Taking a Brick out of BRIC
Russia doesn't belong in the same league as Brazil, India, and China.
(FORTUNE Magazine) - Ever since a team of Goldman Sachs economists coined the term "BRIC" in 2003--for Brazil, Russia, India, and China--this group of emerging-market countries has assumed greater importance in the international investment community's imagination. The firm's economists argued that, given sound political decision-making and good luck, the BRIC economies together could become larger than those of the world's six most developed countries in less than 40 years. In other words, the research predicted nothing less than a profound shift in the global balance of power.
One reason the BRIC idea resonated is that the term itself evokes building blocks, foundations, solidity. But a closer look at the political and economic peculiarities of the states in question suggests that BIC, not BRIC, is the better formula. Call them the "breakout industrializing countries." Russia is quite out of place with that crowd.
It's not that Russia won't enjoy strong GDP growth over the coming decades or that the country doesn't offer a number of attractive opportunities for global investors. But Russia's growth is based on (and limited by) quite different factors than exist in Brazil, India, and China.
When Vladimir Putin became President in 2000, Russia seemed a potential economic powerhouse. The country had enormous advantages over other developing states: a well-educated workforce, most of the former Soviet Union's assets, and enormous wealth in natural resources. Russia had survived the 1998 financial crisis and the first consensual transfer of power in centuries. Putin was saying all the right things about democracy, transparency, rule of law, and market access.
But it has become clear during his five years in office that Putin and his team have a quite different agenda. The Kremlin is less interested in opening Russia's economy to market forces than in leveraging the country's enormous resource wealth to consolidate state control of Russia's domestic politics and to restore Moscow's international influence. This strategy limits Russia's long-term economic growth potential in several ways.
First, the key assumption underlying the Goldman Sachs projection was that the BRICs would hit their long-term growth targets only if their political leaders committed themselves to "maintain policies and develop institutions that are supportive of growth." In the short term Russia has enjoyed a substantial economic upturn. Since the financial crisis seven years ago, GDP growth has averaged 6.4% annually. But Russia's current surge is based on high oil prices, not on growth-promoting institutions, leaving its economic health at the mercy of cyclical global energy markets.
Russia is the world's No. 1 exporter of gas and the No. 2 exporter of oil. Energy-related revenues account for more than 20% of GDP, which means that high oil prices have allowed the Kremlin to ignore the need to diversify the economy by enabling entrepreneurship and investment in non-energy-related research and development. Brazil, India, and China have neither Russia's oil and gas resources nor the temptations they offer to resist foreign investment and economic diversification.
Second, the Goldman Sachs forecast explicitly depends on growth in employment and on technical progress. Russia's unemployment rate remains in double digits, in part because corruption and bureaucracy ensure that small- and medium-sized businesses account for only 13% of Russia's GDP. And although the energy sector accounts for one-fifth of the economy, it provides only 1% of Russia's jobs. The reliance on oil and gas to satisfy the political demands of the moment makes it easier to ignore the need to invent new ways to diversify the economy.
Third, as the Goldman report notes, "openness to trade and foreign direct investment has generally been an important part of successful development." But when it comes to Russia's most profitable economic sectors, the Kremlin spends less energy and political capital on bridges to foreign investment than it does on building ring fences. In 2003, the year Goldman Sachs issued its report, FDI reached nearly $4.3 billion in India, $10.1 billion in Brazil, and $53.5 billion in China. Russia took in just over $1.1 billion. The difference can largely be explained by the fact that Russia has repeatedly shown potential international investors and consumers that politics will trump profits. Ask imprisoned former Yukos chairman Mikhail Khodorkovsky. Witness the fallout in Europe over Moscow's recent attempt to squeeze Ukraine by cutting gas supplies. It's always dangerous to use short-term trends to question the accuracy of long-term projections, but Russia's dependence on energy revenues and the Kremlin's drive to consolidate control of key economic sectors are highly unlikely to prove short-term trends.
China, India, and Brazil have, to varying degrees, emerged as potential economic powers. India has been slow to shed its protectionist economic model. Brazilian politics have been plagued by corruption. And it's possible that social unrest and pressures for political reform in China will create instability there, long before Goldman's growth projections become reality. But in all three countries, globalization is driving economic development and expansion.
Russia also has strong growth potential. But until the government enables economic diversification and treats foreign investment as an opportunity rather than a risk, it should be considered in a different category from Brazil, India, and China.
If Goldman's economists had wanted to include a state that has a powerful energy-driven economy, serious reservations about globalization, and centralized control of investment flows, resources, and political authority, they might well have chosen Saudi Arabia. On its face the suggestion seems absurd, yet Russia's long-term growth potential is limited by many of the same factors plaguing the Saudi kingdom.
The Goldman Sachs forecast has fueled intense interest in the inevitable shift in the balance of global political and economic power over the next half century. It has provided intriguing glimpses of a world no longer dominated by U.S., European, and Japanese interests. The BIC economies have enormous potential to alter the international landscape over the next generation. Yet the Kremlin's political choices are likely to stunt Russia's long-term economic development for many years to come.