Demographics Make Russia a Risky Long-Term Investment

Exceptionally rich in natural resources and currently among the world’s top 10 largest economies, investment in Russia (via the Market Vectors Russia ETF Trust - RSX) might seem like a good long-term play. But is it?

We would argue that demographically, no, Russia is a horrible long-term investment because it’s losing population at a percentage rate that could within 40 years match that of medieval Europe’s population loss during the plague years.

Russian birth rates are so low and its death rates so high that the country is expected to lose at the least 30 percent of its population within the next 40 years, falling from an estimated 141 million to somewhere between 80 to a 100 million. No country in recent centuries has experienced such a dramatic and rapid peacetime drop in its population, so demographers, economists, sociologists and other disciplines are coming up with varying conclusions about the potential impacts.

But all of these specialists, both from within Russia and from outside, tend to agree that if drastic measures are not taken, the impacts will be devastating, if not catastrophic.

The demographic numbers are staggering enough without pondering their implications. According to the U.S. Central Intelligence Agency’s “World Factbook,” Russia’s population growth rate is -0.47 and is ranked 225 out of 232 countries, and its total fertility rate, at 1.40 (a total fertility rate of 2.1 is considered necessary for population replacement), is ranked 195th. Life expectancy at birth is 65.94, according to the C.I.A., and ranked 161 out of 223. Russia’s death rate, at 16.06 per 1,000, is 18th highest, and considered double that of developed countries.

The Russian male’s life expectancy, at an estimated 59.2 years (the Russian female life expectancy is 72.4 years), is much lower than the Russian overall average, and considered among the lowest in the industrialized world.

According to American Enterprise Institute demographer Nicholas Eberstadt, only three out of seven Russian men can expect to celebrate their 65th birthday, while seven of eight Swiss men will likely celebrate theirs.

Russia also leads the world in number of abortions per capita, has one of the highest suicide rates, and leads the developed world in the number of deaths by accident.

To compound Russia’s dire demographic outlook, the country may also be facing an HIV/Aids crisis on par with those African countries that are experiencing severe epidemics. While official HIV/Aids death numbers are thus far relatively low, activists charge that the true numbers are masked by other diseases, such as tuberculosis, that are listed as the “cause of death.” World health experts estimate that nearly one million Russians are HIV positive, and the World Bank projects that that number will grow to between 5.4 to 14.5 million by 2020.

Meanwhile, official response to the potential crisis has long been considered lacking, and the government only recently boosted HIV/Aids spending.

The biggest cause of death in Russia is heart disease, which is estimated by the World Health Organization, to kill more than 1. 2 million Russians per year. This is followed by poisonings (the majority being alcohol-related), suicide, lung cancer, “violence” and accidents.

Russia’s exceptionally high rate of alcohol consumption is considered to be the primary aggravating factor behind all of these deaths, and gives the country a mortality profile that points to a society losing members of its younger, working-age population, rather than the elderly.

And this is exacerbating the country’s impending demographic crisis.

"There is a big shortage of skilled labor," said Alexander Lehmann, senior economist and specialist on Russia's macroeconomy at the European Bank for Reconstruction and Development in London. "In 2007, Russia's labor force reached a peak of 90 million. It will be 15 million fewer by 2020. This will be a fairly substantial burden on economic growth. It will be more difficult to sustain high growth rates."

He added that domestic and foreign companies are already feeling pressured by the labor shortage, with wages rising an annual 12 to 15 percent.

Nikita Mkrtchian, demography expert at the Economic Forecasting Institute of the Russian Academy of Sciences said Russia’s population decline is accelerating at a “frightening pace,” and that without significant immigration inflows, the working population will start falling by about 1.5 million per year by 2015. “This will become a barrier to economic growth,” he said, adding that according to his institute’s calculations only one person in five will be working by the year 2025.

Zhanna Zaenchkovskaya, head of the Center for Migration studies in Moscow, called the demographic crisis potentially devastating for the Russian economy.

From the middle of [2006] a natural decrease in the Russian workforce will begin. And in Russia now, even before this natural decrease, we had a deficit of around one million job vacancies. This will grow like a snowball.

Government response to the twin–birth and death–demographic challenges has been somewhat limited. Former Federation President Vladimir Putin first publicly mentioned the problem in a 2000 address, and then called it “the most urgent problem facing Russia,” in his 2006 state of the nation address.

Perhaps the most meaningful action taken by the government since then has been a doubling of the nation’s health care budget. Critics charge that the funding is not well spent and does not specifically target any of the problems behind the high death rate

However, pay for general practitioners was doubled, in part to stimulate the goal of getting Russians to have routine check-ups every two years. Many say that government moves to curb drinking would provide the biggest boost to improving death rates, but beyond releasing the occasional warning about alcohol poisoning the government seems little inclined to make alcohol less accessible.

As for increasing the birth rate, the only government moves have been to modestly increase child care funding and provide a cash bonus to women who give birth to a second child. And while the birth rate did experience an uptick in the two years following this move, critics say the uptick is not sustainable.

Russia’s leading demographer Anatoly Vishnevsky said the uptick will not reverse the trend. He said the primary reason for the recent rise was that there was an uptick in the Generation X birth rate in the 1980s, and that those people born then are now having the children.

However, the generation following is much smaller, he said, and Russia will see a “rapid decline in the number of births” within the next few years.

Many experts say immigration will be the only way for Russia to stem the pending crisis. According to Nikolay Petrov, a specialist on Russian society at the Carnegie Center in Moscow, the country will need one million immigrants per year to compensate for the labor shortage.

But the Russian government seems disinclined to take measures to boost legal immigration. “No sort of immigration will solve Russia’s demographic problem,” said Putin in his 2006 address. Nevertheless, the government has formulated a plan to encourage Russians living in neighboring countries that were formally part of the Soviet Union to move back to Russia.

Critics contend that, at most, only about five million Russians might be willing to return, only enough people to stem the decline for the next six or seven years.

All in all, Russia’s demographic outlook is gloomy, and perhaps it is too late to curtail the country’s fast approaching disintegration. Viktor Perevedenstev, one of Russia’s leading sociologists who has been studying the country’s population trends for more than 40 years, believes it may be too late. He considers the commonly accepted demographic figures as “overly optimistic,” and believes Russia’s population will halve by 2050.

The Russian population has “reached a tipping point beyond which direct intervention would be ineffective.” The term “catastrophe,” for Russia’s imploding population reflects reality and is “not a case of hyperbole from overly emotional Russian patriots,” he said.

If, given all of the above information, an investor is still inclined to put some money into RSX we would suggest treating it like a shorter-term commodities-based investment, as it is heavily weighted (more than 45 percent) with energy stocks. But then why not just trade an energy sector ETF, such as XLE, or the oil commodity ETF OIL, or, our personal favorite, the S&P Equal Weight Energy ETF RYE.

Disclosure: No current positions, but RYE is a holding in our model portfolio.

Comments

[cameroni:]

Wow, amazing statistics. Without checking the details I have to say I am stunned by the numbers. But I have reached a different conclusion from the details. Notwithstanding that the Russian Government is unwilling to allow a wholesale in-migration take place I am not concerned for a moment about any investment in resource industries there.

Why would I care if a mine there was run by a Russian or Chek or Pole or an immigrant from Africa? I don't care of course because I know that in a world of declining resources and increasing demand that the materials will come out of the soil come hell or high-water. They will come out at the right price which is the same price quoted daily around the world.

Russians will not be given special preference or premiums on the sale of their minerals, lumber, uranium or oil based on a declining population. It is their responsibility to meet world demand and the world price if they want sales and solvency. How they do it is not a concern of any investor. We just know they will do it and it will be done. That's business.

So no worries at all.

Jul 16 06:55 AM

[Tony Petroski:]

Maybe Lenin and Stalin killing all those folks in the '20's, 30's and 40's didn't help.

If you want to be loved, be lovely. Instead of "doubling the health-care spending" and setting up checkups twice a year, try a little freedom and have a place that people want to make their future in.

Russia: Lebensraum for the Chinese.

Jul 16 08:59 AM

[inthemoney:]

> Maybe Lenin and Stalin killing all those folks in the '20's, 30's and 40's didn't help.

Exactly. First world war, revolution and civil war- probably 10 - 20 mil lives lost, second world war - another 25 mil, Stalin repressions - another 20 mil, while poor economy and childcare and women having to work drove a child rate per family to below 2.
All these wars of the last century cost Russia probably 40% of it population.

But quite honestly I don't see shortage of skilled labor in Russia. It is still much easier to fiund a skilled worker in Russia than in the US, for example and unemployement rate is high.

I think the issue is over-blown. If anything, it will mean much more wealth per person, like in those rich Middle East countries.

Jul 16 11:34 AM

[Gyoza Mimi:]

In a swift response to the population decline Russian government instituted monetary rewards for expanding families. Those who decided to have a second child are eligible for a sum equivalent to $8,000, which is higher than an average annual income of $6,000.

The caveat is in what effect this policy would have on the Russian demographics. The money can be used for one of these purposes (if I am not mistaken):
1. Retirement fund
2. Education fund for the second child
3. Can be used towards real-estate purchase

The first two option are not very popular among the Russian citizens. The government's propensity to initiate abrupt monetary reforms from time to time or allowing Zimbabwean levels of inflation strongly suggest that either the retirement or education funds are highly unlikely to be seen in the future. The third option sounds a lot more attractive.

However, in places where you can actually live, primarily the largest cities, the real-estate prices easily exceed $100,000s for a small apartment, which move home purchases out of the reach of the vast majority of the Russian population. With mortgage rates of 12%-25% it is close to impossible to buy anything livable, especially during the ongoing crisis. Those who have 100s of thousands of dollars in cash are unlikely to be compelled to expand their family by the mere $8,000 reward. With or without the reward, their decision will be based solely on their own preferences. Those who could use $8,000 know that they will not be able to afford any property anyway, so the reward will not play well with them either.

Thus, the $8,000 reward works well in places with low home prices. Not surprisingly, many families in Caucus region made baby-making their full-time job. In fact, Caucus sees a demographic exposure, thanks to the reward policy. The numbers are reflected in statistics. Despite the policy, the Russian population across most of Russia is decreasing, however in Caucus region it is undergoing an explosive expansion. Caucus is historically unstable area inhabited by the numerous ethnic groups that passionately hate each other. Throughout their history Chechens, Osets and a few other other groups make their living by slave capture and trade, and constant raids on the neighboring regions. Perhaps it is not the most politically correct statement, but culturally many ethnic groups existed as the bands of bandits thought the centuries, which is deeply rooted in their cultures and their view of the world. As an example, during the Soviet times, 40 out of 42 underworld criminal leaders resided and controlled their criminal cartels from Georgia.

The unemployment in the Caucus region is off the chart with the majority of population having no employment and no prospects of ever being employed. Add exploding population on top of it. Then add the historical and cultural propensity for the bandit lifestyle. Not surprising, many sociologist predict years, if not decades, of severe civil wars in the region.

So, what was meant to be the solution for the ongoing demographic crisis in Russia is turning into the major factor that will not only lead to the social unrest, but also will force massive relocation of non-Russians to Russia. From the social perspective, Caucus citizens carry very little benefits to the state - the education levels and skills possessed by them is on the lower end of the spectrum. The potent and widespread disliking of any outlandish folks, especially Caucus, amongst the Russian population is well-known. Thus, any mass relocation relocation from Caucus will result in further unrest in places where the migrants will settle.

Longs story short, the brewing Caucus problem will amplify any demographic issues that Russia will face, making matters significantly worse than currently foretasted by different accepted models.

Jul 16 01:52 PM

[Living4Divi...:]

Terrific article - you did a great job. That is a very sad about the problems in Russia

Jul 16 02:45 PM

[Gtarras:]

Hmm, I am a t a loss here. Great article, believable statistics, but I fail to see the connection between the population decline, and RSX levels. By this measure, US is a pretty bad long-term investment as well, as the baby boomers started to retire in droves.

Jul 16 06:51 PM

[willynill:]

Russia is not unique. There is/will be a population decline in all of Asia and Europe now with total fertility rates of less than two babies per woman. Check out the U.N. reports on world population. The U. S., alone, in the northern hemisphere is expected to have a sustainable population growth, primarily because of immigration. How can population declines lead to anything other than deflation and stagflation? Shall we direct our eyes to the southern hemisphere?

Jul 16 10:20 PM

[willynill:]

I meant deflation and stagnation...


On Jul 16 10:20 PM willynill wrote:

> Russia is not unique. There is/will be a population decline in all
> of Asia and Europe now with total fertility rates of less than two
> babies per woman. Check out the U.N. reports on world population.
> The U. S., alone, in the northern hemisphere is expected to have
> a sustainable population growth, primarily because of immigration.
> How can population declines lead to anything other than deflation
> and stagflation? Shall we direct our eyes to the southern hemisphere?

Jul 16 10:23 PM

[Dragoman:]

Don't forget, Western Russia is experiencing huge migration from Central Asia. The last Russian orthodox patriarch stated that Russia would be a majority Islamic country by 2036.

Jul 23 01:39 AM

[Rhunzzz:]

All other things being equal, a greying population means a population in which more people are trying to liquidate assets (for retirement income) than are trying to accumulate them (saving while working). This means asset deflation. That is why developed countries with greying populations try to offset this by encouraging immigration.

Russia is, however, not a very attractive place to emigrate to. Its image overseas is a violent place punctuated by political murders, rampant neo-nazi movements, Chechen terrorist attacks, heavy-handed state retaliation (Beslan and the Moscow Theater siege come to mind). Meanwhile, the Russian government will not countenance an immigrant-friendly policy either, for reasons unclear (though one can suspect).

Meanwhile, property is not secure in Russia. Look at how the Russian state screws foreign investors over when things are good, the very same foreign investors that it held out the begging bowl for when times were rough. To a foreign investor, Russia is governed by rapacious, kleptocratic ingrates.

If I could buy an emerging markets ETF or index fund that excluded Russia, I would. But I can't, no more than I can buy a developed world ETF that excludes Japan.

Jul 24 12:16 AM