Will Russia Grow?

CAMBRIDGE: Now that President Yeltsin is reelected, will Russia grow? With a democratic government, highly educated workforce, vast natural resources, and increasing political stability (though the sacking of General Lebed gives one pause here), it should. Moreover, Russia has completed the three crucial steps of economic liberalization: it freed prices, privatized most of the economy, and finally conquered inflation. A closer look, however, reveals grounds for concern.

Growth comes from either the formation of new businesses or the restructuring of privatized firms. In most transition countries, new business has been the engine of growth. The spectacular recent growth of China and Poland came largely from new firms. Growth in privatized or state firms is much harder to achieve, though restructuring is critical to the transition. Until now, corruption, predatory taxation, and distortionary interest rate policies have stood in the way of Russian growth. For it to come, Yeltsin must act in all three areas.

Russia lags behind other fast reformers in small business formation. According to the European Bank for Reconstruction and Development (EBRD), at the end of 1995 Poland had some 2 million small private businesses, compared to only 1 million for Russia, with a population four times larger. Even if we allow, as the EBRD does, that Russia has another 2 million unregistered private businesses, it is still far behind Poland. Why?

Surveys of shop managers in Moscow and Warsaw show that the reason lies in the anti-business, predatory policies of local governments in Russia, compared to a more favorable stance of local authorities in Poland. Corruption, bureaucratic delay, excessive regulation, and even a failure of basic police protection are a bigger problem in Moscow. It takes 3 months to register a business in Moscow, compared to less than 1 month in Warsaw. An average Moscow shopkeeper is visited by 19 inspectors (who issue fines 83% of the time) each year. Warsaw shopkeepers are visited on average by only 8 inspectors annually, and are fined only 46% of the time. Moscow shopkeepers say they "sometimes" need to bribe officials to do business; Warsaw shopkeepers need to bribe "rarely." Most dramatically, 76% of Moscow shopkeepers report that one needs a "roof" -- the term for protection by a racket or powerful figure -- in order to operate. The comparable number in Warsaw is 6%. Warsaw, of course, does not have a perfect government, but certainly one more successful at discharging its functions than Moscow's government.