Putin panicking on Russian economy

Most educated people understand two simple facts about central banks.  They can increase or decrease the national money supply by raising or lowering the "discount rate" they charge banks to borrow from the treasury, and they need to be independent so that decisions about the money supply are based on economics, not politics.

People who are a little bit more knowledgeable also understand that the risk of increasing the money supply to promote economic growth and job creation by making it easier for businesses to get loans is consumer price inflation.  The supply can be increased only just so much before prices begin to rise dramatically as more dollars chase the same number of goods and demand begins to fall, undercutting the purpose of the increase in the first place.

This little recitation may seem boring and pointless to you if you're one of those educated folks, but the world learned recently that the latter two of these three basic facts have yet to become fully accepted in Russia.  On April 22nd, Russia's "prime minister" Vladimir Putin stripped away the independence of Russia's central bank, essentially ordering it to lower interests rates from 13% to 12.5%.  At the same time, he ordered banks not to charge more than 16% for money they borrowed at the new discount rate.  The level of interest necessary to motivate loan transactions with the Central Bank, in double digits, is of course startling to Westerners and offers a succinct insight into the perils and flaws of the Russian economy.

Rory McFarquhar, a senior economist at Goldman Sachs, summed up the only possible conclusion to be drawn from Putin's bully tactics:  "An unfortunate episode, dispelling any semblance of central bank independence."  Blogging as Streetwise Professor economist Craig Pirrong at the University of Houston was shocked by Putin's behavior.  To him, it read like the last act of a desperate man.  Not only does Putin lack any economics or business credentials (he's a career KGB spy), not only was he violating basic principles of economics, but he was also flouting the advice of his own Finance Ministry, led by Alexei Kudrin, one of the most respected figures in Russian politics, which has clearly indicated that Russia's double-digit consumer price inflation is currently its number one problem.  

In one breathtaking stroke, Putin has obliterated one of the very last remaining vestiges of pluralism in Russia, its independent central bank.  He has done so without any apparent involvement by the "president" of the country, Dmitry Medvedev.  He does indeed look, for all the world, like he is panicking.

If he is, he has plenty of good reasons to do so. Last week saw a truly amazing series of economic disclosures about Russia.  A ten percent fall in GDP in the first quarter of the year.  Double digit unemployment and inflation (on pace to post 18% by year's end), both rising simultaneously, a rare perfect storm of economic calamity.  The budget's emergency cash reserve is on the verge of total exhaustion.  The Finance Ministry warned of the need to make massive budget cuts next year, as much as 30%, to compensate for plunging tax revenues.  Revising its economic forecasts, the International Monetary Fund said Russia will be the second-worst-performing major economy in the world this year.  The price of oil, and the value of the ruble began moving in tandem, as if the ruble no longer had any independent existence and had become totally enslaved by crude. 

No economist, anywhere in the world, would approve cutting the Russian Central Bank's discount rate unless inflation were under control; otherwise, doing so is like throwing gasoline on a fire that is already out of control, and as Pirrong explains in his post, there is no scientific reason to believe inflation will fall, every reason to believe it will skyrocket.  Yet, Putin issues a decree and Russia ignores reality. If Russia's Central Bank is not reliable, then its currency is not reliable. If the currency is not reliable, then the nation is not reliable.  But Putin doesn't seem to care.  In the face of protesters in Russia's Far East regions calling him "Putler" and asking that he be sent into space, he appears desperate to stave off massive social unrest by doing whatever he can to promote a short-term lessening of the most vicious aspects of the economic downturn, heedless of the long-term consequences.

Putin even went so far as to order that unemployment statistics be kept as state secrets on a monthly basis and released only quarterly.

But with all that said, I'm not sure Putin is panicking. I'm worried, in fact, that something far more malevolent is afoot.  I don't think Putin understands enough about economics even to know that he should be panicking, and I don't think he cares enough about the fate of the Russian people to do so even if he realized the need.  In fact, I think Putin enjoys having a sick, poor, ignorant population to rule over, because such people are much easier to control than healthy, wealthy informed individuals. Instead, I think Putin's action in taking control of the Central Bank is a message. Putin is saying:  "See, I can do anything.  You can't stop me."  It's also a test:  "Can I get away with anything? Will anyone try to stop me?"  He is, I fear, laying the groundwork for his return to formal power as an absolute ruler, obliterating the very last vestiges of pluralism that remain to check his power.

Putin, in other words, is on his way to becoming Russia's second Stalin.  The Kremlin now appoints the governors of Russia's states, and will soon be able to fire the mayors of its cities.  It operates the only viable political party, the national television stations, and the major newspapers. It is in the process of declaring the Internet a "strategic sector" of the economy just like fossil fuels, subject to draconian regulation. Russia's Google has already capitulated.  And now, it decrees not only monetary policy but commercial interest rates.  As those who paid attention during the Beijing Olympics know full well, Putin's regime stands to attention at the melody of the national anthem of the USSR, a tune written to glorify Stalin.

Russia, in other words, is on its way to becoming the second Soviet Union.

Kim Zigfeld blogs on Russia at La Russophobe and writes the Russia column for Pajamas Media. She can be reached by e-mail at larussophobe@yahoo.com.
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