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Considering the existing structure of GDP (Table 4), it can be concluded that the expansion of the tax bases of the profits tax, SST and PIT will be equivalent not to the whole amount of GDP growth, but only to that part of it which corresponds to such components as official salaries and wages of employees (on the average 34 % of GDP growth) and net profit of the economy and net mixed revenues (on the average 30 % of GDP growth).

With due regard for these factors and the shares of resources redistributed in favor of enterprises as a result of the lowered VAT rate, three scenario models of budget losses were investigated. The first one envisages that, resulting from the VAT rate having been lowered to 12 %, prices will drop by the same value (markets of entirely elastic supply or non-elastic demand); the second one that prices will drop by half of the value of the lowered tax rate, or by 3 %; and the third one that prices will remain unchanged (markets of entirely elastic demand or non-elastic supply), and all the benefit from the lowered rate of VAT will be received by producers (Table 5).

Table 4.

Structure of GDP, by type of primary revenues, in 2002 2006 (in %) 2002 2003 2004 2005 100 100 100 100 Gross domestic product including:

35.2 35.8 34.3 32.0 32.- official salaries and wages of employees 11.5 11.3 11.7 11.8 11.- hidden payment for labor of employees 17.0 16.0 16.9 19.7 20.- net taxes on production and imports 7.8 7.2 6.4 6.0 4.- consumption of fixed assets 28.5 29.7 30.7 30.5 31.- net profit of the economy and net mixed revenues Source: calculations of the IET Table 5.

Consequences of VAT rate lowered to 12 %, for revenues of Russias budgetary system, in terms of 2009 economic indices Billion % of Billion % of Billion % of rubles GDP rubles GDP rubles GDP Scenario 1 Scenario 2 Scenario Loss of budget revenue resulting from -831.5 1.87% -831.5 1.87% -831.5 1.87% lowered VAT rate Volume of households spending in640.3 1.44% 320.2 0.72% - - side Russias economyGrowth of monies at disposal of enter- - 320.2 0.72% 640.3 1.44% prises Expenditure multiplier 4.GDP growth resulting from additional 2785.3 6.24% 1392.7 3.12% -18 - households demand Growth of official salaries and wages of employees (including deductions to social insurance)19:

- 34 % of GDP growth - 60 % of growth of enterprises mon- 947.0 2.12% 473.5 1.06% - - ies - - 192.1 0.43% 384.2 0.86% Growth in profit before taxes in the economy:

- 30 % of GDP growth 835.6 1.86% 417.8 0.94% - - - 40 % of growth of enterprises mon- ies - - 128.1 0.29% 256.1 0.57% Additional budget tax receipts :

Profits tax (24 %) 200.5 0.45% 131.0 0.30% 61.5 0.14% SST (26 %)20 177.1 0.40% 124.5 0.28% 71.8 0.16% PIT (13 %) 100.1 0.22% 70.3 0.16% 40.6 0.09% Net change in budget tax receipts -353.8 0.79% -505.7 1.13% -657.6 1.48% resulting from lowered VAT rate Source: calculations of the IET Assumption 1: According to our calculations, the marginal consumption inclination of Russias households in 2002 - 2007 was at the level of 77 %, remaining almost completely unchanged.

Assumption 2: Due to absence of additional demand displayed by the population, no multiplication effect will follow.

Assumption 3: the distribution of the additional monies generated by enterprises between profit before taxes and official wages and salaries is being done in accordance with their existing ratio as percentages of GDP, less net taxes on foodstuffs and imports (40 % : 60 % by the results observed in 2004 2006).

Assumption 4: in scenario-based estimations, the effective rate of SST is fixed at 23 %, which corresponds to the indices observed in 2007.

As seen from the Table, in all the scenarios the decreased rates of VAT, given even the most optimistic assumptions, will produce a drop in tax receipts, in terms of 2009 indices, by 1.1 1.3 % of GDP (Scenarios 2 and 3 are more realistic in the short term).

An attempt to compensate for the loss of budget revenue by increasing the rates of excises does not appear to be realistic. In fact, over the whole period of implementing tax reform, the receipts from excises in this countrys budgetary system were declining.

Table 6.

Volume of receipts from excises in the RF budget in 2000 - 2007 (as % of GDP) 2000 2001 2002 2003 2004 2005 2006 Excises 2.27 2.72 2.44 2.59 1.43 1.17 1.01 0.Source: calculations of the IET Moreover, the total volume of receipts from excises in 2007 was less than 1.0 % of GDP, while the revenue lost as a result of lowered VAT rate, according to the most modest estimates, will amount to no less than 1.1 1.3 % of GDP (with regard to budgets of all levels) with all the adjustments described earlier.

It should also be noted that such dynamics of receipts from excises are associated predominantly with the dynamics of the sales volumes of excisable goods, which every year fall behind the rate of GDP growth, and has only a secondary dependence on the level of indexation of tax rates. Besides, in the project developed by the RF Ministry of Economic Development and Trade it is proposed to promote production and export of oil products with high value added through lowering the excises on motor fuels. It is necessary to note that the excises on oil products account for a half of total budget receipts from excises, and so it is not quite clear the rates of which excises will be raised in order to compensate for the loss of budget revenue.

Thus, according to out forecasts, the consequences of a lowered VAT rate will be negligible in terms of investment activity, especially in a long-term perspective. In fact, the effect may even be negative, considering that VAT will cause less disproportions by comparison with the other taxes that can be introduced by the government in order to compensate for losses of budget receipts (for example, increased rates of TEMR or excises, or the replacement of VAT by the sales tax).

As of 1 March 2008, the aggregate volume of the Reserve Fund, denominated in rubles, amounted to 3,082.28 billion rubles, or to 10.1 % of GDP. The aggregate volume of the National Welfare Fund, as of March 2008, amounted to 777.03 billion rubles, or to 2.5 % of GDP. The difference linked to the exchange rate in the residuals on the accounts of the Reserve Fund denominated in foreign currencies from 30 January to 29 February 2008 amounted to (-) 15.35 billion rubles, and in the residuals on the accounts of the National Welfare Fund - to (-) 5.77 billion rubles. The share of these two Funds in GDP, by comparison with the value of the same index as of 1 February 2008, diminished by more than 1 %.

Financial Markets N. Burkova In March the Russian financial market dynamics was determined by the situation in the global financial markets, based on the aggravated negative background. The high volatility of stock markets, lower quotations of the majority of the world indices, coupled with the continued weakening of the positions of the US dollar urged a large number of investors to move from the stock market to commodity markets, which has contributed to the growth of oil prices in the world markets. Those trends were especially evident in the Russian stock market, where the investors' activity has decreased by more than 30 per cent within a month. The volume of the turnover at the public debt market has also dropped down by nearly 15 per cent.

Government securities market In March the Russian Eurobonds have demonstrated volatility in the yield as a result of the negative situation in the top world markets. Herewith, the activity in the market was rather law (there was noted an insignificant downgrading of an average daily turnover in the secondary market) due to the wait-and-see position of the market participants in the expectation what actions will be taken by USA to support liquidity market.

As of March 21, 2008, the Russian Eurobonds RUS-30 yield to maturity made 5.31 per cent per annum (decreased by 6.0 per cent as compared with the level of February 22, 2008), RUS-18 5.33 per cent per In the course of the survey preparation, there were used analytical materials and surveys, published by the Zenith Bank, investment company ATON, MICEX, and the materials presented at web sites of Russian issuing companies.

annum (-2.9 per cent), RUS-28 6.0 per cent per annum (-1.6 per cent). However, the yield to maturity of the Russian Eurobonds RUS-10 has demonstrated reverse dynamics, having increased by 7.2 per cent against the preceding period and made 3.27 per annum. As of the same date, the yield to redemption of the Russian Eurobonds made: for the seventh tranche of external currency debt bonds 4.31 per cent (5.1 per cent decline as compared with the level of February 22, 2008), for the fifth tranche 3.51 per cent (decline by 8.4 per cent) (see Figs. 1-2).

In general, in March an explicit decline in the yields was observed in the ruble debt market. Activity in the debt market has also significantly decreased (the turnover fell down by more than 13 per cent), reflecting the aggravated negative situation in external markets, including the on-going slow-down of the economic growth in the USA.

FIG. Minfin bonds' yields to maturity in January - March 5,50% Tranche 5 Tranche 5,25% 5,00% 4,75% 4,50% 4,25% 4,00% 3,75% 3,50% 3,25% FIG. Yields to maturity of the Russian eurobonds with maturity in 2010, 2018, and 2030 in January - March 6,5% RUS-2030 RUS-2010 RUS-2018 RUS-6,0% 5,5% 5,0% 4,5% 4,0% 3,5% 3,0% 2,5% 09.01.12.01.16.01.21.01.24.01.29.01.01.02.06.02.11.02.14.02.19.02.22.02.28.02.03.03.06.03.11.03.14.03.19.03.09.01.12.01.16.01.21.01.24.01.29.01.01.02.06.02.11.02.14.02.19.02.22.02.28.02.03.03.06.03.11.03.14.03.19.03.Within the period from February 23, 2007 to March 21, 2008, the total turnover of GKO- OFZ secondary market amounted to approximately RUR 61.1 billion with an average daily turnover of RUR 3.39 billion.

(against RUR 70.8 billion with an average daily turnover of RUR 3.54 billion in February).

A number of auctions on additional OFZ placements were arranged in the period from February 23 to March 21, 2008. Thus, an auction on additional placement of OFZ series 26200 and 46020 were held on March 12 for the amount of RUR 10 billion each, actual placement made RUR 2.07 billion and RUR 3.billion with an average weighted yield of 6.67 and 7.22 per cent per annum, accordingly. Two more auctions on placements of OFZ series 46022 and 25062 were held on March 19 for the amount of RUR 15 billion and RUR 10 billion, actual placement made RUR 9.51 billion and RUR 2.09 billion with an average weighted yield of RUR 6.89 and 6.49 per cent per annum accordingly.

As of March 27, 2008, the GKO-OFZ market amounted to RUR 1081.32 bln at face value and to RUR 1070.03 bln at market value. The duration of the GKO-OFZ market portfolio was 2175.67 days, having increased by 98.81 days as compared with preceding month, when that duration was 2076.86 days (as of February 28, 2008).

Equity Market Stock market situation The aggravated negative background in the global stock markets has affected the results of the bids and led to downgrading of the majority of securities yields in the Russian market, as well as in market indices, in particular, the MICEX index (by 14.31 per cent by early 2008). The volume of trades has also decreased as compared with February as a result of negative situation in the USA and panic in the world markets, provoked by the collapse of Bear Stearns, one of the world's largest investment banks. Moreover, further USD decline was noted in March.

Throughout March a strong volatility was observed in the Russian stock market. Thus, the trend of MICEX index to decline was changing several times for short periods in March, having reached the level of 1 677.41 points on March 12. Such MICEX index downgrading in March has reflected a general decline trend in the quotations of the Russian companies equities (Fig. 3).

FIG. Dynamics of MICEX Index and trading volume 150 2 000,The total volume of trading (roubles, 140 1 900,billion) MICEX Index 130 1 800,120 1 700,110 1 600,100 1 500,90 1 400,80 1 300,70 1 200,60 1 100,50 1 000,40 900,30 800,20 700,10 600,0 500,In general, within the period from February 29 to March 27, 2008, the MICEX index has declined by 2.per cent, i.e., by 41.81 points in absolute terms. Over the same period the turnover of trades in shares, included in the MICEX index, made about RUR 1057.8 bln at an average daily turnover of RUR 69.8 bln (as compared with about RUR 1536.1 bln at an average daily turnover of RUR 69.8 bln in earlier period from January 29, 2007 through February 28, 2008). Therefore, the investors activity in the stock market in March has decreased as compared with the preceding period over 20 per cent. The indicators of maximum and minimum turnover in the market trades in March made RUR 68.8 bln (as of March 4) and RUR 29.0 bln (as of March 21), accordingly.

points roubles, billion 09.01.29.01.16.02.13.03.02.04.20.04.14.05.01.06.22.06.12.07.02.08.22.08.11.09.01.10.19.10.09.11.29.11.19.12.17.01.06.02.27.02.19.03.As of monthly results (from February 29, through March 27, 2008), practically all blue chips have shown negative dynamics in their market values. The leaders in terms of rates decline were shares of RAO UES of Russia (downgrading by 11.88 per cent), "Mosenergo (10.71 per cent), Gazprom Neft (by 10.58 per cent) and Sberbank of Russia (9.04 per cent). Some less downgrading rates have demonstrated the shares of GMK Nornickel (by 4.83 per cent), Gazprom (by 2.60 per cent), Surgutneftegas (0.per cent), Rostelecom (by 0.19 per cent) and Tatneft (by 0.07 per cent). Herewith, shares of LUKOIL and Rosneft have demonstrated upgrading trend in quotations by 8.29 and 5.32 per cent, accordingly. (Fig.

4).

FIG. Dynamics of the Russian Blue Chips from February 29 to March 27, 10,00% 7,50% 5,00% 2,50% 0,00% -2,50% -5,00% -7,50% -10,00% -12,50% Change in price (%) In March the MICEX turnover leaders were: Gazprom(33.1 per cent of the total turnover), Sberbank of Russia (13.8 per cent), LUKOIL (12.2 per cent), Nornickel (12.0 per cent), and RAO UES of Russia (5.1 per cent). Total share of transactions with the above companies equities (blue chips) made 86 per cent of gross turnover in the classical MICEX stock market in the period over February 29 March 27.

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