Russia ended 2008 with GDP growth of 5.6%, following 10 straight years of growth averaging 7% annually since the financial crisis of 1998. Over the last six years, fixed capital investment growth and personal income growth have averaged above 10%, but both grew at slower rates in 2008. Growth in 2008 was driven largely by non-tradable services and domestic manufacturing, rather than exports.
During the past decade, poverty and unemployment declined steadily and the middle class continued to expand. Russia also improved its international financial position, running balance of payments surpluses since 2000. Foreign exchange reserves grew from $12 billion in 1999 to almost $600 billion by end July 2008, which include $200 billion in two sovereign wealth funds: a reserve fund to support budgetary expenditures in case of a fall in the price of oil and a national welfare fund to help fund pensions and infrastructure development.
Total foreign debt is almost one-third of GDP. The state component of foreign debt has declined, but commercial short-term debt to foreigners has risen strongly. These positive trends began to reverse in the second half of 2008. Investor concerns over the Russia-Georgia conflict, corporate governance issues, and the global credit crunch in September caused the Russian stock market to fall by roughly 70%, primarily due to margin calls that were difficult for many Russian companies to meet.
The global crisis also affected Russia's banking system, which faced liquidity problems. Moscow responded quickly in early October 2008, initiating a rescue plan of over $200 billion that was designed to increase liquidity in the financial sector, to help firms refinance foreign debt, and to support the stock market.
The government also unveiled a $20 billion tax cut plan and other safety nets for society and industry. Meanwhile, a 70% drop in the price of oil since mid-July further exacerbated imbalances in external accounts and the federal budget. In mid-November, mini-devaluations of the currency by the Central Bank caused increased capital flight and froze domestic credit markets, resulting in growing unemployment, wage arrears, and a severe drop in production. Foreign exchange reserves dropped to around $435 billion by end 2008, as the Central Bank defended an overvalued ruble.
In the first year of his term, President Medvedev outlined a number of economic priorities for Russia including improving infrastructure, innovation, investment, and institutions; reducing the state's role in the economy; reforming the tax system and banking sector; developing one of the biggest financial centers in the world, combating corruption, and improving the judiciary.
The Russian government needs to diversify the economy further, as energy and other raw materials still dominate Russian export earnings and federal budget receipts. Russia's infrastructure requires large investments and must be replaced or modernized if the country is to achieve broad-based economic growth.
Corruption, lack of trust in institutions, and more recently, exchange rate uncertainty and the global economic crisis continue to dampen domestic and foreign investor sentiment. Russia has made some progress in building the rule of law, the bedrock of a modern market economy, but much work remains on judicial reform.
Moscow continues to seek accession to the World Trade Organisation and has made some progress, but its timeline for entry into the organization continues to slip, and the negotiating atmosphere has soured in the wake of the Georgia and global economic crises.