created at a time when the States potential to mobilize resources had seemed to be unlimited, was inevitable in terms of economics but fraught with political conflicts.

The Russia of the 2000s faced a similar challenge, which was reminiscent of the problems experienced by Western Europe in 1950 1973. Renewed economic growth, coupled with the successful tax reform of 2000 2002, ensured high growth rate of budget revenue. From 2004 onwards, a decisive influence on the de velopment of the financial situation has been produced by the situation on the oil market. The prices of hydrocarbons approached the abnormally high levels of the 1970s early 1980s. The public revenues rate of growth (on the average in 2000 2006 13% per annum in real terms) became abnormally high by any historical standards.

The oil challenge Russia is not the only country whose leadership has been able to acknowl edge, on the basis of its own experience, that the unpredictability of oil prices is an objective factor that has to be reckoned with, and to learn from its experiences of the 1980s. Oil, if judged from the point of view of market mechanisms, is a specific type of commodity. Many of the indices of the global economy can be forecasted on the basis of inertia models, which essentially represent extrapolation of past events, with due regard to the set of factors capable of making events depart from a habitual trajectory. This method yields good results. In an event of errors in ex cess of 1 % in the forecasts of economic growth in the worlds most potent coun tries for a next year, the authors of such forecasts can be accused of professional incompetence.

RUSSIAN ECONOMY IN trends and outlooks However, nobody was surprised when one of the authoritative international fi nancial organizations the IMF made a radical revision of its forecasts of oil prices for the year 2007. No dismissal of its CEOs followed. Specialists have be come used to the fact that no one actually knows how to reliably predict oil prices.

These prices represent one factor which is significant for the analysis of economic dynamic and to which, at the same time, no general rule can be applied.

An important parameter of the oil market is its dependence on the availability of free potential, capable of changing the volumes of supplies. The upsurge in prices in 2003 2005 was less pronounced than the one in 1973 1974 and 1980 (by 113 %, 250 % and 180 %, respectively)2, but still comparable in its scope.

The factor that promoted the growth in oil prices during those years to an abnormal historic high was the assurance of the market participants that no free potential was available (Fig. 2).

* Forecast.

Source: US Energy Information Administration, Short Term Energy Outlook, January 2007, http://www.eia.doe.gov/emeu/steo/pub/contents.html Fig. 2. Reserve potential of oil extraction and oil prices, 1990 From the second half of 2006, the situation began to change. Having been faced with the downward trend in the level of oil prices, which became visible in the summer of 2006, the OPEC made the decision that the production quotas should IMFs estimates.

Introduction Key directions of economic policy be reduced from 1 November 2006 by 1.2 million barrels per day, and then from February 2007 by another 0.5 million barrels. This was a clear sign that some free potential had emerged. But it is easier to negotiate the lowering of quotas that to actually implement it. The members of the organization are faced with acute budget related problems, and not all of them are prepared to agree to reduce their revenues from exports.

The estimates as to what degree the decision concerning the lowered produc tion from 1 November 2006 is based upon actual practice are not quite reliable.

The majority of observers believe that the production level is by 0.4 0.7 million barrels higher than the negotiated level3.

Russia is less vulnerable to the fluctuations of oil prices than the Soviet Union of the mid 1980s. This country now does possess appropriate mechanisms for ad justing to the changeable situation. The response to falling prices, instead of the States bankruptcy, can now take the shape of the roubles depreciation, resulting in a higher competitive capacity of the processing industries. In fact, this is what happened in 1998 1999. In contrast to the USSR, Russia is not faced with the problem of unmanageable government debt. Currency reserves provide a safety net that can help to avoid, in an event of falling oil prices, a catastrophic situation similar to that in which the Soviet Union found itself in the late 1980s early 1990s.

However, even in the presence of these factors, the dependence of Russias bal ance of payments on the prices of hydrocarbons is associated with risks, which must be assessed realistically.

Previous experiences have urged many oil producing countries to pursue a careful budgeting policy4. For a few years, we have also succeeded in this. However the key words here are a few years. The longer the period of high oil revenues lasts, the more difficult it becomes to follow such a policy.

In a situation when the States financial potential is growing, it is difficult not to yield to the temptation of participating in a contest, the essence of which is the competition of the most popular spending programs. It takes just a few seconds to say everything about how the Stabilization Fund can be spent. But it takes more time and an audience prepared to understand well substantiated and complex arguments to explain why this can be dangerous for the national economy.

The assumed budget obligations and the trends of demographic development urge the State to increase the share of its spending in GDP. Russia is by no means OPEC to keep growth plan as prices fall: Saudi says group expects a rise in global demand // Asso ciated Press. January 18. 2007.

In Algeria, Azerbaijan, Bahrain, Iran, Kazakhstan, Kuwait, Libya, Oman, Qatar, Saudi Arabia, and the United Arab Emirates the governments in 2003 2005 spent on the growth of public revenue, in the medium term, 30 % of the surplus revenues from the rising oil prices. The average surplus of public finances in those countries, in per cent of GDP, increased from 2 % in 2002 to 15.5 % in (See: Regional Economic Outlook, September 2005: Middle East and Central Asia Department. IMF, 2005.) As a rule, the oil producing countries in the 2003 2005, having learned from their experi ences of the 1970s early 1980s, based their projected budget indices on very cautious forecasts of the level of the prices of hydrocarbon raw materials. In many of them, special funds for leveling out the consequences of fluctuations in oil prices for their budget revenues were created.

RUSSIAN ECONOMY IN trends and outlooks unique in this respect. This country is specific in another respect the dependence of budget revenues on the oil and gas sector. Even when prices are not changing, these revenues have a downward trend. There are several responsible factors here. The growth rate of the production of oil and gas is lower than economic growth. There are no reasons to believe that this trend may change. As GDP per capita increases, the level of prices in the national economy becomes closer to that characteristic of more developed countries. The volume of GDP, estimated at the exchange rates of the worlds reserve currencies, approximates its volume esti mated by the parity of purchasing powers. This produces a downward trajectory of the share of revenues from oil and gas in GDP.

An important component of the budget revenues from the gas and oil sector is the export duties on energy carriers. In 2006, these amounted to 7 % of GDP. The accelerated growth of the national economy, as compared to the production of en ergy carriers, results in growing domestic demand for oil and gas. Thus, the re sources of exportable hydrocarbons become lower.

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