Alexei Kudrin's Departure: End of Reform and Fiscal Probity in Russia

September 28, 2011 4:45 PM

The exit of long-time Russian Finance Minister Alexei Kudrin reflects a profound conflict over economic policy between Kudrin and the almighty Vladimir Putin. Prime Minister Putin, who has announced his intention to run again for president in a cooked election, chose to throw fiscal conservatism and arduous economic reforms overboard, and Kudrin was no longer prepared to play along.

When I first met Alexei Kudrin in 1990, he was a young liberal economist in St. Petersburg. In March 1997, he became first deputy minister of finance, and in May 2000, minister of finance. At his departure on September 26th, he was the longest serving minister of finance in the G-20. With his great professionalism, extraordinary memory, and sensitive and calm demeanor, he earned many friends, in particular in the world of international finance.

Throughout his career, Kudrin has walked on two legs. On the one hand, he has been a principled liberal economic reformer and fiscal conservative, allied with Russia's chief reformers Anatoly Chubais and late Yegor Gaidar. On the other hand, he has been a close friend of Vladimir Putin. They worked together as deputy mayors of St. Petersburg, and Kudrin helped Putin get his job in the presidential administration in Moscow in 1997. Kudrin made no secret of wanting Putin to return to the presidency, the post he held for eight years until 2008.

During the last several months, it has been widely rumored that Putin would offer Kudrin the position of prime minister. In his many public appearances—for example, here at the Peterson Institute last April 15th—Kudrin laid out a clear economic program. He envisaged restrained public salary rises, continued low military expenditures, pension reform (raising the retirement age for women from 55 to 60 years), and some tax increases, notably for the gas industry. He also advocated large privatizations, improvement in the investment climate, and early accession to the World Trade Organization. He is a genuine advocate of the Washington consensus favoring economic liberalization.

Evidently, for years, Putin wanted the calm heavyweight Kudrin at his side to counter all those who wanted to loosen the strings of the treasury's purse. Therefore, Kudrin's departure arouses the suspicion that Putin has abandoned his prior fiscal probity and does not want to return to the market reforms he abandoned in 2003.

Putin's big campaign speech at the Congress of United Russia provides ample evidence of that thesis. This might have been Putin's most populist speech to date. It abounds with grand promises to many social groups, but it does not contain a word of reform. As if to twist the dagger plunged into Kudrin, Putin emphasized that he raised the pensions by 45 percent in 2010, which Kudrin opposed publicly, and that he had hiked them by 19 percent more this year. Putin also promised to raise the average wage by 50 percent until the end of 2014, to increase military pensions by 50 percent in January 2012, to forgive tax debts of 36 million people, to maintain strict price control for public utilities, etc.

Without explaining how this can be financed, Putin declared: "It is necessary to return to…economic growth of 6-7 percent a year and during the next five years become one of the five strongest economies in the world." In the old style of Leonid Brezhnev, Putin slants all statistics to his advantage and avoids all complexities. His language is littered with phrases such as "we shall solve the problems of…" or "we shall offer special support to…"

One single sacrifice is vaguely indicated. The "rich" may have to pay more "taxes on consumption, real estate, and property," but even they are reassured that Russia's flat personal income tax of 13 percent will persist. In case a listener wonders how this populist laundry list may hang together, Putin finally reassures the audience: "Our policy must be absolutely correct, honest, and consistent." Amen! Needless to say, he did not even mention corruption, which is widely viewed as Russia's greatest problem.

Putin's conversion to pure populism has been gradual. He ended all reforms in 2003, but he maintained a strict fiscal policy until the end of 2008. In 2009, when the G-20 endorsed stimulus to reverse the economic downturn, Russia implemented the biggest stimulus of all the major countries in the world: The budget balance swung from a surplus of 4.1 percent of GDP in 2008 to a deficit of 5.9 percent of GDP in 2009. Putin and Kudrin had a big public dispute over the pension hikes in 2010, which were motivated by the presidential elections in 2012. In recent months, Kudrin has persistently protested that the Russian budget needed an oil price of $125 per barrel to reach balance. He thought that Russia had to be prepared for a price of $60 per barrel, a sensible approach given the prospect of a further global economic downturn. Admittedly, Russia has large currency reserves of $545 billion, but inflation lingers at a high 8 percent, and the economy is highly dependent on global commodity prices, so the large reserves are needed.

Ironically, Kudrin, the only Russian minister that seems both strong and decent, is the first minister to be sacked by President Medvedev. The signal to the Russian elite rings loud and clear: Do not show responsibility! An editorial in the business daily Vedomosti notes that "experts already forecast a new wave of capital outflow, a fall in the exchange rate of the ruble, and increased inflation." Private capital outflows were $31 billion in the first half of 2011.

Regardless of who replaces Kudrin, he or she is unlikely to combine Kudrin's economic knowledge, strength, and closeness to Putin. His departure is a big blow to Russia's economic policy and future. The outstanding economists Sergei Guriev and Aleh Tsyvinski comment in Vedomosti that Kudrin's resignation "shows that the current political and economic system is arriving at a dead end faster than we anticipated."

The farce about the foreordained election of a new president has now ended in tragedy. We can be grateful to Putin for having made things so clear to us. By effectively reappointing himself president, he has abandoned all democratic pretense and made clear that he has been ruling all along. But he has also made it obvious that he has been responsible for everything that has taken place, and will be responsible for the almost inevitable decline that lower oil prices sooner or later will bring about.

Given that Putin has had forgettable nonentities such as Mikhail Fradkov and Viktor Zubkov as prime ministers, his planned appointment of the compliant Medvedev as prime minister would appear logical. Kudrin would have marked a surprising and positive discontinuity. Corrupt authoritarian regimes hardly ever reform themselves under the same ruler.

For the last several months, Moscow policymaking has been stalemated as officials have positioned themselves for a new configuration of top office holders. Hopefully, Putin's early declaration of his intention to return to the top position at the Kremlin will restart policymaking and end the stalemate. One positive consequence may be that Russia finally takes the last small steps to conclude its accession to the World Trade Organization (WTO), because it is clear that Putin has approved of this, but apparently he would not allow Medvedev to shine by completing it. Yet, Russia's WTO accession should not be seen as a serious signal of reform, just elementary common sense.

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Anders Åslund Former Research Staff

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