Russia, as one of the biggest oil and gas exporting countries in the world, faces daunting challenges in the 21st century. The belief that Russia can prosper through its natural resources by supplementing the demand of the global energy market has been put to the test with the global economic crises in 2008 as well as the plummeting price of oil, which fell below the $50 per barrel mark in 2015. A sharp decline in earnings from oil, natural gas and other metals together with the sluggish energy demand in the world have resulted in Russia’s economic stagnation.
Russia’s over-reliance on its natural resources, which makes up over 50 percent of its federal budget, has made the country vulnerable to international fluctuations in energy prices. Nonetheless, given Russia’s extensive resources, its economy as well as its political future cannot be disentangled from its mineral wealth. Despite the fact that Russia has developed its economy by selling vast amounts of oil and natural gas reserves, the question has been raised as to whether the Russian economy has been inflicted by a ‘Resource Curse’. This issue is poignant as the Russian economy fails to thrive at a swift rate while those of countries poor in mineral resources prosper.
Russia, a country rich in mineral resources, suffers from weak institutions along with an absence of economic diversification, and as a result, the Russian government is likely to encounter problems with managing its natural resources and will likely face a Resource Curse. The Russian government can lessen the impact of such a curse by pursuing strategies such as economic diversification, and through efforts in maintaining its foreign direct investments (FDI’s) in the country, developing new plans to improve human capital stocks to meet the sectorial needs as well as reinforcing the accountability of the government for its actions.
Economic diversification is a necessary step to handle the Resource Curse because the domestic market is awash with a massive injection of foreign currency that stems from the exportation of mineral resources, oil and natural gas. The exchange rate of the Russian ruble did appreciate before the global financial crises due to the increase in foreign currency reserves, which arose from the sale of oil and natural gas. The IMF Russia’s economic report in 2007 suggested that an appreciated Russian ruble allowed foreign companies to benefit from low cost currency prices. This in turn saw difficulties for the manufacturing sector coping with international competition. As the IMF report pointed out, the growth rate of the manufacturing sector in Russia was sluggish; and the employment rate in this sector contracted. The report also indicated that the real exchange rate of the ruble appreciated 0.5 percent when the Ural’s oil price rose in 2007. Consequently, the manufacturing sector started to lose ground to rival international manufacturing companies. This excessive foreign currency eventually led to the agricultural, manufacturing and service sectors grinding to a halt because of international competition in the market.
Diversification of the Russian economy has been suggested as a main remedy to combat the effects of the Resource Curse since a heavy dependence on the resource sector would likely have a devastating effect on the entire economy if the price of oil falls sharply. The global oil price, which has dropped for the last several months, has put the Russian economy at risk and forced the government to take the initiative to diversify in order to mitigate the heavy toll on the whole economy. Sanctions, in particular, imposed by Western powers at the start of 2014, due to the country’s role in the Ukrainian crisis have also put the Russian government under immense pressure. To avoid potential catastrophe, Russia’s economic resilience inevitably needs to be strengthened.
Resource poor Asian countries as well as Poland have become internationally competitive by pursuing economic models adopting export-led growth and innovation. Similarly, Russia’s potential absorptive capacity should be re-assessed and a new investment road map should be drawn up to benefit from these catch-up growth models. Only through diversification can the non-resource sectors of the Russian economy be strengthened and become resilient to external energy price shocks.
Attracting Foreign Direct Investment (FDI) is another policy option that the Russian government has benefited from. According to the Global FDI Research Group, in recent years Russia has been one of the top three destinations in the world after the United States and China in terms of increasing its share of FDI’s. As of 2013, the amount of FDI’s climbed to $94 billion. Due to the annexation of Crimea and the ongoing conflict between Russia and Ukraine along with Western imposed sanctions, the Vienna Institute for International Economic Studies calculated that the total volume of FDI would eventually drop by 50 percent in the coming years. A precipitous drop in the volumes of FDI would be likely to stall the Russian economy because foreign companies would stop investing and producing goods and services for Russia, thereby causing irrevocable damage to the economy.
The Russian government can overcome the Resource Curse through implementing several policies: namely through diversifying the economy and attracting FDI’s according to sectorial needs. More importantly, the government should establish a market friendly, functional economic model, which is secure and transparent for both foreign and local investors.