Summary (edited shortcut version)
Russia is one of Finland's most important trading partners
The long common border between Finland and Russia and complementary production structures make these two countries natural trading partners. Russia is indeed a more important export and import country for Finland than for the other EU countries.
Political changes and other institutional factors have over the years shaped the framework, volume and structure of trade. The economic fundamentals have nevertheless remained largely unchanged. Trade is still based to a great extent on comparative advantage.
As a resource-rich country, Russia´s exports to Finland are comprised mainly of oil, natural gas, metals and other raw materials. Finland´s exports to Russia. on the other hand., consist primarly of electronic industry products, machinery, equipment and other finnished goods. The manufacturing of these products requires a high level of education as well as research and product delelopment.The products of the forest industry are also exported, although relatively less than to the Western markets.
The structure of Finland´s exports to Russia has changed in the 1990´s more than the corresponding structure of Russian exports to Finland. Finland exports more information-intensive products than previously.
Along with the transition to a market economy, direct investments have increased to a completely different level than prevailed during the Soviet era. Finns have invested in Russia and the Russians are also increasing their investments abroad.
Economic relations are nevertheless not problem-free. Russia´s market economy is still in a state of transition. Liberalization has in some respects been drastic, but the activities of foreigners are subject to several restrictions in the country. Legislation is not up-to-date in many respects and sometimes it is enforced arbitrarily. There are also great problems in obeying laws. Foreign trade is hampered by high tariffs and import restrictions on certain products, as well as slow, corrupt and inconsistent customs activities.
Finland´s and Russia´s economic relations face significant changes and challenges in this decade. This transition stems from Russia´s own economic, political and social development as well as changes in international agreements and international business. The economic relations of these countries will increasingly be linked within global economic networks.
Russias economy integrating with rest of world
The expansion of the EU in 2004 will affect customs and other trade barriers so that the competitive situation of companies from different countries will change. Based on simulations using the GTAP world trade model, we observe that the impacy of the expansion on Russia´s total production and foreign trade will be rather modest.
Russia is currently negotiating about becoming a member of the WTO. This is anticipated to take place within the next few years. This will affect Finland´s and Russia´s trade relations so that the preconditions for exports and investment will improve. On the other hand, import competition will become somewhat keener in the case of labour-intensive products.
After Russia becomes a member of the WTO, the next step would be the upgrading of economic relations between Russia and the EU. Russia is already engaged in preliminary talks with the EU about an economic agreement, the depth of which is still unclear.
Membership in the EU is not deemed possible because of Russia´s huge size and superpower status. The agreement , obviously, nevertheless goes somewhat farther than a mere free trade agreement. On the other hand, it will probably be less ambitious than the European Economic Space i.e. the EES agreement between the EU and certain EFTA countries. A successful agreement will boost trade and investment between Finland and Russia.
In addition to the framework of agreements, the general globalization of the international economy will also affect Finland´s and Russia´s economic relations. Developments in transportation and information technology as well as production technology have made business increasingly more international in recent decades. Companies establish daughter companies in other countries and invest in final or intermediate production there. They also make various types of subcontracting and other agreements with companies located abroad.
The effects of globalization on trade relations between Finland and Russia are still rather modest at present, but Russia´s membership in the WTO will accentuate this process. Russia´s political and economic stablitity, development of legislation and obeying of laws as well as internal liberalization will have a pronounced impact on the global division of labour via investments.
Production in Russia and subcontracting activities there are affected, among other things, by the stablity of the social conditions, tendency to obey laws, development of infrastructure, avaibility of skilled labour, productivity of labours, level of wages and other costs, taxation and development of edministrative culture.
Russia´s economic growth swift
Three scenarios have been made about Russia´s economic growth. According to the baseline scenario, Russia´s GDP will grow in 2004-2010 by an average of 4 percent per annum, which is faster than in Western industrial countries, but slower than, for example, in China and India. In this scenario, investment must be raised from current low level. An increase in the investment ratio will require the continuation of economic reforms.
Among other things the price of oil, postponement of reforms and low level of investment may nevertheless lead to slower growth than mentioned above. If, however, the price of oil rises very high, the reforms will continue and both domestic and foreign companies will invest heavily in Russia, so GDP growyh may appreciably exceed that projected above.
Export and investment prospects good, imports dominated by raw materials also in future
Analysis based on a gravity model shows that Finland´s current exports to Russia and imports from there exceed those forecast by the gravity model. In addition to historical factors, the potential for exports may stem from enphasis in companies´ strategies on exports instead of direct foreign investments, because Russia´s investment environment has been uncertain.
The high level of imports may be explained by Finlands´s high energy requirements and the emphasis on purchases from a neighbouring energy-rich country instead of energy producers located further away. Especially in case of natural gas there are currently no alternatives but to import from Russia because of the lack of a pipeline network connecting Finland, for example to Norway.
During the last decade until today the most important factor explaining variations in Finnish exports to Russia has been the real effective exchange rate (competitiveness). The price of crude oil has also been a key variable.
In the long run, Russia´s GDP growrh is nevertheless a pivotal determinant of Finland´s exports. In addition to price competitiveness and price of oil, economic reforms also have significant impact on Rissia´s GDP growth. Export projections in this study are linked to Russia´s GDP growth path.
Assuming that Finland´s share of Russian imports remain at current levels, Finland´s exports to Russia are anticipated to grow in 2004-2010 in the baseline forecast by an average of 6 percent per year. To this estimate we must still add the effect of the opening of the Russian economy, which will be seen especially toward the end of this period. The volume of exports will thus grow by an average of 7-8 per cent in 2010, which would approach Germany´s share of Finnish exports, but not yet.
In a scenario where Russia´s economic growth is sluggish and trade liberaliz
This scenario is nevertheless regarded as unlikely. In the scenario of very favourable conditions, Finland´s exports to Russia would, in volume terms, increase by an average rate as high as 10 per cent per annum. Thus Russia´s share of Finnish exports would bypass Gemany´s current 11-12 per cent by the year 2010.
Estimating the development of exports is complicated by the fact that exports can be replaced by direct investments to Russia. The gravitation model calculations made in the study indicate that Finland´s current exports to Russia exceed their potential while investments are below their potential. As investment conditions stabilize in Russia, the companies of various sectors will seek to exploit their presence in the Russian market and the country´s low labour costs. Direct investments may, on the other jand, also boost exports.
