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June 8, 2011
Document of the World BankR
eport No. 58836-R
U
Russia
Public Expenditure Review
Report No. 58836-RU
Russia
Public Expenditure Review
Poverty Reduction and Economic Management Unit (ECSPE)Europe and Central Asia Region
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RUSSIAN FEDERATION - GOVERNMENT FISCAL YEAR January 1 – December 31
CURRENCY EQUIVALENTS (Exchange Rate Effective as of June 8, 2011)
Currency Unit Ruble USD1.00 29.71
Weights and Measures
Metric System
ABBREVIATIONS AND ACRONYMS
CIS Commonwealth of Independent States DFID Department for International Development EU EU-10 EU-15 FDI FTP FTS G-20 GCI
European Union European Union 10 new member states European Union 15 member states before 2004 expansion Foreign Direct Investment Federal Targeted Program Federal Tariff Service Group of 20 Global Competitiveness Index
GDP gross domestic product IBRD International Bank for Reconstruction and Development IFC International Finance Corporation IFI international financial institution IMF International Monetary Fund MOF NLTF NPS NZTA
Ministry of Finance National Land Transport Fund New pay system New Zealand Transport Agency
OECD PBC
Organisation for Economic Co-operation and Development performance-based contract
PEM Public Expenditure Management PER Public Expenditure Review PFM Public Financial Management PPP private-public partnership PRP performance-related pay RZD SOE
Russian Railways state-owned enterprise
VAT value added tax VEB Vnesheconombank (Bank for Development and Foreign Economic
Affairs)
Vice President: Country Director:
Sector Director: Sector Manager:
Task Team Leader:
Philippe Le Houerou Pedro Alba Yvonne Tsikata Benu Bidani Karlis Smits
CONTENTS
PREFACE ............................................................................................................................................... 1
EXECUTIVE SUMMARY ............................................................................................................................ i
1. INTRODUCTION............................................................................................................................. 1
2. AGGREGATE FISCAL DISCIPLINE AND OVERALL PUBLIC EXPENDITURE
MANAGEMENT .............................................................................................................................. 2
A. RECENT MACROFISCAL DEVELOPMENTS AND SOURCES OF TENSION ............................ 2
B. FUNDING NEEDS AND PRESSURES ARISING FROM THE GOVERNMENT’S
POSTCRISIS POLICY AGENDA ...................................................................................................... 5
C. ENSURING EXPENDITURE SAVINGS BY IMPROVING PUBLIC
EXPENDITURE MANAGEMENT PRACTICES ............................................................................ 11
D. FINDING EXPENDITURE SAVINGS BY IMPROVING ALLOCATIONS .................................. 14
E. SUMMARY OF RECOMMENDATIONS ....................................................................................... 23
3. STRENGTHENING CAPITAL BUDGETING IN ROAD AND RAIL SECTORS ................. 26
A. INFRASTRUCTURE, GROWTH, AND PUBLIC EXPENDITURE ............................................... 26
B. THE ROAD SYSTEM: CURRENT ISSUES AND CHALLENGES ............................................... 27
C. THE ROAD SYSTEM: KEY RECOMMENDATIONS ................................................................... 52
D. THE RAIL SECTOR: CURRENT ISSUES AND CHALLENGES .................................................. 55
E. THE RAIL SECTOR: KEY RECOMMENDATIONS ...................................................................... 67
4. STRENGTHENING PUBLIC EMPLOYMENT ......................................................................... 70
A. AGGREGATE PUBLIC EMPLOYMENT ....................................................................................... 70
B. ABILITY TO ATTRACT AND RETAIN QUALIFIED STAFF ...................................................... 74
C. TRANSITION TOWARD PERFORMANCE-FOCUSED PERSONNEL
MANAGEMENT ............................................................................................................................... 81
D. MAINTAINING A FISCALLY SUSTAINABLE WAGE BILL ...................................................... 84
E. SUMMARY OF RECOMENDATIONS ........................................................................................... 92
APPENDICES ............................................................................................................................................. 95
BIBLIOGRAPHY ...................................................................................................................................... 107
LIST OF TABLES
Table 2.1: Key Fiscal Parameters, 2005–13 ................................................................................................. 3 Table 2.2: Shortfall in Fiscal Revenues Because of Changes in Tax Legislation ......................................... 4 Table 2.3: Preliminary Estimates of Additional Funding Needs in 2011–13, Changes Relative to the
Previous Year ........................................................................................................................ 6 Table 2.4: Preliminary Estimates of Additional Funding Needs in 2011–13 ............................................... 8 Table 2.5: Plan A: Creating Fiscal Space for Expenditure Priorities 2011-13, Changes Relative to the
Previous Year ........................................................................................................................ 9 Table 2.6: Plan B: Creating Fiscal Space for Expenditure Priorities in 2011–13, Changes Relative to the
Previous Year ...................................................................................................................... 10 Table 2.7: Aggregate Fiscal Allocations by Budget Types ......................................................................... 11 Table 2.8: Changes in Aggregate Allocation of Consolidated Budget for Various Priorities .................... 15 Table 2.9: Budget Expenditures by Programs ............................................................................................ 15 Table 2.10: Government’s Estimates of Inefficient Budget Expenditures at the Regional Level, 2007–0916 Table 2.11: Evolution of General Government Expenditures by Economic Classification ........................ 17 Table 2.12: Evolution of General Government Expenditures by Function ................................................. 19 Table 2.13: Social Protection Expenditures by Program Type ................................................................... 20 Table 2.14: General Government Education Expenditures by Function .................................................... 22 Table 2.15: Summary of Recommendations: Aggregate Macrofiscal Framework ..................................... 23 Table 3.1: The Road Network ..................................................................................................................... 28 Table 3.2: Length and Percentage of the Federal Road Network not Meeting Standards, 2009 ................ 30 Table 3.3: Federal and Regional Expenditures on the Road Sector ............................................................ 31 Table 3.4: Avtodor Program, 2010–15 ....................................................................................................... 33 Table 3.5: Required Road Maintenance and Rehabilitation Expenditures According to the Transport
Strategy ................................................................................................................................ 34 Table 3.6: Financing Gap for Maintenance, Rehabilitation, and Reconstruction ....................................... 34 Table 3.7: Length of Road Network According to the Transport Strategy ................................................. 35 Table 3.8: Funding gap in road transport sector ......................................................................................... 37 Table 3.9: Diesel and Other Fuel Prices ..................................................................................................... 37 Table 3.10: Road Expenditures According to the Transport Strategy, 2010–30 ........................................ 40 Table 3.11: Length of Toll Network in Selected Countries, 2008 .............................................................. 41 Table 3.12: Estimated Capital Costs of PPP Projects ................................................................................. 43 Table 3.13: Official Unit Cost Norms for Maintenance, Repair, and Major Repairs in Russia, 2007 ....... 49 Table 3.14: Quartiles and average of costs per km of an inter-urban road, by type of work in World Bank
financed road projects in Eastern Europe and Central Asia ................................................ 49 Table 3.15: A Summary of Recommendations: Road Sector ..................................................................... 53 Table 3.16: Wagon Fleet in Russia, 2004–08 ............................................................................................. 58 Table 3.17: International Indicators of Rail Productivity, 2008 ................................................................. 59 Table 3.18: Federal Government’s Support to the Railway Sector ............................................................ 61 Table 3.19: Railway Density by District, 2006 ........................................................................................... 63 Table 3.20: Transport Strategy of the Russian Federation: Rail Capital Investments ................................ 64 Table 3.21: A Summary of Recommendations: Rail Sector ....................................................................... 67 Table 4.1: General Government Education Employment, 2008 ................................................................. 72 Table 4.2: General Government Health Employment, 2008 ....................................................................... 73 Table 4.3: Civil Service Employment by Levels and Branches of Government, 2009 .............................. 74 Table 4.4: A Percentage Difference between Sector and Overall Average Wages by Economic Sectors,
2008 ..................................................................................................................................... 77 Table 4.5: A Matrix of Monetary, In-kind, and Intangible Rewards for Public Sector Employees ........... 78 Table 4.6: Average Monthly Employment Turnover Rates by Sector in Russia ........................................ 79 Table 4.7: Russia: A Comparison of Key Components of the Old and New Wage System ....................... 83
Table 4.8: Average Budget Expenditures on Compensation of Employees in Russia, 2006–09 ................ 85 Table 4.9: Compression Ratios for Select Sectors, 2005–09 ...................................................................... 86 Table 4.10: Changes in Public Employment Levels: Public Administration, Education, and Health Care,
2005 versus 2008 ................................................................................................................. 87 Table 4.11: Share of Expenditures Funded by Own Revenues by Level of Government, 2009 ................ 89 Table 4.12: Share of Expenditures Funded by Own Revenues by Level of Government, 2009 ................ 92 Table 4.13: A Summary of Recommendations: Strengthening Public Employment .................................. 92
LIST OF FIGURES Figure 2.1: Expenditure Impulse and Changes in the Output Gap 2002–10................................................. 4 Figure 2.2: Medium-term Funding Needs and Sources under Two Adjustment Scenarios, end of 2013 ..... 9 Figure 2.3: Russia’s Nonoil Fiscal Deficit under Two Adjustment Scenarios, 2007–20 ............................. 9 Figure 2.4: Size of General Government in Russia and Select Countries ................................................... 12 Figure 2.5: Changes in General Government’s expenditures by Category ................................................. 16 Figure 2.6: General Government Expenditures as a Share of GDP in the Russian Federation and G-20
Countries, by Economic Classification, 2008 ..................................................................... 18 Figure 2.7: General Government Expenditures as a Share of GDP in the Russian Federation and Select
Country Groups, by Functional Classification .................................................................... 19 Figure 2.8: Federal Budget Transfers to the Pension Fund as a Share of GDP and Average Replacement
Rate ...................................................................................................................................... 20 Figure 3.1: Public Road Spatial Density: Russian Federation and select countries (left) and Russian
Federation and selected federal districts (right) .................................................................. 28 Figure 3.2: Road Fatalities per 10,000 Passenger Cars ............................................................................... 31 Figure 3.3: Rail Network Length, 2008 ...................................................................................................... 57 Figure 3.4: Network Length (kilometer), Passenger Traffic (billion passenger-kilometers), and Freight
Traffic (billion traffic-kilometers), 2008 ............................................................................. 59 Figure 3.5: Capital Investments by RZD .................................................................................................... 65 Figure 3.6: Average Indexation of Freight Tariffs ...................................................................................... 67 Figure 4.1: Number of People Employed in General Government and Public Corporations ..................... 71 Figure 4.2: Distribution of Employees according to Salary Brackets Based on the Minimum Subsistence
Level, 2009 .......................................................................................................................... 76 Figure 4.3: Wage Structure in Budget ........................................................................................................ 76 Figure 4.4: Relationship between Regional GDP per Capita and Aggregate Public-Private Wage Gaps by
Level of Government and Regions and by Population Size of Regions, 2009 .................... 76 Figure 4.5: Ratio of Teacher’s Salaries and GDP per Capita in Russia and OECD Countries ................... 77 Figure 4.6: Tenure Distribution in Public Administration, 2009 ................................................................ 80 Figure 4.7: Age Profile of Civil Service: Federal-Level Civil Service, 2009 ............................................. 80 Figure 4.8: Shares of Female Employment by Different Categories of Civil Service Posts, 2009 ............ 81 Figure 4.9: Shares of Female Employment in Health and Education Sectors, 2008) ................................. 81 Figure 4.10: Contribution of Employment and Wage Increase to the Aggregate Wage Bill Increase in
2008 Relative to 2007, by Levels of Government ............................................................... 85 Figure 4.11: Real Wage Increases in Russia by Sectors ............................................................................. 86 Figure 4.12: Wage Bill as a Share of Total Outlays and as a Share of GDP .............................................. 87 Figure 4.13: A Relationship between Average Wages and Vacancy Rates in Federal-Level Executive
Agencies, First Half of 2010 ............................................................................................... 88
LIST OF BOXES
Box 2.1: A Permanent Income Fiscal Rule: The Case of Russia ................................................................. 7 Box 2.2: Types of Federal Transfers to Regions in Russia ........................................................................ 12 Box 2.3: Key messages of World Bank’s Social Expenditure Review ...................................................... 22 Box 3.1: Infrastructure, Competiveness, and Constraints to Russia’s Business ........................................ 27 Box 3.2: Institutions in the Russian Road Sector ....................................................................................... 29 Box 3.3: International Practice: Overloading Enforcement in North America and the EU ....................... 36 Box 3.4: International Practice: The U.S. Interstate Highway System and Fuel Taxes ............................. 38 Box 3.5: International Practice: Experience with Second-Generation Road Funds .................................. 39 Box 3.6: International Practice: European Experience with the Vignette .................................................. 42 Box 3.7: International Practice: The Chilean Experience with Infrastructure Bonds ................................ 44 Box 3.8: Reverse Auction Procurement in Russia and its Problems ......................................................... 45 Box 3.9: Fiscal Savings and Procurement Efficiency ................................................................................ 47 Box 3.10: International Practice: Experience with PPPs in Central and Southeastern Europe .................. 51 Box 4.1: Employment in Russia’s State-Owned Enterprises ..................................................................... 71 Box 4.2: Pay Setting in Russia’s Civil Service .......................................................................................... 75 Box 4.3: Housing Subsidies for the Federal Civil Service ......................................................................... 79 Box 4.4: International Practice: Performance-Related Pay in OECD Countries ....................................... 82 Box 4.5: International Experience: Options for Restraining the Wage Bill............................................... 91
APPENDICES
APPENDIX A: Functional Classification of General Government Expenditure ...................................... 95 APPENDIX B: Economic Classification of General Government Expenditure in Advanced G-20
Countries, 2008–09 ...................................................................................................... 96 APPENDIX C: Main Social Protection Programs in the Russian Federation, 2010 ................................. 97 APPENDIX D: Distribution of Functional and Institutional Classification of Federal Budget
Expenditures, 2010 ...................................................................................................... 98 APPENDIX E: International Experience: Performance-Based Maintenance Contracting in Estonia and
Argentina ..................................................................................................................... 99 APPENDIX F: Comparative Unit Costs in Road Works ........................................................................ 102 APPENDIX G: Russian Railways Network, 2010 ................................................................................. 104 APPENDIX H: Russian Railways High-Speed Passenger Transport System Planned for Completion by
2030 ........................................................................................................................... 105 APPENDIX I: Railway Expansion Plans in the Russian Federation, through and beyond 2030 ............ 106
PREFACE
Over the past decade, the Ministry of Finance (MOF) of the Russian Federation has
introduced a number of reforms to tighten fiscal discipline, improve effectiveness of budget
expenditures, and strengthen expenditure controls. The long-standing World Bank dialogue with
the MOF budget policy department has supported these reform efforts through analytical and
technical assistance on a range of fiscal issues. This assistance includes assessing fiscal risks and
ensuring long-term fiscal sustainability (Long-Term Fiscal Sustainability Study), conducting
regular macroeconomic and fiscal analyses in Russian Economic Reports, and providing advice
on strengthening public financial management practices and implementing performance
budgeting.
With the onset of the global crisis and tighter budget constraints, the dialogue has shifted
to approaches and measures aimed at improving the efficiency of public expenditures. In this
context, the World Bank recently undertook a Social Expenditure Review (SER) focused on the
efficiency of subnational public expenditures in health, education, and social assistance. This
Public Expenditure Review (PER) complements and extends these activities by focusing on two
areas that are of particular importance for Russia’s growth and fiscal future––transport
infrastructure and public sector employment––and that account for a large share of Russia’s
budget.
The primary objective of the PER is to assist the MOF in identifying opportunities for
savings and efficiency gains in these large categories of government expenditure.
The report was prepared by a Bank team led by Karlis Smits. The team included Zeljko
Bogetic (Lead Economist and Country Sector Coordinator for the Poverty Reduction and
Economic Management Network for the Russian Federation who supported the policy dialogue,
provided strategic advice in all stages of the study, and helped edit the final report); Carolina
Monsalve (Transport Economist, ECSS5, who authored the chapter on transport); Stepan Titov
(Senior Economist, ECSP3, who provided the material on public financial management); Maya
Gusarova (who contributed the chapter on public employment); and Francesco Scaduto-Mendola
(consultant who assisted the task team leader in drafting parts of the report). Olga Emelyanova
provided valuable research assistance. Judy Wiltshire provided exemplary team assistance.
Two analytical background reports were prepared and integrated into this final report.
One, titled ―Elaboration of Proposals for Enhancing the Efficiency of Budget Expenditures in the
Transport Sector,‖ was prepared by a PACC Consulting team comprising Leonid Azimov (team
leader), Andrei Orlov, and Dmitry Bachilo. The other, titled ―Elaboration of Proposals for
Enhancing the Efficiency of Budget Expenditures in the Field of Remuneration and Employment
in the Public Sector,‖ was prepared by Alexander Horoshilov (Team Leader), Alexander
Razumov, Robert Yakovlev, and Marina Kolosnicina.
The PER team benefited from the guidance and advice of Pedro Alba (Country Director),
Yvonne M. Tsikata (Sector Director, ECSPE), Luca Barbone (former Sector Director, ECSPE)
and Benu Bidani (Sector Manager, ECSP3) and from discussions on public sector reform with
William Dorotinsky (Sector Manager, ECSP4). Comments from Henri Kerali (Sector Manager,
ECSS5); Daria Zakharova (Deputy Division Chief, International Monetary Fund); Gary Reid
(former Lead Public Sector Specialist); Richard Martin Humphreys (Senior Transport
Economist); Martha B. Lawrence (Senior Transport Specialist); Vickram Cuttaree (Senior
Infrastructure Economist, ECSS5); Andreas Schliessler (Lead Transport Specialist, ECSS5);
Clelia Rontoyanni (Public Sector Specialist); Victor Sulla (Economist, ECSP3); Sergei Ulatov
(Economist, ECSP3); and Vladislav V. Onishchenko (Noncommercial Foundation for Enterprise
Restructuring and Financial Institutions Development) are also gratefully acknowledged.
The peer reviewers were Marijn Verhoeven (Lead Economist, PRMPS) and Andreas
Dietrich Kopp (Lead Transport Economist, TWITR). Comments and discussions with Evsey
Gurvich, Head of the Ministry of Finance Economic Expert Group, are gratefully acknowledged.
The team also extends its gratitude to the Ministry of Transport (especially Dmitry
Tvardovskiy, Adviser to the Minister of Transport) and to the Russian Railways (especially
Alexey Tokar, Head of Debt and Trade Finance in the Corporate Finance Department), whose
representatives cooperated closely with the team and provided comments on earlier versions of
this report.
i
EXECUTIVE SUMMARY
1. The primary objective of the Public Expenditure Review (PER) is to assist the
Ministry of Finance (MOF) in identifying opportunities for efficiency gains in some key
categories of government expenditure. In this context, policy makers face two related fiscal
dilemmas. First, how can expenditure efficiency be increased to provide public services with
fewer resources? Second, how can the fiscal space for key infrastructure investments be
increased to ensure an enabling environment for long-term growth and diversification? To
answer these questions, this PER analyzes three closely interrelated topics: (a) aggregate fiscal
discipline and overall public expenditure management, (b) public expenditures in transport with
specific focus on roads and railways, and (c) public employment and the wage bill of budget
organizations. The focus on these large expenditure segments of the Russian Federation’s budget
was mandated by the MOF’s operational needs to
identify efficiency gains in these sectors and then to
use the findings to extend such exercises to other
sectors. It is envisaged that future PERs, in a
programmatic fashion, could provide in-depth
analyses of other major categories of expenditures,
feeding into the MOF policy analysis and budget
planning cycle.
Aggregate Fiscal Discipline and Overall Public Expenditure Management
2. The impact of the global economic crisis (documented in recent Russian Economic
Reports) was swift and deep, requiring the implementation of massive countercyclical fiscal
policy measures totaling 6.7 percent of gross domestic product (GDP) in 2008 and 2009.
The countercyclical fiscal policy steps clearly helped contain the impact of the crisis. But in the
postcrisis period, Russia faces a balancing act of controlling public finances and supporting the
recovery under more difficult conditions. Although remaining fiscal reserves do allow a margin
of maneuver to balance these risks, in a likely scenario of a sluggish global recovery and modest
growth, Russia will face a tightening budget constraint in the medium term.
3. This report argues that though the budget contains important initiatives in the right
direction, supporting accelerated modernization and upgrading infrastructure will require
both deeper reforms and additional resources. In particular, the budget is likely to require (a)
a permanent increase of budget expenditures equivalent to another half percentage point of GDP
by 2013 (including quasi-fiscal activities of state-owned enterprises) to support economic
modernization initiatives such as energy efficiency, (b) 1.1 percent of GDP to close the road
maintenance gap, and (c) 1.0 percent of GDP for capital expenditures to address the maintenance
backlog and basic road network expansion. On the revenue side, additional fiscal pressures arise
from the expected decline in (and risks to) oil and gas and nontax revenues.
―Key “Key questions: First, how can expenditure
efficiency be increased to provide public
services with fewer resources? Second, how
can the fiscal space for key infrastructure
investments be increased to ensure an
enabling environment for long-term growth
and diversification?”
ii
“[T]he government expects in the
medium term (under Plan A) to
gradually reduce the fiscal deficit from
4.1 percent of GDP in 2010 to 2.9
percent in 2013.”
“Additional expenditure savings from
strengthened public expenditure
management and better expenditure
allocations are expected to yield further
savings of over 2 percentage points of
GDP.”
“Fiscal adjustment in 2011–13 needs to
be more ambitious given the highly
uncertain international environment.”
4. To deal with these pressures, the
government’s federal budget law for 2011–13
(denoted as Plan A for the purpose of this report)
aims to gradually broaden the nonoil revenue base
and reduce expenditures. Under this scenario,
revenue and expenditure measures will result in
additional fiscal space totaling 5.1 percentage points of
GDP over the next three years. As a result of these measures, the government expects in the
medium term (under Plan A) to gradually reduce the fiscal deficit from the 4.1 percent of GDP in
2010 to 2.9 percent in 2013. The federal budget deficit will be financed mainly from domestic
financing sources (particularly domestic borrowing), supplemented by modest external
borrowing.
5. But this gradual approach to fiscal adjustment carries nonmarginal risks. First,
excessive reliance on domestic borrowing implies a risk of increasing interest rates. Second, the
adjustment could be slower than envisaged because of the expenditure pressures of the 2011–12
election cycle. Third, a negative oil price shock could
result in the widening of the deficit. And fourth, under
all realistic medium-term scenarios, Russia will not
have the cushion of fiscal reserves that it had enjoyed
before the crisis, thus making its budget and the
economy more vulnerable to new shocks. Under these circumstances, fiscal adjustment in 2011–
13 might need to be more ambitious given the highly uncertain international environment and
prospects for oil prices.
6. An alternative fiscal consolidation scenario (Plan B) incorporates more ambitious
measures to reduce nonpriority expenditures and broaden the non-oil tax revenue base;
these proposed measures are additional to the fiscal measures in federal budget law. This
alternative plan envisions additional increases in
excise taxes on tobacco, alcohol, and gasoline to
bring them to the average levels of Group of 20
countries (G-20). There is also scope to increase
value added tax (VAT) revenues by improving tax
administration and minimizing VAT exemptions.
Additional expenditure savings from strengthened
public expenditure management and better expenditure allocations are expected to yield further
savings of over 2 percentage points of GDP. Specific proposed measures include the following:
a. Strengthening results monitoring systems to monitor target indicators of public
programs. The government is initiating the legal reclassification of tens of thousands of
public entities, which are now included in the budget, into ―autonomous entities‖ that
would effectively be turned into arm’s-length public entities or nonprofit organizations
providing public services (such as education, science, health, and culture). But fiscal
savings from these reforms will occur only over the medium term and will require
effective results monitoring systems.
b. Reducing crisis-related subsidies supporting select sectors of the economy. With the
easing of the global crisis, these subsidies to public and private enterprises should be
gradually phased out.
iii
“Worsening demographic conditions
indicate that the sustainability of the
pension system will be one of the main
fiscal challenges.”
c. Increasing the targeting of social assistance programs. In terms of noncontributory
spending levels, Russia ranks among the generous spenders. But only a small fraction of
these resources is targeted to the poor, and the few income-tested programs explicitly
designed to serve poor or vulnerable populations have mediocre targeting properties.
d. Taking steps to ensure the long-term sustainability of the pension system. Worsening
demographic conditions indicate that the sustainability of the pension system will be one
of the main fiscal challenges. One of the steps
taken by the government has been to introduce
higher contribution rates to improve the
sustainability of the pension system, but
further steps might be necessary.
e. Supporting structural reforms in the education and health sectors. Although average
public expenditures on education have increased in recent years, structural reforms aimed
at increasing expenditure efficiency are progressing slowly. The present system of
allocation, regulation, and incentives leaves little room for increasing allocations for
capital investments while a large number of schools are in dire need of renovation.
7. Under this supplemental Plan B, the cumulative increase in fiscal space over three
years will equal more than 9 percentage points of GDP compared with 5.1 percentage
points in the budget. The implementation of this more ambitious consolidation plan would not
only create fiscal space for additional spending needs to support diversification and
modernization, but also ensure a fiscally sustainable nonoil deficit level by 2015.
Strengthening Capital Budgeting in the Road Sector
8. With chronic underfunding, the road infrastructure has deteriorated significantly
over the past decade. Out of the 49,995 kilometers of federal roads, only slightly more than
one-third meet the standard requirements and can be considered to be in good or fair condition.
The remaining roads are in poor condition. Over 50 percent of the federal network fails to meet
the smoothness and strength requirements. A number of factors have played a role:
a. Years of inadequate funding for maintenance and rehabilitation. As a percentage of
GDP, federal and regional expenditures on roads have declined from 2.8 percent of GDP
in 2000 to only 1.5 percent in 2009. In comparison, China has spent about 3.5 percent of
GDP annually since the 1990s and has significantly improved the quality and expanded
the size of its network, thereby supporting its subsequent economic boom.
b. Compared to Finland, a country with comparable weather conditions, actual road
maintenance costs per km appear similar in Russia, although road condition
outcomes are very different. For Russia the official unit cost norms per kilometer of
maintenance costs of federal roads vary between US$27,000 and US$55,000 depending
on the category of road. However, estimates provided by Rosavtodor suggest that actual
unit costs—as opposed to official unit cost norms —for federal and regional roads are
equal to €8,034 per road kilometer (US$ 11,520) in 2010. This figure is much lower than
the official unit cost norms, as only a fraction of roads are maintained to standard. In the
case of Finland, the cost was €7,274 per road kilometer (US$ 10,430) in 2008 for all road
iv
“This report estimates a sizable financing gap
for maintenance and reconstruction for federal
and regional roads of about 1.1 percent of
GDP, with the largest gap in the regional road
network.”
types, which is similar to the levels in Russia1. While Finland spends comparable levels
to Russia on an unadjusted per kilometer basis, the quality of its roads according to the
World Economic Forum is ranked 13th
out of 139 countries, whereas Russia’s ranks
125th
. This highlights the importance of getting better information and looking at actual
expenditures on maintenance and outcomes, as well as the need to better explain these
costs over time.
c. Inadequate planning of regular maintenance. Depending on traffic, adequate and
regular maintenance can sustain road pavements for a period far beyond the original
design life, thus reducing the need for reconstruction. A failure to maintain a paved road
has also been estimated to increase user costs by a factor of three in terms of additional
time, fuel, and vehicular wear and tear, with a direct impact on the price of goods and the
expenses that individuals pay for goods and services.
d. High traffic intensity on some routes because of structural deficiencies. The radial
structure of the network makes it highly dependent on the Moscow hub, with regions
deprived of more direct transportation links. It is estimated that given the traffic intensity
and usage in Russia, more than a third of the federal road network needs to be
reconstructed to a higher technical category, with reinforced surfaces, to allow normal
traffic for heavy vehicles.
e. Operation of roads above designed loading capacity. The majority of Russia’s present
design standards for public roads are still based on the maximum axle loads of less than
10 tons, whereas the European designs of many trucks operating in Russia have axle
loads of 11 to 16 tons on double axles. Many of these roads now sustain traffic from a
high number of much larger trucks with European dimensions.
f. Rampant overloading. Overloading is a key factor shortening the life span of the
pavement surface. International research has shown that pavement damage from loading
is proportional to the axle load raised to the fourth power. Hence, heavier vehicles cause
greatly increased rates of pavement damage.
9. Current expenditures on road maintenance and rehabilitation at the federal and
regional levels are significantly below required levels, but there is a significant scope to
increase financing using fuel taxes and
vehicle license fees. This report’s calculations
suggest a sizable financing gap for maintenance
and rehabilitation for federal and regional roads
of about 1.1 percent of GDP, with the largest
gap in the regional road network. Taking into
account a modest expansion of network, the total needs for road sector are around 3.5 percent of
GDP per year, a level of expenditure observed in other upper middle income countries. Given
insufficient spending on road maintenance, additional financing could include the following:
a. Fuel taxes––the primary transport pricing policy instrument worldwide––could be
used more in Russia to finance the maintenance of roads and highways. Fuel taxes
remain relatively low in Russia with important scope for increases, resulting, among
1 However, it is difficult to draw any conclusions from this case, because Russian unit costs include repair and major repairs,
while Finnish costs include only maintenance expenses. In addition, not only are maintenance interventions defined differently in
both countries, but the road design standards also differ considerable, making unadjusted comparisons fraught with difficulties.
v
“Given chronic under funding the key focus
should be on creating an affordable and
fully funded road maintenance program.”
“Russia has only one toll section in its entire
federal road network––a 20-kilometer detour
around the village of Khlevnoe in the Lipetsk
region––but the potential is considerable.”
other things, in higher revenues and progressive distributional impact on the households.
A well-designed fuel surcharge could generate revenue sufficient to finance the
maintenance of the network but not its expansion, which would have to be funded from
other sources.
b. Vehicle license fees are generally low but could raise substantial additional
financing for the road sector. In 2008, Rub 53.1 billion (US$1.7 billion) was collected
from a vehicle fleet of 38 million, but as with fuel taxes such fees are general revenues
and no portion is earmarked for the road sector. The total funds collected are quite small,
reflecting generally low vehicle registration rates.
c. Russia could use the fuel tax and vehicle license fees to ensure a fully funded road
maintenance program. Several countries use a second-generation road fund to ensure
the affordability of a fully funded road maintenance program. These funds aim to link
revenues such as the fuel tax and vehicle
license fees and expenditures, with charges
paid into the road fund that are typically
managed by boards representing the
interests of road users. As of January 1,
2011, a Federal Motorway Fund is established for financing road construction,
rehabilitation and maintenance projects. However, this fund appears to be a traditional
road fund and not a second-generation road fund. Requirements for a successful road
fund typically include (a) independence from the general government budget; (b)
management by a strong and independent board; (c) user charges consisting of license
fees, fuel tax and international transit fees; (d) direct deposit of user charges into the road
fund; (e) formal mechanism for varying road user charges (which should be indexed); (f)
consistent and simple procedure for allocating funds between different road agencies; and
(g) independent financial and technical audits to avoid leakages and to ensure that funds
are spent according to a work program and specification.
d. International financial institutions (IFIs) remain an important potential source of
funding for road projects. IFIs could provide not only finance with long maturity, but
also international and best-practice experience as well as expertise in project preparation,
monitoring, and supervision. This form of financing would be particularly valuable for
roads that are not on strategic corridors and do not have the potential to be concessioned
to private operators but are still economically viable.
e. Innovative local credit enhancement entities and techniques (credit guarantees) can
be used to help mobilize domestic commercial debt resources for subsovereign
infrastructure finance. These resources could be a potential avenue for increasing
investments in the road sector at the regional and local levels. Credit enhancements are
meant to mitigate risks in debt transactions that creditors cannot or are not willing to take.
By doing so, such enhancements increase the overall creditworthiness of a borrower or a
specific debt transaction, are cost-effective, and support capital market development
while promoting a ―hard-credit‖ financial culture.
f. The Russian Federation has almost no
toll roads, but the potential for their
development is considerable. Unlike
vi
“Increasing competition for the
procurement of road works is
imperative.”
other developed countries (as well as many developing countries), where networks of toll
roads and high-speed motor roads have long been successfully operated and have
generated substantial revenues, Russia has only one toll section in its entire federal road
network––a 20-kilometer detour around the village of Khlevnoe in the Lipetsk region. At
another extreme is China, which has created major enhancements to its national road
asset base in a very short period of time. China added about 41,000 kilometers of high-
grade tolled expressways between 1990 and 2005 and has since kept growing the tolled
expressway network by about 8,000 kilometers per year.
g. Infrastructure bonds are another mechanism for tapping into long-term domestic
financing of road projects. These bonds are meant to be issued by a special-purpose
project entity to raise funds to finance infrastructure construction or reconstruction.
10. The federal budget suggests a considerable
increase in financing to the road sector during the
2011–13 period. According to this report’s estimates,
such funding levels for the road sector by 2013 will
narrow––but not eliminate––the funding gap for maintenance of the federal highway system. But
to improve the performance and outcomes in the road sector, it will be important not only
to raise expenditures, but also to adopt measures to ensure that funds are spent efficiently,
thereby providing value for money for scarce public funds:
a. The Transport Strategy sets out a series of ambitious targets for regional road
network expansion, but a valid question remains regarding whether such an
expansion in peripheral regions is necessary or feasible. The econometric analysis and
international experience suggest that the productivity-enhancing effect of improved
infrastructure would be the strongest in Russia’s capital region. Thus, infrastructure
investment by itself is unlikely to help growth in lagging regions.
b. A road classification exercise would need to be undertaken with a view to the
governments’ financial capacity—at the federal, regional, and local road levels—
and users’ willingness to pay for existing and planned roads. Functional classification
is an indispensable tool for rational assessment and assignment of responsibilities in the
road sector. A road network that is very large and poorly maintained and has technical
standards that are too high will deteriorate; indeed, this is what is happening in Russia.
c. There is an urgent need to reconsider current procurement rules, which require
procurement of civil works through reverse auction, a practice unique to the
Russian Federation. A reverse auction is a type of auction in which sellers compete to
obtain business on the basis of the lowest price quoted. The World Bank does not
consider auctions an appropriate method of procurement, particularly for civil works,
given the considerable risks to quality, among other issues. Instead of reliance on the
market, an initial price or ceiling is introduced to determine the contract price, but in
many instances the starting price of the procured works is based on the available funds
rather than an accurate estimation of costs. As a result, the final contract cost is in most
cases far from the realistic market price that would result from open and fair competition.
Indeed, the evidence of negative effects of procurement through auctions in Russia is
significant.
vii
“The strength of Russia’s railway sector vis-à-vis
other large railway systems reflects its high market
share in the freight sector, high overall traffic
volumes, and the positive outcomes of recent
reforms, but there remains large scope for
improvements.”
d. Introducing performance-based maintenance contracts could lead to significant cost
savings. The traditional way of contracting out road maintenance defines specific works
to be done, and payments are based on the completed work. By contrast, performance-
based contracts define minimum conditions of road, bridge, and other traffic assets that
have to be met by the contractor, as well as other services.
e. Increasing competition for the procurement of road works is imperative. Few
contractors have the capability to deliver large roads projects, particularly at the regional
level. This lack of contractor capability reflects, in part, the large and expensive
equipment required to undertake road construction projects, but it also results from the
Soviet legacy of organizing the industry around large regional monopolies. Possible
remedies might include requiring procurement competitions to include bidders from as
many regions as possible and outlawing subcontracting between bidders once the contract
has been awarded.
f. Introducing an improved asset management system for the road network should
assist in making spending decisions. Sound decisions need reliable, relevant, and
accessible information, such as data on budget, traffic counts, road accidents, and
pavement design. Asset management is a process of maintaining, upgrading, and
operating physical assets cost-effectively, which should lead to improvements in financial
efficiency through (a) improved decision making based on costs and benefits of
alternatives, (b) justification of work programs and funding requirements, (c) recognition
of costs of operating road assets over the life cycle of the assets, and (d) increased cost-
effectiveness of maintenance through proper planning of works.
Strengthening Capital Budgeting in the Rail Sector
11. The Russian railway sector is dominated by Russian Rail (RZD), one of the largest
railway companies in the world. The strength of RZD is underpinned by its monopoly status as
both national railway infrastructure owner and locomotive provider, the competitiveness of
freight railway in Russia, and RZD’s
dominance of the national freight rail
market. The strength of Russia’s railway
sector vis-à-vis other large railway systems
reflects its high market share in the freight
sector, high overall traffic volumes, and
the positive outcomes of recent reforms.
12. Overall, federal budget funds allocated to the rail sector rose significantly during
2007–10. The share of federal government transport expenditures allocated to the railway sector
has risen from 17.6 percent in 2008 to 25.7 percent in 2009 and is estimated to rise to 29.3
percent in 2010. Responding to the impact of the crisis on RZD, the government introduced in
2009 freight operating subsidies or freight tariff ―compensation.‖ Although introduced as
temporary, these subsidies have been continued in the 2010 federal budget. Because of prior
commitments to increase the compensation for loss-making passenger services, government
support in passenger operating subsidies has been rising, while the railway infrastructure
requirements of the Sochi Olympics have led to equity injections.
13. Financing for RZD will continue to be determined mainly by the tariff structure,
annual tariff indexation, and additional financial support from the government. Thus,
viii
“As of end 2008, about 18,380 kilometers,
consisting of 14.8 percent of total operating
track length, needed a rail track overhaul.”
changes to the regulatory framework governing the rail sector are critical, because they will
determine RZD’s cash flow and its overall financial performance. In particular, the following
changes could improve the overall performance:
a. Reforms to the regulated freight tariff structure should be based on transparency,
market responsiveness, and full cost recovery. For the infrastructure and locomotive
components, every tariff category should cover at least its long-run marginal cost, and
fixed costs should be recovered through the commodity markups for higher-value goods.
b. The manner in which the annual average indexation of freight tariffs is determined
needs to be made predictable and transparent and should ensure that there is no
need for compensatory payments. It appears critical that the annual average indexation
of freight tariffs be done in a predictable and transparent fashion and that it take into
account the price pressures faced by RZD, for example, by taking into account changes in
the producer price index.
14. The Transport Strategy provides for the following two phases of rail sector
development: modernization of the rail transport (through 2015) and expansion of the
network (2016–30). The first phase focuses
mainly on the replacement of the rolling stock
and rehabilitation of infrastructure, with some
5,193 kilometers of new track to be
commissioned. The main target in the second
phase is to build between 16,000 and 20,700 kilometers in railway lines (depending on the
scenario) by 2030. Key questions that policy makers need to address include the following:
a. Will significant rail infrastructure investment in all regions of Russia produce the
highest economic benefits nationally, or are there are trade-offs between peripheral
and national growth? It is critical to ensure that the investments are based on detailed
assessments showing positive economic returns.
b. What are the efficient distances for various modes of transport, and what should be
the required speed for the new tracks to be built? In the high-investment scenario, out
of 21,000 kilometers of new track, the Transport Strategy envisages 10,000 kilometers of
fast lines (140–160 kilometers per hour) and 1,500 kilometers of high-speed lines (200–
250 kilometers per hour). For routes under 300 kilometers, high-speed rail tends to
substitute for air transport and can be important for relieving airport congestion. For
distances exceeding 1,000 kilometers, air transport becomes more attractive. Fast and
high-speed rail should reflect the nature of potential traffic along those lines, the
composition of traffic, and cost-recovery considerations.
c. Will the large network expansion result in underfunding of much-needed
maintenance and rehabilitation? As of end 2008, about 18,380 kilometers, consisting
of 14.8 percent of total operating track length, needed a rail track overhaul. This figure
has been increasing since 2004, because of cutbacks in funding of track work. It is,
therefore, necessary to support continued rehabilitation of the existing track and to secure
funding before embarking on an extensive network expansion.
ix
“In the short term, efficiency gains in the federal-level civil
service employment could be achieved by a combination of
measures that include elimination of vacant positions and
voluntary retirement.”
Strengthening Public Employment
15. At present, the government’s wage bill—comprising more than one-fourth of all
government expenditure—faces conflicting pressures. In the current environment, one of the
most important challenges is to ensure the medium-term fiscal sustainability of overall
expenditures, including the aggregate wage bill. But as long as public wages—especially in
education and health—remain low compared to those in the private sector, pressures on the
aggregate public wage bill will persist. At the same time, improving remuneration is fundamental
to improving the incentives and performance of public administration, as well as the quality of
service delivery. Poor incentives for performance, especially for excellence, are likely to further
jeopardize both the quality of and the access to public services.
16. Although Russia made much progress in introducing various elements of
performance management, reform of individual performance has been slow. The Russian
civil service law defines personal performance evaluation tools, but most are highly formal and
disconnected from institutional
performance management. A lack
of methodological guidance on
developing individual performance
contracts, as well as individual
performance indicators, prompted ministries and agencies to choose the traditional remuneration
practice, consisting of a base salary and additional payments (mainly compensations related to
rank and position). Furthermore, the personnel units continue to play mainly administrative roles
of keeping personnel records and administering recruitment processes while the personnel
actions are often at the discretion of the head of the agency. Oversight of personnel management
is often weak to nonexistent.
17. Despite weak performance appraisal systems, the implementation of a performance-
related pay (PRP) system in public budget organizations (non–civil servants) is advancing
rapidly. The new system has multiple objectives, including (a) differentiating remuneration on
the basis of performance and outcome, (b) increasing attractiveness to hire qualified staff, (c)
increasing productivity and optimizing the employment size in public budget organizations, (d)
increasing transparency of the pay system, (e) introducing incentive measures that result in the
use of more applied knowledge, (f) increasing the overall wage levels, and (g) increasing the
independence of managers of public budget organizations. In 2010, more than 40 percent of
regular employees funded by the federal budget have been converted to the PRP. At the regional
level, 40 regions have already introduced the PRP, and the remaining 43 will make a transition in
2011.
18. There is a temptation (and danger) to develop PRP to boost public sector
performance or potentially reduce base salaries. The lessons from member countries of the
Organisation for Economic Co-operation and Development (OECD) indicate that the success of
implementing PRP depends more on the quality of the performance appraisal process rather than
on pay and that monitoring and measuring performance in the public sector remain a challenge.
Unlike the private sector, where the results are easily measured in financial terms, the public
sector deals with policies, regulation, and public services, which are difficult to turn into
quantifiable performance indicators within individual control. In Russia, although individual
results monitoring remains a challenge, the introduction of performance pay has been supported
by parallel policy initiatives on implementing service agreements between budget holders and
x
“In the medium- to long-term, these and additional
reductions in employment will require the consolidation
of administrative functions through automation and
modernization. But the biggest challenge will be to
implement similar measures at the subnational level.”
service delivery organizations, which specify the volume and quality of public services to be
delivered.
19. It is also clear that without structural changes in the education and health sectors,
closing the large wage gaps will come at a significant fiscal cost. The largest gaps are in
municipal education and health. For example, wages in preschool, primary, and secondary
education institutions at the municipal level are more than 50 percent below the average wage
level. The estimated cost of closing these gaps without reducing employment in education is
estimated at about 0.82 percent of GDP per year and in the health sector at about 0.53 percent of
GDP per year. The largest burden would fall on the budgets of subnational entities, whose wage
bills would increase by almost a third. Already in the past years, measures to close the wage gap
resulted in a sharp increase in the wage bill. Between 2006 and 2009, the subnational wage bill
increased by more than 20 percent per year in real terms.
20. To contain the wage bill, the
government will need to reassess
priorities within the public sector and
to right-size the staffing levels. This
effort is a medium-term challenge. In the
education and health sectors, the
government’s effort to transform public budget organizations into autonomous agencies will
greatly enhance managers’ incentive to right-size employment. The existing education system, in
particular, has significant scope for optimizing inputs without jeopardizing education outcomes.
21. In the medium term, the government plans boldly to right-size the civil service by
reducing the federal-level civil service positions by 20 percent over the next three years. The experience in other countries indicates, however, that significant employment and wage
reductions alone are rarely accomplished quickly. Instead, they are typically accompanied by
privatization and a mix of enterprise and wage bill control systems, coupled with incremental
reductions in employment through hiring freezes, attrition, and elimination of vacant posts. By
2013, according to the budget law, a combination of short-term and medium-term measures is
expected to result in a decrease in the aggregate federal-level wage bill by 0.9 percentage points
of GDP. In the short term, a reduction of 5 percent in federal-level civil service employment
could be achieved by a combination of measures that include elimination of vacant positions and
voluntary retirement. In the medium to long term, these and additional reductions in employment
will require the consolidation of administrative functions through automation and modernization.
But the biggest challenge will be to implement similar measures at the subnational level.
1
1. INTRODUCTION
1.1. After a decade of high growth followed by a severe recession in 2009, the Russian
Federation is experiencing significantly slower postcrisis growth and the need for fiscal
adjustment. Compared with the 7 percent average annual growth in the precrisis period, Russia
is likely to grow at a much more moderate pace––3.5 to 4.0 percent per year––in the postcrisis
years. More moderate oil prices, higher cost of capital, and lower and volatile capital flows are
likely to characterize Russia’s ―new normal,‖ external environment. Under these circumstances
of tighter budget constraints at all levels, two major public expenditure policy questions arise.
First, how can expenditure efficiency be increased to provide public services with reduced fiscal
resources? And second, how can the fiscal space for key infrastructure investments be increased
to ensure an enabling environment for long-term growth and economic diversification? These
questions are analyzed in this report.
1.2. The primary objective of the Public Expenditure Review (PER) is to assist the
Ministry of Finance (MOF) in identifying opportunities for efficiency gains in a few key
categories of government expenditure. This PER consists of three closely interlinked parts
focusing on (a) aggregate fiscal discipline and overall public expenditure management, (b) public
expenditures in the transport sector with a specific focus on roads, and (c) public employment
and the wage bill of budget organizations. The focus is mandated by the MOF’s gradual fiscal
adjustment and reform plans, and the PER aims to inform the MOF’s regular budget policy
cycle. It is also envisaged that the review could become a regular practice in the future, focusing
on other major categories of expenditures.
2
2. AGGREGATE FISCAL DISCIPLINE AND OVERALL PUBLIC
EXPENDITURE MANAGEMENT
A. RECENT MACROFISCAL DEVELOPMENTS AND SOURCES OF TENSION
2.1. The purpose of this chapter is to analyze the aggregate fiscal discipline in the
context of recent macrofiscal developments and government’s postcrisis reform agenda. Hence, this part aims to contribute to the government’s thinking about its medium-term fiscal
challenges and appropriate policy responses. The crucial point of departure is that the global
crisis has fundamentally altered the medium-term growth (and fiscal) path of the Russian
Federation’s economy from the one anticipated before the crisis. This report ponders the
implications of this situation for public expenditures at a time when Russia faces a balancing act
of controlling public finances while supporting economic recovery under much more difficult
conditions. A number of challenges are ahead. First, what reform and funding needs in
expenditure policy arise from the government’s postcrisis reform agenda? Second, how can
fiscal space be created to fund these measures without undermining long-term fiscal
sustainability and economic growth?
Recent Economic Developments
2.2. In the period between 1998 and 2008, Russia’s economy grew briskly at about 7
percent annually, yet the economy remained vulnerable to both external and fiscal risks,
and in late 2007, it began to overheat just at the time when global demand began to falter. Overall macroeconomic stability was strengthened by (a) healthy fiscal surpluses against
pressures for larger spending and lower tax rates; (b) monetary policy that helped reduce high
inflation to about 12 percent by the end of 2007; and (c) the creation of an oil reserve fund2 to
help limit the Dutch disease that plagued many oil-rich countries. However, domestic demand
was the primary engine of economic growth before the crisis. Oil and gas fiscal revenues
increased from 6 percent of gross domestic product (GDP) in 2001 to more than 10 percent in
2008, thereby allowing additional spending room, but also led to increased dependence on a
highly volatile source of income. And just prior to the crisis, Russia’s decade-long economic
expansion accelerated above the long-term trend, with clear signs of overheating, raising macro-
vulnerabilities.
2.3. As a result of these vulnerabilities, the impact of the global economic crisis was swift
and deep, and the economy is now recovering at a moderate pace. A decline in the global
demand, collapse of oil prices, reversal of capital flows, and tightening of credit triggered a sharp
slowdown and then deep recession in 2009. Although Russia entered the global crisis with a
strong fiscal position, low public debt, and large fiscal and monetary reserves, GDP still
contracted by 7.9 percent in 2009. Since the second half of 2009, however, the economy has
been on a path of gradual recovery driven increasingly by domestic demand but with relatively
high unemployment and very limited credit activity. Russia’s real GDP will likely return to the
precrisis level only in late 2012. Growth in the medium term is expected to be much more
moderate than before the crisis. Sustained, nonseasonal improvements in the labor market will be
slow.
2 This fund was introduced in 2004 and was split into two funds (Reserve Fund and Future Generation Fund) in 2008.
3
Recent Fiscal Developments
2.4. During the past decade, Russia created a modern tax system, designed two oil funds
to manage fiscal reserves, and reduced its public debt to below 10 percent of GDP. These
reforms helped limit the Dutch disease syndrome despite the run up in oil prices and large capital
inflows. Prudent budget management, using good practice lessons from Organisation for
Economic Co-operation and Development (OECD) and oil-rich countries, enabled Russia to run
consistent fiscal surpluses until the full effects of the crisis were felt in 2009 (see table 2.1).
Table 2.1: Key Fiscal Parameters, 2005–13 percentage of GDP
2005 2006 2007 2008 2009 2010 2011* 2012* 2013*
Revenues (consolidated) 39.7 39.5 40.2 38.5 34.4 35.3 34.8 34.0 33.2
Federal budget 23.7 23.4 23.6 22.3 18.8 18.7 17.6 17.0 16.8
Oil revenues (Federal Budget) 9.9 11.0 8.8 10.6 7.7 8.6 8.1 7.9 7.5
Nonoil revenues (Federal
budget)
13.8 12.4 14.8 11.7 11.1 10.1 9.5 9.1 9.3
Expenditures (consolidated) 31.6 31.2 34.1 33.7 40.6 38.9 38.9 37.6 36.3
Federal budget 16.3 15.9 18.1 18.2 24.7 22.7 21.2 20.1 19.7
Federal budget nonoil deficit -2.5 -3.5 -3.3 -6.5 -13.5 -12.7 -11.6 -10.5 -9.8
Federal budget balance 7.4 7.5 5.5 4.1 -5.9 -4.1 -3.6 -3.1 -2.9
Consolidated budget balance 8.1 8.3 6.1 4.8 -6.2 -3.6 -4.2 -3.6 -3.1
Fiscal reserves 5.7 8.7 11.6 16.0 11.8 7.7 6.3*** 5.9*** 5.3***
Reserve Fund** n.a. n.a. n.a. 9.8 4.7 1.7
Future Generation Fund** n.a. n.a. n.a. 6.3 7.1 6.0
Source: Ministry of Finance; Economic Expert Group, * World Bank staff estimates based on the Federal Budget Law.
Note: n.a. = not applicable.
* estimates based on the 2011 federal budget law; it does not reflect subsequent federal budget amendments.
** This fund was introduced in 2008.
2.5. Despite these reforms, the nonoil tax base did not expand and public expenditures
remained volatile and pro-cyclical in recent years. The government reduced the Unified
Social Tax to 26 percent in 2005 and the value added tax (VAT) rate from 20 percent to 18
percent in 2004. These and other tax reductions resulted in the loss of tax revenues of about 4
percent of GDP (table 2.2). Wide proliferation of tax exemptions and holidays has further
narrowed the nonoil revenue base, and the oil funds did not entirely insulate the economy from
oil and capital inflows. Analytically, an increase in oil revenues can be used (a) to increase
expenditures, (b) to reduce taxes, for example by reducing the nonoil revenue base, and (c) to
increase savings.3 The creation of the funds allowed for channeling part of the oil windfall
revenues into savings, reducing the fluctuations in expenditure levels or nonoil revenues. A pro-
cyclical policy stance since 2006, however, contributed to a widening of the output gap, thereby
exacerbating inflationary pressures and increasing macro-vulnerabilities (figure 2.1). Such
spending increases also may have stretched the government’s planning and management
capacity.
3 The equations are (a) Δ(Budget balance) = Δ(oil revenues) + Δ(nonoil revenues) − Δ(expenditure) or (b) Δ(oil revenues) =
−Δ(nonoil revenues) + Δ(expenditure) + Δ(budget balance).
4
Table 2.2: Shortfall in Fiscal Revenues Because of Changes in Tax Legislation
Date of
introduction
Permanent fiscal impact
as percentage of GDP
Total 4.32
Reduction in VAT from 20 percent to 18 percent Jan. 1, 2004 0.55
Abolishing of sales tax Jan. 1, 2004 0.35
Decrease in Unified Social Tax from 35.6 percent to 26 percent Jan. 1, 2005 1.40
Introduction of amortization premium of 10 percent Jan. 1, 2006 0.11
Reduction in oil extraction tax Jan. 1, 2007 0.10
Reduction in corporate income tax from 24 to 20 percent Jan. 1, 2009 0.60
Change in nontaxable threshold level of oil price used to calculate
mineral extraction tax
Jan. 1, 2009 0.20
Introduction of tax breaks for oil extraction in East Siberian oil fields Jan. 1, 2010 0.29
Reduction of export duties to natural gas exported to Ukraine Apr. 1, 2010 0.13
Source: Ministry of Finance, World Bank staff estimates.
Figure 2.1: Expenditure Impulse and Changes in the Output Gap 2002–10
percentage of GDP
Source: World Bank staff estimates based on budget execution reports.
Note: Other = discretionary measures. The methodology for calculating expenditure impulses is based on (Fedelino, Ivanova, &
Hordon, 2009).
2.6. In response to the crisis, Russia implemented a massive countercyclical policy
package––totaling 6.7 percent of GDP in 2008 and 2009––but it now faces the challenge of
sustained adjustment. Large fiscal reserves before the crisis (about 16 percent of GDP at the
end of 2008) allowed the government to introduce an anticrisis package, cushioning the crisis
impact. The measures were aimed at (a) strengthening the financial sector, (b) providing
emergency fiscal support for enterprises and regions, and (c) minimizing the social impact4 (for
more detail on fiscal policy responses during the crisis, see Russian Economic Reports, World
Bank 2009-10). But now Russia faces a balancing act of controlling public finances,
withdrawing the stimulus, and supporting recovery. After the deficit of more than 6 percent of
GDP in 2009, the government is planning a gradual fiscal adjustment to eliminate the deficit by
2015. The budget law for 2011–13 aims to gradually reduce the federal budget deficit from 4.1
percent of GDP in 2010 to 2.9 percent in 2013.
4 Although the indexation of pensions (on average, by 35 percent in 2009), a sizable increase in the public sector wage bill (by 30
percent for employees of federal-level public budget organizations in December 2008), and an increase in the minimum wage
level (from Rub 2,300 per month to Rub 4,330 per month, an increase of 88 percent, in January 2009) were planned before the
crisis, the measures have mitigated the social impact.
5
B. FUNDING NEEDS AND PRESSURES ARISING FROM THE GOVERNMENT’S
POSTCRISIS POLICY AGENDA
Fiscal Implication of Russia’s Postcrisis Policy Agenda
2.7. In the short-term, the government’s 2011–13 budget emphasizes six key economic
policy goals. These goals include (a) using the budget as a key policy instrument to maintain
macroeconomic stability; (b) improving public expenditure efficiency; (c) ensuring a results-
oriented performance of public sector institutions; (d) developing instruments that support
innovations; (e) improving the quality of human capital; and (f) ensuring long-term sustainability
of the pension system.
2.8. The implementation of these goals requires not only advancement of structural
reforms, but also significant fiscal resources. According to the federal budget for 2011–13,
these additional expenditures amount to almost 1 percent of GDP. But they are unlikely to be
sufficient to address the infrastructure constraints and support Russia’s vast modernization
agenda. A significant part of the expenditure allocations supporting economic modernization and
innovations (such as the support for higher education, research and development, Skolkovo
Innovation City, and energy efficiency) introduced in 2011 are to be gradually scaled back over
2012 and 2013 (in real terms, as a percentage of GDP).
2.9. This report argues that, in addition to accelerated reforms, supporting
modernization could require additional fiscal resources. The report estimates additional
funding needs for supporting economic modernization and innovations (0.5 percent of GDP by
2013), road maintenance (1.1 percent of GDP), and capital expenditures to address the
maintenance backlog and network expansion (1.0 percent of GDP) (see chapter 3 on road
expenditures) (table 2.3). These previously mentioned goals are also consistent with the long-
and medium-term policy planning documents (outlined in the Economic Development Strategy
2020, the president’s medium-term budget framework). Furthermore, Russia’s well-documented
demographic trends—declining population, aging population, increasing demand for pension and
health services, and changing structure of demand for education––will result in an increase in
social expenditures by an additional 3.5 percent of GDP in 2016–20 (Bogetic et al. 2010). These
are daunting expenditure pressures that can be accommodated only by sustained and significant
fiscal adjustment, which is more ambitious than the adjustment in the 2011–13 budget. To
implement it, the authorities will need to compensate for downward pressures on revenues and to
avoid the temptation to use extra-budgetary financing for public services. More important, the
authorities will need to strengthen the institutional framework, especially in capital budgeting
practices, to minimize the risk that additional funding is misused.
6
Table 2.3: Preliminary Estimates of Additional Funding Needs in 2011–13, Changes Relative to the
Previous Year Percentage points of GDP
Funding need
Federal budget law Total needs
(2013 relative
to 2010)
2011
2012
2013
Total (2013 relative
to 2010)
1. Additional Expenditure Pressures 0.5 0.0 0.4 0.9 3.3
Modernization of road infrastructure 0.1 0.1 0.1 0.3 2.2
Modernization of military 0.2 -0.1 0.4 0.6 0.6
Support of economic modernization and
innovations 0.2 -0.1 -0.2 0.0 0.5
2. Gradual decrease in oil and gas revenues 0.5 0.3 0.3 1.1 2.5**
3. Decrease in non-oil revenues 1.2 0.3 0.1 1.6 1.6
4. Debt financing 0.2 0.1 0.0 0.3 0.3
Total (1 + 2 + 3 + 4) 2.4 0.7 0.8 3.9 7.7
Source: World Bank staff estimates based on Federal budget law.
** Oil prices fall to USD60 per barrel relative to baseline assumptions of the budget.
2.10. Both oil and nonoil revenues face significant downside risks. For example, the federal
budget is based on a favorable oil forecast. Oil prices are expected to remain high over the
medium term; the price of Urals is estimated to be US$75 per barrel in 2011, US$78 in 2012, and
US$79 in 2013. But oil and gas revenues are expected to decrease by about 1.1 percent of GDP
in the medium term because of relatively stable oil and gas extraction and export volumes5 that
are not offset by high prices of minerals or movements in the exchange rate. Although this oil
price forecast is broadly consistent with current market expectations, it reflects the vulnerability
of Russia’s budget to a sudden drop in oil prices. Indeed, if oil prices fall to US$60 per barrel,
the cumulative, the adverse fiscal impact will exceed 2.5 percent of GDP in 2013. Furthermore,
nontax revenues are expected to weaken because of lower interest income from reduced balances
of the Reserve and National Welfare funds. In 2009, the interest revenues from these funds
transferred to the budget amounted to Rub 297.6 billion (US$9.9 billion), while in 2013 these
transfers will be only Rub 29.2 billion (slightly less than US$1 billion) (table 2.3).
Funding New Policy Initiatives within a Sound Macrofiscal Framework
2.11. Fiscal resources and plans to use them must ―add up‖—the new policy initiatives
can be financed by increasing revenues, by decreasing existing expenditures, or by
borrowing. In simple terms, if the new expenditures cannot be financed by reprioritizing
existing expenditures, by increasing expenditure efficiency, or by increasing the revenue base,
they must be financed through debt issuance. Russia’s current external debt levels are low,
providing a degree of maneuver, but as debt levels rise, debt service in future years could
represent a drag on the budget and the economy.
2.12. For oil-rich countries that are dependent on highly volatile oil revenues, fiscal
sustainability is especially important, requiring an explicit use of long-term fiscal rules.
This report argues that for Russia’s existing oil resource allocation rule to be effective in the long
run, it could be complemented by a rule of nonoil primary fiscal deficit (Bogetic et al. 2010).
5According to projections of the Ministry of Economic Development, the taxable volume exports of oil will range from 226.1
million tons of oil in 2011 to 221.9 million tons in 2013. Taxable extraction level of oil will range from 441.3 million tons in
2011 to 423.7 million tons in 2013. Exports of natural gas are expected to range from 132.4 billion cubic meters in 2011 to 157.1
billion cubic meters in 2013. Taxable volume of extracted natural gas is expected to range from 596.6 billion cubic meters to
631.6 billion cubic meters in 2013.
7
Under such a rule, Russia would spend in the long run only as much as it has earned, that is, as
much as the permanent income from oil assets would allow, leaving the stock of assets intact for
future generations (box 2.1). This more conservative fiscal rule would automatically ensure fiscal
sustainability, stabilize public expenditures, and establish greater fairness between current and
future generations. However, the use of fiscal rules should not be detached from a prudent use of
fiscal policy to address growth constraints.
2.13. The federal budget deficit will be financed mainly from domestic financing
sources—domestic borrowing supplemented by modest external borrowing. In 2011, a part
of the deficit will be financed also by a drawdown of the reserve fund, but in 2012–13, the deficit
will be financed mainly using domestic sources (table 2.4). The domestic financing sources
include the privatization revenues from the sale of state assets, approximately 0.5 percent of
GDP per year, and the issuance of domestic bonds. Although adequate liquidity exists in the
domestic market to finance the relatively small deficit (Consolidated Financial sector assets were
75.4 percent of GDP in 2009), there is a risk that in the long term doing so could cause an
increase in interest rates and crowd out bond issues by state-owned enterprises (SOEs) or large
enterprises. There is also a risk that the pace of fiscal adjustment on the expenditure side will
become slower because of the election cycle, resulting in higher deficit, the financing of which
might become more challenging in the medium term.
Box 2.1: A Permanent Income Fiscal Rule: The Case of Russia
Fiscal policy design in resource-rich countries must address three basic issues. First, oil income stems from
exhausting a fixed supply; this gives rise to an intergenerational equity issue because the current generation may
wish to share the oil wealth with generations born after the exhaustion date. Second, resource income is typically
highly volatile. Finally, long periods of resource revenues will put upward pressure on the real exchange rate,
leading to a decline in the traded goods sector (the so-called Dutch disease).
The permanent income approach to fiscal policy restricts spending of the oil wealth to a level that can be maintained
forever, and it provides a rules-based solution to all three issues. Restricting spending out of oil revenues to a level
that can be maintained indefinitely is, by definition, a sustainable policy. This approach is possible through saving in
good years and running deficits in bad years in such a way that accumulated income and investment proceeds
provide enough resources to maintain spending levels in low (or zero, postexhaustion) income years.
This approach to designing long-term fiscal policy involves two key steps: (a) computing the discounted value of
projected revenues and (b) calculating the income level exactly equal to the same discounted value. Restricting
spending to that hypothetical income level is, by definition, sustainable indefinitely. For example, if a safe real rate
of interest is about 3.0 percent (equal to the U.S. long-term historical real rate plus a hundred basis points for
Russian risk) and a long-term U.S. inflation rate is 2.4 percent, a safe nominal rate of return would be 5.4 percent.
But the income stream being discounted is not a safe stream because it is shrouded in substantial uncertainty. To
account for riskiness, a 3 percent risk premium is added to the basic safe real rate. Obviously, this puts a limit on the
―measured uncertainty‖ called risk, but it appears to be a reasonableassumption that would cover the possible level
of risk under most conditions in Russia based on past experience. Under the baseline Russian scenario, this
calculation shows Russia’s oil and gas wealth at a total of about US$3 trillion, or 215 percent of 2009 GDP. The
permanent income equivalent of this amount is the constant real annual amount that has the same discounted value,
this time using the safe real rate for discounting because it is by assumption a safe stream. This permanent income
equivalent is about 60.1 billion in constant 2009 U.S. dollars, or 4.3 percent of GDP in 2009. This 4.3 percent of
GDP is the sustainable nonoil deficit that can be safely consumed each year out of oil revenues without running into
sustainability problems while sharing the oil wealth fairly over all current and future generations.
Source: Based on the findings of the Long-term fiscal study, World Bank, 2010.
8
Table 2.4: Preliminary Estimates of Additional Funding Needs in 2011–13 percentage of GDP
2008 2009 2010 Federal budget law 2011–13
2011 2012 2013
Total deficit -4.1 5.9 4.1 3.6 3.1 2.9
Drawdown from the reserve and
stabilization funds
-4.8 5.2 3.7 0.5 0.0 0.0
Net external financing -0.3 -0.3 0.3 0.1 0.1 0.1
Net domestic financing 1.0 1.1 0.1 3.0 2.9 2.7
Source: World Bank staff estimates based on federal budget.
2.14. We analyze two postcrisis fiscal programs: the first based on the government’s fiscal
consolidation scenario outlined in the federal budget law for 2011–13 and the second based
on a more ambitious adjustment. For consistency purposes, both scenarios include identical
macrofiscal assumptions based on the medium-term outlook underpinning the federal budget for
2011–13. These scenarios should be viewed as a distribution (or a range) of possible outcomes
and integrate the strategic policy choice of partly or fully meeting the postcrisis reform agenda.
2.15. The government’s consolidation scenario (Plan A) is based on a modest increase in
the nonoil revenue base and the phasing out of most of the anticrisis measures not related
to social protection. The parameters of this scenario are based on the 2011–13 budget law that
introduces changes in the tax code aimed at increasing excise taxes on gasoline and tobacco. As
of 2011, excise tax revenues on gasoline will be earmarked specifically for the road sector;
hence, the tax increase will fund additional expenditures in the road sector at federal and regional
levels. Additionally, efforts to strengthen the VAT administration will result in higher tax
revenues over the medium term. On the expenditure side, the largest savings will result from the
introduction of a higher social insurance contribution rate, effective January 1, 2011, that will
reduce the pension fund deficit (effectively requiring smaller transfers from the federal budget to
cover this deficit, a reduction by 0.9 percent of GDP relative to 2010). Similarly, a gradual
phaseout of large social programs related to a provision of new housing for veterans of the World
War II will result in additional social expenditure savings. In addition, transfers to regions are
expected to decrease from as high as 3.8 percent of GDP in 2009 to only 1.6 percent in 2013 as a
result of the gradual phaseout of anticrisis measures at the regional level and the consolidation of
fiscal subsidies to the regions under a unified transfer window. Under this scenario, revenue and
expenditure measures will result in cumulative fiscal space totaling 5.1 percent of GDP over the
next three years (table 2.5) and a reduction in fiscal deficit from 4.1 percent of GDP in 2010 to
2.9 percent in 2013.
2.16. However, the government’s fiscal consolidation plan might not be sufficient to
improve the overall fiscal position and to reduce the nonoil deficit to fiscally sustainable
levels. First, the pace of fiscal adjustment in the 2011–13 budget is slower than initially
envisaged, pushing the hard decisions on expenditure adjustments into the future. A more rapid
adjustment is needed to bring the nonoil fiscal deficit down to the long-term, sustainable level of
about 4.3 percent of GDP. Second, with the price of oil used in the budget close to the current
forecast, Russia’s budget has become more vulnerable to a sudden drop in oil prices. A negative
oil price shock (for example, oil prices falling to US$60 per barrel) could reduce the actual net
fiscal adjustment by 33 percent. Third, expenditure pressures may increase in the election cycle
for 2011–12, thereby leading to a further weakening of fiscal adjustment. Moreover, if one takes
into account additional expenditure pressures related to the modernization of infrastructure, the
9
government’s fiscal consolidation plan might not be sufficient to improve the overall fiscal
position. There is also a risk that an increase in inflation in the medium term will require
additional indexation of social benefits that would result in further deterioration of the fiscal
balance (figures 2.2 and 2.3). Therefore, a more ambitious consolidation plan is needed to
support the economic diversification and modernization agenda and to achieve a fiscally
sustainable nonoil deficit level by 2015.
Table 2.5: Plan A: Creating Fiscal Space for Expenditure Priorities 2011-13, Changes Relative to
the Previous Year Percentage points of GDP
2011
2012
2013
Total (2013
relative to
2010)
1. Net Revenue measures (nonoil revenues) 0.7 0.0 0.2 0.9
Excise tax on tobacco (1,000 cigarettes with filters: 284 RUR
in 2011, 360 RUR in 2012, 460 RUR in 2013; 1,000 cigarettes
without filters: 360 RUR; 1,000 papyrus cigarettes: RUR 460) 0.04 0.03 0.02 0.1
Excise tax on gasoline (increase by 1 RUR per liter in 2011, by
an additional 1 RUR in 2013) 0.16 0.01 0.08 0.3
Additional dividends from SOEs (federal-level ownership) and
Unitary Enterprises 0.1 0.0 0.0 0.1
Improvement of VAT administration 0.5 0.0 0.1 0.5
2. Net expenditure measures 2.2 1.2 0.8 4.2
Wage bill savings 0.2 0.3 0.4 0.9
Streamlining of transfers (regional level) 0.1 0.3 0.1 0.6
Optimizing of social expenditures 1.5 0.1 0.1 1.8
Other expenditure cuts 0.3 0.4 0.2 1.0
3. Total revenue and expenditure measures (1 + 2) 2.9 1.2 1.0 5.1
4. Net fiscal adjustment taking into account new cost
pressures and shortfall in nonoil and nontax revenues 0.5 0.5 0.2 1.2
Source: World Bank staff estimates based on federal budget.
Figure 2.2: Medium-term Funding Needs and Sources
under Two Adjustment Scenarios, end of 2013
relative to 2010
Source: World Bank staff estimates.
Figure 2.3: Russia’s Nonoil Fiscal Deficit
under Two Adjustment Scenarios, 2007–20
2.17. A more ambitious consolidation scenario (Plan B) that could be considered by the
government incorporates more measures to reduce nonpriority expenditures, to broaden
non-oil tax revenue base, and to ensure a faster convergence to a sustainable fiscal position.
10
These measures are additional to the government plan (Plan A) presented previously. In
particular, this plan envisions additional increases in excise taxes on tobacco, alcohol, and
gasoline to bring them to the average levels of Group of 20 (G-20) countries. Furthermore, there
is still scope to increase VAT revenues by improving tax administration and minimizing VAT
exemptions and reduced rates.6 Additional expenditure savings through improvement of public
expenditure management practices and improvement of expenditure allocation (a reduction in
subsidies to support select sectors of the economy introduced during the crisis year), phasing out
of poorly targeted social assistance programs, and expenditure cuts in subsidies to support public
or private enterprises are expected to yield savings over 2 percent of GDP (see the following two
sections for a more detailed discussion). Under this scenario, the cumulative increase in fiscal
space will equal more than 9 percent of GDP over the next three years compared with 5.1 percent
under the budget scenario (table 2.6). In addition, there is a need to strengthen taxation of nonoil
mineral extraction industries.
Table 2.6: Plan B: Creating Fiscal Space for Expenditure Priorities in 2011–13, Changes Relative to
the Previous Year percentage points of GDP
2011 2012 2013 Total (2013
relative to 2010)
1. Net revenue measures 1.0 0.5 1.0 2.6
Government’s scenario to increase nonoil revenues (Plan
A) 0.7 0.0 0.2 0.9
Additional increases in excise tax on gasoline 0.1 0.2 0.3 0.5
Additional taxes on tobacco and alcohol 0.0 0.1 0.1 0.2
Additional VAT revenues from improved compliance and
minimizing exemptions 0.2 0.3 0.5 1.0
2. Net expenditure measures 2.2 2.2 2.2 6.5
Government’s scenario to cut existing expenditures (Plan
A) 2.2 1.2 0.8 4.2
Improvement of capital budgeting practices by introduction
of performance-based contracting in road maintenance
0.1 0.1 0.2
Improvement of capital budgeting practices by increasing
competition in road maintenance contracts
0.12 0.12 0.24
Elimination of federal budget compensation payments for
freight cargo tariffs
0.1
0.1
Gradually phasing out of poorly targeted social assistance
programs
0.4 0.6 1.0
Cuts in subsidies to support public or private enterprises
0.28 0.58 0.86
3. Total revenue and expenditure measures (1 + 2) 3.2 2.7 3.2 9.1
4. Net fiscal adjustment taking into account new cost
pressures and shortfall in nonoil and nontax revenues 0.8 2.0 2.4 5.2
Source: World Bank staff estimates based on federal budget.
6 Possible savings for additional VAT revenues in Russia are based on International Monetary Fund estimates (IMF 2010).
Reduction of compliance gap by 15 percent is estimated to increase VAT revenues by 0.4 percent of GDP. Reduction of VAT
exemptions by 15 percent is estimated to increase VAT revenues by 0.54 percent of GDP.
11
C. ENSURING EXPENDITURE SAVINGS BY IMPROVING PUBLIC
EXPENDITURE MANAGEMENT PRACTICES
Budgeting System
2.18. Russia is a federal state with a three-tier budget system and three major social
funds. At the regional level, there are six types of governments: republic, krai, oblast,
autonomous oblast, autonomous okrug, and two federal cities. At the local level, the government
structure is complex because of the variety of bodies that include upper-level municipalities
(mostly municipal districts) and lower-level municipalities (urban and rural settlements). In
recent years, subnational budget expenditures grew from 13.6 percent of GDP in 2006 to 16.0
percent in 2009, in part because of the crisis-related transfers to the regions. But in 2010,
subnational budget expenditures were expected to decline by more than 1 percent of GDP (table
2.7). There are three federal-level social security extrabudgetary funds in Russia: the State
Pension Fund, the Social Insurance Fund, and the Federal Mandatory Health Insurance Fund.
Federal extrabudgetary expenditures increased very significantly from 6.9 percent of GDP in
2006 to 10.1 percent in 2010. At the regional level, there are the Territorial Mandatory Health
Insurance Funds. Federal and regional extrabudgetary funds receive a significant share of their
revenues from federal and regional transfers, respectively.
Table 2.7: Aggregate Fiscal Allocations by Budget Types percentage of GDP
2006 2007 2008 2009 2010
Federal budget expenditures 15.9 18.1 18.2 24.7 22.7
Federal-level extrabudgetary funds 6.9 6.4 6.6 8.7 10.1
Subnational budget expenditures 13.6 14.5 15.0 16.0 14.8
Subnational-level extrabudgetary funds 1.3 1.3 1.3 1.4 1.3
Federal budget transfers to regions 2.2 2.6 2.6 3.8 3.1
Federal budget transfers to special funds 3.4 3.2 3.8 5.4 6.1
Total outlays 31.7 34.4 34.3 40.6 38.9
Source: World Bank staff estimates based on budget execution reports.
2.19. The size of government, measured in terms of aggregate budget expenditure as a
share of GDP, is comparable to that of other countries with the same level of income (figure
2.4). Despite increases in expenditures in recent years, Russia’s expenditure levels are similar to
those of European Union (EU) new member countries and advanced industrial countries. At the
same time, the aggregate expenditure level in Russia is below that of Nordic countries and EU
old member countries, but higher than that of Commonwealth of Independent States (CIS)
countries.
12
Figure 2.4: Size of General Government in Russia and Select Countries
Source: World Bank staff estimates based on International Monetary Fund Government Finance Statistics dataset.
Note: PPP = purchase power parity.
2.20. In the medium term, federal budget transfers to regions and extrabudgetary funds
are expected to decrease, resulting in federal budget savings of about 2.5 percent of GDP
cumulative over the next three years. In general, the transfers from the federal budget can be
classified into two broad groups: transfers to regions (with the aim to equalize regional
differences) and transfers to special funds, including compensating the shortfall in the pension
fund. In practice, there are multiple types of federal transfers to regions. Transfers to
extrabudgetary funds are expected to decrease as a result of an increase in social security
contributions paid by employers. On January 1, 2010, the Unified Social Tax was replaced with
insurance contributions payable to four separate extrabudgetary funds. Furthermore, after a
transition period as of January 1, 2011, a general rate of these contributions will also increase
from 26 percent under the Unified Social Tax to 34 percent. Similarly, transfers to regions are
expected to decrease from as high as 3.8 percent of GDP in 2009 to only 1.6 percent in 2013.
2.21. A number of structural reforms following the 1998 crisis have significantly
strengthened Russia’s fiscal framework and public financial management. In 2007, the
government lengthened its fiscal planning horizon and improved predictability of public
Box 2.2: Types of Federal Transfers to Regions in Russia
In Russia, there are five types of federal transfers to regions:
Equalization grants: These are general purpose grants allocated through a formula.
Gap-filling subsidies: First introduced in 2004, these subsidies compensate regions for losses of tax revenues or
increased expenditure burdens that result from federal policies.
Compensation for federal mandates: The federal government compensates subnational governments for 100 percent of
their expenditures on federal government responsibilities (for example, cost of running civil registration offices). This
type of transfer is not financial aid but rather a special mechanism that allows the federal government to perform its
own functions at the subnational level.
Capital transfers: These amounts include capital transfers under federally targeted programs. Capital investments not
related to such programs are further subdivided into regional development programs—federal programs whose
beneficiaries are individual regions or groups of regions and nationwide programs such as education or the expansion
of information technology.
Operating transfers to special territories, restricted-access cities: These transfers are direct, general-purpose subsidies
to centers of defense industry and research and development.
Source: (De Silva et al. 2009).
13
spending by introducing a three-year budget framework.7 This approach allowed line ministries
to better plan for the medium term, obliging budgetary authorities to consider the multiannual
consequences of their spending initiatives. The budget was consistently based on conservative oil
price assumptions, providing a reserve cushion in case of unpleasant oil price surprises. The
budget was also separated into baseline budget and new budget initiatives―a major
achievement, providing more transparency, stability, and predictability to the budget within a
medium-term framework.
Recent Public Sector Institutional Reforms
2.22. The government is beginning an overhaul of the public sector―aiming to reduce its
size and reliance on the budget, to cut waste, and to improve efficiency and service delivery. The first phase of that reform––currently under preparation by the Ministry of Finance––involves
reforming the institutional structure of budget agencies to reduce complexity and waste and to
improve efficiency. The reform calls for the legal reclassification of tens of thousands of public
entities, now included in the budget, into ―autonomous entities‖ that would effectively be turned
into ―arms-length bodies‖ or nonprofit organizations (as in education, science, health, and
culture).8 The majority of these autonomous entities would be financed in large part from the sale
of their own services, although some budget financing could continue. To receive the
government subsidy, the autonomous agencies would need to sign service agreements with the
government, including a clear mission statement, a list of services and goods being produced,
and a record of the quantity and quality level of the outputs. Thus, the reform program represents
a clear shift to a performance-oriented public sector, emphasizing efficiency, effectiveness, and
managerial accountability—reforms that OECD countries have been implementing to various
degrees over the past 20 years. Although any such reform clearly has risks, the government
views it pragmatically as a medium-term task and intends to embark on its implementation
gradually. It is important to stress that fiscal savings from these reforms will occur over the
medium term and will require an effective results-monitoring system to be in place. Thus, a
significant emphasis and focus should be on developing such results-monitoring
systems―including enlisting private companies, academic institutions, and nongovernmental
organizations to monitor target indicators of public programs. The role of external audit
(performance audit) will also become very important in ascertaining that service delivery units
comply with their contractual obligations, on the basis of which they receive budget financing.
2.23. The government has also prepared a strategy and an action plan to improve the
effectiveness of public expenditures. This approach reflects a policy commitment to ensure that
public spending is used more effectively in the environment of lower government revenues and
tight budget constraints. The program introduces ambitious steps to overhaul the budget process.
The budget will be transformed into a program budget consisting of specific programs grouped
into key areas linked to Russia’s development objectives and concrete monitoring frameworks.
Such a reform will eventually make it possible to link allocated funds to target indicators. At the
same time, the government continues efforts to increase transparency in the preparation,
allocation, and execution of public budgets at all levels. The budget decentralization efforts and
7 The framework was suspended in 2009 as a result of the crisis, but was reintroduced in 2010. 8 Only about 20 percent of the entities representing core functions of the state (police, government apparatus, and defense) would
be redefined as ―Treasury-financed organizations,‖ which would entitle them to be fully funded from the budget. The majority of
organizations will be turned into autonomous entities and will receive government funding for providing an agreed-upon volume
of public services.
14
decentralization of the decision-making process will lead to better-informed decisions on the use
of financial resources.
D. FINDING EXPENDITURE SAVINGS BY IMPROVING ALLOCATIONS
Aligning Aggregate Expenditure Allocations to Government Objectives
2.24. The government’s long-term economic development strategy (Economic
Development Strategy 2020) adopted in 2008 highlights seven priority areas to promote an
innovative, socially oriented economic development. The strategy was drafted just before the
crisis, in the period between 2006 and 2008. As a result, the underlying growth scenarios are
effectively outdated in the postcrisis environment (the strategy envisioned an annual growth of at
least 6 percent per year over the next decade). Nevertheless, priorities identified in this strategy
remain an integral part of the government’s long-term policy framework. Key priorities of this
strategy include the following:
Developing Russia’s human potential through major improvements in education,
housing, and pensions
Promoting environmental protection and mitigating the impact of climate change
Creating a competitive institutional environment that stimulates entrepreneurial activity
and attracts capital
Diversifying the economy through innovative technological change
Strengthening Russia’s global competitiveness in traditional economic sectors (energy,
transport, and agriculture) and reducing the depletion of raw materials
Promoting spatial development to decrease regional inequalities in living standards
Strengthening Russia’s external economic status as a main financial center and a
contributor to global public goods.
2.25. However, budget allocations to fund these priorities were made largely by
increasing aggregate expenditures rather than by a strategic reprioritization of
expenditures. Expenditure priorities for human potential and competitiveness were all
additional expenditures, requiring almost no strategic reprioritization of existing expenditures
(table 2.8). Favorable oil and gas prices in 2007 and 2008 allowed for an increase in the
aggregate expenditure levels without a need to increase borrowing. Similarly, during the crisis in
2009, large fiscal reserves allowed the government to increase expenditures for priority areas
without undertaking any expenditure reprioritization. As a result, the aggregate expenditure level
has increased by more than 6 percent of GDP between 2006 and 2010.
2.26. Adequacy of funding among priorities varied widely, partly in response to the crisis.
Before the crisis, additional resources were allocated to strengthen Russia’s competiveness in the
energy, transport, and agriculture sectors while other priority areas such as education received
only moderate expenditure increases in real terms. During the crisis, the most significant
increases in allocation were related to social protection (an increase in pensions). It is also clear
that expenditure allocations in 2009 and 2010 were primarily focused on minimizing the impact
of the unprecedented economic crisis.
15
Table 2.8: Changes in Aggregate Allocation of Consolidated Budget for Various Priorities Percentage points of GDP
2008/2006 2010/2008
1. Development of human potential 0.8 3.1
Education 0.1 0.0
Housing 0.4 -1.1
Social protection 0.3 4.2
2. Promotion of environmental protection 0.0 0.0
3. Strengthening of global competitiveness in traditional
economic sectors (energy, agriculture, and transport)
1.9 -0.5
4. Additional spending related to priority areas (1 + 2 + 3) 2.7 2.6
5. Additional spending not directly linked to priority areas 0.1 1.7
Source: World Bank staff estimates based on budget execution reports.
2.27. Going forward, the government plans to restructure the budget by introducing 39
budget programs grouped in five separate policy areas that would establish a clear link
between strategic policy priorities and budget expenditures. Budget programs related to
improving the quality of life will have the largest share of budget allocations (table 2.9).
Currently, the strategic reprioritization of expenditures is undermined by the fact that multiple
institutions are responsible for delivering public services in overlapping areas. In 2010, the
Ministry of Education accounted for only a half of all federal-level education expenditures
(excluding transfers to subnationals), while in addition to the Ministry of Health and Social
Services, almost a third of health care expenditures were executed by other line ministries. Such
fragmentation is likely to hinder a transition to true program-based budgeting.
Table 2.9: Budget Expenditures by Programs percentage of total program expenditures
2011 2012 2013
Quality of life 51.7 52.8 54.1
Innovations and modernization of economy 17.8 17.1 16.7
National security 9.3 9.2 9.1
Regional development 3.8 3.1 1.6
Public administration 17.4 17.9 18.4
Source: World Bank staff estimates based on the Ministry of Finance.
Defining Productive and Unproductive Expenditures
2.28. Public spending affects economic growth depending on the way it is allocated, the
way these allocations are efficiently and effectively spent, and the quality of general
governance. Broad allocations of spending among government functions may affect growth
because some categories of activities appear to spur growth more than others: expenditure
multipliers vary across expenditure categories. And within each category of spending, it is
possible to allocate resources more or less efficiently and effectively. Therefore, high levels of
spending in unproductive areas (most notably, redistributive spending on public consumption
and social transfers) can have a negative impact on growth, while spending in productive areas
(capital investment, education, and health) can promote growth (World Bank 2007; see figure
2.5). Furthermore, countries with better governance are generally able to collect taxes and spend
public funds more efficiently and effectively.
2.29. In 2010, in Russia the fiscal consolidation was mainly done at the expense of
productive expenditures. In 2010, social transfers were maintained while investment spending
16
was cut. Cuts in productive expenditures are likely to fall on much-needed infrastructure
maintenance. In 2010, public expenditures on transport were estimated to fall by 0.6 percent of
GDP from the (already) low level of 2.5 percent in 2009. This decrease is insufficient in the short
term and problematic in the long term insofar as public infrastructure represents a primary
channel for the government to promote competitiveness, international and interregional
interconnectivity, and productivity growth.
Figure 2.5: Changes in General Government’s expenditures by Category
Source: World Bank staff estimates based on budget execution reports.
Note: Productive expenditures include education, health, and infrastructure expenditures. Unproductive expenditures include the
following functional classifications: social protection, culture, and environment.
2.30. But this broad characterization of productive and unproductive spending is clearly
rough, and actual spending in each area must be scrutinized in practice. Spending in
productive categories such as education can still be wasteful, while well-targeted spending in
less-productive categories can be beneficial. According to the methodology of the Ministry of
Regional Development, the share of inefficient expenditures (defined as those exceeding
normalized unit cost standards set at the national level) at the subnational level totals slightly
more than 1 percent of GDP per year (table 2.10). But it is estimated that about 18 percent of
expenditures on secondary education were inefficient in 2009. Although Russia should try to
shift spending toward productive areas to the extent possible, it is even more important that the
efficiency of spending be increased in each area. The next two subsections will analyze sectoral
expenditure patterns in more detail.
Table 2.10: Government’s Estimates of Inefficient Budget Expenditures at the Regional Level,
2007–09 percentage of GDP
2007 2008 2009
Public administration 0.3 0.2 0.2
Health 0.2 0.2 0.2
Secondary education 0.4 0.3 0.4
Housing and communal services 0.3 0.2 0.3
Total 1.1 1.0 1.1
Source: Ministry of Regional Development.
Economic Classification of Budget Expenditures
2.31. Social benefits account for almost half of aggregate expenditure increases in 2009
(table 2.11). As with other countries in Central and Eastern Europe, pensions in Russia pose
17
some of the most difficult and intractable issues in public finance policy, exacerbated by the
legacy of socialism and demographic trends. Legacy issues of very high rates of employment and
generous pension coverage—with relatively low retirement ages and broad coverage for
disability—result in high pension spending relative to other fast-growing countries at similar
income levels in other regions (World Bank 2007).
Table 2.11: Evolution of General Government Expenditures by Economic Classification
percentage of GDP
2006 2007 2008 2009 2010*
Expense 27.3 33.2 33.4 39.3 38.0
Compensation of employees 7.8 7.4 8.8 10.2 9.5
Wages and salaries 6.6 6.1 7.6 8.7 8.1
Social contributions 1.1 1.3 1.3 1.5 1.4
Use of goods and services 6.5 6.9 5.3 6.3 6.1
Consumption of fixed capital n.a. 3.2 3.7 4.1 3.9
Interest 0.8 0.5 0.6 0.5 0.6
Subsidies 1.7 4.7 4.1 5.4 4.0
Grants 0.1 0.1 0.1 0.2 0.1
Social benefits 9.3 9.6 9.7 12.4 12.7
Social security benefits 6.3 6.3 6.7 8.7 8.9
Other expense 1.0 1.9 0.9 0.3 1.1
Total outlays 31.7 34.4 34.3 40.6 38.9
Source: World Bank staff estimates based on budget execution reports. * Estimate.
Note: n.a. = not available.
2.32. The wage bill registered a record high in 2009, reaching 10.2 percent of GDP. Prior
to 2008, the aggregate wage bill was consistently below 8 percent of GDP, slightly lower than
the average for European Union 10 (EU-10) countries (the Czech Republic, Estonia, Hungary,
Latvia, Lithuania, Romania, Bulgaria, Poland, the Slovak Republic, and Slovenia). As a share of
GDP, the wage bill remained fairly constant between 2002 and 2008, and sizable nominal
increases in the wage bill were offset by equally high growth in GDP. An increase in the wage
bill in 2009 was triggered in part by a sharply higher minimum wage (from Rub 2,300 per month
to Rub 4,330 per month, an increase by 88 percent, in January 2009). But the share of wages and
salaries in total outlays remained stable at around 22 percent in 2009 (see chapter 4 for an in-
depth discussion on the wage bill issues).
2.33. Over the past decade, subsidies (defined as unrequited payment to support public or
private enterprises) have declined, but they increased again in 2009, reaching 5.4 percent of
GDP. In the period between 2002 and 2006, the subsidy level fell from 5 percent of GDP to
about 1.5 percent. But in 2007, subsidies surged again, exceeding 5 percent of GDP in 2009
because of anticrisis measures. As a result, in 2009 alone, subsidies increased by 1.3 percent of
GDP. Compared to EU-10 countries with overall subsidy levels slightly more than 1 percent of
GDP on average, subsidies in Russia remain high.
2.34. At first blush, relative to other countries, capital expenditures in Russia as a share
of GDP seem high. In 2008, capital expenditures accounted for about 6 percent of GDP, slightly
higher than in other emerging G-20 countries, and higher than 3.2 percent in the EU new
member countries and in advanced G-20 countries (figure 2.6). In 2008, about 20 percent of
investment in Russia was financed through public budgets (6.5 percent from the federal budget,
12.2 from subnational budgets, and 1.6 percent from extrabudgetary funds). For comparison, in
2004 the public budget covered only 17.4 percent of all investment expenditures.
18
Figure 2.6: General Government Expenditures as a Share of GDP in the Russian Federation and G-
20 Countries, by Economic Classification, 2008
Source: IMF 2010.
2.35. But on closer inspection, parts of capital expenditures are, in fact, recurrent
subsidies (capital transfers), and public capital expenditures remain largely inadequate and
fragmented among various programs. Capital transfers were approximately 0.45 percent of
GDP per year in 2008 and 2009, slightly less than 10 percent of all capital expenditures. There
are four federal target programs for capital expenditures, the largest of which is the Federal
Targeted Program (FTP). The multiplicity of the investment programs has made capital
investment planning cumbersome, with inadequate provisions for operating expenses. One third
of expenditures from the FTP are allocated to the transport sector. The second-highest allocation
is for regional development (about 13 percent). The project selection process is not formalized
and projects are selected on the basis of expert assessment in the process of FTP approval. The
launching of the Investment Fund in 2006 created an additional fragmentation of investment
planning. Importantly, the projects in the Investment Fund are not linked to current expenditures
required for project implementation, thereby leading to systemic underfunding of maintenance
(Kraan et al 2008).
Functional Classification of Budget Expenditures
2.36. Approximately half of budget outlays represent social expenditures––publicly
financed programs in education, health, culture, mass media, sports, and social protection
(table 2.12). The second-largest expenditure component is infrastructure expenditures that
include energy, transport, communications, and housing and communal services, which account
for about one-fifth of total outlays.
19
Table 2.12: Evolution of General Government Expenditures by Function percentage of GDP
2006 2007 2008 2009 2010
Total expenditures 31.7 34.4 34.3 40.6 38.9
Public administration 3.1 3.5 3.1 3.3 3.2
National defense 2.5 2.5 2.5 3.1 2.8
Public order 2.7 2.6 2.6 3.2 3.0
National economy 3.5 4.7 5.4 7.1 5.2
Energy 0.1 0.1 0.1 0.2 0.1
Transport 1.5 1.8 2.2 2.5 2.5
Communications 0.1 0.1 0.1 0.1 0.2
Housing and communal services 2.3 3.3 2.8 2.6 2.4
Environmental 0.1 0.1 0.1 0.1 0.1
Education 3.9 4.1 4.0 4.6 4.2
Culture 0.7 0.7 0.7 0.8 0.8
Health 3.6 4.2 3.7 4.2 3.8
Social protection 8.8 8.6 9.0 11.7 13.0
Source: World Bank staff estimates based on budget execution reports.
Figure 2.7: General Government Expenditures as a Share of GDP in the Russian Federation and
Select Country Groups, by Functional Classification
Source: International Monetary Fund, Government finance Statistics dataset; Ministry of Finance (data for the Russian
Federation).
2.37. Social protection9 is the largest budget item within the consolidated government’s
spending, accounting for 25 percent of expenditures and one-half of social expenditures. The largest share of social protection expenditures (about 80 percent) finances social insurance
programs such as pensions and other programs providing benefits for contributors in case of
sickness, maternity, or unemployment (see appendix C for a list of social insurance and
noncontributory social assistance programs). Noncontributory social assistance programs and
subsidies10
channel the remaining 20 percent of social protection expenditures. In recent years,
both social insurance and noncontributory program expenditures have increased significantly
9 Russia’s extensive social protection system includes contributory programs such as pensions and unemployment benefits and
noncontributory programs such as privileges and income-tested social assistance. 10 Noncontributory subsidies and programs include, for example, subsidies for privileged citizens or income-tested social
assistance programs.
20
(table 2.13). Almost all social protection benefits, with the exception of child allowances, have
increased in real terms. Between 2004 and 2009, the minimum unemployment benefit level
increased more than five times in real terms, and average pensions increased by 40 percent in
real terms during the same period. In 2006, the relative level of social protection expenditures as
a share of GDP was significantly lower than in other countries, but in 2010, social protection
expenditures in Russia are almost as high as in advanced countries (figure 2.7).
Table 2.13: Social Protection Expenditures by Program Type percentage of GDP
2006 2007 2008 2009 2010
Social protection 8.8 8.6 9.0 11.7 13.0
Pensions 6.2 5.9 6.2 8.3 9.9
Other social insurance 0.7 0.7 0.6 0.6 0.7
Noncontributory programs 1.8 2.0 2.2 2.5 2.4
Source: World Bank staff estimates based on budget execution reports.
2.38. Pension increases had the most significant impact on social protection expenditures.
Pension expenditures increased from 6.2 percent of GDP in 2006 to almost 10 percent in 2010.
Nominal base pension increased by 30 percent in 2009 followed by a scheduled increase of 46
percent in 2010. But this was not offset by an increase in pension contribution rates, resulting in
the escalating pension fund deficit. Although the average replacement rate (ratio of average
pension and wage) increased from about 25 percent in 2007 to more than 35 percent in 2010,
federal transfers to cover the pension fund doubled (figure 2.8). Regarding the declining
working-age population, sustainability is the key issue of the pension system. The introduction of
higher contribution rates effective January 1, 2011, is one of the steps taken by the government
to improve sustainability.
Figure 2.8: Federal Budget Transfers to the Pension Fund as a Share of GDP and Average
Replacement Rate
Source: World Bank staff estimates based on budget execution reports, Rosstat.
2.39. Although resources channeled through noncontributory programs are substantial,
the impact on poverty is small. Estimates suggest that total noncontributory spending
accounted for at least 2.8 percent of GDP in 2010 (in 2002, the total was about 6 percent of
GDP). In terms of noncontributory spending, Russia ranks among the generous spenders. But
according to a recent World Bank report assessing Russia’s living standards,11
only a small
11 World Bank report, Russian Federation: Addressing the Challenge of Chronic Poverty and Vulnerability, analyzing poverty
incidence during 2002–06 (2009).
21
fraction of these resources is targeted to the poor12
and the few income-tested programs explicitly
designed to serve poor or vulnerable populations have mediocre targeting.13
The majority of
these programs are administrated by subnational governments; the federal budget accounts for
only 10 percent of all noncontributory expenditures.
2.40. Public expenditures on health have increased steadily but remain comparatively low
and inefficient. Since 2001, public sector expenditures on health have fluctuated between 2.7
percent of GDP and 4.2 percent, significantly less than in industrialized countries. In real terms,
health care spending rose above pretransition levels only in 2006 with the injection of resources
from the National Priority Health Program. Russia’s total health expenditures (public and
private) are 5.3 percent of GDP, significantly below the levels observed in countries with similar
per capita income level (see appendix A). There remain serious structural problems in Russia’s
health sector that undermine the efficiency of health expenditures. Despite the fact that
subnational government expenditure on health varies substantially relative to gross regional
product (GRP)—mostly between 2 and 4 percent of GRP, but up to 15 percent—health outcomes
across regions do not significantly vary, suggesting important inefficiencies (Box 2.3).
2.41. Although spending on education rose in recent years, efficiency-enhancing reforms
progressed slowly. Before the crisis, consolidated budget expenditures on education increased
from approximately 3.7 percent of GDP in 2005 to slightly more than 4 percent in 2008.
However, relative to other countries, public expenditure on education as a share of GDP
significantly lags (figure 2.7). According to the OECD, the average secondary education
expenditures per student in Russia are about two times lower than in EU new member countries
(four times lower than in EU old member countries). Reforms aimed at increasing efficiency,
such as the introduction of a per capita secondary education financing model (primary and
secondary education account for almost half of all education expenditures; see table 2.14),
remain in the pilot stage. Furthermore, the present system of allocation, regulations, and
incentives leaves little room for improving the allocation of resources for capital investments and
development with a significant number of schools in need of renovations. Thus, in the current
environment of limited fiscal resources, it is especially important to improve efficiency and
broaden institutional reforms (Froumin and Shmis 2008). (World Bank [2010d] and Hauner
[2007] provide more in-depth analysis of education expenditure.)
12 According to the HBS survey (2006), only a third of the beneficiaries of income-tested programs in Russia are indeed poor. Of
the four best programs from countries in transition, the average is two thirds. 13 About one-half of social assistance spending in Russia finances privileges and regressive subsidies for housing, utilities, and
energy that largely benefit middle class and richer households in a system designed for different categories of citizens. Only a
small part of the subsidies goes to the poorest 20 percent of the population.
22
Table 2.14: General Government Education Expenditures by Function
percentage of GDP
2006 2007 2008 2009 2010
Total 3.9 4.1 4.0 4.6 4.2
Preschool 0.5 0.6 0.6 0.7 0.7
Primary and secondary 1.8 1.8 1.8 2.0 1.8
Vocational 0.4 0.4 0.4 0.5 0.4
Higher 0.6 0.7 0.7 0.9 0.8
Other 0.5 0.5 0.5 0.4 0.4
Source: World Bank staff estimates based on budget execution reports.
2.42. Between 2004 and 2008, public expenditures on transport averaged about 1.5
percent of GDP per year, yet different transport subsectors vary enormously in the extent
to which they rely on public funding. Given the limited short-term scope for full cost recovery
in the public transport sector, much of the transport infrastructure (capital expenditures) is
directly financed by subsidies or capital transfers. Whereas operating costs of infrastructure are
largely financed by user charges, roads and waterways depend almost exclusively on public
finance. Only about 10 percent of the costs of rail, sea, and air transport come from the public
budget, while more than 90 percent of the costs of roads and inland waterways are covered by
the public funds.
Box 2.3: Key messages of World Bank’s Social Expenditure Review
Additional social sector financing per se would not enable Russia to improve quality and performance. The
fundamental structural distortions in the health and education systems need to be resolved in order to fundamentally improve
efficiency. In specific terms, the analysis undertaken under the framework of the Social Expenditure Review leads to the
following key messages:
Russia has significant scope for spending its existing fiscal resources allocated to social services (health, education,
and social protection) more efficiently. The efficiency reforms could improve human development outcomes and at the
same time protect the current fiscal envelope on social services from expanding. The findings indicate that better
education and health outcomes could be achieved with the current input of physical resources into the education and
health systems. Sector reforms and inter-budgetary transfers are important elements in optimizing service networks and
in keeping under control physical (and fiscal) inputs in the provision of social services.
The regional analysis of social sector spending and of the related human development outcomes suggests that
some regions have made significant efficiency advances in the health and education sectors while at the same time
protecting or improving human development outcomes. More-reform-oriented regions are also found to be generally
more efficient at a given point in time. This evidence is encouraging and provides empirical support for further
advancing the efficiency reform agenda.
A quest for the quality of inputs in the provision of social services is of paramount importance in reducing the
quantity of inputs while at the same time improving human development outcomes. For example, the analysis of the
education sector shows that quantitative inputs such as the student-teacher ratio and the average school size are
significantly correlated with the costs per student, but not with educational outcomes. At the same time, educational
outcomes are found to be highly correlated with the factors capturing the quality of inputs in the education system. It is
estimated that efficiency improvements across all the regions may free up about 25-30 billion Rubles in the general
education sector, and up to 180-200 billion Rubles in the health sector. Any potential fiscal savings made from reducing
the quantity of physical inputs in health and education could be used to enhance the quality of inputs.
The current system of inter-budgetary transfers provides several options for changes that would position it better
for the delivery of social services and the provision of budget efficiency incentives. The system in its current form
already plays a crucial role in helping the regional/local governments in providing and financing social services such as
health and education, not least through smoothing the regional differences in social spending per capita. However,
several potential changes to the system of inter-budgetary transfers have the potential to make it even better positioned
for the delivery of social services and the improvement of budget efficiency incentives.
Source: Social Expenditure Review, World Bank (2011).
23
E. SUMMARY OF RECOMMENDATIONS
2.43. The crisis has provided an opportunity and impetus to rethink and accelerate public
sector reforms, especially in improving public expenditure management; it is important
that these lessons are not lost in the return to business as usual after the crisis. Aggregate
analysis of expenditures indicates that there is much scope for increasing efficiency by
identifying functional categories of unproductive spending to target for cuts in the medium term
and by creating room for priority expenditures (table 2.15). This approach would require a
systematic, annual review of public spending categories, in the context of the annual budget
reviews, to identify the scope for cuts without affecting the desired service delivery and to
advance all-important institutional reforms. The government has a strong record of strengthening
budget management for many years, and its three-year budget for 2011–13 aims to implement a
gradual fiscal adjustment plan containing many important initiatives. Notwithstanding important
measures in this budget, a more ambitious adjustment is recommended to bring Russia’s finances
to a long-term sustainable path more rapidly, to better prepare Russia’s budget for future external
shocks, and to engender efficiency gains across key spending categories.
Table 2.15: Summary of Recommendations: Aggregate Macrofiscal Framework
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
Strengthening aggregate macrofiscal framework to support the long-term growth
Maintaining
budget planning
with a
conservative
macroeconomic
forecast, including
conservative oil
price
MOF Conservative oil price
assumptions underpinning
medium-term fiscal plans
(three-year federal budget)
Minimizing of mid-year budget
revisions
Continuous Avoiding of excessive,
unanticipated expenditure
cuts in cases of negative oil
price shocks
Reintroducing
fiscal rules
MOF Nonoil and gas fiscal deficit
target for the federal budget
kept below 4.5 percent of GDP
Sequentially
over the medium
term
Balanced and sustainable
budget system in the long
term
Reduced risk from oil price
volatility
Greater fairness between
current and future
generations
Enhancing
automatic
stabilizers
MOF Increase in the size of
unemployment benefits and
means-tested social assistance
programs
Medium-term More automatic flexibility to
respond to new economic
shocks.
Strengthening
long-term fiscal
risk analysis and
assessment
MOF Consistent fiscal risk analysis
and assessment, including risks
arising from medium- and long-
term demographic trends,
changes in global economic
conditions, and contingent
liabilities
Ongoing
government
effort
Reduced medium- and long-
term fiscal risks
Improving public expenditure management practices
Increasing
transparency in
preparation,
MOF Developing of municipal
budget monitoring systems
Enlisting of external bodies
Ongoing
government
effort
Increased budget
accountability that results in
increased quality of public
24
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
allocation, and
execution of
public budgets at
all levels
(private companies) to monitor
target indicators of public
programs
service delivery
Refocusing budget
expenditure
control from
inputs to results
(outputs and
outcomes)
MOF, MOE,
line
ministries
Strengthening of the role of
financial directorates in line
ministries to play a key role in
budget formulation, improving
the efficiency and effectiveness
of the spending
Introduction of methods and
techniques to assess the
efficiency of federal
government operations by
designing specific performance
indicators to measure the
efficiency of spending and to
assess achievements against the
planned parameters
Ongoing
government
effort
Improved government
performance, increased
quality of publics services
Strengthening
capital budgeting
practices
MOF, MOE,
MRD
Planning of capital
expenditures to be linked with
provision for operating
expenditures
Increase in transparency in
project selection in public
investment programs
Short-term Increased effectiveness of
capital expenditure programs
Introducing
program-based
budgeting
MOF, MOE Gradual introduction of
program-based budgeting
Medium-term
(ongoing
government
effort)
Increased expenditure
efficiency
Improved public sector
productivity
Broadening tax base
Increasing
revenues from
tobacco and
alcohol excise
taxes
MOF Increase of excise taxes on
alcohol and tobacco to average
levels of G-20 countries (0.58
percent of GDP)
Short- to
medium-term
Increased fiscal revenues by
0.23 percent of GDP
Improvement of health
outcomes
Increasing
revenues from fuel
taxes
MOF Increase of excise taxes on fuel Short- to
medium-term
Increased fiscal revenues by
0.5 percent of GDP
Improving the
revenue
performance of
VAT
MOF Improvement of compliance by
strengthening the tax
administration
Minimizing of exemptions and
VAT reduced rates
Short- to
medium-term
Reduction of compliance gap
by 15 percent is estimated to
increase VAT revenues by
0.4 percent of GDP
Reduction of VAT
exemptions by 15 percent is
estimated to increase VAT
revenues by 0.54 percent of
GDP
Improving expenditure allocations
Ensuring adequate
resources for
social sectors
MOF, MOT,
MOE
Limiting of expenditure cuts in
productive sectors
Short- to
medium-term
Protection of human capital
and key infrastructure, which
are key ingredients to future
25
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
(education and
health) and
infrastructure
maintenance
economic growth
Overseeing
intergovernmental
fiscal relations
MOF Consolidating of fiscal
subsidies to the regions in the
key policy areas under a unified
transfer window
Introduction of efficiency
criteria for granting subsidies to
regions
Medium-term,
ongoing
government
effort
Increased expenditure
efficiency
Reduction in federal budget
transfers by 1.1 percent of
GDP cumulative in 2011–13
Overseeing social
protection and
social assistance
MOF,
MOHSS
Gradual phasing out of poorly
targeted social assistance
programs for a gradual
substitution of privileges with
targeted programs
Gradually over
the medium term
Increased efficiency and
better targeting of the social
protection system
Enhancing
efficiency of
government
service delivery
MOF, all
ministries
and agencies
Continuing of reforms to
introduce ―autonomous‖
agencies as a new form of
delivery and financing of
government services
Enhancing of transparency of
institutions delivering public
services
Eliminating of overlapping and
redundant functions and
mandates among the
government levels and among
government agencies
Medium-term,
ongoing
government
effort
Increased accessibility and
quality of government
(municipal) services in
education, health care,
culture, social security, and
other socially sensitive areas
Phasing out
anticrisis
measures
MOF Reduction of the aggregate
expenditure on subsidies to the
precrisis levels by gradually
phasing out subsidies to
enterprises and capital transfers
to enterprises.
Gradually over
the medium term
Reduced quasi-fiscal
activities
Fiscal savings up to 1.3
percent of GDP
Note: MOE = Ministry of Education, MOF = Ministry of Finance, MOHSS = Ministry of Health and Social Services, MOT =
Ministry of Transportation, MRD = Ministry of Regional Development.
26
3. STRENGTHENING CAPITAL BUDGETING IN ROAD AND RAIL
SECTORS
3.1. This chapter analyzes the Russian Federation’s capital budgeting practices by
focusing on the transport sector––specifically roads and rail––the single largest item of
capital expenditures. Russia faces a number of significant, and often conflicting, challenges in
the transport sector. First, the condition of the transport network has been declining over the past
decades because of insufficient spending on maintenance and rehabilitation, raising costs to the
economy and reducing the competitiveness of the country. Second, there is also a need to
continue the necessary reform to strengthen the institutional framework and to improve
allocation efficiency in the sector and the sustainability of expenditures. Finally, and most
important, there is a need to adopt a more professional approach to the management of transport
infrastructure, mainly road assets, to enhance efficient use of the resources for the maintenance
of assets and, thus, support the sustainability of all expenditures.
A. INFRASTRUCTURE, GROWTH, AND PUBLIC EXPENDITURE
3.2. Public infrastructure has long been recognized as a key factor of development and a
tool by which governments can promote competitiveness and regional and productivity
growth. A recent Organisation for Economic Co-operation and Development (OECD) report
suggests that investment in infrastructure has an effect on the pattern of economic growth and
that the effect depends on the stage of economic development (Hulten 2007). In countries like
the United States which has a large road network, the main effect of reduced transport costs
stemming from road infrastructure investments is the relocation of economic activities to lower-
cost regions, with significantly changing productivity or output. However, the addition of
capacity to capacity-constrained networks will tend to cause an improvement in productivity and
lead to an expansion of economic growth. Cross-country studies have shown that the rates of
return to paved roads in certain middle-income countries are exceptionally high, suggesting
significant macroeconomic externalities associated with infrastructure (Canning and Bennathan
2007). Although these studies have not looked at the Russian economy, they do suggest that for a
number of middle-income countries, there can be significant, positive contributions to economic
growth, unlike the case for more mature economies.
3.3. In Russia, the condition of transport infrastructure is generally poor and has been
declining because of underinvestment in maintenance and rehabilitation. Public expenditure
on transport amounted to 1.5 percent of gross domestic product (GDP) per year in recent years,
which, as this report argues, is below the international norms and Russia’s own requirements for
maintenance and basic expansion of the network. Poor quality of infrastructure is also
increasingly viewed as a key constraint to Russia’s competitiveness and business (box 3.1). The
deterioration in road asset quality is a proxy for insufficient expenditure on maintenance and
rehabilitation in Russia, leading to a mounting maintenance backlog problem.
27
3.4. But the provision of public infrastructure depends critically not only on financing,
but also on management and institutions. Public investment in infrastructure should reflect
both cost-benefit and macroeconomic considerations that take into account financing and
capacity constraints. An important survey of economic issues of infrastructure (Estache 2007)
shows that investment planning and policy coordination are essential to avoid bottlenecks that
slow national and regional growth or distort urban-rural resource allocations. Thus, despite
evidence indicating that insufficient infrastructure is becoming a constraint to economic growth
in Russia (especially in select regions), the economic impact of public investment will also
depend on institutional issues related to planning and implementation of large-scale
infrastructure initiatives.
B. THE ROAD SYSTEM: CURRENT ISSUES AND CHALLENGES
The Road Network
3.5. Russia, with a land area of 17.1 million square kilometers, is the largest country in
the world, with 963,000 kilometers of roads of which 629,000 kilometers are public roads
and 754,000 kilometers are hard-paved surface roads as of 2008. Of the public road network,
more than three quarters are regional and intermunicipal roads (table 3.1). The federal highway
system and its management cover less than 5 percent of total road network, but about 60 percent
of motorways, and account for 40 percent of road freight traffic volume, including nearly all
international freight traffic.
3.6. The policy makers aiming to improve the Russian road network face a number of
pressing issues requiring a multipronged policy approach: (a) scarcity and structural design
of the network, (b) poor road conditions, (c) outdated design standards, (d) overloading, and (e)
road safety.
Box 3.1: Infrastructure, Competiveness, and Constraints to Russia’s Business
The quality of infrastructure is perceived to be an important component of competiveness and overall business environment. According to
recent cross-country rankings, the quality of Russia’s infrastructure appears to be significantly lagging that of comparators. Business surveys show that firms and enterprises indicate the quality of infrastructure to be either inadequate or becoming a constraint. For the past three decades, the World
Economic Forum’s annual competitiveness reports have examined many factors enabling national economies to achieve sustained economic growth
and long-term prosperity. Since 2005, the World Economic Forum has based its competitiveness analysis on the Global Competitiveness Index (GCI), a highly comprehensive index that captures 12 pillars of competitiveness, including infrastructure.
The World Economic Forum Global Competitiveness Report 2009–2010 ranks Russia 63rd out of 133 countries, just above Romania and
below Montenegro. Compared to the 2008 ranking, Russia slipped by 12 places mainly because of a notable deterioration in financial market efficiency. Russia’s rank in infrastructure, 71st, is lower than its overall rank (63rd), just above Georgia and below Morocco. There are some
infrastructure areas in which Russia is more competitive: available seat kilometers (13th); quality of railroad infrastructure (33rd), and number of
telephone lines (40th). But Russia is significantly less competitive in other infrastructure areas: quality of electricity supply (73rd); quality of port infrastructure (87th); quality of air transport infrastructure (92nd); and quality of roads (118th). The quality of roads in Russia is ranked below
Kazakhstan, but above Ukraine.
Furthermore, newly released results of the European Bank for Reconstruction and Development–World Bank Business Environment and Enterprise Survey covering a broad range of issues about the business environment in Russia and other countries of Central and Eastern Europe, indicated that
Russian enterprises were experiencing a significant worsening in the infrastructure constraints since the previous survey was carried out in 2005.
Transport is becoming a major constraint, with 64 percent of firms indicating it was a problem in 2008, significantly higher than the 28 percent reported in 2005.
Sources: EBRD and World Bank 2010, World Economic Forum 2009.
28
Table 3.1: The Road Network kilometers, thousands 2000 2007 2008
Supply side (kilometers, thousands)
Hard surface roads 754 771 754
Public roads 532 624 629
Federal roads 46 49 50
Motorways 29 30 30
Regional and intermunicipal roads 486 469 456
Local roads n/a 107 124
Departmental roads 221 147 125
Demand Side
Total number of vehicles (thousands) 24,993 35,455 38,264
Light vehicles 20,247 29,405 32,021
Buses 624 882 894
Heavy trucks 4,122 5,168 5,349
Cargo volumes (tons, millions) 5,878 6,861 6,893
Cargo turnover (billion ton kilometers) 153 206 216
Source: Rosstat, http://www.infostat.ru/catalog.html.
3.7. The Russian road network is sparse. This sparsity reflects, in part, the traditional
reliance on the railway system, the large size of country and the spatial concentration of
economic activities. Public road spatial density, at 37 kilometers per 1,000 square kilometers, is
very low compared to that in Canada, a large country with similar climate (110 kilometers per
1,000 square kilometers), but it rises to 110 kilometers per 1,000 square kilometers in the
European part of Russia. Conversely, it falls as low as 6 kilometers per 1,000 square kilometers
in the Far East Federal District (figure 3.1). On a second measure, public road density is also low
in Russia, at 4.4 kilometers per 1,000 inhabitants, compared to 32.4 in Canada and 7.8 in
Germany, although it is higher than China, which has only 2.64 kilometers per 1,000 inhabitants,
because of the large population base.
Figure 3.1: Public Road Spatial Density: Russian Federation and select countries (left) and Russian
Federation and selected federal districts (right) km per 1000 square kilometers
Sources: PACC consulting ; Rosstat, http://www.infostat.ru/catalog.html; World Bank estimates.
0 500 1000 1500 2000
Germany
UK
Sweden
USA
China
Finland
Canada
Russian Federation
29
3.8. The radial structure of the federal road network and rising car ownership
contributes to congestion. The network is excessively dependent on the Moscow hub, while
regions are deprived of more direct transportation links. As a result, traffic intensity in some of
the radial routes exiting Moscow exceeds 100,000 to 150,000 annual average daily traffic, higher
than the maximum road capacity, with sections of federal highways going into large cities
typically paralyzed for several kilometers. At the same time, the number of registered vehicles
rose by more than 50 percent over 2000–07, to 38 million by 2008, straining the road
infrastructure. Given current traffic intensity and actual usage levels, more than a third of the
federal road network needs to be reconstructed to a higher technical category, with reinforced
surfaces to allow for heavy vehicles.
3.9. The condition of the federal, regional, and local road network is less than
satisfactory. Of the 49,995 kilometers of federal roads, only slightly more than a third meet the
standard requirements and can be considered to be in good and fair condition (table 3.2).
Technical inadequacies and high loads result in very slow traffic through major roads (40–60
kilometers per hour in roads designed for traffic of 80–100 kilometers per hour). The poor state
of the federal network reflects: (a) years of inadequate maintenance and rehabilitation; (b) poor
quality of road construction; (c) high traffic intensity; (d) operation of roads above designed
loading capacity; and (e) inadequate planning and management of regular maintenance. About
76 percent of regional roads do not meet the regulatory standards for transport operating
conditions, leading to higher cost of road transportation. More than half of the local road network
does not have hard surfacing. There are almost two million people living in areas without access
Box 3.2: Institutions in the Russian Road Sector
The Ministry of Transport is responsible for transport policy development and transport sector regulation,
including roads. It is mandated to develop and approve transport sector regulation, negotiate and sign international
transport agreements and to act as a designated authority implementing international transport agreements in
Russia. It is also responsible for procuring transport-related design, survey, and research works for public needs, as
well as coordinating and supervising the operation of the subordinate subsector-specific federal agencies. Two key
federal institutions in the road sector are Rosavtodor and Avtodor. Rosavtodor, the Federal Highway Agency, is the federal executive authority responsible for public service
delivery and public property management in the road transport and road subsectors. It is mandated to
coordinate new road construction and ensure that federal highway conditions meet the existing rules, standards,
technical regulations, and other regulatory documents and to act as a public client and procure works and services
relating to federal highway civil works. Rosavtodor manages the federal highways both directly and through a
system of state-owned institutions responsible for day-to-day operation of the federal highways. The system
includes 10 federal highway administrations, 22 highway offices, and 4 road construction directorates. In addition,
Rosavtodor manages federal state-owned unitary enterprises engaged in federal highway maintenance,
rehabilitation, reconstruction, and construction. It also supervises 195 federal unitary enterprises responsible for
repair and maintenance of federal roads. Rosavtodor is responsible for the Federal Targeted Program of the
Modernization of the Russian Highway System 2002–2010 and the surface roads subprogram of the Development
of Russia’s Transportation System 2010–2015.
Avtodor, the Russian Motor Roads Public Company, is a new public company created in the second half of
2009. Among its objectives are (a) establishment of a backbone network of high-speed roads of federal importance;
(b) creation of a more market-oriented system of road management to attract private investors and to allow the use
of additional financial tools to mobilize investment resources; (c) improvement of the efficiency of road asset
management and upgrade of road enterprises; and (d) movement to a phase of dynamic road network development.
Avtodor creates a mechanism for attracting private sector participation in road investments, something that was
quite difficult for a federal executive body such as the Federal Highway Agency or budget institutions subordinate
to it.
30
to public-use roads, while about 40,000 communities lack year-round connectivity to the public-
use road network.
Table 3.2: Length and Percentage of the Federal Road Network not Meeting Standards, 2009 Length (kilometers) Percentage
Failing to meet minimum riding quality requirements 28,500 57.1
Failing to meet minimum grip requirements 12,200 24.4
Failing to meet minimum strength requirements 24,900 49.9
Failing to meet minimum defects requirements 35,100 70.3
Source: Avtodor, Long-Term Program of the Russian Motor Roads Public Company (2010–2015), Dec 31, 2009.
3.10. However, the road design standards are inadequate and out of date. Most of the
roads that were built in the pretransition period have a width of up to 10 meters, with a tight
radius that avoided high construction costs, and were suitable for maximum axle loads of six or
eight tons per axle. Many of these roads now carry a much higher volume of traffic and much
larger trucks with European dimensions (the majority of Russia’s present design standards for
public roads are still based on the maximum axle loads of less than 10 tons, but the European
designs of many trucks operating in Russia have axle loads of 11 tons to 16 tons on double
axles). As a result, the outdated design standards constrain the network capacity. In addition,
pavement standards in Russia are not based on an equivalent standard axle, which requires
factoring in forecast traffic demand over the design life to determine pavement strength.
3.11. Truck overloading is rampant because of poor enforcement of regulations, thereby
worsening road conditions. International research has shown that pavement damage because of
loading is proportional to the axle load, raised to the fourth power. This means that heavier
vehicles cause greatly increased rates of pavement damage. As a result, road safety remains a
serious issue in Russia, with significant economic and social impact. The number of fatalities has
remained largely unchanged over the period 2000–08—from 29,600 to 29,900 per year over the
period—while the number of injuries has more than doubled, reaching 270,900 in 2008. The
fatalities per 10,000 passenger cars have declined from 14.6 in 2000 to 9.3 in 2008. But, fatalities
in Russia remain exceptionally high––six times higher than the European Union (EU) average,
and much higher than the worst-performing country in the EU, Romania (figure 3.2). Economic
costs of the fatalities alone could be as high as 1.7 percent of GDP per year, which exceeds the
estimated social costs for both fatalities and injuries from road traffic crashes in middle-income
countries (World Bank 2009). Road accidents are among the main causes contributing to
premature mortality and disability among working-age males. A report prepared in 2006 by the
European Conference of Ministers of Transport, the World Bank, and the World Health
Organization found that a combination of weak performance goals, an intrinsically unsafe road
system, and fragmented institutional processes result in road accidents in Russia (World Bank
2009).
31
Figure 3.2: Road Fatalities per 10,000 Passenger Cars
Sources: EU; Rosstat, http://www.infostat.ru/catalog.html; World Bank estimates.
Expenditures in the Road Sector14
3.12. Russia’s public expenditures on the road sector are low and declining. Federal and
regional expenditures on roads have declined from 2.8 percent of GDP in 2000 to 1.5 percent in
2009 and are projected to decline to 1.1 percent in 2010. This compares with about 3.5 percent of
GDP spent annually since the 1990s by China, a country that has significantly improved the
quality and length of its road network (World Bank 2007). The decline in public funds during the
2000–04 period (table 3.3) reflects fiscal reforms undertaken from 1999 to 2001 that phased out
the road fund and its main source of revenue. The Russian road funds at the time were not
functioning very effectively, and the so-called road user tax based on business turnover was
distortionary and unrelated to road network usage. Russian road funds also did not have an
accountable relationship between quasi-user charges paid by road users and expenditures on road
maintenance, a key feature of ―good practice‖ funds. Although federal expenditures had been
rising over the period 2003–09, this was reversed during the financial crisis. Regional
expenditures have been cut in half over the period 2008–10. Private sector investments in the
road sector have been minimal to date, unable to pick up the slack left by the public sector. But
the private sector could be an important source of financing going forward, through private
investment via the Investment Fund, the issuance of infrastructure bonds, and private public
partnership (PPP) arrangements for toll roads, as discussed later.
Table 3.3: Federal and Regional Expenditures on the Road Sector
Rub, billions
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Nominal prices
Total budget expenditures 203 196 217 222 206 294 402 480 640 602 475
Federal budget, excluding transfers 39 35 39 40 50 72 120 134 199 239 237
Federal transfers 10 25 30 41 37 46 46 85 83 89 37
Regional budget 154 136 149 141 119 175 237 261 358 274 201
Total (percentage of GDP) 2.8 2.2 2.0 1.7 1.2 1.4 1.5 1.5 1.6 1.5 1.1
Real prices (2009 = 100)
Total budget expenditures 621 493 473 424 356 450 561 615 719 602 432
Federal budget, excluding transfers 119 87 84 77 86 111 167 172 223 239 215
Federal transfers 30 64 65 78 64 70 64 108 93 89 34
Regional budget 472 342 324 269 206 269 330 335 402 274 183
Sources: Ministry of Finance; International Monetary Fund; World Bank estimates.
Note: All data are real except for 2010, which are based on the 2010 budget. Real price adjustments are done using the annual
consumer price index.
14 This section excludes spending by municipalities on local roads, because this information is not readily available and focuses
mostly on federal expenditures.
0.0 2.0 4.0 6.0 8.0 10.0
Russia (2008)
Romania
Bulgaria
EU-27
EU-15
32
3.13. Although federal funding for rehabilitation and maintenance had been broadly on
the rise during 2003–08, it is clearly inadequate. After a decade of neglect, funds allocated
more recently for maintenance in the federal network have declined further, from Rub 66.7
billion in 2009 (US$2.2 billion) to a projected Rub 61.7 billion in 2010 (US$2 billion)—a trend
that is unlikely to support any improvements in road quality. Inadequate maintenance hastens the
deterioration of any road at an increasing rate until reconstruction is necessary, at considerably
greater expense than any short-term saving in maintenance expenditure. The result is the
accumulation of a maintenance backlog, a form of a contingent liability of future expenditure
needs.
3.14. Regional expenditures have declined particularly sharply during the 2000–10
period. The road network under the administration of regions has, in fact, declined from 486,000
kilometers in 2000 to 456,000 kilometers in 2010, a reduction of 6.2 percent. In contrast, real
expenditures in the road sector over the same period have declined by more than 60 percent. This
decline reflects the impact of the financial crisis on regional budgets. This decline also leads to
postponed maintenance and rehabilitation with deleterious effects on road condition and to the
need for more expensive rehabilitation and reconstruction in the future.
3.15. In 2010, federal funds for the federal road network were spent by both Rosavtodor
and Avtodor, the new agency, to target key transport bottlenecks. In 2009 1,966 kilometers
of federal roads were transferred to Avtodor, and by 2015, Avtodor is expected to control about
2,860 kilometers of roads—less than 6 percent of the federal road network. Most of the funds in
2010–15 will be used for construction (table 3.4). The program will be financing expenditures on
key federal highways, including the M1 to Belarus, the M4 to Don, the M3 to Ukraine, the
Central Moscow ring road, the highway from Saint Petersburg to Kazakhstan, the Moscow–Saint
Petersburg highway, and the Primrosk ring road. So for the first five years of operations, Avtodor
commendably has been mandated to build key highways in areas experiencing bottlenecks.
Sources of funds for maintenance, rehabilitation, and reconstruction are expected to come
exclusively from federal budget subsidies in 2010 with tolls becoming a source of financing in
the future. Toll revenues could rise to Rub 18 billion (US$600 million) by 2015. For road
construction, the government is expected to finance Rub 972 billion (US$32 billion) over 2010–
15, with significant funds—Rub 515 billion (US$17 billion) from concessions. The creation of a
new agency reflects the view that Rosavtodor was not well equipped to deal with the
reconstruction and rehabilitation of roads to be financed under PPP arrangements.
33
Table 3.4: Avtodor Program, 2010–15 Rub, billions
2010 2011 2012 2013 2014 2015 2010–15
Use of funds 83.0 120.3 210.4 290.6 381.8 477.3 1,563.4
Maintenance 1.9 3.5 3.6 4.2 4.6 5.3 23.2
Rehabilitation 3.2 1.6 2.3 2.3 3.3 4.7 17.3
Reconstruction 0.8 2.1 3.0 4.6 8.2 13.0 31.7
Construction 77.1 113.0 201.0 278.4 364.6 453.3 1,487.4
Other 0.0 0.2 0.5 1.1 1.0 1.1 3.9
Sources of funds 83.0 120.3 210.4 290.6 381.8 477.3 1,563.4
Revenues for maintenance,
rehabilitation, and reconstruction
5.9 7.3 9.5 12.2 17.2 24.0 76.0
Federal budget subsidies 5.8 6.5 6.8 6.5 6.0 5.9 37.4
Toll revenues 0.1 0.8 2.7 5.7 11.1 18.1 38.4
Fines from overloaded trucks 0.0 0.0 0.0 0.0 0.0 0.0 0.2
Revenues for construction 77.1 113.0 201.0 278.4 364.6 453.3 1,487.4
Subsidies from the Federal budget 39.8 72.9 140.8 208.4 214.6 253.3 929.8
Investment Fund (federal funds) 19.2 19.7 3.5 n/a n/a n/a 42.5
Off-budget funding (private investors) 18.0 20.4 56.6 70.0 150.0 200.0 515.1
Source: Avtodor.
3.16. Current expenditures on road maintenance and rehabilitation at the federal and
regional levels are significantly below required levels. To calculate the annual amount of
funds that should be spent on maintenance, rehabilitation, and reconstruction, the World Bank
used (a) the official unit costs per kilometer for maintenance, repair, and major repairs; (b) a
breakdown of unit cost-coefficient adjustment factors by category of road; (c) the intervention
intervals for repairs and major repairs; and (d) the size of the federal and regional road network
by road category. As table 3.5 reveals, the necessary financing for Avtodor over the period
2010–15 for maintenance and reconstruction is in line with its investment program. But these
calculations suggest that expenditures on the federal network should total an estimated Rub 181
billion (US$6.04 billion) and Rub 646 billion (US$21.5 billion) annually for the regional
network. When these numbers are compared to actual expenditures, there is a sizeable gap for
maintenance and reconstruction for federal and regional roads estimated at about 1.1 percent of
GDP, with the largest gap in the regional road network (table 3.6). Table 3.5 also shows what the
federal and regional governments would be spending on the upgrade and construction of roads
according to the Transport Strategy. If one adds the estimated financing to maintain, repair, and
reconstruct federal roads and annual capital expenditures according to the Transport Strategy,
total expenditures on federal roads would rise from 0.29 percent of GDP according to the 2010
budget to 1.95 percent of GDP.
3.17. The federal budget for 2011 allocates a considerable increase in financing to the
road sector during 2011–13, reversing developments during 2009–10. The federal budget
foresees funding to the road sector to be Rub 82.9 billion higher (US$2.8 billion) in 2011, rising
in 2012 to Rub 176.9 billion (US$5.9 billion) more than in 2010, and in 2013 to Rub 279.4
billion (US$9.3 billion) more than in 2010. This will narrow the funding gap by 2013. However,
as argued elsewhere in this chapter, for improvement of outcomes in the road sector, it will be
important not only to raise expenditures, but also to adopt measures to ensure that funds are
spent efficiently.
34
Table 3.5: Required Road Maintenance and Rehabilitation Expenditures According to the
Transport Strategy Rub, billions
2010 2011 2012 2013 2014 2015 Total
Federal roads 181 195 208 222 236 251 1,293
Rosavtodor 170 182 194 207 220 233 1,206
Maintenance 41 44 47 50 54 57 293
Rehabilitation 50 54 58 61 65 69 357
Reconstruction 78 84 89 95 101 107 554
Avtodor 12 13 14 15 16 17 87
Maintenance 3 4 4 4 5 5 25
Rehabilitation 4 4 4 4 5 5 25
Reconstruction 5 5 6 6 7 7 37
Regional roads 646 693 741 790 839 890 4,599
Maintenance 169 182 194 207 220 233 1,205
Rehabilitation 179 192 205 219 232 246 1,273
Reconstruction 298 319 342 364 387 410 2,120
Memorandum item
Federal expenditure (including transfers)
on construction as per Transport
Strategy
588 588 588 588 588 588 3,527
Regional expenditure on construction as
per Transport Strategy
316 316 316 316 316 316 1,895
Source: World Bank estimates based on Transport Strategy.
Table 3.6: Financing Gap for Maintenance, Rehabilitation, and Reconstruction
Average annual
expenditure (2008–10)
Required annual
expenditure
according to norms
Gap
RUB
(billions)
% of GDP
RUB
(billions)
% of GDP
RUB
(billions)
% of GDP
Total expenditure 387.8 1.0 828.0 2.1 440.2 1.1
Federal 65.3 0.2 181.6 0.5 116.3 0.3
Regional 322.5 0.8 646.4 1.6 323.9 0.8
Source: World Bank estimates.
Notes: Required annual expenditure is the amount needed to meet regular maintenance requirements established by unit cost
norms set in the Russian Federation.
The Planned Road Network Expansion
3.18. The Transport Strategy sets out ambitious targets for the road sector, including a
massive regional road network expansion. The first phase (2010–15) envisages construction
and upgrading of nearly 8,000 kilometers of federal public roads and 1,900 kilometers of toll
highways and motorways, including the Moscow–Saint Petersburg motorway, Central Ring
Road in Moscow, and the M4 Don road. The toll highways’ objectives are largely aligned with
the proposed plan for the recently established Avtodor. Among the objectives of the second
phase (2016–30) is a highly ambitious road construction program, which would see the network
of public motor roads increase from 724,500 kilometers in 2007 to 1,059,600 kilometers in 2015
and 1,350,000 kilometers by 2030. (By contrast, as discussed later, China’s much-heralded, road-
building spree during 1990–2005 increased the length of the network by 41,000 kilometers). The
Transport Strategy also calls for a major improvement in the quality of the federal road network
and an increase in the share of motorways in compliance with regulatory requirements. In
35
addition, it calls for an extensive development of the local hard-surface road network to link
communities that would be prioritized in the Central and Black Earth Belt; the Northern
Caucasus; the Volga region; and south regions of the Urals, Siberia, and the Far East.
3.19. During 2010–15, a public roads network extension in excess of 300,000 kilometers
appears unrealizable and also raises questions about necessity and prioritization.15
A
further network expansion of nearly 300,000 kilometers during 2016–30 foresees a continued
increase in local roads, and a reduction in regional and municipal roads because some of these
assets are transferred to local roads (table 3.7). A recent paper (Brown et al. 2008) reviewed
firm-level industrial data for 1989–2004 to assess the implications of transport investment. The
econometric analysis and simulations suggest that the productivity-enhancing effect of improved
infrastructure would be the strongest in Russia’s capital region, reflecting strong agglomeration
effects. Two regions show particularly low economic gains to improved transport connectivity:
the Northeast and East Siberia. The analysis suggests that infrastructure investment alone is
unlikely to help growth in lagging regions and that expenditures favoring spatial equality at the
expense of funding high-return regions such as the Central Federal District are likely to impose
severe trade-offs with respect to boosting national economic performance. By contrast, spending
on improving the quality of life and social services in the isolated regions appears important
from the viewpoint of equity of social services provision. (World Bank 2009e;) Therefore, it is
important that realistic traffic demand forecasts are used for each potential project and that a
proper economic evaluation is made—particularly for local roads.
Table 3.7: Length of Road Network According to the Transport Strategy kilometers
2007 2010 2015 2020 2030
Length of public motor roads 725 854 1,060 1,169 1,350
Federal roads 47 54 56 79 95
Regional and municipal roads 527 510 482 460 410
Local roads 150 290 522 630 845
Length of nonpublic roads 175 195 230 270 350
Source: Ministry of Transport, Russian Federation.
3.20. A road classification is required at the federal, regional, and local roads level with
the view toward government’s financial capacity and users’ willingness to pay. Although an
administrative classification such as the one in Russia assigns road ownership, a functional
classification––an indispensable tool in the sector––determines technical requirements and
maintenance practices and influences administrative classification and financing. The purposes
of functional classification include (a) delineation of public responsibilities in the provision and
standard of public roads; (b) assignment of a road’s ownership and responsibility for its
management and financing; (c) assignment of minimum standards, including permissible vehicle
axle loads, weights, and dimensions; and (d) determination of the size of the public road network
15 For a proper assessment of the proposed road network expansion plan, it would be necessary to develop a travel demand
model, such as a four-stage demand model. Such a model has four submodels: trip generation, trip distribution, modal split, and
trip assignment. The model would initially define the area covered and divide it into a number of zones and would consider the
entire transport network in the system. The data required would include base-year population levels and economic activity per
zone. The model can be viewed as an attempt to answer a series of decisions concerning the number of trips generated, the
destination, the mode of travel, and the route adopted. Once the travel demand model is completed, it is loaded to the supply
model and will produce a given performance level. Ideally, such a model should have been developed prior to the development of
the Transport Strategy, and it is by modeling transport demand that one can assess whether the specific proposals for network
expansion make sense, given current and forecast population and economic activity.
36
and its quality commensurate with what the country can afford at the time and reflecting actual
demand. Although there have been some reclassification of roads among different administrative
categories in recent years, a broader exercise reviewing the entire road classification is
warranted.
3.21. Before a major network expansion, the government conducts a full review of vehicle
and road design standards in Russia, taking into account the types of vehicles that are
expected to be in operation over the next decade. On that basis, the government introduces
new standards for maximum vehicle weights and road design to ensure compatibility with
current and future traffic. There is a need to strengthen overloading enforcement as a result of
rampant overloading (box 3.3). As of January 1, 2011, new charges will apply for heavy trucks
with axle loads exceeding 12 tons, and the key issues will be enforcement and the adequacy of
charges.
Box 3.3: International Practice: Overloading Enforcement in North America and the EU
In North America (United States and Canada), transport load enforcement is governed by regulations including load
limit, driving time, distance controls, and type of materials a vehicle is allowed to carry. Such regulations are
implemented by police or a specific government unit. Medium- and heavy-freight vehicles (usually above five tons
of gross weight) are tested randomly on the network through various types of weight stations or mobile control units.
Larger expressways usually have permanent weight stations and weigh-in-motion (WIM) installations. Vehicles are
also required to undergo recurrent state or provincial inspections for safety and emissions. In some areas, weight
limits take into account the strength of the pavement structure during specific seasons. For example, in Canada, load
limits are tightened—that is, lowered—during the spring thaw to minimize damage to the pavement structure.
Today, most North American pavements also experience higher freight volumes, higher tire pressures, and different
axle load configurations than those for which they were initially designed. This has led to the preparation of new
pavement design guides.
Most European Union countries adopted similar regulations before joining the EU. The new European Transport
Policy for 2010 establishes goals to improve traffic safety and efficiency that would require extended safety control
measures for heavy-goods transport on roads. To achieve these objectives, a significant increase in police personnel
will be needed, which is not practical. The EU is experimenting with fully automatic, integrated road controls that
would include automated overload control of wheels, axles, trucks, and trailers. Some countries (for example, the
United Kingdom) are testing WIM systems linked to automatic vehicle detection. These systems would
automatically analyze the license numbers of overloaded vehicles and, using the vehicle registration database,
automatically issue violation citations to the owners.
Source: World Bank 2007.
Additional Funding Sources
3.22. How can the road expansion program be financed at the same time that funding for
maintenance is increased? This is a key financing dilemma in Russia’s road sector. The key to
resolving this dilemma is the policy resolve that public funding of the road network expansion
should not come at the expense of maintenance. Although private investors can invest through
PPP for toll roads, this would not be the case for roads that are not tolled, for which most of the
funding for expansion would come through federal and regional budgets. Federal and regional
expenditures on the road sector are forecast to reach 1.1 percent of GDP in 2010. However, this
is clearly inadequate to cover necessary costs for regular maintenance, rehabilitation and
reconstruction needs. Taking into account a modest expansion of road network, the total needs
for road sector are around to 3.5 percent of GDP per year, a level of expenditure observed in
other upper middle income countries.
37
Table 3.8: Funding gap in road transport sector
As a share of GDP
Average annual
expenditure (2008–10)
Desired annual
expenditure level
Gap
Regular Maintenance 1.0 2.1 1.1
Maintenance backlog 0.7 0.7
New construction 0.4 0.7 0.3
Total 1.4 3.5 2.1
Source: World Bank estimates.
3.23. Additional potential funding sources for maintenance could come from fuel taxes.
Fuel taxes are a primary pricing and revenue tool in the road sector worldwide. In 2009, revenues
from fuel taxes reached Rub 147 billion (US$4.9 billion) in Russia (table 3.8) but could be
considerably higher. According to a recent report by GTZ (Deutsche Gesellschaft für Technische
Zusammenarbeit, or German Agency for Technical Cooperation), some 80 to 90 percent of
transport revenues worldwide are raised from fuel taxes (GTZ 2009). In the United States,
modest fuel taxes of about US$0.10 per liter of diesel and gasoline are levied to cover all direct
expenditure for roads and highways—maintenance, refurbishment, new construction, and capital
recovery for the roads and highways departments. For comparison, in November 2008, U.S.
prices (including taxes) for diesel were US$0.78 per liter and for super gasoline US$0.56 per
liter. Although fuel prices are higher in Russia, they are not high compared to other countries
with similar per capita income, suggesting there is scope for increases (table 3.9). In the United
States, the fuel tax also funds the Federal Highway Trust Fund, and the state highway funds help
finance surface transportation programs (box 3.4).
Table 3.8: Revenue Collected from Fuel Taxes Rub billions, nominal prices
2005 2006 2007 2008 2009
Fuel excise tax 123.3 109.7 165.7 139.7 147.2
Federal 54.8 36.3 87.5 56.6 1.7
Regional 68.5 73.4 78.2 83.1 145.6
Source: Ministry of Finance.
3.24. In Russia, a surcharge equivalent to US$0.10 per liter (Rub 3) could raise in excess
of US$2.2 billion per year. In addition to a significant revenue effect, these charges are also
distributionally progressive. As with many other countries, a fuel surcharge of this level may
generate revenue sufficient to finance maintenance of the network, but not its expansion, which
will have to be funded from other sources. Indeed, as of January 1, 2011, excises on gasoline and
fuel will be raised, and the funds collected will be split between regional and federal road funds,
but the basis and the impact of these changes are not clear at this time.
Table 3.9: Diesel and Other Fuel Prices US$ per liter (Nov. 2008)
Diesel Super gasoline
Brazil 1.03 1.26
Chile 0. 95 0.95
Latvia 1.23 1.12
Russian Federation 0.86 0.89
Turkey 1.63 1.87
Uruguay 1.23 1.12
Source: GTZ 2009; International Monetary Fund, World Economic Outlook, April, 2010 (database),
http://www.imf.org/external/pubs/ft/weo/2010/01/weodata/index.aspx.
38
Box 3.4: International Practice: The U.S. Interstate Highway System and Fuel Taxes
July 29, 2006, was the 50th anniversary of the day that the U.S. Congress passed and President Eisenhower signed
into law the Federal-Aid Highway Act that allocated US$25 billion to pay for 90 percent of the 66,000-kilometer
U.S. Interstate Highway System, then known as the ―National System of Interstate and Defense Highways.‖
Congress levied a 3 percent federal tax on gasoline and diesel fuel consumption and subsequently expanded the fuel
tax–funded network to include other routes and new states (Hawaii and Alaska).
Recent reports on this milestone have highlighted the importance of the interstate highways for the U.S.
transportation system. One benefit stands out: greater mobility and flexibility of goods and people in the U.S.
distribution system. This flexibility has benefited manufacturers, especially in the lagging regions of the South,
resulting in a thriving, Southern-based automobile industry (BMW in South Carolina; Mercedes in Alabama; Honda
in North and South Carolina, Georgia, and Alabama; and Toyota in Tennessee, Alabama, and Kentucky), as well as
the location decisions of today’s big-box retailers—Wal-Mart (Arkansas) and Home Depot (Georgia)—and
distribution firms—FedEx (Tennessee).
Source: World Bank 2007.
3.25. Vehicle license fees are low but could raise substantial additional financing. In 2008,
Rub 53.1 billion (US$1.7 billion) was collected from a vehicle fleet of 38 million (an average of
US$45 per vehicle per year), but, as with fuel taxes, these are general revenues and no portion is
earmarked for the road sector. The total funds collected are quite small, reflecting generally low
vehicle registration rates. The rates in Chile––a spatially large country with similarly low
population density and a per capita income comparable to Russia––are significantly higher and
depend on the model of the vehicle, its axle load, and its age. For a typical passenger car, the
annual vehicle registration fee in Chile is equal to US$114 (more than twice that of Russia). If
such fees were applied to the Russian passenger car fleet, they would generate US$3.7 billion
while the truck fleet could yield US$2.7 billion if a fee of US$500 were collected. If one
assumes a rate of US$200 for buses, the total annual income generated by vehicle registration
would reach US$6.5 billion. The distribution of the fee per vehicle category class should reflect
the costs imposed on the road network and the benefits that operators derive, which would
suggest that the fee for large trucks should be about four or five times higher than that for
passenger cars.
3.26. Several countries use the fuel tax and vehicle license fees to establish a second-
generation road fund. Second-generation road funds link revenues and expenditures, with
charges paid into the road fund being related to road use, easily recognizable, and simple to
administer. With this type of fund, users pay a road access charge and then pay according to how
they use the road, normally through a fuel levy. However, because the fuel levy does not capture
the greater damage caused by heavy vehicles, one option is to adopt weight-distance charging as
in New Zealand (box 3.5) or a weight-related annual charge related to the pavement damage
caused by different vehicle classes, through an annual vehicle registration fee. The fuel levy on
gasoline and diesel can be over and above excise and other taxes. The second-generation road
funds are typically managed by boards representing the interests of road users.
3.27. A key feature of second-generation road funds is that they aim for affordability of a
fully funded road maintenance program. This implies the need to define a core network of
users that are willing and able to finance. Requirements for a successful road fund include (a)
independence from the general government budget; (b) management by a strong and independent
board; (c) user charges consisting of license fees, fuel tax, bridge tolls, and international transit
fees; (d) direct deposit of user charges into the road fund; (e) formal mechanism for varying road
user charges (which should be indexed); (f) consistent and simple procedure for allocating funds
between different road agencies; and (g) independent financial and technical audits to avoid
39
leakages and to ensure that funds are spent according to a work program and specification
(Robinson 2008). In January 1, 2011, a regional fund and a Federal Motorway Fund was
established in Russia for the financing of construction and rehabilitation projects. But it seems
that these funds would be traditional road funds and not second-generation road funds.
Box 3.5: International Practice: Experience with Second-Generation Road Funds
An example of the successful introduction of a second-generation road fund is the case of New Zealand. New Zealand’s road
users primarily fund the country’s land transport system through fuel excise duty (gasoline tax), charges on diesel and heavy
vehicles (road user charges), and vehicle registration and licensing fees. All fuel excise duty and road user charges that flow into
the National Land Transport Fund (NLTF) are fully hypothecated. These funds are paid into the NLTF for investment in
maintaining and improving land transport networks and services. Other funding comes directly from the Crown (central
government), local authorities, and, in some cases, other sources such as developers’ contributions.
The New Zealand Transport Agency (NZTA) makes allocations from the NLTF to fund (a) local transport networks and services
delivered and cofunded by local government; (b) the management and delivery of the state highway network and transport
services; (c) the road policing program; and (d) sector training and research. NZTA also receives funds directly through the
Ministry of Transport that are managed on behalf of the Ministry of Transport and allocated to fast-track, high-priority state
highway activities, among others. Although these funds are not part of the NLTF, they are managed in much the same way—
applying criteria and prioritizing, programming, and reviewing them—to ensure a simple and transparent funding process.
The 2009/10 NLTF investment plan was the first year of the three-year National Land Transport Programme administered by
NZTA, allowing for a longer-term view of investments. Each year an annual report is published by NZTA for accounting
purposes and is presented to the parliament. A key to the New Zealand experience is the level of transparency, accountability,
and autonomy, without political interference in the use of the funds.
Source: New Zealand Transport Agency, National Land Transport Fund.
3.28. International financial institutions (IFIs) remain an important, potential source of
funding for road projects. IFIs can provide not only finance with long maturity, but also
international expertise and the know-how of best practice experiences applicable to Russia.
Importantly, IFI’s significant potential funding at the federal and subnational levels has largely
not been used to date. This form of financing would be particularly valuable for economically
viable roads in less-strategic corridors with limited potential for concessions and private sector
financing. Such IFI financing could allow regional and local borrowers to apply efficient
procurement and financial management practices and to incorporate best international
management practices and standards. Technical assistance, which typically accompanies such
projects, can serve as an important source of know-how and showcase for best practice and
institutional reform that can benefit the wider sector. Finally, IFIs can provide maturities of 20
years, well in excess of those provided by private commercial banks or domestic bond markets.
3.29. Innovative local credit enhancement entities and techniques can also be used to help
mobilize domestic commercial debt resources for subsovereign infrastructure finance.
Credit enhancements are meant to mitigate risks in debt transactions that creditors cannot or are
not willing to take. By doing so, these enhancements increase the overall creditworthiness of a
borrower or a specific debt transaction, are cost effective, and support capital market
development, while promoting a hard-credit culture (Kehew, Matsukawa, and Petersen 2005).
One example of such a technique is a partial credit guarantee, an instrument that allows the
guarantor to share the risk of debt service default with the lenders on a predetermined basis. In
other cases, the institutions providing credit enhancements have been government entities or
government-owned financial institutions. IFIs can provide support to such schemes in a variety
of ways, including by providing seed capital reserves to help the guarantor achieve
creditworthiness or by extending standby loan agreements with the guarantor, so that the
guarantor can withdraw funds when required. In August 2010, Avtodor announced that it
planned to offer bonds of Rub 7.5 billion (US$243 million) in 2011 and Rub 12 billion (US$389
million) in 2012.
40
3.30. The Transport Strategy envisages a vast pipeline of projects in the road sector to be
financed by the private sector, but to date, few concession agreements have been signed
(table 3.10). In the federal government’s Transport Strategy, private sector funds are projected to
equal Rub 16.7 trillion (US$555 billion) during 2010–30, with Rub 729 billion (US$24 billion)
in 2010–15. In the more recent long-term program for Avtodor, private sector funds are expected
to finance Rub 515 billion (US$17.2 billion) of road construction during 2010–15. The sources
of financing for PPPs include private investors, infrastructure bonds, Vnesheconombank (VEB;
the Russian development bank), and IFIs. But to date, expenditure in the road sector by the
private sector has been minimal, reflecting the time taken to develop the legislative and
institutional framework to support private-public infrastructure development. Recent
developments include the establishment of the Expert Council on PPP acting under the auspices
of the Duma, the Investment Fund created in 2006 to provide state cofinancing, the establishment
of VEB with a leading role in promoting and financing PPP projects, and, most recently, the
establishment of Avtodor.
Table 3.10: Road Expenditures According to the Transport Strategy, 2010–30
2010–15 2016–20 2021–30 Total
Rub, billions
Federal budget 3,527 5,112 19,277 27,916
Regions 1,895 2,711 10,822 15,428
Extrabudgetary 729 1,816 14,107 16,652
Total 6,151 9,639 44,206 59,996
US$, billions
Federal budget 118 170 643 931
Regions 63 90 361 515
Extrabudgetary 24 61 470 555
Total 205 321 1,474 2,001
Source: Russian Federation Transport Strategy.
3.31. Although the potential of tolls is significant and is reflected in the Transport
Strategy, there are currently almost no toll roads in Russia. Unlike other countries where toll
networks and high-speed motor roads have long been successfully operated, generating
substantial revenues, there is only one toll section in the entire federal road network––a 20-
kilometer detour around the village of Khlevnoe in Lipetsk Region. At another extreme is China,
which has expanded its national road asset base in a very short period of time—by about 41,000
kilometers of high-grade tolled expressways between 1990 and 2005. Since then, China has
further expanded its tolled expressway network each year by about 8,000 kilometers. But
although the creation of a tolled highway network is one of the priorities identified in Russia’s
Transport Strategy, only a small percentage of the Russian road network has traffic volumes high
enough to support toll road concessions based on full cost recovery (table 3.11). Given
limitations in willingness to pay about US$0.05 per kilometer for a car and about US$0.20 per
kilometer for a truck, and investment costs of US$2 million–US$3 million per kilometer, toll
road concessions in Russia become viable at traffic levels of about 15,000 to 20,000 vehicles per
day. This limits the applicability of the tolled expressways to an estimated 10,000 kilometers or
about 20 percent of the federal road network (Eijbergen et al. 2004). Although the traffic levels
have increased in recent years, the conclusion of relatively limited applicability of tolls in Russia
compared to many densely populated states remains.
41
Table 3.11: Length of Toll Network in Selected Countries, 2008 Toll network length
(kilometers,
thousands)
Total network length
(kilometers,
thousands)
Length of high-speed
motorways (kilometers,
thousands)
% of toll roads in
network
France 8.4 1,003 12.0 0.8
Germany 12.5 644 12.5 1.9
Japan 7.4 1,193 7.4 0.6
United States 7.9 6,491 75.0 0.1
Mexico 6.2 342 10.4 1.8
China 133.0 3,584 55.0 3.7
Source: Avtodor.
3.32. The introduction of a vignette system on selected federal roads, alongside tolls, is
one option when traffic levels are insufficient so that a charge per kilometer cannot cover
full costs. A vignette is a toll sticker used in several European countries that is affixed to a motor
vehicle passing through expressways and motorways. Vignettes, often valid for a week, month,
or year, are a form of tax on vehicles and are usually designed in a way that detaching or
reattaching is impossible. Compliance is ensured through police enforcement, with large fines for
motor vehicles that are caught without the vignette. Unlike a toll, a vignette is independent of the
distance travelled—whether one uses a motorway five times a week or once a week, the cost of
the vignette is the same. Unlike fuel taxes and tolls, the vignette separates road user costs from
actual road usage, which is a reason many countries have been moving toward a distance-based
tolling system (box 3.6). In the EU, a Euro vignette system charges heavy-goods vehicles for the
use of roads that are part of the trans-European network. This allows EU member states to levy
charges on vehicles weighing more than 3.5 tons. The charges could be levied according to a
time-based system—per day, per week, or per month as with a vignette—or a distance-based
system.
42
3.33. In addition, Russia’s very limited experience with tolls and concessions has been
adversely affected by the financial crisis as well as delays, perhaps resulting from the size
and complexity of projects. In 2009, two road concession agreements were signed (first section
of the tolled Moscow–Saint Petersburg Speedway and the M1 Belarus Federal Highway) with
financial closure (a final stage in a financial agreement where conditions have been satisfied or
waived, documents have been executed, and drawdowns become permissible) in 2010. Capital
costs are very high on a per-kilometer basis. This may reflect the government shifting significant
risk to bidders, which translates into large premiums on the part of investors (table 3.12). In both
cases, it took nearly two years from the announcement of the tender to the signing of a
concession agreement, and in both cases, the concessions are for 30 years, with operation
expected to start 36 months after financial close. Also, not all PPP projects have proceeded as
smoothly—the Western High Speed Diameter Motorway is a case in point. A preferred bidder
was selected in June 2008, but because of difficulties in raising finance and agreeing on
commercial terms, the federal government, through the Investment Fund, and the Saint
Petersburg region are financing the last section through a traditional construction project and not
Box 3.6: International Practice: European Experience with the Vignette A number of European countries currently have a national vignette system for access to motorways and
expressways. They tend to offer options to purchase for a year, a month, and a week or ten days, with the cost of
the annual rate varying significantly across countries.
Vignette (US$)
Country Annually Monthly Weekly
Austria 76.5 23 7.90*
Czech Republic 47 14 10*
Hungary 139 16 10
Slovenia 95 30 15
Switzerland 34** n.a. n.a. Source: Authors.
Note: n.a. = not applicable. * 10-day vignette. ** 14 month vignette.
In the case of Austria, vignettes are required for all motorways and expressways under federal administration.
Compliance is controlled by the police and the employees of the federal motorway administration. When a driver
is caught without a vignette, a substitute toll of €110 must be paid, and €220 must be paid when a vignette sticker
has been altered. If the substitute toll is not paid, then the driver can face a penalty of between €400 and €4,000.
In recent years, a number of countries have replaced the vignette with a distance-based tolling system. Germany
abolished the vignette system in August 2003, replacing it with a distance-based payment system for trucks
exceeding 12 tons that was established January 1, 2005, and is administered by Toll Collect, while the motorway
remains free for passenger vehicles. Likewise, vignettes were abolished for heavier vehicles and replaced with
distance-based tolling in 2010. Although Switzerland has a vignette system for passenger cars, heavier vehicles
are subject to a distance-based tax for all types of roads. In Hungary, physical stickers were replaced with an
electronic vignette system, with motorway usage verified by roadside cameras on the basis of on license plates.
This brief review suggests a number of alternatives, in terms of (a) types of roads covered, (b) types of vehicles
covered by the vignette, and (c) physical or manual vignette. The move toward a distance-based system allows
payment by the road user to be more closely aligned with actual road usage, which is not the case with a vignette.
A vignette allows a motorist to enter a motorway or expressway system, but penalizes those who barely use the
motorway vis-à-vis someone whose usage is much more frequent. A distance-based system also captures the
externalities, such as congestion and air pollution, in a manner that the vignette does not.
Source: World Bank.
43
as a PPP project. A tender for the concession to develop a one-kilometer toll tunnel under the
Neva River linking the left and right banks of Saint Petersburg has been delayed from the time
bids were submitted in February 2009 to 2011. These delays may also reflect the large size and
complexity of the projects, with a larger number of banks involved. Smaller projects of about
US$500 million may be easier to finance.
Table 3.12: Estimated Capital Costs of PPP Projects
Rub
(millions)
US$
(millions)
Length
(kilometers)
US$ per
kilometer
Moscow –Saint Petersburg Speedway 59,594 1,987 43.1 46,112,770
M1 Belarus Federal Highway 21,489 717 18.5 38,665,138
Orlovsky Toll Transit Tunnel 26,400 51 1.0 51,262,136
Sources: Ministry of Transport; EPEC and DLA Piper 2009.
3.34. Infrastructure bonds are another mechanism for tapping into long-term domestic
financing of road projects. The federal government prepared a draft law for the introduction of
project-specific, ruble-denominated bonds, or so-called infrastructure bonds, in 2009. These
bonds are meant to be issued by a special-purpose project entity to raise funds to finance
infrastructure construction or reconstruction. The aim is to develop a long-term debt instrument
that would be attractive to the Pension Fund, which, at the same time, would provide a long-
length maturity that is currently unavailable in the market. One of the vulnerabilities of this
approach is that VEB is administering part of these second-tier pension funds but is also actively
involved in financing infrastructure projects through PPPs, representing a potential conflict of
interest. The draft law is too prescriptive, specifying the nature of documentation, procurement,
and disclosures, issues that should be a reflection of a specific project requirement and
negotiations. This has also been a problem with the Federal Concessions Law. Although it refers
to competitive bidding, the draft law does not impose financial viability criteria, which is
troubling because pension funds should be buying the bonds. From a fiscal perspective, it
appears that the infrastructure bonds will require guarantees from the federal government or
VEB, with the consequent contingent liabilities. This approach has been successfully applied in
Chile, but the guarantees in the Chilean case did not come from the state, and more important,
the bonds are issued in the market and bought by private pension administrators (box 3.7).16
16 An example in the region is the €100 million issued in 2005 by the water company owned by the city of Bydgoszcz, Poland.
The European Bank for Reconstruction and Development purchased 40 percent, with the remaining 60 percent purchased by
local pension funds and other institutional investors. There are no state or city guarantees, but there are assurances that the issuer
can obtain sufficient revenues to ensure timely debt service and an agreement not to issue new individual permits for
construction.
44
Box 3.7: International Practice: The Chilean Experience with Infrastructure Bonds
In the 1990s, Chile implemented build-operate-transfer (BOT) contracts for public works to tackle a perceived
deficit in terms of the stock and quality of infrastructure. Chile did not have a developed, long-term domestic debt
market at that time. The infrastructure bond is a debt issued by companies awarded BOT contracts. In general, such
bonds are 100 percent guaranteed by insurance policies issued by international insurance companies, providing
external credit backing, enabling them to achieve better ratings by replacing the issuer’s risk with the insurance
company’s risk. Two types of infrastructure bonds have been developed:
(i) Preoperational bond: This bond is used once construction has begun and before it is finished. This is project
finance funding, because the funding structure includes funds for investment before works begin and the funding of
future payments required for the project to go ahead. The future funds required to amortize the bond depend on the
project’s ultimate completion and success.
(ii) Operational bond: This bond is issued once the public work is at an operational stage, with the company
fully entitled to operate the project. This is a revenue bond, because the debt instrument is issued to fund a finished
project, and debt repayment is backed by future revenue streams.
For institutional investors and, in particular, the pension fund, the main benefit of infrastructure bonds as an asset
category is that it creates a new class of long-term securities with higher returns than a government bond. Investment
by domestic institutional investors for project-funding purposes provided two main benefits: (a) investments that are
long-term in nature to match maturities, and (b) the removal of all foreign exchange risk. In addition, with the
involvement of pension funds, political and regulatory risk could be reduced, because it would be expected that the
government would show greater discipline in adhering to contracts as resources coming from the funded project that
would be funding workers’ pensions. The key stumbling block was how to solve the project risk issue. Once Chile
obtained a solid, investment-grade sovereign rating, monoline insurance companies became available to enhance the
issuance of local securities providing their guarantee.a This means that no project risk is passed on to institutional
investors. In 1996, the legal and regulatory issues were resolved. In November 1998, the first infrastructure bond of
Latin America was issued for US$150 million, followed by US$208 million issued in 1999 and US$210 million in
2001, with more than US$3.76 billion in issuance by 2009.
In the case of Chile, success factors included the capacity to attract monoline insurers or international financial
institutions to take on the project risk and to provide guarantees on the timely payment of debt. It was also
dependent on the investment-grade sovereign rating of Chile and the local investment grade for the project. Other
factors have been those critical for any PPP, including the appropriate legal and regulatory framework, open and
transparent bidding process for concession award, and legal protection of private property.
Source: Hormazábal 2010.
a. Monoline insurers guarantee the timely repayment of bond principal and interest when an issuer defaults.
Institutional Arrangements for Improved Resource Use
3.35. Although closing the financing gap will require additional public funds allocated to
the road sector, significant efficiency gains can be realized in current expenditures. A
number of measures are relevant in this regard: (a) reviewing the procurement methods for civil
works; (b) introducing performance-based management contracts in the road sector; (c)
introducing improved asset-management techniques and ensuring that the programming of road
works incorporates economic principles; (d) creating a more commercially oriented Rosavtodor;
and (e) improving strategic planning in the road sector.
3.36. There is an urgent need to reconsider current procurement rules, which currently
require procurement of civil works through reverse auctions, a practice unique to Russia.
The World Bank, by contrast, does not consider reverse auctions—a type of auction in which
sellers compete to obtain business based on the lowest price quoted—an appropriate method of
procurement, and particularly for civil works, given the considerable risks to quality, among
other issues (box 3.8). No other country uses reverse auctions for civil works; this relatively new
procurement method is used for the purchase of goods, such as pharmaceuticals or information
technology services. In reverse auctions, instead of relying on the market, an initial price or
45
ceiling is introduced to determine the contract price, but in many instances, the starting price of
the procured works is not based on an accurate estimation, but on available funds. As a result, the
final contract cost in most cases is far from the realistic market price reflecting open and fair
competition. The use of reverse auctions essentially removes the qualification-based selection
from the procurement process, although basing construction services only on the lowest bid may
lead to an increase in overall project costs because of the necessity of variation orders or through
reduced quality. Indeed, there is evidence in Russia of the negative effects of procurement
through auction. The introduction of new online reverse auctions as of January 1, 2011, will do
little to change the underlying problems associated with auctions for civil works. The
reintroduction of civil works procurement with prequalification—either through traditional
tendering based on bills of quantities or through performance-based contracts with tendering
based on specified outcomes as opposed to inputs—would bring Russia in line with international
best practice.
Box 3.8: Reverse Auction Procurement in Russia and its Problems
The Russian procurement system is based on the public procurement law, ―On Placement of Orders for Supplying
Goods, Executing Works, and Providing Services for State and Municipal Needs‖ (No. 94-FL), which was enacted
July 21, 2005, and became effective January 1, 2006. This new public procurement law (PPL), and subsequent
amendments, leaves little space for interpretation and judgment, establishing an overly prescriptive, detailed
framework that is almost impossible to amend through secondary regulations. Pursuant to one of the amendments of
the PPL, reverse auction is made the only method for procurement of most construction services. Under open
bidding, a bidder does not know who will submit the bid, the way many bidders will participate, or the exact
competitors’ prices. In these circumstances, a decent bidder will need to quote realistic prices that take into
consideration market situation and possible risks and that include normal profits. During the auction, participants
struggling for a contract may dump prices that may later put a contractor in a difficult situation, participants may
collude before the beginning of the auction, or a participant who came alone may win the contract at an initial price
that may be overestimated. As a result, it becomes difficult to ensure procurement efficiency.
Reverse auctions as implemented in Russia largely exclude prequalification, which is usually necessary for large or
complex works or in any circumstances in which the high costs of preparing a detailed bid could discourage
competition. This also ensures that invitations to bid are extended only to those who have adequate capabilities and
resources. Prequalification normally takes into account experience and past performance on similar contracts;
capacities with respect to personnel, equipment, and construction; and financial position. In addition, most of the
obligatory norms and rules in the construction industry were cancelled or made into recommendations. This creates
the risk that procurement through auctions, with competition based solely on price, could lead unqualified and
inexperienced firms with insufficient financial resources into winning a contract, with considerable risks of poor
quality of construction works.
Although the procurement law establishes the Ministry of Economic Development and Trade as the authority
responsible for procurement methodology and the Federal Antimonopoly Service as the entity responsible for
procurement control, the creation of an independent public procurement office and independent procurement review
body, recommended by the World Bank, has not been considered.
Source: World Bank 2006b.
3.37. Increasing competition for the procurement of road works is imperative. Inadequate
competitive pressures in the road construction sector tend to lead to high investment costs and
inefficient use of public funds. The lack of competition is fundamentally attributable to the
market structure of the road construction sector, but is exacerbated by deficiencies in the
principles and practice of public sector procurement for roads projects.17
Consequently, the unit
17 A World Bank review of 60 auctions conducted by the federal state unitary enterprise MariyskAvtodor in 2008 found that in 36
cases, only one bid was submitted; in such a case, the client must declare such an auction abortive and conclude a contract with
the only bidder for the initial price. In 40 cases, contracts were signed with state unitary entities and in only four cases with
private firms, raising serious concerns about competition in the construction industry. Other problems include the conduct of
procurement with significant violations of existing procurement rules and increased number of bidder complaints. Attempts to
46
costs of road construction are artificially inflated. There are few contractors available with the
capability to deliver large roads projects, particularly at the regional level. This reflects, in part,
the large and expensive equipment required to undertake road construction projects, generating
scale economies that favor larger suppliers. It also reflects the Soviet legacy of organizing the
industry in the form of large, regional monopolies. The limited mobility of the heavy
construction machinery further strengthens market power at the local level. As a result, there are
few bidders for road construction projects, and collusion is believed to be commonplace. For
these reasons, there are typically no more than two bidders on regional road construction
projects, with significant scope for collusion. Possible remedies might include requiring
competitions to include bidders from as many regions as possible and outlawing subcontracting
between bidders once the contract has been awarded. Evidence from other countries shows that
an increase in competition results in sizable fiscal savings that could reduce total investment
needs in the road sector by as much as 6 percent as a result of a decrease in average equilibrium
bid prices for road works (box 3.9). An introduction of such efficiency gains in Russia would
result in a reduction of the financing gap for road maintenance by about 0.12 percent of GDP.
Devising tenders in such a way as to attract foreign contractors is one mechanism that could spur
competition.
combat corruption through the procurement law have not been effective and have failed to make the Russian procurement system
transparent, effective, fair, and responsible. These procurement issues can lead to escalating road construction, rehabilitation, and
maintenance costs, as well as poor quality, which can make the life of roads shorter and, thus, increase overall costs.
47
3.38. International comparisons of road maintenance costs are an important tool for
benchmarking performance vis-à-vis other road agencies, but must be treated with caution.
If one looks at the cost of maintenance per km, then there are number of factors to keep in mind.
Firstly, the design standards of roads differ, and it is important to ensure that the lane and
shoulder widths, as well as the number of lanes—among other factors—are similar to the
benchmarking countries or transformed with conversion factors to ensure that like and like are
being compared. Secondly, maintenance standards are defined differently in different countries,
with some countries including more costly repairs in the definition. Thirdly, an aggregate
Box 3.9: Fiscal Savings and Procurement Efficiency
Improvement of efficiency in public procurement is often the key to eliminating waste and improving
technical efficiency in public expenditure. But even where public procurement systems are particularly fragile,
improvements in efficiency can be made.
Improvement of competition for contracts is one way of strengthening public procurement. The problem is
that the authorities typically do not know the true project costs of private contractors. This is a fundamental
asymmetric information problem that auctioneers must overcome in contracting out a public service. The authorities
may know their own costs, which presumably are too high compared with private costs. They may also be able to
observe some pieces of market-based engineering costs. But they never know—nor do they observe––the minimum
possible project cost in the market. If they knew, they could negotiate and contract directly with the most efficient
firm. Auction theory shows that under standard circumstances, intensifying competition at an auction would induce
bidding firms to reveal their true preferences—that is, costs in market context—resulting in more efficient auction
outcomes.
The impact of competition on efficiency in procurement can be significant. An analysis of 211 procurement
auctions for infrastructure development projects in 29 countries from 1997 to 2007 finds that the projected
competition effect in the roads sector is, indeed, very significant and can result in a fiscal savings equivalent to 6
percent of total road infrastructure financing needs in Europe and Central Asia Region. The sample includes 394
winning and losing bids in the road sector, with the average bid amount of US$29 million. On the basis of these
estimated bid functions evaluated at the mean values, the average equilibrium bid is calculated. This is the predicted
cost of a notional average infrastructure contract. The contract theoretically involves 49 kilometers of roads with
2.9 lanes, of which 35 percent are new construction work and 30 percent are rehabilitation. As shown in the
following figure, the road unit cost is projected to be US$0.7 million per kilometer when auction competition is
minimal, but can be reduced to less than US$0.5 million per kilometer if more than six firms compete with one
another for the contract.
Box Figure 1 Predicted Bid Amount per Unit:
Roads
Box Figure 2 Predicted Road Unit Bid by Lot
Length
Source: Estache and Iimi 2008.
In addition, the predicted unit cost is significantly affected by contract design, especially the size of the
contract. When the estimated equilibrium bid function for road projects is evaluated with different lengths of roads,
it is evident that a road of less than 10 kilometers would be extremely expensive. Hence, how to design lot packages
is an important issue. As expected, large electricity projects have a lower unit cost because of economies of scale.
Source: Authors based on Estache and Iimi 2008.
48
maintenance unit cost definition can be misleading when it comes to actual costs and efficiency.
If maintenance costs per km is simply total maintenance expenditure divided by total network
length, then the unit costs will go down, ceteris paribus, by simply reducing expenditures on
maintenance, by making a decision to not maintain a part of the network or reducing the nature
of the interventions and thus worsening road condition. This will not present an efficiency gain,
but could lead to the need for more costly rehabilitation works in the future. An alternative
manner of assessing road work costs would be to look at actual maintenance contracts, or a
sample of them, and comparing their evolution over time and across regions within a country,
and also comparing across countries, including conversion factors where necessary to account
for different road design and maintenance standards. Appendix F provides further international
unit cost data for rehabilitation, reconstruction, and construction of interurban and regional
roads, which can be useful for comparative purposes, based on actual contract values, rather than
taking an aggregate approach.
3.39. Compared to Finland, a country with comparable weather conditions, actual road
maintenance costs per km appear similar in Russia, although road condition outcomes are
very different. For Russia the official unit costs per kilometer of maintenance, repair, and major
repairs are presented in table 3.13, by category of road. Maintenance per kilometer costs between
US$27,148 and US$55,111 depending on the category of road. In addition, there are coefficients
applied to these costs to factor in differences in cost by region. However, estimates provided by
Rosavtodor suggest that actual unit costs for federal and regional roads are equal to €8,034 per
road kilometer (US$ 11,520) in 2010. This figure is much lower than the official unit costs, as
only a fraction of roads are maintained to standard—an estimated 38.63 percent of federal roads
meet these standards. In the case of Finland, which has a climate similar to that of Russia, the
cost was €7,274 per road kilometer (US$ 10,430) in 2008 for all road types, which is similar to
the levels in Russia. However, it is difficult to draw any conclusions from this case, because
Russian unit costs include repair and major repairs, while Finnish costs include only maintenance
expenses—in addition, not only are maintenance interventions defined differently in both
countries, but the design standards also differ considerable, making unadjusted comparisons
fraught with difficulties. For benchmarking Russia’s expenditures on road maintenance, it would
be useful if maintenance unit costs, exclusive of repairs and rehabilitation, were collected. But
more importantly, there is a need to develop a database of contract based unit costs for
maintenance to assess actual costs of specific interventions in order to ascertain prices across
regions in Russia, comparisons across countries and over time. While Finland spends comparable
levels to Russia on a per kilometer basis the quality of its roads according to the World
Economic Forum is ranked 13th
out of 139 countries, whereas Russia’s ranks 125th
.18
This
highlights the importance of looking at actual expenditures on maintenance and outcomes, as
well as drilling down to provide explanations for costs and tracking and monitoring costs over
time.19
18 This is likely to reflect insufficient maintenance and rehabilitation in the past, leading to a significant cumulative maintenance
and rehabilitation backlog, as well as the impact of overloading on the condition of roads, among other factors. World Economic
Forum (2010), Global Competitiveness Report 2010-2011, edited by Professor Klaus Schwab. Geneva, Switzerland. 19
A comprehensive assessment of maintenance unit costs—but also those for construction and rehabilitation—should be looking
at a sample of individual contract values on a per km basis, and then drilling down to individual items on bills of quantities,
benchmarking across regions in Russia and over time, and against international comparators. Alongside total maintenance
expenditures, and unit costs, should be an assessment of how the additional expenditure translates into improvements in road
condition, as measured by the international roughness index (IRI) for example.
49
3.40. The average unit cost of rehabilitation and reconstruction of an inter-urban road (2-lane,
7m-wide equivalent, category II road according to Russian standards) excluding the costs of
structures in World Bank financed projects is showed in table 3.1420
. This comparison shows that
the average unit costs of road works vary substantially across the countries, yet road maintenance
unit cost norms in Russia are on the high side relative to similar category roads in World Bank
financed projects in other countries in the region. For making of a benchmark of Russia’s
expenditure’s on road maintenance, it would be useful if maintenance unit costs, exclusive of
repairs and rehabilitation, were collected.
Table 3.13: Official Unit Cost Norms for Maintenance, Repair, and Major Repairs in Russia, 2007 US$ per kilometer
Category of roads
I II III IV V
Maintenance 55,111 34,750 30,949 28,506 27,148
Repair 308,619 161,203 154,840 145,295 106,055
Major repair 1,230,023 609,984 556,359 489,328 335,156
Sources: Federal Government Decision No. 539, August 23, 2007; World Bank estimates.
Table 3.14: Quartiles and average of costs per km of an inter-urban road, by type of work in World
Bank financed road projects in Eastern Europe and Central Asia
US$ per kilometer in 2009 prices
First Quartile Mean Third Quartile
New construction 1,111,211 1,482,157 1,888,305
Rehabilitation/Reconstruction 192,239 446,750 687,276
Rehabilitation/Reconstruction (Secondary roads) 126,606 172,712 203,555
Asphalt pavement overlays 115,626 130,026 134,107
Single surface treatment 73,850 91,682 103,694
Periodic Maintenance 24,732 30,512 36,202
Source: Alexeeva, Queiroz, and Ishihara (2011).
3.41. Introducing performance-based maintenance contracts could potentially lead to
significant cost savings. The traditional way of contracting out road maintenance is based on
work measured and paid for at agreed rates. By contrast, performance-based contracts (PBCs)
define minimum conditions of road, bridge, and traffic assets that must be met by the contractor,
as well as other services. Payments are based on how well the contractor complies with
performance standards defined in the contract, and not on works and services executed. Road
agencies in a number of countries have moved to PBCs because of several advantages over
traditional approaches, including (a) cost savings in managing and maintaining road assets, (b)
greater expenditure certainty for road agencies, (c) ability to manage the road network with
fewer agency staff members, and (d) stable multiyear financing of maintenance. The contractor
is generally paid in monthly installments through the contract period, with the risk of cost
overruns transferred to the contractor (Stankevich, Qusreshi, and Queiroz 2005). If legislation
permits a maximum three-year contract, as is the case in Russia, then the agency can begin with
a three-year contract, and once the required changes permitting long-term contracts are approved
by legislation, longer duration contracts can be signed. It makes sense to start with simpler,
short-term PBCs on a pilot basis to choose contracts in line with the capacities of the contracting
industry. In the case of Argentina, which has had a successful experience with performance-
20
The averages and quartiles of cost per km of similar works are calculated based on the reviewed sample of road works
contracts signed between 2000 and 2010 in each country.
50
based contracting, the first contracts were limited to four-year periods of routine maintenance,
and based on this success, new contracts were designed that included both rehabilitation and
maintenance (see appendix E). The cost savings of using PBCs over conventional contracts have
been documented to range from 7 percent to as high as 35 percent.21
For perspective, if PBCs are
implemented in 20 percent of Russia’s highway system and average cost savings over
conventional contracts reach 25 percent, the financing gap for maintenance needs is reduced by
an additional 0.1 percent of GDP.
3.42. Although legal and institutional framework has been established for PPPs, to date
there has been limited private sector investment in the road sector. For 2008 and 2009, there
was no private cofinancing for federal projects included in the Investment Fund, although for
2010, Avtodor’s program envisaged Rub 18 billion (US$600 million) of off-budget financing.22
This reflects in part the impact of the financial crisis, which has delayed concession agreements
and financial close where there are such agreements. It also means that although important in the
medium term, the amounts envisaged in the Transport Strategy—Rub 729 billion (US$24
billion) in 2010–15—may not be met. The costs to the federal and regional governments are also
likely to be higher, in terms of guarantees and conditions to successfully conclude the first
projects.
3.43. Going forward, it will be important to ensure that the motivation for developing
PPP projects is value for money, and not only the need for investment funds. The concept of
value for money is defined as the optimum combination of whole-life costs and quality or fitness
for purpose of the goods and services to be procured by the public sector. In theory, the public
sector rule for prioritizing PPPs should be value for money: If a project can be procured and
implemented more efficiently under a PPP than under traditional public investment, then it
should be taken forward. Value for money in this context is generated by several factors,
including (a) optimal risk transfer to the private sector, (b) careful assessment of the services to
be provided achieving whole life asset management and holistic risk management (not normally
associated with public procurement), (c) flexibility provided to the private sector for innovation
and efficiency, (d) competitive and transparent procurement, and (e) the availability of
appropriate capacity in the public and private sector. Unfortunately, in practice, the focus in
many countries in Eastern Europe has been too often on maximizing private investment, while
value-for-money calculations generally have been overlooked or clearly were secondary.
Interestingly, value for money does not imply the lowest-cost option.23
There are also important
lessons to learn from the experience in Central and Southeastern Europe (box 3.10).
21 According to the World Bank’s PBC resource guide (http://www-esd.worldbank.org/pbc_resource_guide ), average cost
savings in select countries that have introduced PBC are as follows: Argentina, 16–20 percent; Australia, 30 percent; British
Columbia (Canada), 10 percent; Alberta (Canada), 25–35 percent; Finland, 7–10 percent; New Zealand, 30 percent; Virginia
(United States), 17 percent; and Florida (United States), 15 percent. 22 Two subregional projects will benefit from private investors, the Orlovsky Tunnel and the Western High Speed Diameter
motorway. 23 Russia’s procurement law has a very specific requirement to engage the lowest-cost offer. This fact became a major challenge
in the development of a series of PPP projects that the city of Saint Petersburg was implementing between 2008 and 2010.
51
Box 3.10: International Practice: Experience with PPPs in Central and Southeastern Europe
The first attempts to implement PPP projects in the transport sector in Central and Southeastern Europe faced
obstacles that led in many instances to delays, protracted negotiations, renegotiations, and cancellations. Among
privately managed road projects, several factors contributed to these problems:
Lack of robust feasibility studies. Most of the unsuccessful projects lacked a solid feasibility study carried out before
procurement. The negotiations failed to reach financial closure.
Optimistic traffic forecasts. In the early years, optimistic traffic forecasts hurt several concessionaires because they
bore the demand risk. In the absence of minimum traffic or revenue guarantees, lenders sometimes requested an
independent traffic review, delaying and potentially preventing financial closure. There are examples of many
projects in other countries that failed or never materialized because of lower-than-expected traffic (for example,
Czech Republic D5 motorway in 1993 or M1/M15 toll road in Hungary).
Public resistance to tolls. With a PPP scheme, users must pay a larger share of the cost in a region where road use
had been largely free. This led some users to switch to parallel roads, contributing to traffic and revenue shortfalls.
In the case of the M1/M15 highway in Hungary and the Trakia motorway in Bulgaria, increases in toll rates, even
justified by inflation and traffic, led to legal action or public resistance.
Changing of financial support mechanisms. In response to public resistance to tolls, some governments introduced a
vignette system, whereby the toll is collected by selling motorway stickers (vignettes). In Hungary, for example,
direct tolls in the M5 Toll Motorway Project were replaced by a general motorway vignette and the payment of
availability fees to the concessionaire. These shifts transferred a significant traffic risk burden to the public sector.
But the rates were deliberately low to make them acceptable and, as a result, could not compensate for the heavy
capital investments. In Poland, where the vignette system was introduced for the national road system in 2006, the
state has been unable to settle a dispute with the concessionaire for the A4 Toll Motorway Project on compensation
for lost revenue.
Noncompetitive procurement. Many countries started their road concession program with limited competition and
sometimes, with change of governments, had to cancel negotiations or renegotiate. Without competitive
procurement, negotiations typically take longer and can result in lower value for money.
Subsequent revision of legal and regulatory framework. Projects were often implemented in isolation from sector
policy so that specific laws or regulations were considered late in the process. In the A1 Toll Motorway Project in
Poland, for example, the decision to amend the Toll Motorway Act was made only at the procurement stage. As a
result, it took nearly seven years to advance from selection of the concessionaire to signature.
Source: Cuttaree et al. 2009.
3.44. Improved road asset management system for the road network should help inform
spending decisions. Sound decisions need reliable, relevant, and accessible information, such as
data on budgets, traffic counts, road accidents, and pavement design. Asset management is a
process of maintaining, upgrading, and operating physical assets cost-effectively, which should
lead to improvements in financial efficiency through (a) improved decision making based on
costs and benefits of alternatives, (b) justification for work programs and funding requirements,
(c) recognition of costs of operating road assets over the life cycle of the assets, and (d) increased
cost effectiveness of maintenance through proper planning of works. Essential data such as
traffic counts should be collected continuously. Economic decision models such as the Highway
Design and Management model are instrumental in assisting effective prioritization processes. In
contrast, there is no formalized mechanism in the present system for linking expenditures to
operate a road with traffic intensity, which leads to inadequate allocation of budget funds for
operation of roads among the regions. In addition, reconstruction projects financed by the
Federal Targeted Program (FTP) or Investment Fund are determined on the basis of economic
criteria on a case-by-case basis, and not from a road network prioritization basis.
3.45. Managing roads like a business—commercializing road management—leads to a
number of changes in the way the roads are managed and requires more autonomy for the
road agency. These changes include (a) establishing a more autonomous road agency that
52
operates at arm’s length from the government, (b) replacing the previous model of accountability
with better oversight arrangements that strengthen accountability and pay more attention to the
needs of road users, and (c) streamlining the structure of the road agency and improving terms
and conditions of employment for road agency staff members. A number of road agencies that
have been restructured or made into public companies have been set up under new legislation,
and there are clear guidelines on how such legislation should be prepared.
3.46. It is possible that in future Avtodor could function as a second-generation road fund
to ensure a fully funded road maintenance program. Instead of creating a new second-
generation road fund, Avtodor could be strengthened to perform functions of a second generation
road fund. Its existing institutional framework could be easily adopted to meet the requirements
of a successful road fund: independence from the general government budget, management by a
strong and independent board.
3.47. Improving the strategy in the road sector appears important in light of ambitious
expansion plans. The Transport Strategy for 2010–30 was approved by the federal government
in November 2008. However, a number of new initiatives in the road sector were not included in
the strategy, thereby limiting its value. For example, three recent high-profile government policy
initiatives—the creation of Avtodor, the legislation aimed at introducing infrastructure bonds,
and the creation of a road fund—were not mentioned in the 2008 Transport Strategy. A national
transport strategy can be useful in helping people understand the reasoning behind the
government’s decisions and actions in the sector by (a) explaining the government’s goals and
the principles that guide it, (b) helping to identify shortcomings in existing policies and
strategies, and (c) helping to ensure consistency in the application of policy priorities.24
But these
benefits are entirely lost if key policies are developed on an ad hoc basis and without
consideration for what is deemed to be the key strategic document in the sector.
C. THE ROAD SYSTEM: KEY RECOMMENDATIONS
3.48. The overall condition of road infrastructure has deteriorated over the past decade,
reflecting low and declining public expenditure in the sector. The financial crisis had a
significantly negative impact on road allocations in 2009 and 2010, which can be expected to
lead to further increases in the maintenance and rehabilitation backlog. At the same time, the
federal government has recognized the condition of the road sector as a constraint on economic
growth and has plans to launch an ambitious network expansion over the medium to long term,
requiring additional resources. This chapter argues––on the basis of the analysis of Russian and
international experience–that despite good policy initiatives in the current budget, there is much
more that can be done on policy, institutional, and funding fronts to meet the ambitious targets of
maintaining, rehabilitating, and expanding Russia’s road network. The key policy
recommendations are summarized in table 3.14.
24 See, for example, Lee and Hine 2008.
53
Table 3.15: A Summary of Recommendations: Road Sector
Objective
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
1. Ensuring adequate provision of funding
Increase road user
charges to provide
adequate funds for
road maintenance,
rehabilitation, and
reconstruction.
MOF, MOT Increase road user fees (excise
tax on fuel) to gradually
increase annual expenditures on
road maintenance,
rehabilitation, and
reconstruction by 1.1 percent
of GDP relative to 2010 levels.
But to improve the performance
and outcomes in the road
sector, it will be important not
only to raise expenditures, but
also to adopt measures to
ensure that funds are spent
efficiently,
Short-term Reduced depreciation of
road assets
Fiscal savings over the long
run (maintenance is cost
effective and markedly
cheaper than addressing a
mounting maintenance
backlog problem)
Increase funds for
improving road
safety.
MOI Increase expenditures on
campaigns, driver education,
better enforcement, and
research and data collection.
Short-term Increased road safety
Reduction of mortality rate
and health costs and
property damage related to
road accidents
Introduce fully
funded road
maintenance
program
MOF, MOT Consider strengthening the
institutional framework to
include best international
practices of second generation
road funds.
Medium-term Increased expenditure
efficiency and accountability
of resource of use
Consider IFI
financing and TA
for road
improvement
projects.
MOT, MOF Consider projects with IFIs Short-term Higher long-term finance at
national and subnational
levels, as well as
international expertise and
best practice experience
Establish a multi-
year financing
framework for the
transport sector,
including roads,
for a three- to
five- year period.
MOT, MOE,
MOF
Introduce a coherent multi-
annual expenditure framework
for the road sector, which could
be updated on an annual basis.
Medium-term Increased expenditure
efficiency and accountability
of resource use
2. Strengthening management and planning practices of road network
Review the
objectives and
time frame for the
first phase of
Transport
Strategy.
MOT Review the first phase of the
strategy implementation to
ensure that the objectives are
attainable given federal and
regional budgets, as well as
private sector investments and
implementation capacity.
Short-term Improved strategic planning
in transport sector (targets of
the Transport Strategy for the
road sector appear
overambitious and difficult to
attain)
Carry out
functional road
classification
exercise to assess
governments’
financial
MOT While an administrative
classification such as the one in
Russia assigns road ownership,
a functional classification
determines technical
requirements and maintenance
Short-term Improved resource planning
by ensuring that the
government’s stated road
expansion program is
realizable
54
Objective
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
capacity—at the
federal, regional,
and local roads
levels—and users’
willingness to pay
for existing and
planned roads.
practices, and influences
administrative classification and
financing.
Conduct a full
review of vehicle
and road design
standards.
MOT On the basis of that review,
introduce the new standards for
maximum vehicle weights and
road design to ensure that they
are compatible with existing
and future traffic.
Medium-term Improved expenditure
efficiency, up-to-date design
standards that will facilitate
optimizing road network
Introduce
performance-
based
maintenance
contracts.
MOT Start with three-year contracts
on a pilot basis to choose
contracts in line with the
capacities of the contracting
industry.
Medium-term Improved expenditure
efficiency
If PBCs are implemented on
20 percent of Russia’s
highway system and average
cost savings over
conventional contracts reach
25 percent, the financing gap
for maintenance needs is
reduced by additional 0.1
percent of GDP.
Introduce an
improved road
asset management
system for the
road network
MOT Compile reliable, relevant, and
accessible information, such as
data on budget, traffic counts,
road accidents, and pavement
design.
Medium-term Improved expenditure
efficiency stemming from
improved management and
spending decisions
Strengthen the
enforcement of
truck overload
controls and
regulations
MOI Strengthen penalties and ensure
that enforcement has a random
nature so that truck operators
cannot plan to avoid them.
Consider a consistent
nationwide policy toward the
enforcement of axle load limits,
on all road classes, with
sufficient financing for
enforcement.
Medium-term Reduction in widespread
violation of existing
overloading regulations
prolonging the life of
pavements
3. Strengthening the institutional framework
Review the
procurement
procedure.
MOE Review the Public Procurement
Law with the aim of limiting
the role of reverse auctions for
procurement of civil works.
Medium-term Improved expenditure
efficiency by improving
procurement procedures. The
World Bank does not
consider reverse auctions—a
type of auction in which
sellers compete to obtain
business based on the lowest
price quoted—as an
appropriate method of
procurement, and particularly
for civil works, given the
55
Objective
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
considerable risks to quality.
Increase
competition for
the procurement
of road works.
MOE Possible remedies might
include requiring competitions
to include bidders from as
many regions as possible and
outlawing subcontracting
between bidders once the
contract has been awarded.
Medium-term Improved expenditure
efficiency as competition in
the road works sector limits
the scope for collusion.
An increasing competition
for road works that results in
a decrease in average bidding
price by 10 percent can
reduce the financing gap for
road maintenance by about
0.12 percent of GDP.
Strengthen the
legal and
institutional
framework for
PPPs.
MOE Revise the Federal Russian
Law on Concession
Agreements to meet
international standards, for
example, the standard form
contract is rigid and all assets
and tender procedures are
restrictive with regard to
selection criteria and timing.
Medium-term Reduced burden on public
budget resources by
increasing the share of
private sector road financing
Increasing
autonomy for the
road agency.
MOT Managing roads like a
business—commercializing
road management—requires
more autonomy for the road
agency
Medium-term Improved road management
practices
Note: EBRD = European Bank for Reconstruction and Development, IBRD = International Bank for Reconstruction and
Development, MOE = Ministry of Education, MOF = Ministry of Finance, MOI = Ministry of Interior, MOT = Ministry of
Transportation
D. THE RAIL SECTOR: CURRENT ISSUES AND CHALLENGES
3.49. The Russian railway sector is dominated by Russian Railways (RZD), one of the
largest railway companies in the world.25
As the owner of the national railway infrastructure
and the locomotive provider, RZD is a monopoly. It also has a strong, competitive position in
freight railway and dominates the national rail freight market. RZD has consistently received
investment grade ratings by the international credit rating agencies (foreign currency BBB rating
by Standard & Poor’s). In terms of productivity, the railway sector, including RZD, is quite
efficient and largely self-financing, although the government’s support has increased lately
during the global crisis.
3.50. Federal government expenditures to support RZD have expanded sharply in recent
years. Regional and local government support to the railway sector in Russia is small, between
Rub 2 billion and Rub 3 billion per year in recent years; hence, the focus of this chapter on
federal rail expenditures. The railway’s share of federal transport expenditures has risen from
17.6 percent in 2008 to 25.7 percent in 2009 and is projected to rise to 29.3 percent in 2010.
Responding to the impact of the crisis on RZD, in 2009 the government introduced temporary
25
RZD is a holding company with more than 63 subsidies as of the end of 2009. In 2008, the company employed 1.26 million
staff members and its total revenue was equal to 2.65 percent of GDP, making it one of the largest companies in Russia by
revenue.
56
freight operating subsidies (freight tariff ―compensation‖), but these subsidies have been
extended into 2010. Subsidies for the passenger operating segment have been rising. The railway
infrastructure requirements of the Sochi Olympics have also led to large equity injections.
Institutional and Regulatory Framework
3.51. In 2001, Russia embarked on a comprehensive, three-phase railway structural
reform program. The reform program set out strategic priorities for the rail industry up to 2010
and beyond with the aim of improving the efficiency and profitability of rail services in Russia
and encouraging investment for modernization. This led to the foundation of RZD as a state-
owned company to manage the assets formerly belonging to the Ministry of Railways—the
Ministry of Railways was renamed the Federal Railway Transport Agency. One of the main
objectives of the reform was to separate the natural monopoly activity of the company from the
fields of activity where competition would be possible and to attract private investment and
private initiatives to the competitive segments.
3.52. The reform so far has been largely successful, but there have been delays in
completing the second and third phases of reform. The reform has reduced cross-subsidies,
improved transparency, raised investment opportunities, and increased flexibility in operating
tariffs. Next on the reform agenda are the sale of shares of the ancillary companies created
during the reform—there has been some progress to date with sales of shares of Transcontainer
(a leading rail container operator and a subsidiary of RZD); and the development and finalization
of the public service obligation (PSO) arrangements for passenger services. The final phases of
reform have been delayed but are likely to happen in the coming years. These phases include the
establishment of the Freight One Company and, in April 2010, the Federal Passenger Company,
as well as reforms in the commuter passenger transport segment with the view to eliminate cross-
subsidies in passenger transport and increase transparency and efficiency. Although these long-
term efforts are moving in the right direction, the definition and introduction of a PSO and
federal government PSO funding remain a priority, as well as defining adequate sources of local
finance to the suburban and regional joint stock companies.
3.53. One of the outstanding issues is the ultimate competitive structure of the railway
sector. The focus of reforms to date has been on promoting competition at the operator
level and not at the carrier level. In the Russian context, a carrier has the responsibility to offer
service to anyone on the entire system in accordance with the published tariffs of the carrier; the
only carrier is RZD. An operator provides its own wagons or locomotives but uses RZD as the
carrier for moving traffic. RZD has fostered the growth of new operators, but the full
development of competing carriers awaits the adoption of a legal system. A key issue that arises
relates to whether an independent operator could have nondiscriminatory access if the freight
carrier and infrastructure are owned by the same holding company (RZD). The EU and the
United States would not consider competition limited to the supply of wagons or locomotives to
be sufficient for limiting market power. The railway reform strategy envisages in its third phase
that competition will be developed in the rail freight transport sector through the licensing of
railway carriers, but this will not develop without the withdrawal of the requirement to provide
services across the entire network.
3.54. The Transport Strategy envisages carrier competition, but this could require a
review of the freight tariff regime in place. The Russian approach sets freight tariffs to recover
full costs for RZD as a whole, and then offers discounts for a shipper or operator who provides
57
private wagons and locomotives. This approach results in significant noninfrastructure costs in
the access charge. In the top-down approach, freight tariffs are determined by starting with total
costs and then subtracting the costs of wagons and locomotives, whereas the bottom-up approach
includes costs only directly attributable to infrastructure. It would be necessary to assess whether
there is a need to review the existing freight tariff regime methodology to ensure its
appropriateness if the intention is to create a space for new carriers. Also, the legal definition of a
carrier—one offering services to all shippers over the entire rail system—effectively limits the
emergence of competition at the carrier level. Removing this impediment could help open up the
market for competition in the supply of locomotives.
Railway Assets and Traffic
3.55. The rail network in Russia is one of the largest in the world, and the intensity of its
use is high. Total route length of 85,000 kilometers makes it one of the largest in the world after
the United States (figure 3.3). With only 5 kilometers of track per 1,000 square kilometers of
land, however, Russia’s track density is low. This reflects the large size of the country and the
concentration of its economic activities in a few regions. Since 2003, investments have been
made to develop and enhance infrastructure along the major railway routes—Kuzbass–North
West, Kuzbass–Far Eastern Transport Hub, Kuzbass–Azov–Black Sea Transport Hub—that are
used for transporting most of the bulk freight destined for the sea port of Murmansk, the Baltic
Sea, the Far East, the Black Sea, and the Azov sea (see map in appendix I). But investments in
infrastructure during 2003–08 have been used to construct 860 kilometers of new and second
tracks, to construct 800 kilometers of station tracks, and to electrify more than 670 kilometers of
tracks, an increase in the operational network of less than 1 percent. As of the end of 2008, the
electrified track mileage reached 43,086 kilometers or 51 percent of the length in use. The
Transport Strategy envisages an expansion of the total network of between 19 percent and 24
percent during 2016–30, with an increase of between 16,000 and 20,000 kilometers depending
on the scenario.
Figure 3.3: Rail Network Length, 2008 Kilometers (thousands)
Source: RZD.
3.56. The track length with an overdue overhaul has increased during 2004–08. There
have been recent improvements to the load-bearing capacity of the track structure and a
reduction in the light rail network. Overall traffic and average freight traffic density increased
significantly during 2004–08, thanks to the improved technical condition of tracks. But cutbacks
in funding have led to a reduction in rail track overhaul. As a result, the length of track due for
overhaul has increased from 14,050 kilometers in 2004 (11.4 percent of the total) to 18,380
227
211
85
63
61
57
0 50 100 150 200 250
USA
European Union
Russian Federation
India
China
Canada
58
kilometers in 2008 (14.8 percent of the total). This situation is recognized by the Transport
Strategy, which highlights that reduced rehabilitation and reconstruction of infrastructure.
3.57. The growing Russian rail freight is transported by a fleet of approximately one
million freight wagons. Freight One Company manages more than 200,000 wagons (table 3.15)
and nearly 40 percent of the fleet is still operated by RZD, Freight One Company’s parent. RZD
has a universal service obligation, which means that it must supply wagons to all customers on
an equal basis. As a consequence, for wagon types in short supply, customers may face long
delays in receiving wagons to load. RZD must charge all clients the regulated tariff, which is the
benchmark in the market.
Table 3.16: Wagon Fleet in Russia, 2004–08
2004 2005 2006 2007 2008
Total 835 886 927 955 1,003
RZD 624 631 591 568 405
RZD subsidiaries 0 0 27 55 212
Private fleet 211 255 309 332 386
Source: RZD.
3.58. The locomotive fleet consists of a rising number of obsolete units, while the average
age of RZD’s wagon fleet is relatively old. The percentage of locomotives with expired life
service has risen during 2004–08, from 11.4 percent of the fleet to 18.0 percent, suggesting that
not enough locomotives have been renewed and purchased. The average life hides considerable
variation by type of locomotive, with freight locomotives much newer than passenger
locomotives. With limited funds for purchases and modernization, RZD, through its subsidiaries,
is focusing more resources on freight wagons, which generate the bulk of its revenues. In
contrast, the average age of RZD’s freight wagon fleet is relatively high at 21.7 years. However,
the freight wagon fleet owned by private operators is much newer, suggesting that the average
age of the freight wagon fleet for the country as a whole is much lower.
3.59. But despite deficiencies, the quality of Russia’s rail infrastructure is higher than for
other transport modes. According to Rosstat, railway asset deterioration has been on the rise in
the past three years, although the deterioration is much less so than in other transport modes.26
Russia’s indicators of rail productivity are high, reflecting overall efficiency. Given the high
volume of traffic carried by Russia’s rail, it is not surprising that its rail productivity—measured
in terms of staff productivity, track productivity intensity, wagon productivity, coach
productivity, and locomotive productivity—is higher than the EU average (table 3.16). Staff
productivity is more than three times higher than the EU average, freight fleet productivity is
more than five times higher, and passenger fleet productivity is 1.7 times higher. Freight wagon
productivity is also higher than in Canada and India, close to the levels of China, although lower
than in the United States. The strength of Russia’s railway sector vis-à-vis other large railway
systems reflects its high market share in the freight sector, high overall traffic volumes, and
positive impact of recent reforms.
26
In 2008, asset deterioration in air transport was 48 percent, inland waterways 67 percent, rail 24 percent, roads 48 percent, and
maritime ports 48 percent.
59
Table 3.17: International Indicators of Rail Productivity, 2008
Staff
productivity
(ton-
kilometers
and
passenger
kilometers
per
employee)
Track
productivity
(ton-
kilometers
and
passenger
kilometers
per km of
truck)
Freight track
productivity
(ton-
kilometers
per km of
truck)
Wagon
productivity
(ton-
kilometers
per cargo
wagon)
Coach
productivity
(passenger-
kilometers
per
passenger
wagon)
Locomotive
productivity
(ton-
kilometers
and
passenger
kilometers
per
locomotive)
Canada 10,578,912 6,286,406 6,259,683 3,996,229 2,506,557 122,341,156
China 1,582,958 54,015,656 41,306,451 4,398,355 18,196,746 190,723,377
European Union 650,741 3,551,917 1,695,565 756,100 2,960,549 27,723,778
Russian Federation 2,350,208 30,516,234 28,452,708 3,928,547 4,997,726 129,970,504
United States n/a 12,323,569 12,279,814 6,191,980 8,535,223 115,278,911
India 918,440 20,391,413 8,232,997 2,639,412 16,978,082 159,226,510
Sources: International Union of Railways, RZD.
3.60. Freight traffic, at 2,424 billion ton kilometers in 2008, is one the highest in the
world, dwarfing the entire traffic of the EU, Canada, and India combined. Such high freight
traffic volume is the result of vast distances and of rail as the preferred means of transport for all
major cargo (except oil and gas), which in turn reflects the structure of the Russian economy,
with long distances and heavy concentration of commodities (figure 3.4). Russia is a world
leader in the intensity of freight traffic and ranks second to China at 28.5 million ton-kilometers
per kilometer of track. By contrast, passenger traffic is below the levels of Japan, the EU, India,
and China, reflecting in part a much smaller population than the EU, India, and China, and fewer
trips taken than in Japan. In the passenger segment, rail is second to travel by car, although it
remains the dominant mode of travel for medium- and long-distance passenger travel; air travel
is also important for passengers on long-distance routes outside central Russia.
Figure 3.4: Network Length (kilometer), Passenger Traffic (billion passenger-kilometers), and
Freight Traffic (billion traffic-kilometers), 2008
Sources: RZD; European Commission 2009.
3.61. The volume of cargo carried by private or leased railway wagons has been rising in
the past five years, and it consists mainly of high-profit cargo. Freight cargo carried by
private or leased wagons has risen from 31.5 percent in 2003 to 41 percent in 2008, with the
remaining share held by RZD—the subsidiaries and affiliates carry 9.3 percent of the traffic and
RZD (excluding subsidiaries and affiliates) carries the remaining 49.7 percent. This proportion
reflects railway tariff policy, which has served as a powerful tool for the expansion of
Source: UIC, RZD.
227
211
85
63
61
57
0 50 100 150 200 250
USA
EU
Russia
India
China
Canada
773
770
393
256
176
0 200 400 600 800 1000
China
India
EU
Japan
Russia
2,788
2,512
2,424
521
359
358
0 1,000 2,000 3,000
USA
China
Russia
India
EU
Canada
60
competition because the track access charge regime in place offers discounts for shippers or
operators who own private freight wagons. The tariff discount policy takes into account
competition and implies some level of cross-subsidies. Meanwhile, the cargo structure of RZD
differs from that of the traffic in railway wagons owned by independent private entities: high-
profit cargo represents 18.7 percent of cargo traffic for RZD, with the remaining 71.2 percent
consisting of low-profit cargo, while high-profit cargo represents 44.2 percent of privately owned
railway wagons.
3.62. Freight traffic in the first half of 2010 has bounced back from the lows of 2009, but
passenger traffic continues to decline. Freight traffic in the first six months rose by 12.2
percent compared to the same period in 2009, with significant rises for certain categories of
commodities (coke, crap ferrous metals). Traffic reached 1,209 billion tons per kilometer, a rise
of 14.5 percent compared to the same period in 2009. By contrast, passenger services declined by
20.3 percent in the same period with long-distance services down by 1.6 percent and commuter
services down by 21.6 percent. With the real economic activity still below the precrisis level,
RZD expects that volumes of freight and passenger services traffic will recover very slowly,
reaching precrisis level only after 2013.
Financial Performance of RZD
3.63. Despite the difficult context and declining traffic volumes, RZD’s overall financial
results were positive for 2009 and financial recovery continues in 2010. Although the first
half of 2009 saw a net loss of Rub 13.7 billion (US$457 million), there was a turnaround in the
second half and the year ended with a profit of Rub 14.4 billion (US$480 million). This reflects
anticrisis measures to reduce operating costs. In addition, RZD also received Rub 40.6 billion
(US$1.4 billion) compensation in the third quarter to cover losses resulting from an 8 percent rise
in freight tariffs, instead of the planned 14 percent increase. In addition, RZD reduced its
investment program for 2009 by 30 percent. These anticrisis measures, reduced investments, and
increased government support led to a turnaround in the financial results for the second half of
2009. In 2010, financial position continued to strengthen even after accounting for subsidies.
RZD posted a profit of Rub 58.5 billion (US$1.9 billion) in the first half of the year, compared to
a loss of Rub 13.7 billion (US$445 million) over the same period in 2009. Government subsidies
in this period were equal to Rub 11.8 billion (US$384 million). Freight volumes rose by 12.2
percent. This good performance is driven by a recovery in demand (traffic) and measures aimed
at reducing costs.
3.64. There are two key drivers of RZD’s financial performance that are highly
dependent on government policy—tariff policy and subsidies (that is, ―compensation‖
payments). The federal government compensates RZD for loss-making services resulting from
the low, regulated prices. The framework for tariff regulation is generally favorable to RZD, but
it is not transparent and is subject to political interference. Regulation is based on a combination
of ―cost-plus-profit‖ mechanism and a rolling, three-year price cap annually revised by the
Federal Tariff Service. Regulated profit does not incorporate any guaranteed minimum return on
capital but should cover debt service, dividend payments, and the investment program as
approved by the regulator. The current cap for 2008–10 stipulates tariff adjustments above the
projected inflation rate, but in 2009 and 2010, the agreed tariff rise was lower than provided by
the framework, which led to the approval of an additional ―freight subsidy‖ to compensate for
the revenue.
61
Budget Expenditures in the Railway Sector
3.65. Overall, federal funds allocated to the rail sector rose significantly over the 2007–10
period. This support takes a variety of forms: (a) operating subsidies or compensations to offset
regulated freight tariffs, (b) operating subsidies to offset losses in passenger transportation, (c)
equity injections or recapitalizations for cofinancing major investment projects, and (d) funds
from the FTP and Investment Fund for capital investments. Public sector support for the railway
sector reached Rub 74 billion (US$2.5 billion) in 2008 (table 3.17) with a 27 percent rise in
funds for investments. Subsidies for providing loss-making passenger services also rose in 2008,
given the federal government’s commitment to increasingly compensate rail operators for those
services.
3.66. The 2010 federal budget envisages support to the railway sector of Rub 155 billion
(US$5.2 billion), maintaining the freight operating subsidy introduced in 2009. Subsidies, at
Rub 80.2 billion (US$2.7 billion), are largely unchanged from 2009 and exceed funds allocated
for investment. However, the 2010 budget also provides an equity injection of Rub 60 billion
(US$ 2 billion) to RZD, more than doubling the amount in 2008. As in 2008, the bulk of these
funds are intended to finance the rail infrastructure associated with the Sochi Olympics.
Although anticrisis measures might be reversed once the Russian economy recovers, spending to
finance the Olympics can keep federal expenditures on rail over the period 2010–13 higher than
those before 2008. The continuation of the freight operating subsidy beyond 2010 seems difficult
to justify because freight is a profitable market segment if tariffs are set appropriately.
Table 3.18: Federal Government’s Support to the Railway Sector Rub, millions, nominal prices (except as noted)
2007 2008 2009 2010
Administration 5,138 6,929 7,158 6,535
Investment 10,376 47,358 60,261 66,573
Federal Targeted Program 2,576 1,122 6,511 6,573
Investment Fund 0 11,024 20,549 0
Capital transfers to sub-nationals 7,800 8,800 4,823 0
Recapitalization of RZD 0 24,575 28,243 60,000
Other 0 1,838 133 0
Subsidies 10,934 19,537 76,894 80,210
Passengera 10,900 19,400 36,076 28,957
Freight 0 0 40,688 50,000
Other 34 137 130 1,253
Total 26,657 73,987 145,846 154,606
Total (percentage of GDP) 0.08 0.18 0.37 0.34
Sources: Ministry of Finance; World Bank estimates.
a. In 2010, passenger subsidies include compensation for shortfalls of revenue as a result of 2010 regulations
of regional governments on reduced tariffs for socially vulnerable groups.
The Transport Strategy and Network Expansion
3.67. The Transport Strategy aims to modernize (through 2015) and expand (2016
through 2030) the rail network. The first phase focuses mainly on the replacement of rolling
stock, the rehabilitation of infrastructure, and the commissioning of 5,193 kilometers of new,
priority track. The second phase aims to build new railway lines, between 16,000 kilometers and
20,700 kilometers by 2030 (appendix I provides a map of the planned rail network development).
The strategy proposes a significant expansion of the network from an essentially stagnant
62
network (about 85,000 kilometers) over the past 20 years. The objective is to eliminate key
bottlenecks and open new territories, raising density by up to 24 percent. The strategy calls for
new, heavy-haul rail tracks of more than 13,800 kilometers interconnecting the ports of the Far
East, North-West, and South of Russia and land border crossing points along the western
frontier. The Baikal-Amur Mainline will be an essential component of this railway network
allowing the Trans-Siberian Railway to be used for passenger and transit container traffic. The
strategy also includes qualitative indicators of freight and passenger services (for example,
delivery time and transit), which are also expected to improve.
3.68. Such a large expansion of the track network is in response to the need to address the
inevitable ―territorial unevenness‖ of transport infrastructure in a vast country. From this
perspective, the underdeveloped transport sector is often viewed as an impediment to
development of new areas and mineral deposits, primarily in Siberia and the Far East, and
passengers are not served adequately in the Far North and Far East regions. As table 3.18
reveals, although rail density—measured in length of track per 1,000 square kilometers—is 5.0
for Russia, this number hides considerable regional variation, from a density of 1.0 in the Far
Eastern Federal District to a density of 17.7 in the Central Federal District. Although the overall
network density is low compared to EU countries or the United States, it is not that much lower
than in China or Canada. In the case of Canada, a harsh climate means that the bulk of economic
activity is concentrated in the southern parts of the country, and in that sense, the network is
spread unevenly, as is the case for Russia. So, low rail density in a large country does not
necessarily reflect a suboptimal network size—the size of the network can simply be reflecting
population and economic activity concentration and the associated passenger and freight
demand. This underscores the need to carefully conduct an economic evaluation of the merits of
network expansion on a line-by-line basis.
3.69. There are three strategic issues in the sector. First, does major rail infrastructure
investment in all regions of Russia produce the highest economic benefits nationally? Or is
there a trade-off between the growth of periphery and the national economy? If new mineral
deposits are, indeed, located in Siberia and the Far East, as suggested by the Transport Strategy,
then an economic evaluation should reveal whether investment in railway track is most
appropriate. If these deposits consist of oil in Eastern Siberia and gas in the Arctic shelf,
however, the relevant question is intermodal: whether one or another mode of transport (track
development or pipelines or shipping) is the most appropriate to transport these commodities.
Most important is to ensure that the investments made are based on detailed assessments and
positive economic returns.
63
Table 3.19: Railway Density by District, 2006
Track length
(kilometers,
thousands)
Surface area
(square kilometers,
thousands)
Railway density
(kilometers per 1,000
square kilometers)
Russian Federation 85.2 17,075 5.0
Central Federal District 11.5 651 17.7
South Federal District 5.5 592 9.3
North-Western Federal District 15.0 1,678 8.9
Far Eastern Federal District 6.0 6,216 1.0
Siberian Federal District 16.8 5,115 3.3
Urals Federal District 12.3 1,789 6.9
Volga Federal District 18.1 1,038 17.4
Memorandum items
United States 227.0 9,519 23.8
Canada 57.5 9,985 5.8
China 63.4 9,597 6.6
Sources: Rosstat, http://www.infostat.ru/catalog.html; PACC.
3.70. The second related issue is the appropriateness of different modes of transport for
various distances and, relatedly, the required speed of the new tracks to be built. In the
high-investment scenario, out of 21,000 kilometers of new track, the Transport Strategy
envisages 10,000 kilometers of fast lines (140 to 160 kilometers per hour) and 1,500 kilometers
of high-speed lines (200 to 250 kilometers per hour). Undoubtedly, some of the identified
priority directions for fast and high-speed lines, such as passenger trains on the Central Federal
District traveling south, appear sensible and the Moscow–Saint Petersburg train service—
operational since December 17, 200927
—has been successful (appendix H) with an average
occupancy rate of 86 percent. More recently, in July 2010 Sapsan trains began running on the
Moscow–Nizhny Novgorod lines. High-speed rail lines increase capacity—due to higher
frequency resulting from higher speed and up-to-date signaling systems—because they usually
supplement existing routes while freeing capacity on the conventional network for freight and
passenger services. High-speed rail also reduces travel time and competes with air transport. For
routes under 300 kilometers, high-speed rail tends to substitute for air transport and can be
important for relieving airport congestion. As with other expansion plans, fast and high-speed
rail should reflect proper feasibility studies and the nature of potential traffic along those lines,
composition of traffic, and cost recovery considerations.
3.71. And the third issue is the trade-off between the expansion of tracks and their
maintenance and rehabilitation. As of the end of 2008, 18,380 kilometers of track, consisting
of 14.8 percent of total operating track length, needed a rail track overhaul. The need for track
maintenance and rehabilitation has been increasing since 2004. The Transport Strategy
acknowledges the importance of reconstructing rail lines and sections; careful consideration must
be given as to how additional funds for infrastructure maintenance will be financed at the same
time that significant line expansion is expected to occur.
Future Financing Needs
3.72. The rail strategy would require substantial increase in federal funding, particularly
after 2015. For the period 2010–15, the Transport Strategy would require federal funding at
27 The Sapsan high-speed train services operating between Moscow and Saint Petersburg have faced high demand, with RZD
increasing train services in 2010.
64
about 72 percent more than in 2008 (table 3.19). Thus, for 2010–15, out of total estimated costs
of Rub 7.7 trillion (US$257 billion), 90 percent would be financed through extrabudgetary funds.
For the second phase, total costs rise very sharply, to Rub 50.4 trillion (US$1.7 trillion)—
exceeding Russia’s nominal GDP in 2009—reflecting the fact that one of the main objectives in
this period is the building of 20,700 kilometers of new railway lines. Once again, in this second
phase the bulk of the funds would be coming from extrabudgetary sources. A key issue is the
lack of clarity as to where these extrabudgetary funds will be coming from, because the funds
required exceed RZD’s financing capacity.
Table 3.20: Transport Strategy of the Russian Federation: Rail Capital Investments
Rub, billions
2010–15 2016–30
Total Annual Total Annual
Federal budget 485 81 2,805 187
Russian Federation budget entities 254 42 3,100 207
Extrabudgetary funds 6,926 1,154 44,510 2,967
Total 7,665 1,278 50,415 3,361
Source: Transport Strategy of the Russian Federation up to 2030.
3.73. External investor funding for railway projects under the Investment Funds in 2007–
09 has been more than 10 times lower than the levels envisaged in the Transport Strategy.
The first phase of the Transport Strategy envisages annual expenditures by external investors of
more than Rub 1,154 billion (US$38 billion) annually, although actual annual expenditures
during 2007–09 have varied between Rub 14 billion (US$562 million) in 2008 to Rub 26 billion
(US$867 million) in 2009. Because 90 percent of the rail developments are supposed to be
financed by an external investor, it is doubtful that RZD and private freight operators could raise
their financing capacity tenfold in the next five years. This investment plan exceeds the financing
capacity of the state, RZD cash flow, and RZD borrowing capacity.
3.74. Compared to the targets of the first phase of the Transport Strategy, an investment
shortfall during 2010–15 appears likely. Projected railway capital investments during 2010–12
are significantly below those envisaged in the first phase of the Transport Strategy. The first
phase of the Transport Strategy (2010–15) assumes total capital investments of Rub 7,665 billion
(US$255 billion), which translates into Rub 1,278 billion (US$43 billion) annually. However, in
recent years RZD has spent considerably less than this amount (figure 3.5). The Investment
Program for 2010, agreed to with the federal government in December 2009, foresees
investments of Rub 270.5 billion in 2010, and for 2011 and 2012 the levels are likely to be Rub
285.0 billion and Rub 299.9 billion, respectively. This is a view echoed by RZD, which has
estimated that the shortfall could equal Rub 1.9 trillion, given current levels of government
support.28
With current trends of support, the percentage of rail due for maintenance could total
20 percent, and the number of overhead power lines in operation longer than their service life
could rise to 50 percent. It is, therefore, important to ensure that the railway Transport Strategy
objectives are in line with the cash flow and financing capacity of RZD, which depend in part on
federal support. It is also critical that an expansion of track is not carried out at the expense of
deteriorating track and rolling stock, with a negative effect on passenger and freight services
quality. Another important concern is to ensure that the investment plans are in line with RZD’s
28 The levels are those reported by Interfax on October 23, 2009.
65
implementation capacity. In sum, the investment targets set forth in the Transport Strategy do not
appear to be realistic and might need to be revised.
Figure 3.5: Capital Investments by RZD Rub, billions
Sources: RZD; Investment Program 2010–12.
Note: Data from 2004 to 2009 are actual expenditures, while data for 2010 to 2012 are projections based on the investment
program agreed with by the government.
Financing Sources
3.75. RZD’s investment program has far been financed to date by a combination of
internal cash flow, direct state support (subsidies, equity injections, and investment from
the Investment Fund and FTP), and debt. Raising outside capital is done in accordance with
the company’s borrowing program, including syndicated and bilateral loans, ruble bonds,
Eurobonds, and leasing. On December 8, 2004, the first of a series of RZD bonds were
successfully placed on the market. From Rub 12 billion (US$424 million) in 2005, the ruble
bond issuance rose to Rub 50 billion (US$2 billion) in 2008 and Rub 130 billion (US$4.3 billion)
in 2009. In addition to the rising amount and number of issues, the maturity period has been
extended—one bond issue in 2009 has a redemption date of 2024, whereas the three bond issues
of 2004 had one-year, two-year, and five-year redemption periods, up to 15 years. The main goal
of RZD remains to secure long-term ruble-denominated debt; in November 2009 RZD’s board
approved plans to issue Rub 200 billion (US$6.67 billion) in 2010. Although ruble bond issuance
is rising, it is unlikely to ensure financing to significantly boost investments to the levels
foreseen in the Transport Strategy.
3.76. International bond issues remain an alternative financing option. On March 26,
2010, RZD placed a seven-year, US$1.5 billion Eurobond, its first international bond issue. The
spread on the bonds is the lowest of any corporation in Russia, and there was considerable
interest in the bonds, which were oversubscribed. The rating agency Fitch assigned a BBB rating
to the bonds—aligning it with Russia’s debt—reflecting its 100-percent state ownership, the
company’s strategic importance, and the government’s extensive role in the company pricing and
various forms of financial support. As a result, RZD is able to tap a broader investor base and
potentially improve its financing terms.
3.77. Another source of financing is a series of initial public offerings of some of RZD’s
subsidiaries. RZD stated at the end of March 2010 that it was preparing to float Freight One
Company before June 2011—Freight One has been valued at about US$5.1 billion. RZD has also
127.6151.1
172.4
255.5
381.7
262.8 270.5285
299.9
0
50
100
150
200
250
300
350
400
450
2004 2005 2006 2007 2008 2009 2010 2011 2012
66
stated its plan to float a stake of about 35 percent of Transcontainer. In the medium term, RZD
has stated its desire to sell a stake of Freight Two Company. This would provide additional funds
to upgrade the rolling stock. In total, about 30 noncore subsidiaries, including equipment
manufacturers and repair plants, could be sold in near future. RZD has stated that it could raise
as much as Rub 100 billion (US$3.3 billion) over the next three years with the sale of
subsidiaries.
3.78. However, to a large extent, the financing for RZD will continue to be determined by
the tariff structure and its indexation, as well as by financial support from the government.
This means that changes to the regulatory framework governing the rail sector are critical,
because they will determine RZD’s cash flow and overall financial performance. In addition, the
ultimate structure of the rail sector will determine the long-term financial health of RZD. In this
regard, the Transport Strategy states that one of the major principles for developing the railway
transport market involves two or more railway infrastructure managers and carriers.
3.79. The RZD’s regulated freight structure offers cross-subsidies for different categories
of freight cargo. The current pricing policy is based on two underlying principles: (a) keeping
low the indexation of cargo freight tariffs to support industry and (b) using differentiation
mechanisms for various types of freight cargo. The freight tariff structure (PC 10-01) takes all of
the freight commodities handled by rail and reduces them to four overall tariff grades, with
additional subgrades. The structure is rigid because it does not permit contract tariffs based on
demand determinants and because it creates cross-subsidies, which force certain tariffs to be
higher than necessary and weaken rail’s competitiveness for those commodities. The important
issue is that the freight tariff should be cost based, transparent, and predictable and be based on
economically justified expenses and an adequate margin for a return on investments. With
increased rail freight competition, there is also a risk that new competitors will focus on the high-
profit segments, leaving RZD with the low-profit, high-volume segment. This has started to
happen, because RZD must provide services across the entire network, whereas other operators
can be selective and focus on transporting those freight commodities that have higher profit
margins.
3.80. Reforming the regulated freight tariff structure should be based on the principles of
transparency and market responsiveness while fully covering costs. For the infrastructure
and locomotive components, every tariff category should cover at least its long-run marginal
cost, and fixed costs should be recovered through the commodity markups for higher-valued
goods. This approach would eliminate the likely cross-subsidy for coal. Provision of wagons is
taking place in a competitive marketplace and is not subject to state regulations, and thus, this
component should reflect the cost of the wagon regardless of the commodity, or private operators
will not invest in them.
3.81. The mechanism of indexation of freight tariffs must be made predictable and
transparent, ensuring no need for compensatory payments. Indexation parameters are
determined by the Federal Tariff Service (FTS), to take account of inflation, among other factors.
As figure 3.6 reveals, indexation in 2008 was significantly above inflation, but this was reversed
following the financial crisis in 2009–10. The annual average indexation of freight tariffs should
be done in a predictable and transparent fashion, taking into account the price pressures faced by
RZD (for example, increases in producer prices). Federal government funds should compensate
67
for loss-making passenger services through the PSO, and should ensure adequate cash flow to
increase RZD’s expenditures on investment.29
Figure 3.6: Average Indexation of Freight Tariffs
Sources: RZD, World Bank.
E. THE RAIL SECTOR: KEY RECOMMENDATIONS
3.82. The overall condition of railway infrastructure, although better than for other
modes of transport, has also been deteriorating, requiring more concerted policy measures,
many of which are forthcoming. The condition of rolling stock has been improving, given the
effect of investments by new private operators. In terms of performance, the financial crisis has
had a significantly negative effect on railway traffic volumes, which has led the federal
government to increase its support to the sector. But the question remains as to what extent the
sector will be able to keep up with rising demand in the postcrisis period without additional
measures aimed at improving efficiency, improving operations and maintenance, and financing a
realistic expansion program. To this end, the key recommendations are summarized in table 3.20.
Table 3.21: A Summary of Recommendations: Rail Sector
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
1. Budget expenditures
Priority should be
given to
maintenance and
rehabilitation.
MOT, RZD It is critical that an expansion
of track is not carried out at the
expense of deteriorating track,
overhead power lines, and other
infrastructure, with a negative
impact on passenger and freight
services quality.
Short-term Maintenance of the quality
of existing rail infrastructure
Adjust freight
tariffs to ensure
cost-recovery,
thereby ensuring
that (a) the
infrastructure and
locomotives tariff,
in each instance,
MOT Review the freight tariff
regime.
Freight operating subsidies
should be removed in 2011.
The average annual freight
indexation should be set so as
to require no freight operating
subsidies,
Short-term,
medium-term
Reduced suboptimal
allocation of federal funds by
aligning the tariff structure
with sound economic
principles and the
competitive market
Fiscal savings in amount of
0.1 percent of GDP by
29 Taking 2005 as the base year (2005=100), average passenger tariffs stood at 99 in 2008, according to Rosstat data, with both
average long-distance and commuter tariffs lower than in 2005.
0
5
10
15
20
25
2003 2004 2005 2006 2007 2008 2009 2010
Average freight tariff increase (%) Consumer price index (%)
68
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
fully covers the
long-run marginal
cost of providing
the associated
infrastructure or
locomotive
service, and (b)
the wagontariff
reflects the cost of
providing the
wagon[[car?]],
regardless of
commodity
Temporary targeted subsidies to
particularly hard-hit economic
sectors would be more efficient
than providing lower freight
tariffs for all sectors.
A reduction in cross-subsidies
would require raising tariffs for
basic commodities (Grade 1);
this has happened to some
extent already, and it would be
important to review the
structure to ensure that it more
closely reflects costs.
eliminating federal budget
compensation payments for
freight cargo tariffs
Review the
indexation of
freight tariffs
process.
It appears critical that the
annual average indexation of
freight tariffs be done in a
predictable and transparent
fashion and that it avoids the
need for compensatory freight
subsidies.
Federal government funds
should be directed at
compensating for loss-making
passenger services and should
not be providing freight
subsidies.
Medium-term Reduced suboptimal
allocation of federal funds
by aligning the tariff
structure with sound
economic principles and the
competitive market
2. Strengthening management and planning practices
Review the
objectives and
time frame of the
first phase of the
Transport
Strategy.
MOT Revise the first phase to ensure
that the investment objectives
are attainable given the
financial capacity of RZD and
federal support, as well as
implementation capacity.
Short-term Improved strategic planning
in transport sector (targets of
the Transport Strategy for the
railway sector appear
overambitious and difficult to
attain, especially because
funding has been lowered
more than envisaged prior to
the financial crisis)
Ensure that rail
infrastructure
investment in
peripheral regions
is justified from a
financial and
economic point of
view.
MOT, RZD A careful economic evaluation
should reveal whether
investment in railway track in
remote regions is most
appropriate and whether other
policy measures are more
appropriate.
Medium-term Higher economic impact
from rail investments
(infrastructure investment
itself is unlikely to help
growth in lagging regions,
and expenditures favoring
spatial equality at the
expense of funding high-
return regions such as the
Central Federal District, are
likely to impose severe trade-
off with respect to boosting
national economic
performance)
Review the need
for 10,000
kilometers of
MOT, RZD It is important for each high-
speed rail project that there is
an assessment of the need for
Medium-term Increased cost effectiveness
of rail transport service. Fast
and high speed rail should
69
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
high-speed rail.
high speed-rail, the benefits and
costs of rail services of 140–
160 kilometers per hour versus
200–250 kilometers per hour
and 300–350 kilometers per
hour.
reflect the nature of potential
traffic along those lines,
composition of traffic, and
cost recovery considerations.
3. Strengthening the institutional framework
Introduce public
service obligation
(PSO) funding.
With the creation of the Federal
Passenger Company, the
definition and introduction of a
public service obligation and
federal government PSO
funding remains a priority, as
well as defining adequate
sources of local finance to the
suburban and regional joint
stock companies.
Short-term Increased accessibility of
transport services
Review the legal
requirement that a
carrier must
provide service
across the entire
network.
Review the legal requirement
that a carrier must provide
service across the entire
network.
Medium-term Increased competition by
changing the legal
requirement that prevents the
establishment of a new
railway carrier (as envisaged
in the third phase of the
railway reform)
Note: MOT = Ministry of Transportation.
70
4. STRENGTHENING PUBLIC EMPLOYMENT
4.1. The primary focus of this chapter is to analyze public sector employment by
focusing on three core government objectives in human resource management: (a)
strengthening the public sector’s ability to attract and retain human capital, (b) introducing
performance-focused human resource management practices, and (c) maintaining a fiscally
sustainable wage bill. Currently, the wage bill—comprising more than one-fourth of all
government expenditure—faces conflicting pressures. It is clear that improving the remuneration
system, including increasing wage levels in education and health sectors, is an essential task to
improve the effectiveness and quality of public administration and service delivery. Yet given
the budget constraints, one of the most important challenges is to ensure the medium-term fiscal
sustainability of overall expenditures, including the aggregate wage bill.
A. AGGREGATE PUBLIC EMPLOYMENT
4.2. Over the past two decades, the Russia Federation’s labor market has undergone
significant transformation that has also altered the size and composition of public
employment. Between 1992 and 2009, total public employment fell dramatically––from about
50 million to 23 million. The most significant decline occurred in the early part of the 1990s,
mainly as a result of a decline in public enterprise employment. After 1995, the reduction in
employment was accomplished through continuous, modest annual reductions rather than
through dramatic, one–off retrenchment.
4.3. In 2009, aggregate public sector employment30
totaled more than 23 million,
approximately 16 percent of total population and 33 percent of total employment.
Approximately two-thirds of aggregate public employment (14.6 million) belongs to the general
government.31
About 30 percent of general government employment was at the federal level and
the remaining 70 percent was at the subnational level. Public enterprise (unitary, joint stock, and
state corporations) employment32
totaled more than 9 million (see box 4.1). Compared with the
Organisation for Economic Co-operation and Development (OECD) countries, Russia’s relative
public employment (as a percentage of population), averaging about 16 percent, is high; in most
OECD countries, it has not exceeded 12 percent (see figure 4.1).
30 Aggregate public sector employment is defined as the employment in state-owned enterprises, armed forces, and the civilian
government sector. 31 Aggregate public employment is defined as employment in all government department offices, organizations, and other bodies
that are agencies or instruments of the central or local authorities, whether accounted for or financed in ordinary or extraordinary
budgets or extrabudgetary funds. There are six mutually exclusive categories of employment within the general government: (a)
armed forces, (b) civilian central government (excluding education, health, and police), (c) subnational government (excluding
education, health, and police), (d) health employees, (e) education employees, and (f) police. 32 Public unitary employment includes people working in unitary enterprises, joint stock companies, and state corporations.
71
Figure 4.1: Number of People Employed in General Government and Public Corporations
Sources: International Labour Organization Statistical Database for government employment; World Bank, World Development Indicators. Note: General government and public corporations data for 2006 are for the Czech Republic, France, New Zealand, Spain, and the United
Kingdom.
Box 4.1: Employment in Russia’s State-Owned Enterprises
Despite a large-scale privatization in the 1990s, state ownership is still important in Russia. In 2006, fully state-owned
and mixed-domestic public companies accounted for almost one-fifth of all manufacturing industry output. In the banking
industry, it is estimated that more than 45 percent of total assets are held by state-controlled banks (Sprenger 2008).
Furthermore, estimates by troika dialog indicate that in 2007 the federal and regional governments accounted for about 40
percent of the stock market capitalization in Russia. In the oil and gas sector, capitalization was 47 percent, while in the
banking sector it was 64 percent. There are three main forms of state-owned enterprises (SOEs) in Russia: (a) joint stock
companies (for example, Gazprom, Sberbank, Russian Railways, and Transneft), (b) unitary enterprises at the federal,
regional, or municipal level (for example, Rosoboronexport, Post of Russia, and Rosspirtprom), and (c) state corporations
(for example Vnesheconombank, Rosnanotekh, Rostekhnologii, and Rosatom). New SOEs include the United Shipbuilding
Corporation, United Aircraft Corporation, and Rostekhnologii. In 2009, about 9.4 million people were employed by SOEs. Forty-four percent of those were at SOEs at the federal level,
12 percent were at a regional level, 28 percent were at a municipal level, and the remaining were employed by mixed-
ownership companies (box table 2.1). At the federal level, transport and communication sector employs accounted for more
than one-third of all employees of SOEs. Russian Railways is the largest employer with more than 1.1 million employees,
which constitutes about 12 percent of all employees of SOEs. Other large SOEs include Post of Russia (415,000 employees)
and Sberbank (265,000 employees). At a regional level, the transport and communication sector takes the largest share of
employment among SOEs, employing one-fifth of employees of SOEs. At a municipal level, the major employment category
is production and distribution of gas and electricity, which accounts for slightly less than one-third of all employees of SOEs.
Between 2005 and 2009, employment in public enterprises fell by more than 14 percent. In 2009, employment in SOEs
continued to decrease. For example, the employment levels in Russian Railways were cut by 7.7 percent. But Russia
continues to have a slightly larger share of employment in public enterprises, at about 6.6 percent of total population in 2008,
compared with 4 percent in the European Union new member states and below 2 percent in the OECD countries (Reid and
Orac 2007).
Box Table 1 SOE Employment by Sector and Ownership, 2009
thousands Federal Regional Municipal Mixed Total
Transport and communication 1,391 286 217 250 2,143
Manufacturing 833 107 37 885 1,863
Real estate 939 186 373 194 1,693
Production and distribution of gas
and electricity
84 149 442 298 973
Financial services 111 7 2 427 548
Communal and social services 56 56 231 38 381
Mining 8 9 >1 298 315
Agriculture 107 97 39 46 289
Construction 99 62 32 92 286
Other sectors 497 129 144 1,518 921
Total 4,127 1,087 1,518 2,679 9,411
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
72
4.4. Public budgetary organizations account for two-thirds of total public employment.33
The sectoral composition of public employment of budgetary organizations varies significantly
among levels of government. At the federal level, the majority is employed in public
administration. At the regional level, most of this employment is in education, and at the
municipal level, most of this employment is in health. In 2008, approximately 435,000 were
employed in sectors traditionally not related to core functions of public-service delivery (for
example, agriculture, manufacturing, retail trade, and similar sectors). At the federal and regional
levels, these sectors accounted for about 5 percent of total public employment funded by the
budget.
4.5. Education employment accounts for more than a third of total public employment
(table 4.1). During the past 15 years, Russia carried out policy measures aimed at decentralizing
the national education system. As a result, about 80 percent of education employment is
currently under the subnational jurisdiction. The composition of employment reflects the division
of responsibilities in delivery of public services and intergovernmental expenditure assignments.
At the municipal level, secondary education is the single largest employment category and
accounts for half of education employment. At the federal level, higher education institutions
account for 72 percent of employment, and at the regional level, vocational education accounts
for 40 percent of employment.
Table 4.1: General Government Education Employment, 2008
Millions of people Percentage of total
Total Federal Regional Municipal Total Federal Regional Municipal
Total 5.56 1.06 0.84 3.65 100.0 100.0 100.0 100.0
Preschool education 1.34 0.02 0.14 1.18 24.2 2.1 16.1 32.4
Primary education 0.36 > 0.01 0.06 0.30 6.5 0.2 7.3 8.2
Secondary education 2.02 0.01 0.23 1.78 36.4 0.8 27.5 48.8
Vocational
education
(secondary)
0.56 0.20 0.34 0.01 10.0 19.1 40.5 0.4
Higher education 0.85 0.82 0.03 0.00 15.3 77.2 3.1 0.1
Other 0.42 0.01 0.05 0.37 7.0 0.6 5.6 10.1 Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.6. In general, the traditional process of budget allocations based on input norms has
resulted in inflexible and inefficient use of resources, especially in secondary education. Russia’s education system remains quite resource intensive: the average student-teacher ratio is 1
to 9.9 for primary and secondary education compared with 1 to 12.6 and 1 to 11.7 in European
Union (EU) old and new member countries, respectively (World Bank 2010d). The average class
size at the primary and secondary levels of education is 16.9 (and declining) compared with
about 21 in the EU. A transition to per capita financing (a principle of money follows the student)
will enable regional authorities to make resource-based decisions, including decisions related to
the rationalizing of the school network.34
Yet, full-scale implementation of per capita financing
remains a challenge for municipalities because schools have limited spending autonomy35
34 Since 2008, general education has been financed on a per capita (student) basis in all regions. 35 Formally, municipalities are free to set any policy for allocating the local budget (including funds received from the region)
through the per capita allocation across schools. However, the budget legislation severely constrains such autonomy.
73
(World Bank 2010d). The current system of budget financing, through a detailed itemized
allocation, is both rigid and inefficient.
4.7. Health employment accounted for about 27 percent of total public employment. The
delivery of health care services in Russia is a regional and municipal responsibility; hence, 86
percent of employment is at the subnational level (see table 4.2). Hospital staff is the single
largest employment category at every level of the government. On the whole, this reflects the
health system’s reliance on specialist treatment and hospitalization.
Table 4.2: General Government Health Employment, 2008
Millions of people Percentage of total
Total Federal Regional Municipal Total Federal Regional Municipal
Total 3.4 0.5 0.9 2.0 100.0
%
100.0 100.0 100.0
Hospitals 2.6 0.3 0.7 1.6 77.3 62.5 77.6 80.7
Sanatoriums 0.1 0.1 0.1 0.0 3.4 12.5 5.3 0.4
Doctor’s practice 0.4 0.0 0.1 0.2 10.7 8.3 11.0 11.0
Sanitary and
epidemiology
0.1 0.1 0.0 0.0 2.1 14.9 0.1 0.0
Ambulance 0.1 0.0 0.0 0.1 2.6 0.1 1.1 3.9
Dentistry 0.1 0.0 0.0 0.1 2.1 0.9 1.5 2.7
Other 0.1 0.0 0.0 0.0 1.8 0.8 3.4 1.3
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.8. Reflecting the system’s orientation toward inpatient care, health care in Russia uses
far more physical resources per patient than in other countries (World Bank 2010d). Public
employment levels in health and social protection, at around 2.9 percent of total population, are
similar to those in the comparator countries—about 2.9 percent in the European Union 15 (EU-
15) and about 3.3 percent in the non-EU OECD countries (Reid and Orac 2007). However, the
number of hospital beds and medical staff members per patient far exceeds the levels observed in
EU countries—97 hospital bends per 10,000 people in Russia compared with only 54 in the EU-
15 and 34 in countries with similar gross domestic product (GDP) per capita. The number of
physicians per 10,000 people in Russia is almost 50, although the average in OECD countries is
30.
4.9. In 2009, federal and subnational civil service employment stood at 870,000 (or
roughly 0.6 percent of total population) with about 73 percent employed by the federal
authorities. Employment at the executive-level authorities (including at the local self-
governments with executive functions) accounts for more than 82 percent of core government
administration employment (table 4.3). Relative to other countries, the core government (civil
service and non–civil service public administration) employment level in Russia is moderate.
The core government employment as a share of total population in Russia was only 2.4 percent,
slightly higher than in Poland (1 percent) and Ukraine (1.5 percent), but lower than in Denmark
(15.3 percent), France (6.9 percent), Italy (5.9 percent), and Germany (4.5 percent).
74
Table 4.3: Civil Service Employment by Levels and Branches of Government, 2009
Total Legislative Executive Judiciary Other
Thousands
Total 868.2 13.1 710.9 132.0 9.9
Federal institutions 634.8 3.9 515.8 111.2 1.6
Federal level 39.0 3.9 29.4 2.5 1.6
Regional level 595.8 0.0 486.4 108.7 0.0
Subnational institutions 233.3 9.2 195.1 20.7 8.3
Percentage of total
Total 100 1.5 81.9 15.2 1.1
Federal institutions 100 0.6 81.3 17.5 0.3
Federal level 100 9.9 75.4 6.4 4.1
Regional level 100 0.0 81.6 18.3 0.0
Subnational institutions 100 4.0 83.6 8.9 3.6
Sources: Rosstat, World Bank staff estimates.
B. ABILITY TO ATTRACT AND RETAIN QUALIFIED STAFF
Remuneration Policies and Practices in Public Budgetary Organizations
4.10. Until 2005, the public budgetary organizations had a centralized wage-setting
framework regulated by the federal executive bodies. The wage system was based on two
components: (a) a basic, minimum component (defined by the federal authorities), and (b) a
discretionary component—the variable part—consisting of two subcomponents, allowances
(related to the work environment, nature of work, and duties of a post), and bonuses. The basic
wage in sectors funded by the budget was largely based on the Salary Grid (Unified Tariff Scale)
and was linked to the nature or duties of a post. In total, the Salary Grid consisted of 18 separate
grades and the minimum grade was linked to the minimum wage level set uniformly across all
regions. The aim of the variable part was to account for regional differences in labor markets.
Regional authorities were able to supplement the Salary Grid with additional payments or
coefficients. However, the size of the variable wage part (premium) was constrained by fiscal
resources (including extrabudgetary revenues) of regional authorities. In practice, the public
wage system resembled the revenue-sharing mechanism (the variable part of wage increases
when the fiscal position improves and decreases when the fiscal position worsens) that appears to
be a systemic feature of the Russian economy where extraordinary wage flexibility is paired with
the stability of employment (Gimpelson and Lukiyanova 2009). At the regional level, such pro-
cyclical wage-setting policies contributed to an increase in the regional differentiation and risks
to regional budgets (Kwon and Spilimbergo 2004).
75
4.11. Since 2005, a separation of responsibilities among levels of government enabled
subnational authorities to introduce their own normative regulations regarding
remuneration, but did not fundamentally change the centralized wage-setting mechanism.
For the federal-level budget institutions, the wage system continued to be based on the Salary
Grid set by the federal government (box 4.2). For the budgetary organizations under the
subnational jurisdiction, the unified system of wage setting was replaced by region-specific wage
systems. However, in practice, the majority of regions continued to apply the Salary Grid scales
for setting the base wage level. A few regions applied an alternative approach based on setting
individual regional salary grids set by the regional budget laws. The underlying nature of the
centralized wage-setting mechanism did not change. The ability to increase the base wages or
pay supplemental bonuses continued to be constrained by extrabudgetary revenues or savings in
the wage bill of budgetary organizations, resulting in large differences among sectors and
regions. In 2009, the average wage in the public sector ranged from Rub 12,000 (US$400) per
month in Ingushetia to Rub 48,000 (US$1,567) in Chukotka autonomous region. Regions that
faced the fiscal constraints are forced to keep the base salaries below or close to subsistence
levels (especially for low-skilled workers). In 2009, approximately 20 percent of all public
employees received wages below subsistence levels, a substantial decrease from 25 percent in
Box 4.2: Pay Setting in Russia’s Civil Service
A civil service is a subset of public administration officials that includes mainly professional staff members of
the executive branch of the government and excludes auxiliary staff members (for example, drivers and
security guards). A framework Federal Law on State Service System of the Russian Federation of 2003
established a two-tier system: federal public service and civilian public service of ―subjects of the
federation.‖ The federal public service is subdivided into civilian, military, and law enforcement service. The
Federal Law On State Civil Service of the Russian Federation of 2004 defines: (a) rights and obligations of civil
servants; (b) limitations and prohibitions of the state service requirement to the conduct of the civil servants; (c)
regulation of the conflict of interests; and (d) obligations to annually submit information on income, property, and
related obligations.
The remuneration of federal public-service officials is set according to the presidential decree on
remuneration of civil servants (Decree No. 763 dated July 25, 2006). Within each category, the wage may
consist of three parts: base salary; allowances, and bonus payments. The base wages of civil servants are set
according to a scale consisting of 12 steps. The base wage band is narrow but allowances vary significantly (box
figure 1). Allowances for seniority and work environment constitute a significant share of the remuneration. The
lack of a clear structure for these compensations allows managers very wide discretion in establishing pay levels
within their organizations as long as they remain within the available wage bill envelope. According to Rosstat, in
the first half of 2010 the average salary of federal-level executive institutions was Rub 47,400 per month (US$1,580
per month) which is on average 2.5 times more than the national average monthly wage.
Box Figure 1 Compensation Amount by Select Civil Service Positions: Norms
Source: World Bank staff estimates.
76
2005 (see figures 4.2 and 4.3). In education, approximately every fifth employee received wages
below subsistence. Furthermore, salary structures are flat and differentiated modestly, according
to the length of experience, status, and workload.
Figure 4.2: Distribution of Employees according to
Salary Brackets Based on the Minimum Subsistence
Level, 2009
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank
staff estimates.
Figure 4.3: Wage Structure in Budget Institutions by Type of Activity, 2009
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank
staff estimates.
4.12. More important, the decentralized wage setting did not eliminate public-private
wage gaps. Although the wage gaps (a difference with the average wage level in all sectors of
the economy) persisted at both the federal- and the subnational-level budgetary organizations,
two different forces were at play (figure 4.4). At the federal level (federal-level employees at the
regional level), the wage gap tends to be higher in rich regions, reflecting the inability of the
centralized wage scale to keep up with large wage increases in the private sector. However, at the
subnational level (regional- or municipal-level employees), large wage gaps exist in poorer
regions that are fiscally constrained.
Figure 4.4: Relationship between Regional GDP per Capita and Aggregate Public-Private Wage
Gaps by Level of Government and Regions and by Population Size of Regions, 2009
a. Federal level b. Regional level c. Municipal level
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
Note: In each panel, the vertical axis is the ratio between public sector wage and average private wage level and the horizontal
axis is a log of per capita regional income levels. The bubbles represent the size of the population of regions.
4.13. The largest wage gaps are in municipal-level education and health sectors. Average
wages in preschool, primary, and secondary education institutions at the municipal level are
generally more than 50 percent below the average wage level (table 4.4). In the health sector,
wages for doctors and mid-level medical personnel in municipal institutions are significantly
below the average wage levels. Although the ratio of civil service pay to private sector pay at the
regional level, and to some extent at the federal level, was largely in line with the ratio observed
77
in the EU and OECD countries, average wages at the municipal level are 23 percent below the
national average wage. Similarly, the ratio of average teacher salary to GDP per capita in Russia
is significantly lower than the average in the OECD countries.
Table 4.4: A Percentage Difference between Sector and Overall Average Wages by Economic
Sectors, 2008
percent
Education Health and social services
Public
administration
Levels
Pre
sch
oo
l
and
pri
mar
y
edu
cati
on
Sec
on
dar
y
edu
cati
on
Vo
cati
on
al
edu
cati
on
Hig
her
edu
cati
on
Do
cto
r’s
pra
ctic
es
Mid
-lev
el
med
ical
per
sonn
el
Lar
ge-
pro
file
hea
lth
esta
bli
shm
e
nts
So
cial
serv
ices
Federal -34.6 -22.5 -32.9 -4.0 13.7 -21.3 -5.3 -28.4 +5.9
Regional -9.1 0.5 -26.6 14.2 -11.4 -28.6 +2.9 -44.2 +28.3
Municipal -54.7 -43.7 -39.0 -27.9 -32.1 -55.0 -35.8 -53.6 -23.2
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
Note: A negative number indicates the wage level below the national average, and a positive number indicates the wage level
above the national average.
Figure 4.5: Ratio of Teacher’s Salaries and GDP per Capita in Russia and OECD Countries
Source: OECD Education indicators 2010.
Note: The OECD average includes both OECD countries and partner countries. Data for OECD countries are relative to
minimum statutory salary levels in those countries.
4.14. As in many countries, public sector compensation in Russia includes various
nonwage and nonmonetary benefits. There are 10 possible elements of a total rewards package
for public sector employees (table 4.5). According to the budget execution reports, the nonwage
monetary compensation, which includes such categories as reallocation benefits and per diems,
constituted about 2 percent of total compensation expenditures. At the federal level, the nonwage
compensation was approximately two times larger than at the subnational level when measured
as a share of GDP or total compensation. A provision of housing is one of the most lucrative,
contractually provided in-kind benefits. The criteria for the housing assistance vary among
institutions, but typically include the length of service, duty station, and living conditions (see
box 4.3 on housing subsidies at the Federal Civil Service). Excessive nonmonetary benefits can
distort incentives and undermine the transparency and budgeting of the wage bill.
78
Table 4.5: A Matrix of Monetary, In-kind, and Intangible Rewards for Public Sector Employees
Contractually provided Noncontractual
Monetary in-kind intangible Monetary
Current
rewards
Base
rewards
1. Base wage and salary 2. Health insurance, using
departmental medical
establishments, extensive
summer holidays [education
sector]
3. Job security,
prestige, social
privileges
Allowances 4. Transportation, housing,
meals, telephone, travel,
cost-of-living, payment for
health treatment, access to
credit resources, education
grants
5. Transportation, housing,
meals, travel,
6. Trips abroad,
training
7. Gifts,
contributions
from parents
(education)
and patients
(health care)
Future expectations 8. Pension 9. Housing 10. reputation, re-
employment after
retirement
Source: World Bank, Poverty Reduction and Economic Management anchor, HRM team.
4.15. A recent survey of employees at regional-level federal and subnational budgetary
organizations indicates that nonmonetary benefits in the private sector are on average
more than two times greater than in the public service, contributing to the public-private
remuneration gap (World Bank 2009). The difference in social benefits varies with positions,
with lower-ranked public officials having access to more benefits than their colleagues in the
private sector, and higher-ranked public officials enjoying up to four times fewer benefits (as
estimated in monetary terms) compared to their private sector managers. The most common
privileges for civil servants include the use of service transport, departmental medical
establishments, and sanatorium treatments.
4.16. As in other countries of Central and Eastern Europe, informal payments in health
care and education are common. Lingering from the past, these informal institutions
(understood as informal norms of behavior) depend on a number of ―soft‖ factors (such as
attitudes and values) that remain relatively unchanged despite changes in ―hard‖ factors (such as
legislation, and financial and administration structure). Various studies document that the
frequencies of these payments in the health sector remain high but vary from region to region,
with about 19 percent of surveyed patients in Lipetsk oblast indicating that they have paid
informally in the past three years (Aarva et al. 2009). In the education sector, according to a
survey by Higher School of Economics (2009), in the 2006/2007 academic year, more than 70
percent of families with school children contributed money for school donations, a part of which
is a contribution to teachers. The average size of these donations was Rub 2,600 per academic
year in Moscow (about US$80) and Rub 900 per academic year outside Moscow (about US$30).
The same survey indicates that bribes, although less frequent in secondary-education
establishments, averaged about Rub 4,200 in Moscow (about US$140) and Rub 2,100 outside
Moscow (about US$70). The largest amount of unofficial payments was in preschool education
establishments; bribes for preschool acceptance were on average Rub 14,100 per year in Moscow
(about US$470) and Rub 6,200 per year outside Moscow (about US$200).
4.17. Furthermore, more than two-thirds of teaching staff members at the higher-
education institutions and more than one-third of teachers at secondary-education
institutions report supplemental sources of income. According to the survey (Higher School
of Economics 2009), the most common forms of additional income are additional work in other
educational institutions and tutoring. Moonlighting is a coping mechanism for income-poor
79
households that lingers from Soviet times. Financially, the most rewarding supplementary
activity is research activity.
Ability to Retain Qualified Staff
4.18. Employment turnover rates are not excessive but, predictably, low-wage sectors (for
example, vocational education and social services) tend to have higher turnover rates (table
4.6). In public administration, low wage levels may also have contributed to relatively high
vacancy rates in select cadre categories of the civil service (especially in Moscow and Saint
Petersburg). For comparison, in the EU countries, the turnover rates in public administration
range from 0.9–1.2 percent in the United Kingdom (management-level staff members) to 10
percent in Sweden.
Table 4.6: Average Monthly Employment Turnover Rates by Sector in Russia
percent
2005 2006 2007 2008
Education 1.52 1.46 1.48 1.54
..of which (o/w) preschool and primary
education
1.67 1.58 1.63 1.62
..o/w secondary education 1.23 1.18 1.19 1.29
..o/w vocational education 1.91 1.77 1.84 1.96
..o/w higher education 1.71 1.68 1.71 1.73
Health and social services 1.81 1.64 1.68 1.68
..o/w doctor’s practices 1.56 1.48 1.47 1.53
..o/w mid-level medical personnel 1.52 1.19 1.66 ..
..o/w large profile health establishments 1.54 1.47 1.44 ..
..o/w social services 2.17 2.00 2.18 2.15
Public administration 1.73 1.53 1.30 1.12
Aggregate of all sectors of economy 2.61 2.58 2.61 2.72
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
Note: Turnover rate is calculated as ratio of total number of employees leaving over total employment in each
sector in a given year. .. = not available.
4.19. Low overall turnover rates and pay structure that rewards tenure result in high
employment durations. More than 44 percent of public administration employees have worked
Box 4.3: Housing Subsidies for the Federal Civil Service The federal targeted investment program for housing for 2002–10 includes a special subprogram aimed to
provide housing support for federal-level civil service officials. In total, about Rub 10 billion (US$333 million)
were allocated for this activity (see box table 1). The implementation of this program accelerated in 2009 to provide
stimulus to the housing market.
Box Table 1 Aggregate Outlays for Housing Subsidy
Rub, billions
Total (2006–10) 2006 2007 2008 2009 2010
Federal civil service 10.17 1.16 1.62 0.26 4.31 2.82
Young scientists 4.72 0.70 0.70 0.68 1.84 0.80
Prosecutor’s office 3.52 0.55 0.94 0.67 0.64 0.72
Source: Ministry of Finance.
The provision of housing subsidies in the federal civil service is regulated by norms set by the government of
Russia. The nominal price per square meter is set by the Ministry of Regional Development, but the Ministry of
Health and Social Services calculates regional coefficients. The criteria for the provision of housing benefits include
length of service and current living conditions, but the following categories, managers, and senior advisers that do not
meet these criteria can also be eligible for a one-off housing subsidy. In 2009, the normative price per square meter
ranged from Rub 13,900 in Karachaevo-Cherkasskaya Republic to Rub 73,800 in Moscow.
80
for more than a decade at their representative institutions. At the top management level, more
than 90 percent of employees have career tenure exceeding five years. (figure 4.6). According to
the Bureau of Labor Statistics in 2010, the median tenure was 7.2 years in the United States’
public sector (7.9 years for the federal government), indicating a similar long tenure profile.
However, in Russia, the age distribution of federal-level civil servants shows an uneven
distribution. Two large groups dominate—people younger than age 30 and people between age
50 and 59 (figure 4.7). The age profile is fairly consistent, and there are no large differences
among those employed by ministries, federal agencies, or federal services. A sharp increase in
those who are younger than age 30 is explained by the fact that an increase in civil service
occurring over the past decade was predominately at specialist and support-specialist levels that
typically fall in that age category.
Figure 4.6: Tenure Distribution in Public
Administration, 2009
Sources: Rosstat, http://www.infostat.ru/catalog.html; World
Bank staff estimates.
Figure 4.7: Age Profile of Civil Service:
Federal-Level Civil Service, 2009
Sources: Rosstat, http://www.infostat.ru/catalog.html;
World Bank staff estimates.
4.20. The gender structure of public employment shows significant underrepresentation
of women in top positions and an overrepresentation in support-level positions. In 2009,
only 20 percent of top-level managers, top advisers, or top specialists in federal-level civil
service posts were women, although women accounted for more than 83 percent of all junior
support specialist positions (figures 4.8 and 4.9).
81
Figure 4.8: Shares of Female Employment by
Different Categories of Civil Service Posts, 2009
Figure 4.9: Shares of Female Employment in
Health and Education Sectors, 2008)
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
C. TRANSITION TOWARD PERFORMANCE-FOCUSED PERSONNEL
MANAGEMENT
Linking Performance and Pay
4.21. In recent decades, many countries have introduced performance-based budgeting,
management, and reporting systems to improve public-service delivery. The focus on
performance has led to more flexible approaches to pay setting in the public sector. This involves
an adaptation not only to pay levels and structures to account for differences in labor market
characteristics, but also to wages based on individual performance, competences, and
qualifications. There are wide variations in the degree to which performance-related pay (PRP) is
actually applied throughout an entire civil service, and very few OECD country civil service
systems can be considered to have extensive, formalized PRP systems (box 4.4) (OECD 2005).
In general, the PRP systems are based on the following assumptions: (a) organizations can
accurately measure individual, team or unit, or organization outputs; (b) individual and team or
unit outputs contribute to organizational performance; and (c) pay can be administered in a way
that capitalizes on its expected incentive value for potential recipients.
4.22. Over the past decade Russia has made considerable progress in introducing various
elements of performance-management systems, but the implementation of individual
performance-appraisal mechanisms is progressing slowly. Remarkably, Russia made
considerable progress with the most difficult elements of performance-management systems,
including the introduction of a strategic-planning system and performance-measurement
mechanism at the federal-level institutions. Yet, the biggest problem is in the less-complex
aspects of a performance-management system—individual performance evaluation systems
(Verheijen and Dobrolyubova 2007). Formally, the Russian civil service law defines personal
performance–evaluation tools, but most of these tools are highly formal and remain disconnected
from institutional performance management. Furthermore, a lack of coordination between civil
service and budget reforms results in a rigid wage bill funding, linked to the staff schedule under
the budget rule. Last but not least, as confirmed by sociological surveys, the implementation of
results-oriented, performance-evaluation systems in Russia have not been supported by civil
service culture. All of these factors and a lack of methodological guidance on developing
individual performance agreements, as well as individual performance indicators, prompted
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ministries and agencies to choose the traditional remuneration practice consisting of a base salary
and additional payments (mainly allowances related to rank and position). The personnel units
continue to play administrative roles of keeping personnel records and administering recruitment
processes, although the personnel actions are often at the discretion of the head of the agency.
Oversight of personnel management is often weak to nonexistent. Career advancement,
especially in civil service, is more a matter of length of service (World Bank 2006).
4.23. Despite weak performance-appraisal systems, the implementation of a PRP system
in public budgetary organizations (non–civil servants) is advancing very rapidly. The legal
framework for the new pay system (NPS) was introduced in 2007, and as of December 1, 2008,
all federal-level public budgetary organizations are required to use the new system. The new
system pursued multiple objectives, including (a) differentiation of remuneration based on
performance and outcome; (b) increasing attractiveness to hire qualified staff members; (c)
increasing productivity and optimizing the employment size in public budgetary organizations;
(d) increasing transparency of pay system; (e) introducing stimulating measures that result in
application of knowledge; (f) increasing overall wage levels; and (g) increasing independence of
managers of public budgetary organizations. Regional-level public organizations are also
introducing the NPS as a basis for remuneration in the public budgetary organizations. As of
2010, 41 percent of regular employees funded by the federal budget have been converted to the
NPS. At the regional level, 40 regions have already introduced the NPS and the remaining 43
will make a transition in 2011.
4.24. Although there are many common elements between the new and centralized
systems of wage setting, there are important differences in setting the base salary and
supplemental benefits (table 4.7). One of the major features of the NPS is the decentralized
Box 4.4: International Practice: Performance-Related Pay in OECD Countries
Significant numbers of civil servants were covered by PRP schemes of one kind or another in most OECD member countries,
particularly senior managers, but increasingly also nonmanagerial employees. The introduction of performance-pay policies
occurred in the context of the economic and budgetary difficulties faced by OECD member countries in the mid-1970s. Reasons for
introducing PRP are multiple, but they focus essentially on improving the individual motivation and accountability of civil servants
as a way to improve performance.
There is no single model of PRP across OECD member countries. Models are diverse and vary according to the nature of the civil
service system, the pay determination system, and the degree of centralization or delegation in financial and human resources
management. However, common trends are clearly emerging across groups of countries and across the OECD as a whole:
PRP policies have spread from management level to cover many different staff categories in the past 10 years.
Among PRP policies, there has been some increase in the use of collective performance schemes with reference to the
achievement of organizational targets, at the team or unit level or the organizational level.
Long-running, standardized PRP schemes have evolved into more decentralized systems, which facilitate delegation of
managerial functions.
There is an increased diversity of the criteria against which performance is assessed. Both career-based and position-based civil
service systems tend to converge not only in the attention given to outputs, but also in competencies and general social skills.
Performance-rating systems are less standardized, less formalized, and less detailed than they were 10 years ago. On the one
hand, performance appraisals rely more on the assessment of preidentified objectives and on dialogue with line management
than on strictly quantifiable indicators. On the other hand, systems of rating performance that impose quotas on the number of
people who can succeed under them are more widespread across OECD member countries.
The size of performance payments is generally a fairly modest percentage of the base salary, especially among nonmanagerial
employees. Merit increments tend to be smaller than one-off bonuses; they are often below a maximum of 5 percent of the base
salary. PRP bonuses, which tend to supplement or replace merit increments, are in general higher, but overall, maximum
awards usually represent less than 10 percent of the base salary for civil servants. At the management level, performance
payments are generally higher, about 20 percent of the base salary.
Source: OECD 2005.
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approach to the base salary setting. The minimum base salary for professional groups is
recommended by the federal ministry or agency—the budget holder. The professional
qualification groups are approved by the Ministry of Health and Social Services—the regulator
in the area of labor issues and employment in the public sector. The variable part consists of
allowances, set by the Labor Code and federal legislation, and a discretionary part, the bigger
share of which is defined by the organization’s manager. Beginning in January 2010, not less
than 30 percent of the federal budget resources, allocated to the remuneration, are required to
fund the discretionary part to stimulate performance. However, in practice this share was much
higher; in the first half of 2010, bonuses accounted for 44 percent of the wage bill of federal
budgetary organizations that introduced the new wage system. The base salary accounted for
only 42 percent, and allowances accounted for 14 percent. For public budgetary organizations
under the supervision of the Ministry of Economic Development and Trade, the share of bonuses
was 52 percent.
Table 4.7: Russia: A Comparison of Key Components of the Old and New Wage System Old system New system
Base salary Base salary
Base salary is based on the Salary Grid set by
the government of the Russian Federation.
The head of budget organization sets the base salary according to
the nature of the work and qualification. The minimum level of
base salary for a particular set of qualifications cannot be lower
than recommended by the respective federal agency that is
overseeing the public budget organization.
Allowances Allowances
Allowances are set according to norms
specified in the labor code, respective federal
laws, and resolutions of the government of the
Russian Federation.
Allowances are set according to norms specified in the labor code,
respective federal laws, and resolutions of the government of the
Russian Federation.
Bonus payments Bonus payments
The head of the budget organization can
introduce additional bonus payments using the
resources from own revenues (non–budget
revenues) or optimization of the wage bill.
The head of the budget organization is responsible for introducing
a system of bonus payments. As of January 1, 2010, the heads of
the budget organization are instructed to allocate at least 30
percent of the aggregate wage bill (allocated by the budget) to
bonus payments.
Wage-setting mechanism for the head of
the agency
Wage-setting mechanism for the head of the agency
No special procedure is used. The base salary for the head of the public budget organization is
set by the contract. The base salary cannot exceed five times the
average wage level at the public budget organization under his or
her supervision. The base salary for deputy heads and chief
accountants is set at 10–30 percent less than the base salary of the
head of the public budget organization.
The bonus payments for the head of the public budget organization
is determined on the basis of the performance (results) of public
budget organization set by the methodology to evaluate the
performance of federal budgetary organizations.
Budgeting of the aggregate wage bill is
directly linked with the staffing levels
Budgeting of the aggregate wage bill detached from the
staffing levels
Source: World Bank staff.
4.25. The new wage-setting system also introduces strict regulation of wage setting for
senior management of public budgetary organizations. The base salaries for heads of
organizations are set proportionally to the average salary of key senior staff members. The base
salaries for deputy heads and chief accountants are fixed at levels ranging from 10 to 30 percent
84
below the head’s base salary. Determination of the size of discretionary compensation for the
senior management is a responsibility of executive agencies—budget holders that are funding
public services provided by the organization. The budget holders set performance indicators and
can use up to 5 percent of the remuneration fund, aimed to cover salaries of subordinate
organizations, for performance bonuses of the heads of organizations.
4.26. Early evidence indicates that the introduction of the NPS resulted in an increase in
average wages in federal budgetary organizations. At the end of 2009, the average wage in
federal-level budgetary organizations increased by 16.8 percent relative to October 2008. The
budget resources allocated to wages increased by 40.4 percent while the own-revenue funds
allocated to the wage bill increased by 7 percent. A large increase in the wage bill is explained
by the fact that according to regulations, no employee should experience a salary decrease as a
result of the conversion to the new system. Therefore, additional fiscal resources were needed to
fund performance bonuses. The increase in wages varied widely across institutions, from 13 to
112 percent in education and 15 to 100 percent in science. It remains too early to make
conclusions on the effect of the reform on public sector performance.
4.27. There is a temptation (and a danger) for transition countries to develop
performance pay as a way to boost public sector performance rapidly or to potentially
reduce the size of base salaries when the issue is to improve the appraisal process. Some
countries have instituted PRP as a large proportion (50–60 percent) of the base salary. Such
policies are counterproductive if implemented within an inadequate management framework
with weak monitoring and evaluation because PRP may increase mistrust, corruption, and
patronage. It may also lead to a drop in the staff morale, discouraging skilled professionals from
entering the public sector. The lessons from OECD countries indicate that success of PRP
implementation depends more on the quality of the performance-appraisal process and less on
pay alone. The international experience of incentive-pay schemes in the United Kingdom service
delivery agencies, such as National Health Service, reveals that these schemes are neither
individual nor organizational, but team-based. Thus, the credibility of managerial judgment is
important in the performance-appraisal process, and successful implementation is possible in
mature and well-established civil service environments (OECD 2005). Although individual
results monitoring remains a challenge in Russia, the introduction of performance pay has been
supported by parallel policy initiatives on implementing service agreements36
between budget
holders and service delivery organizations, which specify volume and quality of public services
to be delivered.
D. MAINTAINING A FISCALLY SUSTAINABLE WAGE BILL
Aggregate Spending Efficiency
4.28. Between 2006 and 2009, the aggregate wage bill increased by about 2.5 percent of
GDP to reach 10.9 percent of GDP, an increase of 66 percent in real terms!37
(table 4.8).
During the crisis year 2009, the wage bill measured in real terms (in constant rubles) increased
by 2.4 percent at the subnational level and by 13 percent at the federal level as part of the
36 Service agreements were adopted by Government Statutory Act N1065 from December 29, 2008, ―On Procedures of
Development and Funding Service Agreements by Federal Executive Authorities and Public Budget Organizations,‖ enforced on
January 1, 2009. 37 The amount is an inflation-adjusted expenditure level in rubles.
85
anticrisis response. The wage bill as a share of total expenditures varies from region to region—
from as high as 44 percent in Tuva Republic to only 8 percent in oil-rich Tyumen oblast—but the
average for Russia is 25 percent.
Table 4.8: Average Budget Expenditures on Compensation of Employees in Russia, 2006–09
2006 2007 2008 2009
Percentage of GDP
Total 8.5 8.6 8.8 10.9
Federal Budget 3.7 3.8 3.8 4.9
Subnational consolidated budget 4.7 4.8 4.9 5.8
Federal and subnational extra budgetary funds 0.1 0.1 0.1 0.2
Percentage of current expenditures
Total 23.9 23.9 26.5 25.2
Federal Budget 19.1 19.0 21.7 19.0
Subnational consolidated budget 31.8 31.9 32.8 33.8
Rub, billions (2009)
Total 2,561.4 3,233.1 3,968.5 4,249.6
Federal budget 1,124.0 1,404.3 1,699.5 1,920.1
Subnational consolidated budget 1,400.4 1,784.6 2,213.9 2,268.1
Federal and subnational extrabudgetary funds 36.9 44.1 55.1 61.4 Sources: Ministry of Finance, World Bank staff estimates.
4.29. Increases in the wage bill were driven mainly by increases in wages rather than
employment. The largest increases in personnel expenditures were at the subnational level
where the average wage bill went up by more than 20 percent per year in real terms (figure 4.10).
In 2009, the wage bill jumped in about half of the regions in real terms. An increase in the
minimum wage in early 2009 put more pressures on poor regions because they had a higher
share of public sector employees with binding minimum wages. The wage bill increased by 27
percent in Ingushetia, one of the poorest regions in Russia. However, the city of Moscow, one of
the richest regions, also experienced a sizable increase in the wage bill—an increase of 23
percent.
Figure 4.10: Contribution of Employment and Wage Increase to the Aggregate Wage Bill Increase
in 2008 Relative to 2007, by Levels of Government
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.30. In recent years before the crisis, public sector wages significantly exceeded growth
in real GDP per capita (figure 4.11). By mid-2005, there were early signs that the aggregate
demand was outpacing Russia’s long-term productive capacity, resulting in rising inflationary
pressures. The real wage growth significantly outpaced productivity growth, exceeding 10
86
percent growth per year in real terms in the period between 2005 and 2008. Average real wages
for public sector employees were also growing rapidly, especially in 2005 and 2006. Wages in
the public sector continued to increase even in the crisis of 2009, notably in education.
Figure 4.11: Real Wage Increases in Russia by Sectors
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.31. Public wage increases, especially in 2009, benefited mostly low-wage earners (table
4.9). In the period between 2005 and 2009, the compression ratio (the ratio of highest and lowest
deciles’ average nominal wages) fell in the education, health, and public administration sectors.
The wage compression also increased in other sectors, as a result of the minimum wage hike. For
example, in the education sector the lowest deciles had an increase in nominal wage by about 50
percent relative to 2007.
Table 4.9: Compression Ratios for Select Sectors, 2005–09
2005 2006 2007 2009
All sectors 24.9 25.3 22.1 14.7
Education 15.6 16.5 15.3 10.3
Health 12.6 14.9 13.8 10.1
Public administration 14.7 14.7 13.8 9.8
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.32. Although there were no significant changes in public employment in education and
health, civil service employment continued to increase. Between 2005 and 2008, employment
in health and social services increased by 2 percent while in education it fell by 2.4 percent (table
4.10). At the municipal level, employment decreased, mainly in education and health. But in the
period between 1999 and 2009, aggregate civil service employment increased by 382,000 or 79
percent. Despite both a functional audit of the federal government that identified 1,468 redundant
functions and a subsequent reform of the structure of federal executive authorities (a reduction in
types of government bodies from six to three),38
the employment level at the federal-level
executive bodies also increased. In relative terms, the largest increase was at subnational
institutions—an increase by 124 percent. This was also the period of economic boom and high
oil prices when the economy registered an average annual growth rate of almost 7 percent.
38 The presidential decree of March 2004 on the system and structure of federal executive authorities was reduced to (a)
ministries that are responsible for exercising the functions related to the elaboration of state policy and legal regulation (setting
rules function); (b) services that are responsible for exercising the functions related to control and supervision (enforcing rules
function); and (c) agencies that are responsible for exercising the functions related to the provision of public service, the
management of state property, and so on (implementing rules function).
87
Table 4.10: Changes in Public Employment Levels: Public Administration, Education, and Health
Care, 2005 versus 2008
Millions of people Percentage of increase
Total Federal Regional Municipal Total Federal Regional Municipal
Public administration
and defense
0.33 0.23 0.07 0.03 10.1 9.5 19.7 6.3
Education -0.14 -0.01 -0.01 -0.12 -2.4 -0.6 -1.6 -3.1
Health care 0.08 0.01 0.17 -0.10 2.0 2.8 12.4 -4.5
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.33. Despite recent increases, Russia’s wage bill remains comparatively modest,
reflecting low wages in education and health. As a share of total expenditure, the wage bill
ranged from about 15 percent (Germany) to 33 percent (Denmark) in OECD member countries
(figure 4.12). In 2009, as a result of significant growth declines, the aggregate wage bill as a
share of GDP increased in almost all OECD countries with the exception of Hungary. But the
increase was among the highest in Russia, followed by Denmark, Finland, and Spain. As a share
of total outlays, the picture is mixed: In a majority of countries, including Russia, which
introduced sizable fiscal stimulus measures, the share of the wage bill in total outlays decreased.
But in Russia, relatively high public employment levels and a modest wage bill relative to other
countries is a result of relatively low wage levels in the education and health sectors. As a result,
without adjustments in employment, pressures to eliminate wage gaps in these two sectors could
easily push Russia’s wage bill above 12 percent of GDP.
Figure 4.12: Wage Bill as a Share of Total Outlays and as a Share of GDP
Sources: International Monetary Fund, Government Finance Statistics dataset, World Bank staff estimates.
Wage Bill Control Policies and Practices
4.34. The fiscal decentralization during the past decade resulted in a transfer of decision-
making authority related to employment and expenditure to subnational governments. As a
result, regions and municipalities were able to set their own standards for service provision
within a federal framework and also set their own wage policies for public employees. So fiscal
decentralization resulted in the transition from a unilateral pay setting based on centralized
norms toward a decentralized system of wage bargaining. But the fiscal autonomy on the
revenue side was progressing only slowly, resulting in a discrepancy between the revenue
autonomy and spending mandates. Although federal grants and transfers were used to partly
narrow the gap, subnational fiscal constraints translated into low education and health sector
wages.
88
4.35. At the same time, various fiscal rules and regulations were set to regulate the overall
fiscal balances and aggregate wage limits of subnational entities. Strict deficit ceilings for
―subjects of the federation‖ (that is, subnational governments) were introduced in the budget
code: The budget deficit of a unit of the federation may not exceed 5 percent of revenues. The
public sector wage limits were also set for regions and municipalities that are recipients of
federal grant transfers. According to article 85 of the budget code, in regions that are recipients
of federal grant transfers, the average wages for regional-level public sector employees cannot
exceed the average wage levels of federal-level public sector employees of the same category.
Similarly, in municipalities that are recipients of regional transfers, public sector wages cannot
exceed levels set by regional authorities. According to the Ministry of Finance, the compliance
rate for this rule has increased from 21 percent in 2005, when 54 regions were not in compliance,
to more than 80 percent in 2009, with only 8 regions not in compliance.
4.36. There is, appropriately, no automatic indexation of the wage bill so that each
indexation and its levels are set according to the annual budget law. The federal budget law
specifies the indexation level for key categories of public employment—civil service, military,
and judiciary. In 2011, the federal budget law envisions an indexation of wages for military
personnel, public administration personnel, judges, and prosecution office personnel by 6.5
percent.
4.37. In general, the appropriation of the wage bill, especially in civil service, continues to
be based on the head-count levels set by the normative list of employees multiplied by the
wage level. One of the key drawbacks of the centralized wage-setting system was the fact that
the budget appropriations and pay bargaining remained linked. This practice for wage bill
appropriation encourages budget organizations to leave vacancies unfilled and to use the funds to
increase existing employees’ salaries through discretionary benefits and bonuses (or possibly to
reallocate the funds to different economic categories). Rosstat data for the first quarter of 2010
indicates that the federal-level executive budget institutions that had higher vacancy rates also
tended to have slightly higher average wages (Figure 4.13).
Figure 4.13: A Relationship between Average Wages and Vacancy Rates in Federal-Level Executive
Agencies, First Half of 2010
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
4.38. The headcount rule for the wage bill (the wage bill is based on a budgetary
organization’s headcount) had simplified control, but also created incentive for the heads
of public budgetary organizations to maintain high official headcount. Basing the wage bill
89
on official headcount limits the ability of an agency to align resources toward budget goals.
Moreover, with decentralized pay arrangements, it is essential that wage bargaining is separated
from budgeting, with those responsible for pay-setting having clear budget parameters
established before they agree to pay settlements. The NPS introduces a mechanism designed to
delink the wage bill from the staff schedule. Under the NPS, the remuneration fund is linked to
organizations’ objectives, functions, and public services offered. Hence, staff decreases do not
result in budget reductions, although the budget increases or decreases when the functions
change.
4.39. Public budgetary organizations are allowed to supplement wage bill allocations
from the budget with their own revenues. On average, 14 percent of compensation of
employees is funded by the budget institutions’ own revenues (table 4.11). As a result, at the
regional level implicit revenue-sharing arrangements were more significant. Because the
revenue-generation abilities differ from agency to agency, this practice contributes to an increase
in wage inequality.
Table 4.11: Share of Expenditures Funded by Own Revenues by Level of Government, 2009
percent
All expenditures Compensation of employees
Total 6.7 14.0
Federal 4.6 10.9
Subnational 10.0 17.0
Sources: Ministry of Finance, World Bank staff estimates.
4.40. The introduction of the NPS will also shift the responsibility of individual wage
control to heads of public budgetary organizations. The public employment is very
fragmented with more than 200,000 separate budgetary organizations that, on average, employ
slightly more than 70 employees each (table 4.12). The majority of those budget institutions are
at the municipal level, although approximately 36,000 budgetary organizations exist at the
federal level. The average size of these federal-level budget institutions is about two times larger
than that of the municipal-level budgetary institutions.
Table 4.12: Average Employment Level of Each Budget Institution, 2009
number of people
Total Federal Regional Municipal
Total 73 121 84 56
Education 95 291 106 78
Health 171 143 131 228
Public administration and defense 48 98 43 15
Other 38 109 50 23
Sources: Rosstat, http://www.infostat.ru/catalog.html; World Bank staff estimates.
Government’s Efforts to Contain the Wage Bill
4.41. Currently, the wage bill—comprising more than one-fourth of all government
expenditure—faces conflicting pressures. Given the budget constraint, one of the most
important challenges is to ensure medium-term fiscal sustainability of overall expenditures,
including the aggregate wage bill. But as long as public wage levels, especially in education and
health, remain low relative to private sector wage levels, pressures on the aggregate wage bill
will continue. It is also clear that without structural changes in the education and health sectors,
closing this wage gap will come at a significant fiscal cost. The estimated costs of closing the
90
wage gap without adjustment in the number of employment levels in education is estimated to be
about 0.82 percent of GDP per year and in the health sector about 0.53 percent of GDP per year.
The largest burden would fall on the budgets of subnational entities, where the wage bill would
increase by almost a third.
4.42. To contain the cost while increasing individual pay, the government will need to
carefully assess priorities and right-size the staffing levels. In education and health, the
government’s reform plans to transform public budgetary organizations into autonomous
agencies will greatly increase the incentives of managers of these organizations to optimize
employment levels. The education system, for example, has significant scope for optimizing
inputs without jeopardizing education outcomes. A recent social sector expenditure review
(World Bank 2010d) indicates that quantitative inputs such as student-teacher ratio, average
school size, and number of schools are significantly correlated with the cost per student, but are
not significantly related to educational outcomes.
4.43. In the short term, the government plans to reduce the wage bill of any federal-level
budget institution in which the average annual wage exceeds Rub 415,000 per employee.
According to Rosstat data, in the first half of 2010, only 12 out of 74 federal-level executive
bodies (ministries, agencies, and services) were below this level. Therefore, this rule, if
implemented, will be binding to a significant number of federal-level budget institutions. At the
same time, there is a risk that this policy measure could undermine the ability of institutions
working on more advanced issues requiring specific skills to attract qualified staff members.
4.44. In the medium term, the government plans to reduce the federal-level civil service
positions by 20 percent over the next three years. The government has an ambitious plan to
reduce staff positions by 5 percent at federal-level executive branches by April 1, 2011, by an
additional 5 percent by April 1, 2012, and by an additional 10 percent by April 1, 2013. In
addition, a freeze on creating new staff positions at federal-level executive branches is effective
until January 1, 2014. The regional governments are also encouraged to introduce similar
measures. Experience in other countries indicates that significant and sustained employment and
wage reductions were rarely accomplished quickly. They were often accomplished through
privatization of select public services and a gradual process of reductions using a mixture of
improvements in the establishment and wage bill control systems, coupled with relatively
painless devices for incremental reductions in employment such as hiring freezes, attrition, and
elimination of vacant posts (box 4.5). By 2013, according to the draft budget law, a combination
of short-term and medium-term measures is expected to result in a decrease in the aggregate
federal-level wage bill by 0.9 percent of GDP.
91
4.45. In the short term, the first reduction of 5 percent in federal-level civil service
employment could be achieved by a combination of measures that include the elimination
of vacant positions and voluntary retirement of working-age pensioners. At the end of 2009,
according to Rosstat the vacancy rate varied from 2 percent at the Ministry of Foreign Affairs to
37 percent at the Ministry of Defense. For the federal-level agencies at the central level, the
average vacancy rate reached almost 20 percent, although for those at the regional level it
reached almost 8 percent (table 4.13). If the majority of these vacancies are eliminated (setting
the vacancy rate no larger than 5 percent in each budget institution), in aggregate terms about
19,000 staff positions equivalent to 3.7 percent of the federal civil service at the executive branch
Box 4.5: International Experience: Options for Restraining the Wage Bill
Over the past decades, a number of countries have introduced measures to restrain the wage bill. The following is a summary of key
measures (not mutually exclusive) for restraining the wage bill.
Retaining savings from vacant positions. Some countries allocate to line ministries at the beginning of the year the full budget
amount for approved staff positions. If the average vacancy rate in ministries is 10 percent over the course of a fiscal year, then
potential savings worth 10 percent of the ministry wage bill are possible without any reduction in staffing. In some countries,
ministries retain the salaries for vacant positions and reallocate these funds as salary top-ups or bonuses for on-board staff members.
Furloughs. Instead of formal layoffs (permanent reduction in force), some countries have used forced leave without pay for a few
days or weeks to reduce wage expenditure in the current year. This is a one-off measure but may need to be repeated in future years
if spending pressures remain a problem. (for example,. Maryland, United States, in 2008–09)
Contracting out or outsourcing. It may be possible to contract out some basic service-delivery functions that still remain in the
public sector, thereby reducing the wage bill. Examples include many local or municipal functions (garbage collection, snow
removal, and health services). Careful cost-benefit analysis is required, because outsourcing may reduce total costs for service
delivery and improve service delivery in the process, but such results are not always achieved. Some countries have moved away
from filling government positions through the civil service, preferring short- or long-term contract employees. Contract employees
can be let go more easily and at lower cost, but this approach can lead to dual personnel systems, with special management
challenges (for example, Peru).
Wage reduction of current employees. Reducing the wages and benefits of current public sector employees is always difficult, and
in some countries may be prohibited by the constitution. But in some cases, countries or even ministries have reduced public sector
pay rates to maintain employment and reduce the wage bill (for example, Ukraine in 2008).
Downsizing and voluntary retirement. In any discussion around these thorny topics, it is always worth keeping in mind that major
downsizing exercises have a pretty poor track record (because of the design complexities and the obvious anguish that they create).
Many countries have statutory provisions for separation benefits (severance payments, retraining, and so on), and it is important to
note that formal downsizing can actually increase personnel-related expenditures in the year of the downsizing itself. It may take up
to two years or more before the net savings of formal downsizing exceed the immediate costs (even if one assumes that the
government refrains from hiring or rehiring employees in the interim—as short-term consultants or otherwise)
Administrative function consolidation. Identify common administrative tasks across agencies or ministries, and try to consolidate
the functions in central services units, downsizing in the process. In 2008, Finland started to implement such measures, creating
central, government wide service units for human resource management, procurement, and so on.
Taking advantage of gains from automation and modernization. As countries have modernized their public sector—particularly
public financial management—the roles and responsibilities of some entities have changed, but the staffing has not been reduced
commensurately. Similar approaches can be followed for other sectoral ministries, as well, though the necessary analysis, business
processes reengineering, and restaffing would likely require some investment up front, and significant lead time would be needed to
implement the reform.
Recruitment freeze. Freezes have received bad press and also raise the obvious problem of uneven vacancies; but attrition
(retirement, resignation, and death) is generally about 3–5 percent per year, which represents a significant savings and attracts less
public attention than formal retrenchment strategies. A partial freeze might also be possible, allowing limited refilling of vacant
positions (for example essential services). For example, in the United States during the 1990s, a partial freeze was put in place for
the federal government, allowing re-filling of two out of every five vacant posts.
Retirement of overage staff members (working pensioners). This may have some impact on service delivery, but is likely to be
minimal.
Review and rationalization of allowances. It is here where many of the de facto and potentially unwarranted salary increases will
be found.
Source: Dorotinsky, Manning, and Rinne 2009.
92
could be eliminated without any actual job losses. Similarly, a voluntary early retirement
program targeted to one-fifth of working pensioners could result in an additional elimination of
staff positions by slightly more than 8,000, equivalent to 1.6 percent of federal civil service staff
members.
Table 4.12: Share of Expenditures Funded by Own Revenues by Level of Government, 2009
Baseline, 2009 (%) Changes (number of
people)
Changes (%)
Vacancy
rate
Working
pensioners
Vacancy
elimination
Voluntary
retirement
Vacancies
Voluntary
retirement
Total 8.1 6.7 19,112 8,320 3.7 1.6
Federal ministries 13.4 14.5 1,648 458 10.8 3.0
Federal agencies at
central level
18.5 12.7 2,156 347 17.4 2.8
Federal agencies at
regional level
7.6 6.3 15,308 7,516 3.2 1.6
Source: World Bank staff estimates based on Rosstat data.
4.46. In the medium to long term, additional reductions in employment will require the
consolidation of administrative functions and gains from automation and modernization. In
the past decade, the government has undertaken a broad set of reforms to raise the efficiency and
effectiveness of resource use in the public sector and to create more room for private sector
growth. However, these reforms have so far not resulted in a leaner and smaller public sector. In
the postcrisis environment of much tighter budget constraints, new reforms have potentially far-
reaching effects on public sector performance as a whole: overhauling the organization of the
public sector, improving energy efficiency, and modernizing infrastructure, especially in the
railway and information and communication technology sectors.
E. SUMMARY OF RECOMENDATIONS
4.47. The coexistence of high public employment and low funding currently poses a risk
to the implementation of effective public sector employment and pay reform. Improving
remuneration is fundamental to improving the performance of core public administration
functions and incentives, as well as improving the quality of public-service delivery. In addition,
the lack of recognition of excellence and poor incentives for performance are likely to further
jeopardize both the quality and the access to public services. The skill mix and distribution of
human resources for public-service delivery in education and health are not in line with current
and future needs. To address these complex issues, this report proposes a number of specific
measures to complement the government’s own efforts to help achieve the government’s
objectives of reform (table 4.13).
Table 4.13: A Summary of Recommendations: Strengthening Public Employment
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
1. Maintaining a sustainable wage bill
Reducing wage
bill in public
budget institutions
with excessive
wage levels
MOF Decrease aggregate wage bill in
any institution where the
average annual wage per
employee exceeds Rub
415,000.
Short-term,
ongoing
government
effort
Increased consistency in
wage levels among
government institutions
Fiscal sustainability of the
aggregate wage bill
93
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
Limiting the
growth of
aggregate wage
bill
MOF Maintain aggregate public wage
bill below 10 percent.
Decrease aggregate civil
service size by 20 percent over
the next three years.
Medium-term,
ongoing
government
effort
Fiscal sustainability of the
aggregate wage bill
Improved public sector
productivity
Developing a
comprehensive
human resource
strategy
All line
ministries
Develop a comprehensive
human resource strategy that
includes needs assessment in
terms of required qualifications
in key sectors: education and
health.
Medium-term Mapping of existing gaps
and resource needs and
identification of the optimal
mix of human resources
needed in education and
health sectors, limiting
possible shortages in
qualifications
Improved public sector
productivity
Advancing
structural reforms
in health and
education sectors
MOEd, MOH In health, a gradual shift from
impatient care toward
preventive care provides a
substantial scope for
improving the allocation and
use of available resources by
restructuring the organization
of heath facilities network.
In education, there is a need to
introduce a more flexible
mechanism of teacher
remuneration that would be
tied to teacher performance
and will depend on concrete
outcomes of teacher activities
in the classroom.
Medium-term Increased expenditure
efficiency
Streamlining
government
(municipal)
administration
All line
ministries
Divest government functions
other than core functions to
specialized entities established
specifically for servicing
several government authorities
or contracting out services
(outsourcing).
Enhance incentives for the
heads of federal authorities to
right-size the number of staff
of their central headquarters
and territorial branches, and
cut budget expenditures to
support their operations.
Right-size the number of
federal government civil
servants in relation to other
staff members in federal
government authorities,
Streamline the network of
government (municipal)-
owned unitary enterprises.
Short-term,
ongoing
government
effort
Improved expenditure
efficiency
94
Responsible
agency
Options for reform and
recommendations
Suggested
sequencing
Expected impact
2. Improving pay structure: Linking performance and pay
Improving the
structure of wages
in the public
sector
All ministries Minimize nonperformance-
related benefits and
allowances. The use of
collective performance
schemes can be also
considered. (The team is more
important for the attainment of
the organization’s goal than is
its individual members.)
Limit the share of total
remuneration based on
seniority.
Short-term,
medium-term
Improved motivation and
increased staff retention
Strengthening of incentives
for employee performance
Introducing an
efficient,
transparent, and
accountable
implementation of
performance
appraisal
procedures
All ministries Develop performance appraisal
procedures.
Medium-term Support of a successful
implementation of
performance pay
A precondition for
successful implementation
of Performance Related Pay
systems
A regular
monitoring and
evaluation of
performance pay
practices are
needed.
MOH Administer a regular
monitoring and evaluation of
performance pay practice,
accompanied by the
dissemination of best practice.
Monitoring and evaluation is
also curtailed to ensure that the
reform achieved its objectives.
Medium-term Help in identifying
methodological and capacity
gaps and in addressing them
on a timely basis Addressing possible
accountability and
implementation risks
Strengthening
human resource
management
capacity in public
sector
organizations
All ministries Strengthen human resource
management capacity in public
sector organizations.
Medium-term Support of a successful
implementation of
performance pay
Note: MOEd = Ministry of Education; MOF = Ministry of Finance, MOH = Ministry of Health and Social Services.
95
APPENDICES
APPENDIX A: Functional Classification of General Government Expenditure
percentage of GDP
Gen
era
l p
ub
lic
serv
ices
Def
ense
Pu
bli
c o
rder
an
d s
afe
ty
Eco
no
mic
aff
air
s
En
vir
on
men
tal
pro
tect
ion
Ho
usi
ng
an
d
com
mu
nit
y
am
enit
ies
Hea
lth
Rec
rea
tio
n,
cult
ure
, a
nd
reli
gio
n
Ed
uca
tion
So
cia
l
pro
tect
ion
To
tal
ou
tla
ys
Advanced countries
Austria 2007 6.96 0.86 1.44 4.63 0.46 0.62 7.60 1.09 5.19 19.97 48.82
France 2008 7.12 1.76 1.24 2.80 0.86 1.88 7.84 1.53 5.85 21.80 52.67
Germany 2008 5.98 1.07 1.54 3.39 0.48 0.78 6.24 0.61 4.00 19.75 43.84
Luxembourg 2008 0.32 0.28 1.01 4.75 1.14 0.92 4.80 2.04 5.23 25.64 40.48
Netherlands 2008 7.30 1.33 1.83 4.93 0.84 1.06 5.97 1.35 5.25 16.06 45.91
Australia 2008 3.32 1.47 1.59 3.74 0.46 0.86 5.90 0.75 4.44 8.69 32.44
Denmark 2008 6.74 1.53 1.04 2.87 0.50 0.47 7.79 1.59 7.01 22.40 51.94
Iceland 2008 6.50 0.06 1.52 19.51 0.66 0.51 7.94 3.79 8.37 8.93 57.82
Israel 2008 5.63 7.44 1.72 2.64 0.65 0.50 5.22 1.46 7.20 11.38 43.85
Japan 2006 4.66 0.94 1.41 3.81 1.29 0.66 7.12 0.13 3.87 12.29 36.17
New
Zealand
2007 4.62 1.09 1.71 3.52 0.43 0.71 5.62 1.59 5.65 11.77 36.72
Norway 2008 4.34 1.56 0.89 3.60 0.58 0.61 6.73 1.08 5.19 15.31 39.90
Singapore 2008 2.06 4.29 0.91 2.16 1.27 1.07 0.25 3.24 2.13 17.38
Sweden 2008 7.55 1.49 1.38 4.97 0.36 0.74 7.00 1.05 6.94 21.51 53.09
Switzerland 2007 4.94 0.88 1.67 3.81 0.56 0.38 4.09 0.88 5.74 14.00 33.50
United
States
2008 4.93 4.57 2.22 4.01 0.00 0.70 7.91 0.32 6.41 7.49 38.56
Central and Eastern Europe
Albania 2006 6.32 1.30 1.84 4.47 1.66 2.42 0.37 3.16 7.80 29.32
Bulgaria 2008 4.28 1.99 2.86 4.36 1.13 1.13 4.24 0.90 4.14 11.80 36.84
Croatia 2008 4.71 1.55 2.35 4.92 0.27 1.92 5.71 1.31 4.15 13.77 40.66
Czech
Republic
2008 4.61 1.18 2.11 7.52 1.05 1.35 5.92 1.07 3.86 12.46 40.71
Hungary 2007 9.36 1.26 1.98 6.56 0.71 1.00 4.87 1.46 5.30 17.35 49.79
Latvia 2008 4.16 1.50 2.19 7.27 1.03 1.23 3.56 1.73 6.46 9.31 38.45
Lithuania 2008 3.12 1.34 1.92 4.46 0.96 0.53 5.72 1.35 5.89 12.29 37.58
Poland 2008 5.49 1.62 2.03 4.94 0.62 0.81 4.74 1.23 5.28 16.27 43.03
Slovak
Republic
2008 5.64 1.35 1.93 4.95 0.79 0.74 6.52 1.01 3.24 10.18 35.73
CIS and Mongolia
Belarus 2008 6.53 1.09 1.91 12.84 0.41 2.41 4.15 1.23 5.67 12.46 48.71
Georgia 2007 0.27 8.82 4.27 2.08 0.45 2.94 1.54 1.04 2.70 4.85 28.95
Kazakhstan 2007 1.99 1.32 1.91 3.48 0.12 1.59 2.37 0.97 3.61 3.99 20.56
Russian
Federation
2010
4.10 2.90 3.00 4.90 0.10 1.70 3.60 0.70 4.00 13.20 39.20
Ukraine 2008 3.21 1.19 2.57 5.72 0.25 0.96 3.73 0.86 6.33 20.58 45.40
Source: International Monetary Fund Government Finance Statistics dataset.
Note: CIS = Commonwealth of Independent States.
96
APPENDIX B: Economic Classification of General Government Expenditure in Advanced G-20
Countries, 2008–09
percentage of GDP Country Russian
Federation
Australia Canada France Germany Italy United
Kingdom
United
States
2008 2009 2008 2009 2008 2008 2009 2008 2009 2008 2009 2008 2009 2008 2009
Total 33.4 39.9 31.40 34.72 38.5 52.0 54.4 43.9 47.7 48.5 51.4 46.0 50.1 22.7 25.8
Compensation of
employees
8.8 10.2 8.76 9.30 11.6 12.7 13.2 6.9 7.4 10.8 11.3 11.0 12.0 2.8 3.1
Use of goods and
services
5.3 6.3 6.16 6.58 9.5 5.0 5.3 4.3 4.7 5.5 6.1 12.3 13.4 3.0 3.1
Consumption of fixed
capital
3.7 4.1 1.26 1.36 2.0 2.6 2.7 1.6 1.7 1.8 2.0 0.9 1.0 0.8 0.8
Interest 0.6 0.5 1.28 1.40 3.8 2.8 2.4 2.7 2.6 5.1 4.6 2.3 1.9 2.0 1.9
Subsidies 4.1 5.4 1.32 1.41 1.1 1.4 1.5 1.1 1.4 1.0 1.0 0.6 0.7 0.4 0.4
Grants 0.1 0.2 0.16 0.23 2.7 3.4 4.1
Social benefits 9.7 12.4 9.45 11.64 7.5 23.3 24.7 24.4 26.6 20.4 22.1 13.1 15.1 9.7 11.3
Other expense 0.9 0.3 3.02 2.80 0.4 4.2 4.5 2.9 3.3 3.8 4.4 5.8 6.0 0.6 1.1
Sources: International Monetary Fund Government Finance Statistics dataset; Ministry of Finance (Russian data).
Note: G-20 = Group of Twenty.
97
APPENDIX C: Main Social Protection Programs in the Russian Federation, 2010
Programs Eligibility Benefit Financing and Administration
Pension (labor) Women age 55+, men
age 60+, disabled and
survivors
Monthly cash benefit Contributory; Three pillars (PAYG,
funded, and voluntary); financed by the
social tax paid to the Social Insurance
Fund; administered by the Pension
Fund
Unemployment
benefit
Officially registered
unemployed
Monthly cash benefit for a maximum
duration of 12 months; 75 percent of the
previous wage for the first three months
of unemployment, 60 percent for the
next four months, and 45 percent for the
next five months; minimum (20 percent
minimum standard of living) and
maximum thresholds
Noncontributory; general revenue
financing; administered by the
Employment Services
Sick-leave
compensation
Employed, temporarily
unable to work
Monthly cash benefit for limited period Contributory; funded by a tax paid to
the Social Insurance Fund;
administered by enterprises
Maternity
leave
Employed mothers
before delivery (70
days) and after (70
days; 110 days for more
than one child)
Monthly cash payment Contributory; financed by a tax paid to
the Social Insurance Fund;
administered by enterprises
Social pension Women age 60+, men
age 65+, and people
with disabilities
(including those
disabled since
childhood) ineligible for
labor pension and with
no other source of
income
Monthly cash benefit Noncontributory; general revenue
financing by the federal budget;
administered by the pension fund
Housing
allowance
Income tested; based on
share of family budget
spent on Housing and
Utility Services norms
Monthly housing subsidy Noncontributory; funded and
administered by local governments
Social
assistance
benefits
Income based One-time or monthly benefit in cash or
in kind
Noncontributory; funded and
administered by local governments
Child
allowance
Children from families
with per capita income
below regional
subsistence minimum
Monthly cash benefit until the child
reaches age 16 (age 18 if in school)
Noncontributory; funded and
administered by local governments
Privileges and
subsidies
Various categories of
individuals and
families; merit or needs
based
Discounted or free goods and services
(food, transportation, housing and
utilities, recreation and rehabilitation,
health services, preschool, training)
Noncontributory; funded by federal and
regional budgets; administered by
regional governments.
Social work
and care
services
Vulnerable children and
youth and their families;
adults and elderly
Counseling services, rehabilitation, day
care, temporary shelters, psychosocial
support
Noncontributory; funded by regional
and local governments; administered by
local governments
Residential
care in
institutions
Children deprived of
parental care, poor
children, children and
adults with disabilities,
and frail elderly
Long-term placement in residential care Noncontributory; funded by regional
and local governments; administered by
local governments
Source: Authors based on World Bank Living Standards Survey 2009.
Note: PAYG = pay as you go.
98
APPENDIX D: Distribution of Functional and Institutional Classification of Federal Budget
Expenditures, 2010
percent
Ho
usi
ng
an
d
com
mu
nal
serv
ices
Hea
lth
care
an
d
spo
rts
Bu
dg
et t
ran
sfer
s
Pu
bli
c o
rder
an
d
secu
rity
Nat
ion
al d
efen
se
Nat
ion
al e
con
om
y
Ed
uca
tio
n
En
vir
on
men
tal
pro
tect
ion
Ministry of Regional Development 21.4
2.4
3.3 6.6
Ministry of Health; Ministry of Sports,
Tourism, and Youth Policy 71.0 6.9
0.5 6.8
Ministry of Finance 2.4 0.3 84.5 0.7 2.2 18.0 0.5
Ministry of Interior, Ministry of Emergency
Situations, Ministry of Justice 19.0 11.2 0.2 91.7 0.0 1.0 8.7
Ministry of Defense 50.9 10.4 0.1
92.5 0.0 13.1
Ministry of Industry, Ministry of Energy,
Ministry of Economic Development,
Ministry of Agriculture, Ministry of
Transport
3.3 0.8 4.8
4.5 56.3 8.8 1.2
Ministry of Education and Science 1.2
0.7
0.7 49.3
Ministry of Natural Resources and Ecology
0.2
2.9
98.8
Other ministries 1.8 6.4 0.3 7.5 0.8 17.3 6.3
Total 100 100 100 100 100 100 100 100
Source: World Bank staff estimates based on budget execution reports.
99
APPENDIX E: International Experience: Performance-Based Maintenance Contracting in Estonia
and Argentina
The Case of Estonia
From 1995 through 2000, the Estonian National Road Administration (ENRA) tested several
one-year and two-year performance-based contracts (PBCs). Satisfied with the results of these
experiments, the ENRA moved in 2000 to using longer-term performance-based contracts on a
regular basis. By 2005, 63 percent of the national road network, specifically 10,288 kilometers of
paved and gravel roads, was covered under five-year PBCs, which were fully funded from the
central government budget.
PBCs are awarded for those road corridors where only maintenance is warranted, not
rehabilitation. These contracts typically cover routine maintenance and winter maintenance
(snow removal, snow blowing, and ice cleaning). As of February 2005, 5 private contractors
were commissioned to execute 12 PBCs. These contracts may not be renewed. At the end of the
fifth year, the contractors that have completed their obligations, and are interested in continuing
for another 5-year term, must participate in an open, competitive bidding process again. The
legislative framework actually permits extension of contracts for up to an additional two years,
but contractors in Estonia are interested in longer terms and prefer going through a competition
again.
In 1995, a consulting company was hired to supervise one-year and two-year pilot PBCs. After
analyzing this experience, the ENRA and its regional offices concluded that the supervision of
PBCs required fewer personnel and fewer resources than with the traditional method of
procurement and could be done by in-house staff. At present, the supervision of contractors
executing PBCs is arranged through periodic informal and regular monthly inspections.
Typically, periodic inspections are done by a single supervisor from the road agency. Other
agency staff members can be engaged if their assistance is needed to resolve emerging problems.
Regular monthly inspections are conducted by an official commission, appointed by decree by
the head of the respective road region. The commission usually consists of three supervisors, one
traffic person, and two representatives from the ENRA. Contractors are not official members of
the commission, but the decree indicates that it is the contractor’s responsibility to assign the
appropriate people to represent their interests during the commission’s inspections. Though the
contractors are not obliged to attend monthly inspections, they receive invitations from the
ENRA (or its regional offices) to participate, and they always do. The ENRA is interested in the
physical presence of the contractor, because the contractor helps discuss identified defects and
resolve possible disputes on the site. To avoid corruption among the parties concerned and
achieve better contractor accountability, one of the regions (Kagu) has rotates its three
commissions from county to county when they are to conduct monthly site inspections.
Road users are also encouraged to participate in monitoring and evaluation of the contractors’
work. Billboards with contact information are established along the contracted road corridors to
report any deficiencies. Since the deployment of a PBC approach, the ENRA has noticed a
decrease in the number of complaints from road users regarding road conditions.
In 2003, the number of personnel at the ENRA and regional offices was reduced by 283 people
(29 percent) as a result of the road management organization reform. One of the reasons was the
outsourcing of routine maintenance works under PBCs, which results in the need for fewer
workers to continue executing other kinds of road works and fewer administration staff to
administer and supervise PBCs.
100
The ENRA and its state agencies have established strong partnership relations with their
contractors. The administration arranges biannual workshops to bring together representatives of
the contractors and road agencies involved in PBCs. The main objective of such events is to
share experiences of different counties, collaboratively discuss lessons learned, and find
innovative solutions for future implementation of PBCs.
The Case of Argentina
The first step for the introduction of maintenance contracts was a nationwide road survey to
estimate traffic, determine the minimum road standards, define the rehabilitation and
maintenance required, and identify the size and shape of the road network for contracting out.
Roads with traffic in the range of 300 to 3,000 annual average daily traffic (AADT) were
deemed eligible for output-based contracting, while those with traffic in excess were deemed
concessionable. Using survey information, the government set uniform national output indicators
for the contracts.
Introduced in August 1995, the first output-based contracts were kilometer-per-month contracts
spanning four years and covering about 3,600 kilometers. The 11 contracts covered roads that
were in good and fair conditions and expected to require only routine maintenance. Contractors
were paid equal monthly installments for specified services, as long as the quality of outputs
complied with the technical specifications. Given the satisfactory outcome, these contracts were
renewed for a further four years.
Given this positive experience, a contract was then designed that combined rehabilitation and
maintenance of paved roads—contrato de recuperación y mantenimiento (CREMA), requiring
the contractor to rehabilitate and then maintain a network of roads for five years for a lump-sum
amount. Each contract covers road sections varying in length from 100 to 300 kilometers. The
contract specifies the sections that need rehabilitation and the minimum solution required to
ensure a positive net present value.
Bidding is done through international competitive bidding. Only after the contract is awarded
does the contractor prepare a detailed engineering design, proposing any rehabilitation solution
above the minimum threshold defined in the contract, which requires making a judgment about
how much up-front rehabilitation is required to raise the roads to a level at which they can be
cost-effectively maintained.
The payment schedule is designed to provide incentives for the contractor to maintain the
network for the full length of the contract. Up to 60 percent is paid by the end of the first year,
when rehabilitation works are completed, with the remaining payments in 48 equal monthly
amounts. In addition, the contract requires a performance guarantee of 20 percent. Throughout
the contract period, performance is assessed during monthly on-site inspections by the
government engineer and the contractor to verify compliance with minimum standards—meet or
exceed the minimum thickness of overlays and not exceed the maximum level of roughness, rut
depth, or cracking or raveling. Regular visual inspections verify the existence of potholes,
cracking and rutting, condition of shoulders, culverts and rails, as well as guardrails and vertical
and horizontal signs.
The CREMA program was designed to be implemented in two phases. The first phase involved a
network of 11,700 kilometers, 55 percent of the nonconcessioned national paved network. In
1997, 60 contracts were signed, averaging about 180 kilometers in length. The contracts were
awarded mainly to local construction companies—with high private sector participation—with
101
each contract attracting between 5 and 20 proposals. The second phase involved 4,000
kilometers and 20 contracts and was initiated in August 2000.
By making long-term payment obligations legally binding on the government, the CREMA
contracts have prevented the Treasury from failing to provide funding for road maintenance. The
program has substantially improved the condition of the network, reducing the share of roads in
poor condition from 25 percent to less than 5 percent by the end of 1999. Damage to roads
caused by vehicle overloading is being address by asking contractors to provide and operate
devices for measuring axle-loads and to report overloading to the relevant authorities. By holding
contractors accountable for the future quality of roads, PBCs have built-in incentives to keep the
contractors focused on road condition during the execution of works.
Sources: Liautaud 2001; World Bank 2006b.
102
APPENDIX F: Comparative Unit Costs in Road Works
A recent report produced by the World Bank has reviewed road sector contracts under World
Bank–funded projects in 14 countries in Europe and Central Asia—Albania, Armenia,
Azerbaijan, Bosnia and Herzegovina, Bulgaria, Croatia, Estonia, Georgia, Kazakhstan, the
former Yugoslav Republic of Macedonia, Poland, Romania, Serbia, and Ukraine (Alexeeva,
Queiroz, and Ishihara forthcoming). The data cover 200 completed and ongoing road works
contracts signed between 2000 and 2010. This provides useful comparative information on unit
costs for different road works interventions.
Higher unit costs for rehabilitation, reconstruction, and construction works can reflect, in part,
higher design standards, such as geometric horizontal design with a long radius of curvature and
thicker pavement layers, terrain type, and the existence of well-developed road construction
industry, among others. With these caveats in mind, table F.1 presents rehabilitation,
reconstruction, and construction costs for interurban and regional roads. For rehabilitation and
reconstruction, unit costs are on the high side for Ukraine and Kazakhstan when compared to
another former Soviet Union republic, Estonia.
Table F.1 Rehabilitation, Reconstruction, and Construction Costs for Interurban and
Regional Roads
2009 US$ per kilometer
Country
Rehabilitation and reconstruction
costs New construction costs
Albania n.a. 822,746
Armenia 186,876 n.a.
Azerbaijan 413,945 1,656,151
Bosnia and Herzegovina n.a. n.a.
Bulgaria 417,284 173
Estonia 182,283 n/a
Georgia 220,797 1,546,638
Kazakhstan 878,703 n.a.
Macedonia, FYR n.a. n.a.
Poland 479,540 1,596,966
Romania n.a. 1,668,658
Serbia 235,099 n.a.
Ukraine 828,523 n.a. Source: Alexeeva, Queiroz, and Ishihara forthcoming .
Note: n.a. = not available.
To compare like with like, the report provides not only unit cost data per kilometer of road
works, but also average unit rates of asphalt concrete, Portland cement, and Portland cement
concrete pavement and of milling of asphalt layers. Table F.2 reproduces the average unit rates
of road works, and once again, asphalt concrete unit costs are much higher for Ukraine and
Kazakhstan than for Estonia.
103
Table F.2 Average Unit Rates of Road Works
2009 US$ per cubic meter
Country Asphalt concrete Portland cement concrete Asphalt mix/bituminous
Albania 167 107 152
Armenia 222 n.a. n.a.
Azerbaijan 75 353 77
Bosnia and
Herzegovina
153 n/a n.a.
Bulgaria 189 173 139
Estonia 86 n/a n.a.
Georgia 145 128 n.a.
Kazakhstan 135 n.a. n.a.
Macedonia, FYR 140 n.a. 111
Poland 129 116 98
Romania 145 80 108
Serbia 176 n.a. 113
Ukraine 153 160 106 Source: Alexeeva, Queiroz, and Ishihara forthcoming .
Note: n.a. = not available.
The report highlights red flags or alert indicators of potential entry points for corrupt activities at
various stages of project cycle, including the following:
Period between bid opening and contract-signing dates is more than 7 months.
Cost increases by more than 20 percent during implantation.
Time overrun is more than 30 percent of the originally contracted period.
Contract value is more than 20 percent above the engineer’s estimate.
Half or more of firms buy bidding documents but do not bid.
Twenty percent or more of prequalified firms do not bid.
The difference between a winning bid and next lowest bid is less than 2 percent.
The difference between contract price and read-out bidding price is more than 10 percent.
The winning bid is not the lowest bid accepted for detailed examination.
Only one or two entities supply bids.
104
APPENDIX G: Russian Railways Network, 2010
Source: Russian Railways.
105
APPENDIX H: Russian Railways High-Speed Passenger Transport System Planned for
Completion by 2030
Source: Russian Railways.
Note: kpmh = kilometers per hour.
106
APPENDIX I: Railway Expansion Plans in the Russian Federation, through and beyond 2030
Source: Russian Railways.
107
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Petropavlovsk-Petropavlovsk-KamchatskiyKamchatskiy
MagadanMagadan
OkhotskOkhotsk
AnadyrAnadyr
KhabarovskKhabarovsk
Yuzhno-Yuzhno-SakhalinskSakhalinsk
VladivostokVladivostok
BirobidzhanBirobidzhanBlagoveshchenskBlagoveshchensk
YakutskYakutsk
AginskoyeAginskoyeUlan UdeUlan Ude
Ust' OrdynskiyUst' Ordynskiy
IrkutskIrkutskKyzylKyzyl
AbakanAbakan
KrasnoyarskKrasnoyarsk
Gorno-Gorno-AltayskAltaysk
NovokuznetskNovokuznetsk
KemerovoKemerovo
TomskTomsk
BarnaulBarnaul
NovosibirskNovosibirsk
OmskOmsk
KurganKurgan
TyumenTyumen
YekaterinburgYekaterinburg
ChelyabinskChelyabinsk
UfaUfa
Khanty-Khanty-MansiyskMansiysk
SalekhardSalekhard
VorkutaVorkuta
Nar'yan MarNar'yan Mar
MurmanskMurmansk
Arkhangel'skArkhangel'skPetrozavodskPetrozavodsk
KareliaKarelia
NovgorodNovgorodPskovPskov
KaliningradKaliningrad
ChitaChita
Perm'Perm'
SyktyvkarSyktyvkar
KotlasKotlas
OrenburgOrenburg
SamaraSamaraKrasnodarKrasnodarMaykopMaykop
CherkesskCherkessk
VladikavkazVladikavkaz
MakhachkalaMakhachkalaGroznyyGroznyy
NazranNazranNal'chikNal'chik AstrakhanAstrakhan
ElistaElistaStavropolStavropol
Rostov-Rostov-on-Donon-Don
VolgogradVolgograd
BelgorodBelgorod
VoronezhVoronezh
SaratovSaratov
Ul'yanovskUl'yanovskPenzaPenza
TambovTambovSaranskSaransk
LipetskLipetskKurskKursk
OrelOrel
BryanskBryansk
St. PetersburgSt. Petersburg
TulaTula
KalugaKaluga
SmolenskSmolensk TverTver
RyazanRyazan
VologdaVologda
YaroslavlYaroslavlKostromaKostroma
IvanovoIvanovoVladimirVladimir
Nizhny NovgorodNizhny Novgorod
CheboksaryCheboksary Yoshkar-OlaYoshkar-OlaKirovKirov
Kazan'Kazan' IzhevskIzhevsk
MOSCOWMOSCOW
Ura
l Mts.
C e n t r a lC e n t r a l
S i b e r i a nS i b e r i a n
P l a t e a uP l a t e a uWestWest
Siber ianSiberian
PlainPlain
Kolm
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ange
Dzh
ugdz
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Rang
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Sikh
ote-
Alin
Andayr Range
Cherskiy Range
Taymyr Peninsula
Novaya NovayaZemlyaZemlya
Severnaya SevernayaZemlyaZemlya
New Siberia New SiberiaIslandsIslands
Franz JosefFranz JosefLandLand
KolaKolaPen.Pen.
YamalYamalPen.Pen.
GydaGydaPen.Pen.
Siberian Lowland
Gora El'brusGora El'brus(5,633 m) (5,633 m)
Petropavlovsk-Kamchatskiy
Magadan
Okhotsk
Anadyr
Khabarovsk
Yuzhno-Sakhalinsk
Vladivostok
BirobidzhanBlagoveshchensk
Yakutsk
AginskoyeUlan Ude
Ust' Ordynskiy
IrkutskKyzyl
Abakan
Krasnoyarsk
Gorno-Altaysk
Novokuznetsk
Kemerovo
Tomsk
Barnaul
Novosibirsk
Omsk
Kurgan
Tyumen
Yekaterinburg
Chelyabinsk
Ufa
Khanty-Mansiysk
Salekhard
Vorkuta
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Murmansk
Arkhangel'skPetrozavodsk
Karelia
NovgorodPskov
Kaliningrad
Chita
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Kotlas
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SamaraKrasnodarMaykop
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ElistaStavropol
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Volgograd
Belgorod
Voronezh
Saratov
Ul'yanovskPenza
TambovSaransk
LipetskKursk
Orel
Bryansk
St. Petersburg
Tula
Kaluga
Smolensk Tver
Ryazan
Vologda
YaroslavlKostroma
IvanovoVladimir
Nizhny Novgorod
Cheboksary Yoshkar-OlaKirov
Kazan' Izhevsk
MOSCOW
K A Z A K H S TA N
J A PA N
C H I N A
M O N G O L I A
UKRAINE
BELARUS
SWEDEN
NORWAY
FINLAND
POLAND
UNITED STATES OF AMERICA
D.P.R.OF
KOREA REP.OF
KOREA
UZBEKISTAN
AZERBAIJAN
ESTONIA
DENMARK
NETH.
GERMANY
LATV
IA
LITH.
RUSSIANFED.
GEORGIA
R.
Ob
ObTobol
Yenisey
Am
ur
Indigir ka
Lena
Kolym
a
Khata
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Lena
Alden
Angara Ural
ARCTIC OCEAN
LakeBaikal
B a r e n t sS e a
Kara SeaLap t ev
Sea
Nor weg ian Sea
BlackSea
Eas t S ibe r ianSea
Sea o f
Okho t s k
Sea o f
Japan
Cas
pian
Sea
Bering Strait
Ura
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C e n t r a l
S i b e r i a n
P l a t e a uWest
Siber ian
Plain
Kolm
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Dzh
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Rang
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Sikh
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Andayr Range
Cherskiy Range
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NovayaZemlya
SevernayaZemlya
New SiberiaIslands
Franz JosefLand
KolaPen.
YamalPen.
GydaPen.
Siberian Lowland
Gora El'brus(5,633 m)
70°N 80°N 80°N
130°E120°E110°E100°E90°E
50°N
40°N
30°N
60°N
RUSSIANFEDERATION
This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other informationshown on this map do not imply, on the part of The World BankGroup, any judgment on the legal status of any territory, or anyendorsement or acceptance of such boundaries.
0 200 400
0 200 400 600 Miles
600 Kilometers
IBRD 33470R2
MAY 2009
RUSSIANFEDERATION
OBLAST CENTERS
FEDERAL CITIES
NATIONAL CAPITAL
RIVERS
MAIN ROADS
RAILROADS
OBLAST, KRAI, REPUBLIC, AUTONOMOUSOBLAST, OR AUTONOMOUS OKRUGBOUNDARIES
INTERNATIONAL BOUNDARIES
