No Repeating the Miracle of 1998

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In the same way that generals prepare by analyzing past wars, economists and politicians prepare by analyzing past economic crises. On the whole, this makes sense because we know what happened in the past, and we can analyze only what is known. Despite this preparation and analysis, nations continue to repeat the same blunders and have been hit repeatedly by the same economic crises over the past 100 years.

During the economic boom years when the price of Russia's main exports of oil, gas and metals hit unprecedented highs, many economists and politicians occasionally posed the question: What will happen when this boom turns into a bust?

It was clear that it would have a disastrous effect on the federal budget. But it was not perceived as being potentially fatal to the country's economic growth because there is a natural flip side to a crash in natural resources' prices -- a drop in the ruble, which would in turn lead to increased competitiveness for goods produced domestically and for import substitution.

To put it another way, everyone was expecting a repeat of Russia's quick economic rebound from 1999 to 2001 after the 1998 default and ruble devaluation. The problem with this analogy is that this crisis is much different from the 1998 crisis for four main reasons.

First, the Russian economy in 2008 was operating much closer to full capacity than in 1998. The abundance of unused capacity in 1998 provided a powerful stimulus for economic recovery, especially in the private sector, and this was accomplished with practically minimal capital investment. Political and macroeconomic stabilization starting in 1999, coupled with a sharply lower ruble, was enough to spark a quick economic rebound. Ten years later, new investment is much more badly needed to revive the economy. But investors are nervous about getting back into the Russian market. Meanwhile, high interest rates -- about 12 percent -- further stifle investment.

The second factor is the global character of the current crisis versus the more localized nature of the 1998 crisis. The Asia crisis started in 1997. Then it hit Russia in 1998 and finally reached Brazil and Argentina in 1999 and 2000. The key difference is that these series of crises were relatively short, and they hit each successive country separately, generally starting in one region only after it had lost force in the previous one.

Third, the current devaluation of the ruble is less severe than it was in 1998. Then, the exchange rate went from 5.3 rubles to the dollar to 21 rubles in only a few weeks. This time around, however, the ruble's fall was not only spread out over a longer time period -- from late 2008 to early 2009 -- but the fall itself was less dramatic, dropping by only 40 percent. But this means that the current crisis won't receive the same boost to the economy that the sharp 1998 ruble drop provided in 1999, 2000 and 2001.

Fourth, the currencies of almost all of Russia's major trade partners in Eastern Europe and other former Soviet republics fell in value against the U.S. dollar more or less to the same degrees. This means that their goods also became more competitive, and Russia's commodities were therefore left with no significant comparative price advantage. What's more, the ruble fell less in relation to the euro than to the dollar. This diminished the potential benefit since a significant portion of Russia's imports is purchased in euros.

These arguments do not mean that a lower exchange rate will not exert a positive influence on the economy. Benefits of the weakened ruble have slowed the pace of the recession, and we have already seen increased activity in February and March among some firms operating on the domestic market.

The 2009 devaluation has proven far less capable of producing the same benefits to the economy as it did a decade earlier. We can no longer hope for a repetition of the "1998 Miracle." The conclusion is simple: Russia cannot achieve the strategic tasks without a fundamental modernization of its economy. And that reformation must be started now in the midst of a global crisis.

Vladimir Mau is rector of the Russian Academy of National Economy. This comment appeared in Vedomosti.