In a recent blog, our colleague Birgit Hansl adds her voice to the chorus of economists warning us of Russia’s coming deceleration. If she is right, this is especially bad news for Russia. If the recent past is an indicator of what may happen; this looming slump will have dramatic effects on the structure of the economy.
A slowdown in Russia means a wiping out of gains made during booms. Russia’s economy has experienced several booms and busts in the recent past. We found that young firms, even if they are efficient, were more likely to die off during a slump. Not so for incumbents. They had staying power independent of their relative efficiency. So much for the new blood that the economy needs to diversify!
Russia's economy is concentrated and dependent on the extraction of natural resources. Recent trends are not promising. Growth in Russia has been limited to a few sectors and to a few firms. Russia is much less diversified today than it was during the Soviet Era, both within and across sectors. The bottom quartile of the manufacturing sector, ranked by operating revenue, contributes 0.6 percent of total manufacturing output while the top quartile contributes 80 percent. In addition, the average share of output for the bottom quartile of firms (in terms of operating revenue) in a manufacturing sector is 0.06 percent while the share of the top quartile is 94.7 percent.
The extraction of natural resources depends on specialized inputs, assets and capabilities which are difficult to redeploy to, say, complex manufacturing products. It is often argued that without state aid, diversification will not occur because the economy just will do what it has done in the past. But is this true? Are new firms emerging? And if they are emerging, are they sticking around to form the basis for a more diversified economy? The answer is yes and no, respectively, but the nature of Russia’s output volatility has a lot to do with these answers.
Manufacturing output volatility in Russia is higher
Russian sector-level growth is more volatile, than comparable economies around the world. See Figure 1. The more extended spread of the box and the whiskers alongside indicate higher variances in growth rates.
Volatility in Russia affects nearly all manufacturing sectors. When things are booming, the boom is shared by nearly all. When things go bust, practically all sectors go bust. The relatively high level of concentration of output, across firms and sectors, exacerbates the problem.
Manufacturing output slumps are deeper and last longer
Russian surges have similar looking peaks and last about as long as those in comparator countries (Figure 2). The slumps look different, however.
Slumps are deeper in Russia. A Russian slump is likely to be characterized by higher negative growth rates than in other economies. Slumps last longer in Russia than in other economies as well. For slumps of less than 6 years (the horizontal axis), the probability (the vertical axis) of a slump persisting for another period is higher in Russia (the step–like line is above that of the other economies).
The staying power of new, relatively efficient firms (particularly during longer and deeper slumps) is the central economic issue for diversification in Russia. Our analysis shows that younger, more productive firms do not have higher odds of surviving slumps. During long and deep slumps, older firms, especially those facing less competition, are more likely to survive. Unfortunately older, less efficient firms in sectors with little competition are often not the champions of change and innovation that form the basis of diversification.
The emergence of new firms appears not to be the constraint to economic diversification in Russia. The main constraint is the poor odds of young firm survival during long, deep slumps. The staying power of hardened incumbents that have survived many surges and slumps, regardless of their efficiency, does not help the entrants’ odds of survival. Incumbents that are inefficient but can weather slumps hold on to resources that could be used by more efficient firms. From a policy perspective, the focus may need to be more on removing barriers to the survival of young, efficient firms during output slumps, rather than just promoting emergence. One thing is clear: More competition and a better business environment would help clear out the old and bring in the new!