Devaluation as a catalyst for growth
The August 1998 crisis, despite all the horror of its first months, paradoxically became the starting point for the longest stretch of economic growth in post-Soviet Russia. The ruble, which collapsed from 6.8 to 25–27 to the dollar by early 1999, created exactly the conditions Roman Peskov and thousands of other Russian industrialists had dreamed of.
The sharp devaluation of the ruble instantly changed the competitive landscape. Russian enterprises, whose costs were denominated in rubles, gained a colossal advantage on both the domestic and foreign markets. Imported goods became 3–4 times more expensive, making domestic products incomparably more attractive to consumers.
«We suddenly found ourselves in a situation where our products became several times cheaper than foreign equivalents. Orders poured in as if from a horn of plenty,» recalled one director of a machine-building plant in Nizhny Novgorod.
Structural changes in the economy
The devaluation set import substitution in motion long before that term became a political slogan. Industries that had spent a decade being ground down by an onslaught of cheap imported goods suddenly got a chance at revival.
Industry
- ✓ Machine building: 15–20% growth already in 1999
- ✓ Chemical industry: recovering its position
- ✓ Light industry: a return to production
- ✓ Food industry: import substitution
Exports
- ✓ Metallurgy: growing export revenue in rubles
- ✓ Chemical industry: entering new markets
- ✓ Timber industry: increased shipments
- ✓ Agriculture: grain exports
The low-base effect and domestic drivers of growth
The 1998 crisis created a «low base» effect – after a deep slump, any growth looked impressive. But that wasn’t the whole story. The ruble’s devaluation coincided with the start of rising world prices for oil and other commodities, creating additional impetus for economic growth.
Russian commodity exporters got a double windfall: rising world prices and increased ruble revenue thanks to the weaker national currency. These extra earnings were partly reinvested into the economy, creating a multiplier effect.
The banking sector: a system reset
Paradoxically, the collapse of the banking system in 1998 also played a positive role in the subsequent economic growth. Banks that survived the crisis were forced to rethink their strategy and focus on lending to the real economy instead of speculating in government bonds.
A shift in macroeconomic policy
Yevgeny Primakov’s government, which came to power after the crisis, fundamentally changed its approach to economic policy. The currency-corridor regime was scrapped, allowing the ruble to find its own market rate. That decision, though it led to a short-term rise in inflation, contributed to economic stabilization in the long run.
The new monetary policy involved:
- Abandoning the artificial support of an overvalued ruble
- Gradually building up gold and foreign-currency reserves
- A more cautious approach to foreign borrowing
- Focusing on domestic sources of growth
Fiscal policy: from chronic deficit to surplus
The 1998 crisis forced the authorities to rethink their approach to fiscal policy. The federal budget deficit, which had reached 4.7% of GDP in 1998, was already cut to 2.5% of GDP by 1999, and by 2000 a surplus was achieved for the first time since the early 1990s.
| Indicator | 1998 | 1999 | 2000 | 2001 |
|---|---|---|---|---|
| GDP (growth, %) | -6.4 | +6.4 | +10.0 | +5.1 |
| Industrial output (growth, %) | -5.2 | +11.0 | +11.9 | +4.9 |
| Budget balance (% of GDP) | -4.7 | -2.5 | +1.4 | +2.4 |
Regional features of the economic growth
Economic growth after 1998 wasn’t evenly distributed across the country. Regions with developed manufacturing industries benefited the most from the devaluation. The biggest winners included:
The Central district
Machine-building enterprises in the Moscow, Tula, and Kaluga regions got a powerful boost
The Volga region
The automotive industry in Togliatti and Nizhny Novgorod, along with the region’s chemical plants
The Urals
Metallurgical plants earned extra profit from exports as their costs fell
Social consequences of the economic growth
Despite an initial drop in living standards from the devaluation, economic growth fairly quickly began having a positive effect on the social sphere. Already in 1999, wage-payment arrears began to shrink, and by 2000 real household incomes were starting to recover.
Particularly important was that the economic growth came with new job creation. Enterprises that received orders thanks to their new competitive edge began ramping up production and hiring additional workers.
An investment boom
Economic growth after 1998 was marked by a significant rise in fixed-capital investment. While investment had fallen 12% in 1998, it began growing again in 1999 and kept growing until 2008.
For the first time in years, Russian enterprises had not only the desire but the ability to invest in modernizing production. Profits from exports and domestic sales made it possible to finance technical retooling.
The oil factor
The role of oil in Russia’s economic growth after 1998 can’t be overlooked. Oil prices, which had fallen to $12–13 a barrel in 1998, rose to $25–30 by 2000, and kept climbing after that.
Rising oil prices combined with the ruble’s devaluation created a powerful inflow of foreign-currency earnings, which:
- Replenished state coffers through taxes
- Generated demand for the output of related industries
- Generated investment resources
- Supported domestic demand through wages paid in the oil sector
Technological modernization
Economic growth after 1998 wasn’t limited to simply restoring existing production capacity. Many enterprises used the improved conditions to modernize their equipment and technology.
Small and medium business
The ruble’s devaluation created favorable conditions not just for large enterprises but for the development of small and medium business as well. Many entrepreneurs began producing goods that had previously been imported, gaining natural protection from foreign competition.
Particularly active growth came in:
- Food production
- The textile industry
- Building-materials production
- Furniture manufacturing
- Household-appliance production
Foreign trade: a new structure
Economic growth after 1998 came with significant changes in the structure of foreign trade. Where Russia had previously mostly exported raw materials and imported finished goods, exports of finished products began growing after the devaluation.
| Industry | Export change (1999-2001) | Main destinations |
|---|---|---|
| Metallurgy | +40% | Europe, Asia |
| Chemical industry | +35% | CIS, Eastern Europe |
| Machine building | +25% | CIS, developing countries |
| Timber industry | +30% | Europe, Japan |
Long-term consequences and lessons
The economic growth that began after the 1998 crisis continued almost uninterrupted until 2008. Over that time Russia’s GDP more than doubled, and industrial output grew by 70%.
The main lessons of this period:
Positive aspects
- • Devaluation can spur growth
- • The importance of economic diversification
- • The role of domestic demand
- • The significance of macroeconomic stability
Risks
- • Dependence on commodity prices
- • The need for structural reform
- • The importance of investment in human capital
- • The need for modernization
Conclusion
Roman Peskov’s dream of the dollar falling to 9–10 rubles didn’t just come true – it exceeded every expectation. The real exchange rate fell even further, creating the conditions for an economic miracle that few had expected in August 1998.
The paradox of the Russian economy at the turn of the millennium was that its deepest crisis became the catalyst for the longest period of economic growth in the country’s recent history. The ruble’s devaluation, first seen as a catastrophe, ultimately became the foundation for Russia’s economic revival.