Bridges • Volume 12 • Number 5 • November 2008

Foreign Trade Regulation and Russia’s Forestry Industry

by Roman Romashkin

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Measures taken in recent years to strengthen and modernise the Russian forestry sector have produced some positive results, but they have also aggravated the already precarious situation of the timber cutting industry and complicated relations between the Russian Federation and the EU.

Russia accounts for 22 percent of the world’s timber resources, and more than a half of these are exploitable. The annual natural growth of timber resources reaches more that 900 million cubic metres. Mature and over-mature forest stands are estimated at 570 million cubic metres, but less than 33 percent of such forests are harvested annually.

The output of the forestry sector (including logging, pulp and paper and timber processing industries) represents a little over 3 percent of Russia’s total industrial production. Output figures are still well below their 1990 levels. In 2006, production of raw timber was down by more than 60 percent and that of processed logs by 70 percent. Pulp output decreased by 30 percent, while paper production declined by more than 20 percent. The situation is most difficult in the logging sector – the source of raw materials for timber processing and paper and pulp industries.

Foreign Trade in Timber
Russia is a net exporter of forestry products, with the value of exports more than twice that of imports. Raw unprocessed logs (round timber) and cheap processed timber products account for roughly 60 percent of export value. In terms of volume, Russia exports about 30 percent of its timber production as unprocessed raw timber, while export of finished timber items represents only 5 percent.

Finland, China, Japan and Sweden are the main importers of Russian round timber. Eighty percent of the country’s cellulose production output is exported, with more than a third destined to China. The export- orientation of the paper and pulp sector is associated with the low capacity of Russian paper and cardboard producers.

Its huge forest resources notwithstanding, Russia imports fairly substantial amounts of pulp and paper products. This is due to both economic considerations (it is often cheaper to use imported inputs at facilities located far away from domestic suppliers) and to the lack of Russian inputs of sufficient quality. For instance, Russia does not produce certain types of high quality paper, which represent a major share of imports. The main suppliers of inputs are Germany, Finland and Italy, whose share of total imports reaches about 40 percent.

State Forestry Development Policy
The low level of vertical integration of production facilities, lack of necessary technologies and equipment, low production capacity, lack of investment resources and implemented customs policy are among the factors that to a large extent explain the low competitiveness of Russian processed timber products in the world market. In response to these concerns, the government passed decrees in March 2006 aimed at restricting the export of raw timber and developing domestic processing capacity.

On 31 May 2006, the export tax on raw coniferous timber was raised to 6.5 percent, but no less than –4/m3 (earlier, the rate was set at no less than –2.5/m3). In July 2007, the duty rose to 20 percent of declared value (but not less that –10/m3). Since April 2008, the minimum export tax has stood at –15/m3, and as of January 2009 it will reach 80 percent of declared value of round timber or at least –50/m3.

These policies are expected to reduce export of raw timber substantially and promote export of products with a higher added value. Indeed, foreign trade statistics show that the volume of exported round timber decreased (by 3.6 percent) for the first time in several years in 2007, while processed timber exports grew by 10 percent compared to 2006. The value of exports also increased in almost all categories of timber, pulp and paper products.

In parallel with the round timber export restrictions, import duties have been eliminated on forestry-related technological equipment and export taxes have been brought to zero on processed timber, pulp and paper. These measures facilitate modernisation and improve the competitiveness of the domestic industry. According to government estimates, development of the forestry sector would require investments worth at least US$44 billion over the next 12 years. Companies have already been given incentives to invest in deep timber processing.

In addition, a law in force since 2007 introduced new rules on forest use and stricter provisions to combat illegal logging.

While these measures are aimed at improving the situation of the Russian forestry sector, they have had some political consequences. In particular, the round timber export restrictions have complicated economic relations between the Russian Federation and several EU members.

EU Economic Interests
The EU has repeatedly raised concerns over the export tax hikes for raw timber. Although it acknowledges Russia’s right to impose such duties, the European Commission has emphasised the negative impact of these measures on the economic interests of Nordic pulp and paper producers, which buy a substantial share of their raw materials in Russia (Bridges Year 12 No.4 page 21). While Finland and Sweden insist that the increase of export duties should be cancelled, the EU has proposed that Russia establish specific duties for all types of timber at negotiated rates.

It is worth noting that China – another major importer of Russian round timber – has taken a radically different approach to the export duties increases. Unlike the EU, it is ready to expand economic co-operation and implement joint timber-processing projects within Russia.

In light of their firmly held positions, finding a compromise between the Russian Federation and EU will not be easy despite the Russian concession to postpone the export duty increase for birch and aspen pulpwood until 2011.

Problems Remain
Russian businesses have given mixed responses to the measures taken to promote deep timber processing. There are some grounds for concern.

First, the export restrictions may result in sharp price declines for the products of Russian logging companies, which in turn may cause a reduction in timber output. As a result, Russian suppliers may lose their foreign markets and substantially reduce supply of timber products to the domestic market. Export losses would immediately aggravate the already shaky financial situation of logging facilities and organisations. Small producers, which account for about 90 percent of round and processed timber products, might be particularly strongly affected. Should their financial situation worsen, the consequences will not be limited to economic problems; social conflicts are likely as well.

Second, in addition to timber processing, it is imperative to prioritise the development of logging operations. Road infrastructure must be improved to allow the exploration of new forest areas, expand logging operations and improve their efficiency. Some estimates suggest that it would require up to 18 billion roubles (about US$664 million) to carry out the work. Logging companies cannot address the problem alone, they need state support.

Third, it is unlikely that national production capacity for deep processing can be developed in a few years. Russian processing facilities cannot currently consume the amount of round timber equivalent to the volume exported earlier. At the same time, the development of modern pulp and paper plants will require investments in excess of US$1 billion, long construction periods (about five years) and payback periods of more than 10 years. In addition, the risks associated with establishment and development of companies must be taken account, and such risks are fairly high in contemporary Russia.

In conclusion, the measures taken to develop the forestry sector have sparked mixed reactions both nationally and internationally. The state policy poses a certain risk of further decline of forestry facilities. Moreover, it does not take into account regional specifics, as there are shortages of timber processing capacity in some regions while other regions face a short supply of raw materials. It is clear that under such circumstances solving the economic problems of the forestry sector will take several decades, not a few years. Little improvement can be expected without a well-designed long-term development strategy.

Roman Romashkin is Candidate of Sciences (Economics) at M.V. Lomonosov Moscow State University. This comment was adapted from a longer article the author wrote for Bridges sister publication Mosty.