In the last five years, the weight of state-owned firms in the Russian economy has expanded dramatically, leading some observers to speak of a reversal of market reforms. Such concerns are overstated. Neither the behaviour of Russian state-owned enterprises (SOEs), nor the environment in which they operate, recalls the pre-reform era. Indeed, much of the SOEs’ expansion reflects the commercial, profit-driven ambitions of their leaders rather than a coherent policy rationale. The government’s main challenge is not to ensure the microeconomic efficiency of SOEs, but to make sure that the SOEs’ expansion drive does not threaten its other priorities.
SOEs on a buying spree
According to researchers at Alfa-bank, in the middle of 2003 the Russian state owned stock worth about 20 percent of the capitalization of Russia’s stock market. By early 2007 the state’s share had risen to 35 percent (Grozovskii 2007). Much of the growth represented a buying spree by SOEs, especially oil company Rosneft and the natural gas monopolist Gazprom (OECD 2006, 38). Among the largest acquisitions were major assets confiscated from the private oil company Yukos in lieu of tax debts, purchased by Rosneft, which thus became the country’s largest producer of crude oil. Gazprom, for its part, purchased the private oil company Sibneft for $13 billion in 2005. In 2006 it agreed to spend over $7 billion buying a share of the Sakhalin II oil project from Royal Dutch Shell. In the banking sector Vneshtorgbank has acquired private rivals. Defence firms in aviation and shipbuilding are consolidating into large new conglomerates under state ownership. The state’s arms-export firm Rosoboroneksport has taken control of assets in metallurgy and auto manufacturing.
Back to the USSR?
Because privatization is so closely identified with economic reform, some observers have seen growing state ownership as evidence of a reversal of reform. However, such judgments obscure the shifts underway by implicitly associating contemporary SOEs with the rickety enterprises of Soviet-era ministerial bureaucracies that Russia privatized in the 1990s. Russia’s SOEs operate on international capital markets in ways that radically differ from the pre-privatization era. SOEs have borrowed huge sums on international markets to fund their acquisitions; Rosneft took on $22 billion of debt in early 2007 for the purchase of Yukos assets; Gazprom is seeking $12 billion in new financing for its entry into Sakahlin II and other purchases. Even though the majority of their shares are held by the state, all major SOEs view stock market capitalization as a crucial measure of their performance. Gazprom has liberalized circulation of its stock, unifying long-segregated foreign and domestic markets; with a capitalization of over $220 billion, it is now one of the world’s most valuable firms. Rosneft, Vneshtorgbank, and Sberbank have held initial public offers for a portion of their shares. On taking over carmaker AvtoVAZ, Rosoboroneksport prioritized repackaging ownership to capture stock market returns.
Their capital market activities force a certain level of transparency on the SOEs. They also invest a vocal constituency of profit-oriented lenders and minority shareholders with the power to hold hostage SOEs’ ability to raise finance. The eagerness of investors to lend money to and buy shares in SOEs may in part represent rational herd behaviour aimed at cashing in on a booming market. But this eagerness also suggests that investors view the risks associated with state ownership as insignificant.
Beyond raising general concerns about the microeconomic efficiency of SOEs, some observers have suggested that the slowing growth in Russian oil production since 2004 reflects state expansion in the sector. However, rapid oil production gains in the prior years were largely a one-off, short-term opportunity to use new technology to improve yields from mature fields discovered in the Soviet era. Gazprom and Rosneft seem to be managing their newly acquired oilfields no worse than Sibneft and Yukos did before them (Woodruff 2006).
Borrowing Up a Storm
Ironically, SOE expansion is creating the greatest challenges in areas where one might expect state ownership to confer an advantage–fostering a coherent set of priorities and a long-term focus. SOEs’ massive foreign borrowing is a primary example. When these loans are converted into roubles, the money supply expands, contributing to Russia’s core macroeconomic dilemmas of inflation and real exchange-rate appreciation. Borrowing has been especially intense recently. In the final quarter of 2006, foreign indebtedness of state-owned banks and other firms grew by $13.9 billion, nearly 19 percent. Capital inflows for 2006 reached a record $40 billion, a figure that was nearly equalled in the first five months of 2007 alone.
Russia’s Minister of Finance, Aleksei Kudrin, and other government officials have called for a slowdown in SOEs’ foreign borrowing, and have pushed state firms embarking on IPOs to seek capital from the rouble-holding public instead of relying solely on new funds from abroad. Macroeconomic factors limit how much incoming investment Russia can effectively absorb. The state must thus regard international financing as a scarce resource, and take steps to ensure that it is directed in line with long-term development priorities. At the moment, however, SOEs are directing these scarce resources not to production projects, but to empire-building acquisitions, saddling themselves with large debt burdens that could be a barrier to their subsequent development (Hubbard 1998).
Gazprom is the most important example. As gas consumption rises with economic growth, and as deposits in developed fields dwindle, the company will need to make large investments in new fields. But Gazprom has not made these investments a priority. Instead, it has raised capital to bring more assets under its control. Gazprom is presently poised to significantly widen its presence in the power generation sector, where assets are now being sold off as part of efforts to promote competition and attract investment. Despite objections from the state’s anti-monopoly organ, Gazprom is also likely to win approval for the purchase of coal producer SUEK, which would leave it controlling nearly 40 percent of the country’s coal output. Thus, Gazprom’s acquisitions threaten to undermine the competitive logic of the intricately crafted electricity sector reform.
In other sectors, however, SOEs do not threaten to reduce competition (to the extent that it exists to begin with). Banking has been dominated by state-owned entities since the 1998 financial crisis, and acquisitions by state banks do not significantly change the competitive balance in the sector. In automobile manufacturing, foreign companies are building significant new capacity. Private companies will likely continue to play a central role in the production and refining of oil. Nevertheless, in these sectors too, SOEs have concentrated on purchasing existing assets rather than on new productive investments.
Conclusion
In assessing the growth in state ownership of the Russian economy, the key issue is not the precise percentage of assets owned by the state. Indeed, this is likely to shrink in the medium term. Even though many energy-system assets will wind up under the control of Gazprom, others will pass to the private sector. Heavily leveraged SOEs are also likely to engage in additional share offerings to pay down their debts. This reversal, should it occur, would not resolve the major difficulties revealed in the SOE acquisition boom. Russia’s macroeconomic situation limits the volume of foreign investment it can accept without severe inflationary consequences. It needs to take steps to insure these funds are directed not to reshuffling ownership, but to productive investments for the long term.
So far, expanded state ownership has failed to accomplish this urgent goal. This may cast a long shadow over prospects for converting Russia’s current economic boom into sustainable development, the benefits of which are broadly distributed across different regions and social groups.
David M. Woodruff is Lecturer in Comparative Politics at the London School of Economics.
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