Russia's Transformation Efforts at a Turning Point -- Address by Michel Camdessus
March 29, 199595/5 Address by Michel Camdessus
Managing Director of the International Monetary Fund
at a Conference of the U.S.-Russia Business Council
Washington, D.C., March 29, 1995
Ambassador Strauss, ladies and gentlemen ... It is a great pleasure for me to participate in this conference and to speak to you about Russia's current economic situation and prospects, from the standpoint of the IMF. I particularly welcome this opportunity because I believe that Russia's efforts to transform its economy--which began, Ambassador Strauss, during your distinguished tenure in Moscow--may now be close to a turning point we have all been hoping for. Following my visit to Moscow earlier this month, I am planning to recommend to the Executive Board of the IMF, within the next few days, the Russian authorities' policy program for 1995, because we see in it not only a meritorious stabilization effort for 1995, but something much more fundamental. And I am confident that the Fund's membership will decide next month to support this program with a conditional commitment of loans amounting to roughly $6.6 billion over the next twelve months. This will be larger than any amount previously committed to Russia by the IMF. I want to tell you why I believe this program deserves not only this support from the Fund but also commensurate support from the rest of the international financial community, and why I believe this program promises to bring a turning point in the Russian economy.
Let me first say a few words about the background. For more than three years now, the IMF has been helping Russia's efforts to stabilize and reform its economy and to establish the conditions needed for sustainable growth in output and living standards. This has not been an easy ride; but in spite of the many negative reports we receive about disruptive developments of many kinds, we should not lose sight of the fact that there have been fundamental changes in the right direction, and that substantial progress has been made in freeing the economy and in implementing structural reforms. Prices have been largely freed of controls; the exchange rate was unified at an early stage, and the exchange system has been liberalized; and imports are now almost entirely free of restrictions. In the area of privatization, Russia has been a leader among countries in transition, and as much as half of output and employment is now generated in the private sector. Important and, I think, irreversible progress has been made on all these fronts. The IMF is proud to have been associated with these achievements, through financial support that has amounted to $4 billion, through policy advice, and through extensive technical assistance in our areas of expertise.
But in many areas, as you also know too well, progress has been disappointing. Progress in enterprise restructuring has been slow; banking supervision has remained weak; a wide range of controls have remained on exports; and there has been little reform of the social safety net. And most fundamentally of all, macroeconomic stabilization has yet to be achieved. On the basis of the program supported by the IMF last year, inflation initially fell faster than envisaged, to a low of around 5 percent a month last summer; this was the lowest inflation rate seen in Russia since transition began. But then, following a loosening of fiscal and monetary policies, inflation climbed again, to above 15 percent a month at the end of the year. And the same loosening of policies contributed to a further collapse of the ruble and a depletion of international reserves.
This lack of sustained progress toward macroeconomic stability has been tremendously disruptive, and has limited the benefits of the progress made with policies on other fronts. Confidence has been undermined; domestic saving and investment have been discouraged; capital flight has continued; economic activity has still not begun to recover; and the poor, particularly among the elderly, have suffered very severely from the ravages of rapid inflation and deep recession. All this has brought home with great force and clarity a message already obvious from the experience of many other economies in transition: inflation must be brought down if Russia is to achieve the turnaround in output and the sustainable growth it so badly needs. This message is now at the core of the strategy of the Russian authorities, as you will see if I quote from President Yeltsin's address to the Federal Assembly last month. President Yeltsin said: "This year we are to build a bridge from our inflationary past to our investment future. If we don't do this, it will be an unpardonable waste of time... The main start-up condition is financial stabilization and the strengthening of the ruble... The target for 1995 is to substantially reduce inflation and to make it predictable. If we meet that condition, we will be able to actually begin shaping a potential for economic growth."
Russia in early 1995 has therefore been faced with a challenging and urgent agenda--of reforms still to be implemented, and stabilization still to be accomplished. The program for 1995 on which Russia is now embarking, with the support of the IMF, is designed precisely to make decisive progress in tackling this unfinished agenda. What does the program entail? And why, after the disappointments suffered in 1994, and the earlier disappointments of 1992 and 1993, do I believe that this program deserves the support of the international community?
When I tell you about the program's three main elements, I am sure you will agree that it is ambitious, strong, and comprehensive.
First, the program aims for a sharp and decisive reduction of inflation to an average of 1 percent a month in the second half of this year. This is a steep decline indeed from the monthly rate of 17 percent with which the year began. If it is achieved, inflation in Russia by the end of the year will be comparable to the best performance we have seen in the transition economies of Europe and the former Soviet Union. In fact, the decline has already begun: following a marked tightening of monetary policy since late 1994, inflation last month was down to 11 percent. But there is much further to go. The program requires that this tight monetary stance be maintained, with no direct central bank lending to the government and no net lending to banks. This tight credit policy will not only reduce inflation, but also, of course, help to stabilize the ruble and contribute to a rebuilding of international reserves.
The second main element of the program is a sharp reduction in the fiscal deficit. In fact, the federal deficit is programmed to be virtually halved in 1995 compared with 1994. This is a very substantial retrenchment; but it is essential, if the inflation target is to be achieved without an intolerable rise in real interest rates and a credit crunch on the private sector. It will require large cuts in real expenditure. It also requires significant revenue measures, which will appropriately be concentrated on the energy sector--which up to now has contributed relatively little to revenues--and on improving compliance and reducing the tax exemptions and privileges that have proliferated in recent years.
Third, the program for 1995 addresses the unfinished agenda of liberalization and structural reform. Remaining controls on prices and profit margins will be eliminated, except for certain monopolies, which are mainly public utilities. The final steps will be taken in the liberalization of the export regime, and these will have a particularly significant impact on the oil market. Following the abolition of oil export quotas at the beginning of this year, the authorities under the program are committed not to replace them with other restrictive measures. A liberal system of access to oil export facilities will be introduced and monitored closely; and government procurement of oil will be based on competitive tenders. These measures, together with the abolition of the system of special exporters of strategic goods (including oil) should help move domestic oil prices toward world levels, eliminate discriminatory treatment, and ensure a level playing field for all producers. Foreign investors in the oil sector should, I believe, welcome these measures. Also under the program, measures will be taken to reduce the dispersion of import duties; the privatization program will be reinvigorated; land reform will be accelerated; and comprehensive reform of the social safety net will begin in order to enhance its efficiency in assisting the most needy without jeopardizing the fiscal targets.
I am sure you will agree that this program for 1995, designed in close collaboration with the Fund in discussions over many months, is appropriately ambitious and comprehensive, given Russia's need for a turnaround. If it is fully implemented--and I underline those words three times--we expect that after more than four years of steep decline, economic activity in Russia will at last turn toward growth during the latter part of this year. But there, you may say, is the problem--"if it is fully implemented"! Given our experience in the past three years, what basis do I have for suggesting that this is at all likely? A pertinent question indeed. I would be the first to recognize that the program presents formidable challenges for the Russian authorities, not least in view of the strong pressures that will no doubt continue to be exerted by powerful sectoral lobbies. Nevertheless, in spite of the difficulties, I am positive about this program, mainly for two reasons.
First, the authorities are cooperating with us to protect the program under especially stringent IMF conditionality. This includes strong and wide-ranging prior actions that have been implemented in recent weeks, in advance of any disbursements by the Fund in support of the program. Among these prior actions are the elimination of most foreign trade exemptions and increases in energy taxation. And apart from these prior actions, the Fund's conditionality also entails especially close monitoring arrangements. These will include monthly reviews by the Fund's Executive Board of performance under the program, which will provide the basis for establishing Russia's eligibility to draw on the facility. This is apart from the more usual quarterly performance criteria. In addition, the Russian authorities are putting in place arrangements to ensure adequate coordination of policy implementation among agencies on their side, and IMF staff will be working closely and continuously with officials in Moscow to review developments and progress under the program.
What is remarkable here is that the government has decided to impose this stringent discipline upon itself: these monitoring arrangements are above all an indication of the government's willingness to maintain with the utmost determination its commitment to policy discipline. And this brings me to my second point: I am convinced that there is a new commitment in Moscow to make now the sustained effort that is required to achieve the turnaround that is needed. This will require tough decisions. But we have already seen clear evidence in recent policy actions by the government and the central bank of a willingness to take such decisions. I am impressed, for example, by the way in which the government successfully contained pressures to raise expenditures during the prolonged parliamentary debate on the budget. And I am also impressed by the commitment to monetary discipline at the central bank. Success will require such firmness to be maintained, and on my recent visit to Moscow I was reassured by President Yeltsin and Prime Minister Chernomyrdin as well as by other cabinet ministers and the head of the central bank that the necessary commitment is there. I was particularly impressed when President Yeltsin told me that after the opportunities missed twice in the past two years, the government cannot afford to fail this time. By way of illustrating his resolve, he told me there is a long queue of people seeking special treatment, and that he is giving them all the same answer: nyet.
It is equally clear to me that the authorities recognize that however well-designed the program and however strongly it is implemented, a key ingredient of success--the confidence of investors, Russian and foreign--will just not be there, and the investment needed will remain elusive, unless the government is more effective in providing security and in enforcing law and order. In all the nascent democracies and market economies, not only do the size and role of government need to be reduced further, but government at the same time needs to be improved in many areas where only the government can do the job--including establishing and enforcing the framework of law, and repressing abuses. The authorities in Russia know that no task is more urgent.
Ambassador Strauss, ladies and gentlemen: the strength of Russia's economic program, and the Russian authorities' commitment and determination to carry the program through, form the basis of my judgment that Russia's transformation efforts may be close to a turning point. If this program is fully implemented, there are good reasons to hope that growth will begin in the course of this year; and if sound policies continue to be maintained in 1996 and beyond, there is an excellent chance that Russia will achieve rapid growth, of perhaps well over 5 percent a year, over the next decade. Of the IMF's 25 member countries in transition in Europe and the former Soviet Union, more than 10 have already turned their economies around and are now seeing economic growth. The addition of Russia to the list of growing transition economies is now overdue. The achievement of sustained growth in Russia is of unquestioned importance for the whole world, and it will require consistent support from the international community over the next few years. The IMF will continue to play its part, in collaboration with the World Bank, the EBRD, and other international financial institutions. But Russia will also continue to rely on national governments to provide bilateral financial support and to ensure that their markets are open to Russian exports.
Even more important in a longer term perspective as we look ahead, the business communities of the United States and other countries trading with Russia have a vital role to play by pursuing their profit opportunities. Russia has a vast productive potential that the private sector can unlock to the benefit of Russia's people and the world. My fervent hope is that Russia is now close to establishing the conditions that will enable this regeneration to begin in earnest.
Let me in concluding touch on what is perhaps the most difficult question of all. How much weight can we give to the promise of the program for 1995, and of such efforts by the Russian authorities, when we are confronted almost daily by reports of crime and corruption, and political fights among sectoral lobbies, not to mention the Chechnya tragedy and the dangers arising from that? All these negative elements pose enormous risks for the economy and for democracy as well. Should we, then, delay our response? No, because our role at the IMF is not to wait for all such risks to be eliminated before taking action, but even in chaotic circumstances of history to sit down with the authorities of a member country and see how we can help put in motion a process of sustainable progress toward durable, high-quality growth. It is our role to give confidence to our member countries. And this is what we have been trying to do in the case of Russia--first, to give confidence to the Russian authorities that such a program can be a major step toward stability and recovery; and now, we must try to convince all our other member countries that they can do a lot to contribute to that objective. Bearing in mind that more than half of the industrial and services economy of Russia is already privatized, and that the people working there are certainly not nostalgic for the past, nor inclined to make political choices that could jeopardize prospects for a growing market economy, we think that to support such efforts--without complacency but with determination--is not only our duty but also the only reasonable strategy. Not a strategy without risks, indeed, but surely a strategy less risky than refusing to support the efforts of the Russian reformers at such a crucial time for their country, at such a crucial time for the world.