We agree with Natalia that OECD studies are outdated; hence, it may be better to cut summaries of the OECD paper. It is rather required to avoid repetition found in the former version of this module.

COMMENTS:

1. We are afraid that, due to the excessive cut of the text, for regional government officials have difficulty in understanding what kind of problems existed in the field of regional trade policy during the Eltsin period. (Although they were mentioned a little in the second and 4th paragraphs of page 2 in the revised version). We should describe what kind of obstacles on interregional goods flows existed during 1990s more inclusively. Thus, we added a possible change in Natalia’s text on Page 1 (See the text below) OK (Zubarevich)

2: On page 4, line 6-7

If Russian domestic banks had to compete with Citicorp or other Megabanks under equal conditions, banking business could cause problems, as you wrote. However, in a sense the banking sector is generally the most exclusive market, and the Russian financial market is not the exception. If this is the case, the financial sector in Moscow may not be stagnated because of WTO accession: rather it would grow further as a (Russian) national financial center. (This is not the case for Saint-Petersburg.)

We add a possible change in Natalia’s text on Page4 (Please see the text below). OK (Zubarevich)

3. Page 8, ‘4. Impact on spatial…’

It might be better to emphasize more strongly that the positive effect of WTO accession would be realized only in the long run. The more quick development of urban agglomerations, exporting regions and seaport regions seems to be positive effect in the near future (Zubarevich)

We add a possible change on Page 9. (Please see the text)

Module 19. “Russian Regions and Trade Policy”

by Junichi Goto, Kazuhiro Kumo, Natalia Zubarevich

1. Institutional and economic factors influencing the region’s role in trade policy

The important steps taken by the Russian government to integrate its economy into the international trading system has highlighted the role of its regional and local governments in trade policy. The involvement of regional and local governments in trade-related policies is not unusual in federal systems of government like Russia’s. The experience of most OECD member countries that have a federal form of government underscores the necessity of building efficient co-ordination among the various levels of government when negotiating international trade commitments. The mechanisms of co-ordination have varied considerably among the OECD member countries, often relating to particular country’s history and political culture. In all cases, however, co-ordination between the federal and regional levels of government requires an active exchange of information and regional officials who are knowledgeable about the various international trade disciplines.

Russia’s federal system divides the power to conduct trade policy between federal and subfederal levels of government. The Russian Federation Constitution and federal lows give clear pre-eminence to the federal government in trade policy, but specify a number of aspects of trade policy for which regional governments have joint responsibilty. Financial aid and subsidies, government procurement contracts, licensing and promotion of investment and trade are all subjects of regulation by regional authorities under the Constitution of the Russian Federation. Customs regulation, competition policy and certification and licensing and protection of proprietary rights are exercised by regional branches of federal agencies but fairly often there is additional regional regulation to be found in these areas. Since recently regional norms are being brought to compliance with federal norms, however numerous issues in regional regulation have yet to be addressed.

WTO accession requires realization of a unified market in Russia including the unification of trade policy norms and regulations at regional level. Indeed it is regions that largely define federal government's ability to fulfill the obligations undertaken upon WTO accession.

In 1998-2001 OECD has conducted a research in a number of pilot regions (cities of Moscow and St. Petersburg, Novgorod and Sverdlovsk Oblasts and the Primorsky Krai)[1]. The case studues identified certain policy areas – customs administration, product sertification, government procurement, financial aid to producers, competition policy and licensing – in which different regional approaches appear to have a significant influence on interregional and international trade. Direct barriers to trade are rather infrequent and limited to the period of 1998 financial crisis when some regions were temporarily restricting imports. These barriers were in force only briefly. At the same time discrimination of companies from another regions and states survives in a variety of shapes.

First, discrimination exists in the form of privileges granted to local producers who receive subsidies and loans and enjoy tax exemptions granted by regional government. Among pilot regions such occurrences have been most common in Sverdlovsk Oblast and the city of Moscow. The degree of liberalism of an economic policy implemented by regional or local government is commonly evaluated through the share of subsidies in budget expenditure. Overall before 2002, regional subsidies were very large with a subsequent decrease only in industry.[2]

Apart from subsidies, a vast majority of Russian Federation subjects were granting regional tax exemptions on an individual basis. Such individual tax exemptions create competitive advantages for beneficiaries and encourage corruption. Privileges are granted on a massive scale in Tatar and Bashkir republics; such privileges have only been granted to regional companies. In the Kalmyck Republic preferential tax regime was enjoyed by numerous companies from other regions. Mordovian Republic and Chukot Autonomous District granted preferences to certain major companies, while in the city of St. Petersburg, Leningrad and Novgorod Oblasts preferences were rather an exception[3]. Today due to a revision of federal laws regions no longer have the right to grant profit tax exemptions.

Another form of discrimination pertains to the procedure of government procurement contracting. Regional governments often distribute government procurement contracts without any competitive bidding or distribute these contracts exclusively among local companies. In Moscow city and Sverdlovsk Oblast priority of local producers is forth in regional legislation. In St. Petersburg the bids submitted by foreign companies are the last to be considered.

Second, the norms and practices of trade regulation are not sufficiently transparent and loosely defined. Regional customs bodies have enough room to maneuver around interpreting customs classification and evaluation regulations, and customs duty rates for the same category of imports may differ across regions giving a competitive edge to certain importers. Some regions utilized vague licensing criteria which also lead to discrimination. External producers were often required to provide numerous licenses and product certificates. In St. Petersburg, more than 20 government agencies were involved in certification. Moscow legislation introduced requirements for licensing of certain activities (e.g. assessment) not provided for by the federal law. In the Primorsky Krai, license fees payable by foreign companies and joint ventures in involved in certain types of activity were several times higher than the fees paid by Russian businesses. Requirement for “regional marking” for products was the additional example of practices resulting in an increased cost of goods and inhibiting their market launch. Such regional laws have been primarely targets of recent efforts by the federal goverrnment to bring regional legislation into conformity with federal law.

Third, the conditions of competition are influenced by the pricing policy. Regional governments jointly with the federal government control the prices charged by local natural monopolies e.g. for power and natural gas supply, rent and utilities). Municipal and commuter transport fares, prices for baby food, school lunches and foodstuffs centrally supplied to the Far North are also regulated. Pricing policies are also employed to support local monopolies and businesses. There are vivid examples of protectionism by governors lobbying for major companies doing business in their regions. For example, metallurgy plants in Kemerovo Oblast have been granted discounted fares for transporting exported products by rail, and such examples come in numbers.

A World Bank analysis covering 70 companies in 13 regions has shown that competitive advantages of companies enjoying privileged status granted by local governments constituted the basis of their successful development. In addition to subsidies, governments use other instruments of non-market regulation including restrictions on access to land and real estate thereby ensuring advantages for their local business counterparts[4].

As a result, transaction costs to producers of goods and services increase due to excessive and non-transparent regulation. All this creates preferences for companies closely connected to regional government, reduces competition and encourages corruption. Therefore the key objectives for creating a conducive business environment in the regions remain the same. Those are elimination of discrimination, protection of proprietary rights and transparency of government regulation and stability of legislative base stimulating trade and investment.

2. The impact of WTO accession on the regions: economic benefits and costs

There are few quantitative assessments of the impact of Russia's accession to the WTO on the regions. A research by the National Investment Council and the Russian Academy of Sciences evaluated the impact of WTO accession on the regions at the angle of regions' involvement in foreign economic activities and regional potential for imports substitution[5]. The research focused on the impact of a change of import duties on economic growth; these assessments were only preliminary and incomplete. Regional benefits and costs of Russia's pending accession to the WTO can be evaluated on a qualitative level focusing on major impact factors and related risks.

Adaptation factors: level of development and openness of regional economies

WTO accession will enable regions to fully partake in globalization processes and will stimulate foreign trade and foreign direct investment. Export intensive manufacturing sectors and regions will benefit the most from the real exchange rate depreciation that should accompany tariff reduction. Regions and cities with the most developed service sectors will receive more foreign direct investment and expand employment; skilled labor in such regions should gain from foreign direct investment. WTO accession is expected to increase the value of production in Russia and the value of consumption between 7 and 24 percent (see module 7). WTO accession strengthens the role of the federal government relative to the regional governments. Due to interregional barriers getting lower, capital and labor will more easily move from region to region; hence, regions must domestically compete with each other.

However not all Russian regions will have accumulated sufficient experience in the global market of goods and services, and therefore regions will have different combinations of benefits and costs. In terms of foreign trade development, subjects of the Russian Federation can be conventionally categorized into three groups, i.e. "open", "semi-open" and "closed". It is noteworthy that there is no direct correlation between economic "openness" and its institutional capacity of a region. Economically developed "open" regions' government policies are also marked for protectionism and other forms of discrimination in trade regulation. It should be mentioned though that the most "closed" regions as a rule feature higher levels of protectionism.

The so-called "open" regions[6] account for more than one-third of the country's population; regions with the most developed economies (major urban agglomerations, raw material exporting and transit regions) fall under this category. Most foreign investment is accumulated in these regions that are involved in global trade and other forms of globalization (see module 18) and therefore accession to the WTO will contribute to development of such regions. Only for the banking and insurance business in two federal cities (Moscow and St. Petersburg) WTO accession may cause problems of growing competition.

In "semi-open" regions major import-substituting industries co-exist with isolated export-oriented industries. This category is largely represented by regions in the Urals and Volga Federal District and several Oblasts in Central Russia. Before the default of 1998 these regions survived thanks to export-oriented industries, and during the period of economic growth they achieved steady development of industrial sector based on growth of import-substituting industries. Overall regions with a diversified economic structure are capable of adapting to new conditions while they still might encounter short-term difficulties with local labor markets (see below).

"Closed" regions include nearly one-third of less developed subjects of the Russian Federation specializing in import-substituting industries (machine-building, food and light industries) and less than 1/5 of population. Over the past few years the economies of many regions have been transforming to become more open. For example, in the textile industry production of fabrics from customer-furnished raw materials has become increasingly popular (tolling schemes); certain machine-building plants of the military-industrial complex have also geared towards export of military materiel, and chemicals' exports have grown. Such changes are mostly found in industrial Oblasts in Central and Northwestern areas of Russia. At the same time the regions of southern Siberia devoid of mineral resources and especially underdeveloped republics and autonomous districts are the least protected lacking competitive advantages. If the federal government were to distribute the additional revenue from WTO accession back to the underdeveloped regions their budget expenditures would increase.

Spatial risk factors

In addition to poor development and "closure" of economy there are other risk factors, each affecting its specific spatial zone.

Localization of industries. Export-oriented industries including fuel and energy complex, metallurgy and certain chemicals' producers will benefit from Russia's accession to the WTO. A large number of sectors however are not ready for the opening of markets as their produce is not competitive compared to that of major global producers. These sectors include machine-building (primarily automotive and aviation industries), light and food industries, agriculture (especially stock raising), insurance and banking services.

Russia is special in the sense that many industries in the risk group are localized in a limited number of regions where they are a major local specialization. The degree of such localization is especially high in automotive industry: more than 80% of Russian cars are manufactured in two subjects of the Russian Federation. In the textile industry, three subjects account for more than 65% of fabric production. A vast majority of banking and insurance services are concentrated in Moscow. Even in such a deconcentrated sector as stock raising, 10 subjects of the Russian Federation account for more than one-third of national meat production. Therefore apart from a range of sectoral outcomes WTO accession will also have a regional dimension to it.