Ronald P. Smith of Alfa Bank -

Prime Minister Vladimir Putin chaired the first meeting of the newly created executive body, the Presidium of the Cabinet, on Monday, May 26. The key decisions were to cut upstream oil taxation and slash tax-reporting requirements for small business. Going forward, we look for the Presidium, which will meet every Monday, to provide a steady diet of data points on the implementation of the government's ambitious reform plans.

The first meeting yielded a significant news flow, as the body approved tax cuts for the oil industry, reduced the tax-reporting requirements for small businesses, raised allowable corporate R&D exemptions, and approved personal tax breaks for spending on education, health and housing. The proposals will be sent to the Duma this week, with any resulting legislation going into force on January 1, 2009.

The Presidium is to meet every Monday, and we believe it may become a highly visible launching pad for various bits of the ambitious reform plans recently laid out by Putin and President Dmitry Medvedev. That reform agenda includes not only substantial reform of the oil taxation regime, but also broader tax reform (VAT cuts, etc.), an ambitious build-out of Russia's infrastructure ($570bn already approved by the full cabinet), modernization of an antiquated financial system, and hacking through entangling bureaucracies.

Reforms critical to growth

As we have stated in the past, Russia's recent growth rate can continue for only two or three more years based solely on high oil prices and existing trends. Sustained rapid growth beyond that, however, will necessarily depend on at least partially removing inherent structural impediments to economic activity.

The tax changes approved for the oil industry include breaks from the mineral extraction tax (MET or UNRPT) for offshore exploration and development of up to 15 years on the first 35m tonnes produced (Gazprom and Rosneft will benefit, as only state-owned companies are allowed to work offshore). Onshore breaks were indicated for the Timano-Pechora region (Lukoil) and Yamal peninsula (Gazprom, Gazpromneft). Additionally, the Presidium confirmed the previously announced increase of the starting point for taxation from $9 per barrel Urals to $15, saving the industry $1.2 for every barrel produced.

The changes approved at the meeting appear to be only first steps. Previously indicated changes to export duties on refined products, which should narrow or eliminate the gap between the duties paid on fuel oil and light products, are still to come. We look for further adjustments of the MET to allow indexation to inflation and changes in ruble strength, as the adjustments approved only account for the changes in those drivers to date, not going forward.

Alfa Bank, Ronald P. Smith, Chief Strategist, Head of Research Moscow

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