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INSTITUTE FOR THE ECONOMY IN TRANSITION RUSSIAN ECONOMY: TRENDS AND PERSPECTIVES March 2008 MONTHLY BULLETIN Moscow 2008 Institute for the Economy in Transition, 1996.

5 Gazetny pereulok, Moscow 103918, Russian Federation Phone: (495) 203-88-16 Fax: (495) 202-42-24 E- Mail: todorov@iet.ru 1 Major Developments and Trends................................................................................................................. 3 Political and Economic Outcomes of March 2008 S. Zhavoronkov.............................................................. 3 Real Sector: Trends and Factors O. Izryadnova, I. Kolosnitsyn, A. Surinov.................................................. 7 Business Survey in March 2008 S. Tsukhlo............................................................................................... 10 Foreign Trade N. Volovik.......................................................................................................................... 13 Oil and Gas Sector Yu. Bobylev................................................................................................................. 16 Inflation, Monetary and Credit Policy P. Trunin........................................................................................ 20 Budget and tax policies O. Kirillov........................................................................................................... 24 Financial Markets N. Burkova................................................................................................................... 27 Investments in Real Sector O. Izryadnova................................................................................................. 33 Foreign Investments E. Ilukhina................................................................................................................ 36 Investment Fund of the Russian Federation and Its New Operational Procedures I. Sokolov..................... Forecast Models of the RF Economic Development over a Medium-Term Prospective with Regard to the Trade Balance Dynamics S.Drobyshevsky..................................................................... The current stage of reforming the system of staffing of the RF military organization:

a generalized military economic appraisal V. Tsymbal............................................................................ Meetings of the Government of the Russian Federation M. Goldin............................................................ Review of Economic Legislation over March 2008 I. Tolmacheva............................................................ Review of Budgetary Legislation over March 2008 M. Goldin.................................................................. Review of Regulatory Documents Concerning Taxation L. Anisimova..................................................... Major Developments and Trends Macroeconomic situation at the beginning of the current year was based on the trends, prevailing in 2007.

Index of industrial production for January-February 2008 amounted to 106.0 per cent, investments in fixed capital 120.2 per cent and retail trade turnover 116.3 per cent. The growth of processing industries made 107.7 per cent, having exceeded the growth in the extractive industries (101.1 per cent).

However, according to the survey, in March a continued slowdown in demand was observed in the Russian industry, which has not affected the level of production yet. This has led to excessive stocks of finished products and can result in a slowdown in the output growth. The expected slowdown in production is already reflected in the plans of enterprises. Herewith, price estimates of the manufacturers do not provide grounds for slowdown of inflation in the nearest future.

The beginning of 2008 was marked by the peak growth rates of export deliveries, inspired by significant upgrading of prices for the basic Russian export commodities. Herewith, the country continued to accumulate foreign currency reserves, the amount of which in March has exceeded USD 500 billion.

Oil prices in the global market at the beginning of 2008 were at an extremely high level, exceeding the threshold of USD 100 per barrel. At the same time, oil production growth rates in Russia have demonstrated an explicit decline - only 0.6 per cent in January-February 2008 as compared with the relevant period of preceding year. Herewith, the greater input in oil production growth is made by the projects, implemented in the framework of production sharing agreements.

As of February results, the CPI remained rather high, amounting to 1.2 per cent (against 1.1 per cent in the relevant period of 2007). In March, the Ministry of Economic Development of Russia has increased the maximum estimated inflation rate for 2008 to 9.5 per cent, but according to IET assessment, it should be expected, that by the end of the year the CPI will exceed 10 per cent.

In February 2008 there was a substantial increase in expenditures, as well as in revenues of the federal budget, as compared with the level of preceding year. The RF Ministry of Economic Development has proposed again to decrease substantially the basic VAT rate to the level of 12-13 per cent since 2009, having abolished beneficial VAT rate and increased excise rate as a compensating measure. The Ministry of Finance still disagrees with that proposal, and the outcome of the ongoing debate is still unclear.

On March 3, the results of the presidential election were promulgated. During the greater part of March rumors about the future staffing and ideological changes were predominating, there was very little news worth of analyzing in terms of ongoing political process.

On March 1, 2008 the Russian government has adopted the Resolution N 134 "On approval of the regulations on the formation and utilization of the budget assets, allocated for the Russian Investment Fund" which is addressed to eliminate existing restrictions in the legal regulations of one of the most capitalized development institutions in Russia. Among other important government decisions, adopted in March, it is worth mentioning customs duties on the export of chemical fertilizers, increased social security monthly rates for some categories of citizens, as well as further increase of the insurance share of labor pensions. In March, there was also the information, that the Bank of Russia might attract external investment companies to manage a share of foreign currency reserves.

The net capital flow to the RF in the recent years has turned into an important source of financing of the investments in real sector and, consequently, for the support of high economic growth rates. IET has reviewed four models of the RF economic development in the medium-term prospective (for 5 years till 2012), based on different dynamics in both components of the RF balance of payments (balance of current account and balance of capital account). The results of the review indicate that a significant reduction of external financing within 2-3 years may lead to critical effect, comparable with the situation of the sharp and sustained downfall in oil prices Political and Economic Outcomes of March S. Zhavoronkov On March 3, 2008, the presidential election vote count was published. It was announced that with the election turnout of 69.61% Dmitry Medvedev got 70.21% of vote. March 2008 largely was a month of rumors of forthcoming government reshuffles or twists in the ideology, but it failed to supply serious information worth analysis. The United Russia congress was scheduled for April 2008.Some sources close to the Kremlin signaled in mass-media that at the congress Mr. Putin might take the party leadership, but the hypothesis appears ambiguous, as had repeatedly declined such proposals in the past.

On March 3, 2008, the Central Electoral Commission publicized results of the presidential election. As we have already analyzed the campaign and candidates, let us assess its outcome.

It was announced that with the turnout of 69.91% Mr. Medvedev grabbed as much as 70.21% of vote.

This suggests various interpretations: in percentage terms, he scored at 1% less than Mr. Putin in 2004; however, because of a greater turnout, in absolute terms the number of voters who cast their ballot for Mr. Medvedev was greater than the number of Mr. Putins supporters four years ago. Meanwhile, both in percentage and absolute terms Mr. Medvedev won more votes than United Russia in December 2007 (64.3%), with Mr.

Putin being atop of the party ticket then.

The cross-regional analysis of the presidential election outcomes allows some interesting regularities.

Thus, Mr. Medvedevs minimum score (59.2% in Smolensk oblast) is greater than United Russias in a dozen of regions, including Moscow and St. Petersburg. By contrast, so far as the most controlled regions, such as Chechnya or Ingoushetiya, are concerned, United Russia won 99 and 98% of vote, respectively, vs.

Mr. Medvedevs humble 88 and 91%. This trend also persists in other regions of this type. In Moscow and St. Petersburg, Mr. Medvedev was clearly ahead of United Russia, by scoring 71 and 72% vs. 54 and 50%, respectively.

Mr. Zyuganov finished the second with 17.77%, followed by Mr. Zhirinovsky with his 9.37%. As for Mr.

A. Bogdanov, in whose official candidates papers the source of income was bluntly put as United Russia, he got 1.29% of vote, thus upsetting those who believed that in the conditions of a limited choice he would be able to consolidate a notable fraction of opposition groups vote.

The above allows the following conclusions: first, the state cadres in the most controlled regions succeeded in following the order to somewhat mitigate Mr. Medvedevs performance. Second, because of the absence of democratic candidates in the ballot, he collected a fraction of support from those who responded to the popular theory of lesser evil. Third, the Russians demonstrated a loose responsiveness to the transformation of elections into elections - they obediently went to the polling stations and, having failed to find their candidates in the ballot, voted for the lesser evil, be that Mr. Medvedev or Mr. Zyuganov. The number of spoilt ballots was not serious and accounted for less than 2%.

Whilst mirroring general trends in the electorates mood, these data need corrections. At the Russian elections, as a rule, there is no independent observation (with a few exceptions in regions that hold local and regional elections), for as per the law, it is only registered candidates that can organize it. Many regarded Mr.

Zyuganov as a relatively oppositional candidate, however, he did not organize observation at the elections.

Even if there is a local initiative to hold such observation, the respective protocols are pocketed and they are not used to assert the voters rights in the court of law1.

The lists of voters remained an absolute secret. Interestingly, at the presidential election in March the number of voters was at 2m down vs. the December 2007 statistics. At its homepage on the Internet, the Central Electoral Commission posted the number of voters included in the lists which made up 106,999.000, while at the December elections the respective figure was 109,146.000.

Zones of absolute falsification, wherein the proportion of the most loyal voters is over 90%, are expanding to include both the North Caucasus and rural territories and many cities, including one of Moscows municipal districts2.

The world accepted the presidential election outcome better than that of the parliamentary election:

Messrs. Bush, Brown, Sarkozy, Barrozu, M-me Merkel congratulated Mr. Medvedev on his victory3. However, many in the West voiced out their critical comments. More specifically, all the three forerunners in the US presidential campaign dropped very negative comments; PACE, the OECDs Bureau on Democratic Institutes and Human Rights, etc. refused to take part in the election as observers. Interestingly, the Russian authorities had programmed some negative assessments suffice it to mention that the BDIHR delegation was invited to Russia just for several days (while the common knowledge is its regulation does not allow the organization to take part in assessing elections, unless its representatives are present in the country more than a month). It is also worth noting Mr. Bogdanov, a comical presidential candidate whose wages are paid by A very illustrative example is CPRFs activity in Ingoushetia: local communist leaders signed a note on the fair 99% score by United Russia at the last parliamentary election: the debt was repaid in March 2008, when the communists overcome the 7% barrier at the local parliamentary election.

Zyablikovo district of Moscows Southern administrative territory It was only Mr. Sarkozy who extended his congratulations to the United Russia in December the ruling party and who managed to boost up his electoral support 20-fold between December 1997 and January 20084 of course, there might have been a more decent candidate in his place.

As well, the outcomes of regional parliamentary campaigns in 11 Subjects of the Federation5 are worth a particular interest. United Russia naturally enjoyed a landslide victory there, though it was only two regions in which its results were greater than in December 2007. The communists overcome the minimal barrier in all the regions they finished the second in 9 regions, the third in 1 (Sverdlovsk oblast) and the fourth in Ingoushetia. Meanwhile, their results, except for an unexpected success in Yakutiya and a dubious one in Ingoushetiya, roughly match their performance at the parliamentary election. LDPR was half-way down from its best shape the party failed to overcome the election barrier in four regions, while in the remaining seven its score was roughly equal to Mr. Zhirinovskys at the presidential election. The Just Russia demonstrated the most miserable performance, carrying just five out of the ten regions (Ingoushetiya, Yakutiya, Altay krai, Ivanovo and Ulyanivsk oblast); while it was dumped in a region where it had had better chances (Yaroslavl oblast). So, the partys only relative success occurred in Yakutia 15% of the vote.

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