Russia’s economy is booming and its debt rated investment grade. And yet, in the past week alone – a near-miss bank run, threats of bankruptcy for energy giant Yukos, and the editor of Forbes magazine’s Russia edition gunned down in an apparent contract hit. Where is Russia headed? (Part one of a two-part series.)

“Probably about a year after he moves into the Kremlin, Russia’s next president will look in the mirror and see not himself but Boris Nikolaevich Yeltsin.” – Russia scholar Daniel Treisman, in 1999.

It would be hard to imagine a more unenviable position than that of Russian president Vladimir Putin when he took office in 1999. Russia was not just a sinking ship. It was a sinking ship with all hands employed either bailing more water onboard or puncturing additional holes in the hull.

In the midst of this maritime disaster, changing captains – as Daniel Treisman pointed out – seemed unlikely to make much difference. There is a point at which momentum overcomes heroism, and 1990s Russia seemed long past that point. Supertankers do not turn on a dime.

Or do they? A few short years after suffering a financial crisis, the Russian economy is now booming and its debt rated investment grade. The key to understanding how this was possible is to look below deck. The captain was critical. But so was the crew.

Bear in mind that Russia’s post-communist relaunch was met with great expectations. It was a course into the unknown, to be sure. But Russia had rich natural resources, extensive industry and infrastructure, a well-educated workforce, top-notch scientists. This was no third-world country. It was a former superpower that had challenged the US for global dominance and put a man in space.

It was almost incomprehensible, then, when the world realized, in the mid-1990s, that the Russian ship was actually sinking. Rising alcoholism, falling life expectancy, and the average Russian made 50 percent poorer within a decade.

What Russia, illustrated, stunningly, was that good piloting and fair seas are little help to a ship that is being disassembled by its crew. There was more to economics, it emerged, than budgets and interest rates. Oil prices spiked in the early 1990s. But all the money went to Saudi Arabia as Russian oil production inexplicably collapsed.

The key is to understand the incentives that faced the average Russian. Price controls were (partially) lifted; markets (partially) opened. All well and good. But there was little law – and even less enforcement – to protect property. This made it very hard to run any business larger than a kiosk. Either the mafia or corrupt bureaucrats would come along and snatch a piece of it. Far more lucrative to get in on the snatching oneself. (And then send the proceeds offshore where it would be safe.)

The stories of such behavior are by now well known. Scholar Anders Aslund estimates that some $24 billion – a staggering 30 percent of Russia’s annual economic output – was snatched via “underselling” of Russia’s natural resources. Managers of state oil companies, for instance, could buy a ton of crude oil for 30 rubles – the price of a pack of Marlboros – at state-controlled prices. They could then freely sell it for thousands of dollars on world markets. “Underselling” – or, more accurately, the theft of state property.

Mikhail Khordorkovsky – the former manager of Yukos, now on high-profile trial for tax evasion – snatched this crown jewel in one of the now-infamous “loans for shares” deals. He picked up Yukos for about $159 million. A western oil company of similar size was valued at $85 billion. The “sale of the century,” they said.

But what went under-appreciated is how much the situation in Russia had changed by 1999. (Even though, on the surface, the decline was yet ongoing.) By the time Putin took office, the country’s prime assets – its oil, and oil companies – were in private hands. Over 90 percent of output was produced by the private sector. Which meant there was not much left to plunder.

Hence the interests of Russia’s most talented, ambitious and influential citizens changed. From maintaining the loopholes and weak enforcement that facilitated asset theft to creating the stability that would make possible the protection of the assets they had.

Instead of poking more holes in the boat, they were now patching it up. Merrill Lynch estimates that capital flight dropped from about $25 billion per year throughout the 1990s to a more manageable $12 billion in 2001 and $10 billion in 2002. Hence in fair seas, the Russian vessel was no longer sinking. A large currency devaluation actually improved the current account balance – as one would expect in a functioning economy.

The oil story was even better. During the 1990s, when Russia’s oil and oil firms were being snatched, Russian production plummeted – from 11 million barrels per day to under six million. Thieves make bad managers. But once the assets were all in private hands, oil production rebounded. Seven million barrels per day in 2001; eight and a half by 2003. So when another oil price spike came along the Russian economy reaped the rewards.

To be sure, much credit goes to captain Putin. There were difficult shoals – rapacious bureaucrats, powerful governors, influential industrialists – that could have sent Russia off course. That these did not testifies to a steady hand at the helm.

But credit also the crew. It was not Putin’s doing that Russia’s assets were in private hands by the end of the 1990s. But that was crucial to economic recovery. With basic economic function restored, Russia was finally able to take advantage of favorable global conditions.

Russian reformer Anatoly Chubais put it this way in 1995: “they are stealing absolutely everything and it is impossible to stop them. But let them steal and take this property. They will then become owners and decent administrators.” An ugly thought. But in the end, he was right. And the Russian supertanker is seaworthy again.

This article was originally published on, before I sold the website to Roubini Global Economics.