PUTIN′S REGIONAL POLICY AND ITS IMPACT ON THE

POLITICAL ECONOMY OF PARTIAL ECONOMIC

REFORM IN RUSSIA′S REGIONS

Author: Christian Ganske

Abstract

This paper aims to analyze the political economy of economic reform in post-Soviet Russia′s regions under Yeltsin and Putin, to identify reasons why and how reforms became stalled during the 1990s and how the state of partial reform has been broken up under Putin by federal policy towards the regions. The research is based on a review of the relevant scholarly literature, analytical reports, articles from newspapers and newsletters, and e-mail conversations with specialist on particular aspects of the research topic. The major findings of the paper are as follows: Russia′s transition towards the market in the 1990s was stalled by regional governments and business elites, which, in the absence of a strong federal government, forged strong distributional coalitions. The incentive structure responsible for this halt of the reforms has not substantially been changed by Putin′s federal reforms which merely established an additional administrative layer between the federal and the regional level. Instead, the state of partial economic reform has been broken up by structural reforms (reform and re-centralization of the fiscal system, reform of electricity and de-bureaucratization), together with a recentralization of law enforcement structures and rising investment into regional assets by Russian big business.

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Table of Contents

Introduction 4
Chapter 1 ­ Governance and Economic Change in Russia′s Regions under Yeltsin 8
1.1 The Rise of the Regional Elites and Fall of the Federal Center 8
1.2 Privatization of large-scale Companies 10
1.3 The Federal Tax System and its Impact on Economic Change 11
1.4 Regional Governments and Economic Policy 13
1.4.1 Protecting Large Regional Enterprises 14
1.4.2 Price Liberalization 15
1.4.3 Small-scale Business 16
1.4.4 Land Ownership 17
1.5 Conclusion 17
Chapter 2 ­ Putin′s Federal Reforms 19
2.1 The Establishment of Seven Federal Districts 19
2.1.1 Harmonizing Regional Laws with Federal Legislation 20
2.1.2 Coordinating the Federals 21
2.1.3 Intervening in Regional Elections 23
2.1.4 The Envoys′ Relations with the Governors 24
2.1.5 The Envoys′ Engagement in Economic Policy Issues 26
2.2 The Reform of the Federation Council 28
2.3 Firing Governors and Disbanding Regional Legislatures 30
2.4 Governors to be appointed by the President since 2005 31
2.5 Summary 33
Chapter 3 ­ Federal Policy Initiatives 36
3.1 Recentralization of Law Enforcement 36
3.2 Fiscal Recentralization 38
3.2.1 Expenditure Assignments and Budgetary Responsibilities 39
3.2.2 Revenue Assignments and Tax Reform 40
3.2.3 Changes in Intergovernmental Transfers 42
3.2.4 Federal Control over Subnational Budgets 43
3.2.5. The Impact of Fiscal Recentralization 43
3.3 Reform of the Electricity Sector 44
3.4 Legislation on Debureaucratization 47
Chapter 4 ­ Rising Investment in Regional Assets 50
by Russian Big Business 50
4.1 Breaking Up the Fraternity of Governors and Regional Economic Elites 51
4.2 Strategies of the Regional Elite 52
4.3 Political Strategies of Big Business 54
4.4 En Lieu of a Conclusion: Scenarios of the Regional Political Economy 55
Conclusion 58
Bibliography 60

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INTRODUCTION

Post-Soviet Russia′s economic transformation from a planned economy to a proper market economy is arduous and not yet completed. Although reform policies were launched by the federal centre (price and trade liberalization, monetary stabilization, privatization), these policies could only incompletely be implemented, due to resistance from stakeholders who benefited from the state of partial reform. Such stakeholders are, for example, insider owners of former state enterprises who stripped assets rather than invested in the enterprises, the commercial bankers who obstructed macroeconomic stabilization in order to benefit from arbitrage in distorted financial markets, but also state officials who prevented the creation of a functioning state administration in order to keep opportunities of rents from corruption and embezzlement. Joel Hellman was one of the first political scientists who shed light on the role of these early winners of partial economic transition in blocking further reforms.1

A special characteristic of post-Soviet transition in Russia is the process of regionalization. Beginning during Perestroika and continuing after the break-up of the Soviet Union, political and economic power and competencies shifted de facto from the state centre to Russia′s 89 regions. Regional elites increasingly became self-confident and pursued their own interests against the centre. In most regions these elites were a close fraternity of local political, industrial and financial leaders organized in informal networks inherited from Soviet times. During the privatization process, they gained control over property in the regions.

Symptomatically, the interests of regional elites frequently obstruct economic reforms on the ground.2 Thus, according to Hellman′s theoretical concept, regional elites can be included in the category of early winners of transition blocking further reforms. Although economic reformers in the Yeltsin era eventually achieved macro-economic financial stabilization, the important micro-economic structural reforms largely failed either to

^{1 Hellman, Joel S. "Winners take all. The Politics of Partial Reform in Postcommunist Transitions." World Politics 50, 1 (January 1998): 203-34.}

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be brought onto the reform agenda or to be implemented. Russia′s financial crash in August 1998 was partly the result of neglecting structural reforms, as well as of the still-incomplete macro-stabilization which was completed only when the budget was brought under control in 1999.

Again, regional governments were one of the main political stakeholders opposing the implementation of necessary structural reforms. Therefore, it can be argued that progress in Russia′s economic transformation towards a market economy depends inter alia on a weakening of the economic and political power of regional elites. Or more moderately, at least it is necessary to change the incentives for regional elites that in the past caused them to obstruct economic reforms. The regional reforms launched by President Putin in May 2000 can be understood as an attempt to weaken the power of the governors. The predominance of regional executives over political and economic life in the regions was to be broken up by re-establishing a "power-vertical". First, seven federal districts have been created each headed by a presidential representative. Secondly, a new recruitment system for the members of the Federation Council has been introduced. Thirdly, the President has the right to fire governors and disband regional parliaments that repeatedly (seriously) violate federal laws or refuse to adapt regional laws to federal legislation. Most recently, since January 2005, the governors are no longer elected by the people, but instead they will now be appointed by the President and confirmed by the regional assemblies.

Besides the regional reforms, other policy initiatives have also been launched by the federal centre that could have a real effect on the economic power base of the regional executives. The federal centre is trying to regain control over law enforcement organs in the regions. The fiscal relations between the centre and the regions have been altered in favor of increased central control and larger centre-regions transfers.

^{2 Nicholson, Martin. Towards a Russia of Regions. London: RIIA, 1999. p. 29.}

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The pursuit of liberal reforms by the centre generally has consequences for the political economy in the regions. Legislation on de-bureaucratization has been adopted in order to make life easier for small firms suffering from the harassment and bribe-taking of regional bureaucracy. A reform of the electricity monopoly is envisaged that could diminish governors′ opportunities to conduct independent economic policy by subsidizing inefficient regional enterprises with low electricity prices. Housing reform has been undertaken that deprives regional officials of some other rent-seeking opportunities.

Meanwhile, another development is occurring, not as a result of government policy, which may be changing the economic order in the regions. Large, national-scale Russian firms are buying regional assets. This is having an impact on the relationship between regional firms and regional politicians, and subjecting those regional firms to more efficient management.

In the light of these changes in the relations between the federal centre and the regions, this paper shall investigate how the capabilities of regional executives to obstruct economic reform are weakened and how incentives to do so have changed under the Presidency of Vladimir Putin. I argue that, in contrast to Putin′s initial ambition, the federal reforms as such (recreating the power-vertical) are relatively ineffective in breaking the preponderance of the governors and overcoming the state of partial reforms in Russia′s regions. Instead, it is the structural reforms (reform and recentralization of the fiscal system, reform of electricity and debureaucratization), together with a recentralization of law enforcement structures and rising investment into regional assets by Russian big business, which are weakening the capacities of the governors to obstruct further economic reforms.

The paper is structured as follows: in chapter one, it will be analyzed how regional governments got control of regional economies and how they obstructed economic reform and transition to the market during the 1990s. In chapter two, the impact of Putin′s federal reforms on subnational governance will be explored. In particular, the institution of the seven federal

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representatives and its impact on the power of the regional executives will be investigated. The third chapter turns to other political initiatives launched under Putin, which have an impact on the power of the governors: law enforcement, fiscal recentralization, reform of the electricity sector, and legislation on debureaucratization. Chapter four examines how the acquisition of regional assets by national-scale firms changes the political economy in the regions. The conclusion sums up the findings and assesses the prospects of economic reforms in Russia′s regions.

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CHAPTER 1 ­ GOVERNANCE AND ECONOMIC CHANGE IN RUSSIA′S REGIONS UNDER YELTSIN

This chapter deals with the regionalization of political power and its consequences for economic change in Russia′s regions in the 1990s. The mechanisms by which regional elites gained power and pursued their own economic policies in the regions will be explored. A brief overview on the characteristics of centre-regions relations will be given and the outcomes of the privatization process in regions and the impact of Russia′s peculiar fiscal federalism on the political economy in the regions shown. The question of how the governors used their leeway on the regional economy to conduct their own economic policies will be explored. The main findings circle around how and why regional political and economic elites forged coalitions to distribute the few economic fruits instead of daring further liberal and structural reforms which would have threatened their control over the regional economy.

1.1 The Rise of the Regional Elites and Fall of the Federal Center

A retrospective view of the late Soviet period is necessary to understand why regional administrations and the local business elite have a close relationship. Regional officials had close ties with local enterprise directors and used their influence to exercise discretionary power to organize the economic and social functioning of their region. Enterprises that were situated in the region, even if they were not officially subordinated to the local party commission, provided important resources such as funds, material, labor, socio-cultural institutions, social welfare facilities (support for clinics and schools) and housing.3 The enterprise managers, though not necessarily part of the regional party Nomenklatura, were effectively brought into the regional elite. After the collapse of Communism, in the regions,

^{3 Slider, Darrell. "Regional Aspects of Privatization in Russia." In Beyond the monolith: The emergence of Regionalism in Post-Soviet Russia. eds. Peter J. Stavrakis, Joan DeBardeleben, Larry Black, Jodi Koehn. Baltimore and London: The Johns Hopkins University Press, 1997, p. 106.}

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