Part III - Public versus private capital dynamics

New data have allowed us to better understand the relationship between wealth and inequality

Understanding how the level and structure of national wealth have evolved in the long run is one of the most fundamental economic questions. National income is a “flow” concept: it is defined as the sum of all income flows produced and distributed in a given country during a given year; it can also be broken down between the remuneration of labor and capital. National wealth, on the other hand, is a “stock” concept: it is defined as the sum of all assets—in particular housing, business, and financial assets, net of debt—that were accumulated in the past. The relationship between national wealth and national income can inform us about a number of key economic, social, and political evolutions, including the relative importance of capital in an economy and the structure of ownership.

Before we look at distribution of private wealth (that is, what share of private wealth is owned by the bottom 50% of the population, the top 10%, and so on), it is critical to better understand the evolution of total private wealth, and how it compares to public wealth and to total national wealth—which by definition is equal to the sum of private and public wealth. It is also important to keep in mind that the very notions of private property and public property can have very different meanings depending on the country or the period considered. For instance, private property in land or housing can take very different forms, depending on the extent of tenant rights, the length of their tenures, the ability of landlords to change their rents or expel them unilaterally, and so forth. In a similar way, corporate property may not have the same meaning when workers’ representatives hold substantial voting rights in corporate boards (such as in Nordic countries or Germany) as in countries where shareholders control all voting rights.

Also, public property in China today is a different reality from public property in this country forty years earlier, or in the context of Norway’s public sovereign fund today, and so on. Understanding the details of the legal, political, and governance system is important to understanding the interplay between property structure and power relations between social groups. The study of private and public wealth cannot be limited to the analysis of trends and levels; it must be grounded in a deeper understanding of the countries’ institutions and how these affect political and social inequality, as well.

Studying the evolution of national wealth-national income ratios can also help improve our knowledge on the structure of wealth, savings, and investment and thus can be used to study fundamental macroeconomic questions. These questions include: What are the long-run dynamics and prospects regarding the evolution of public debt? And what are the patterns of net foreign asset positions? In order to properly analyze these issues, it is critical to look at the entire national balance sheet—that is, the overall structure of who owns what. Public debt or foreign assets are not owned by the planet Mars; by definition, they belong to private or public property owners. Monitoring the evolution of capital accumulation and the composition of private assets, for example, can also help identify potential signs of instability in an economy. Indeed, in the cases of Japan and Spain, wealth-income ratios reached historical highs in 1990 and 2008, respectively, as both countries experienced asset market bubbles.

Until recently it was difficult to fully get to grips with such dynamics because of a lack of data. Thomas Piketty and Gabriel Zucman have recently presented harmonized annual series of wealth-income ratios for the eight largest rich economies in the world from 1700 onwards.¹ These series have also been discussed in Capital in the Twenty-First Century and in the ensuing debates on the return to a patrimonial society.²

Their work has been extended by other researchers. The WID.world database now contains data on more than twenty countries, which we discuss in this report. In particular, we currently have series on the structure of private and public wealth in a number of emerging and ex-communist economies, which are able to provide new insights on crucial public policy issues.

We should stress, however, that this is an area where we still need to make a lot of progress. In particular, we still know far too little about the structure of public, private, and foreign ownerships in many areas of the developing and emerging world, particularly in Africa, Latin America, and Asia.

Private wealth-income ratios have risen remarkably since the 1970s

In 1970, private wealth-national income ratios ranged from around 200%–350% in most developed countries (see Figure 3.1.1 and Figure 3.1.2). The past four decades saw a sharp rise in these ratios in all countries. By 2007, the year in which the global financial crisis began, private wealth-national income ratios in the countries observed averaged 550%, peaking at 800% in the extreme case of Spain. Despite the fall in these ratios in some of the countries following the financial crisis and the decline in housing prices, the multi-decade trend seems to have been largely unaltered. By 2016, the market value aggregate private wealth—measured in years of national income—is typically twice as large in 2016 as in 1970.

There have, however, been interesting cross-country variations in magnitudes and levels. Within Europe, country trajectories have been roughly similar as net private wealth rose from 250–400% of net national income in 1970 to 450–750% by 2016. Italy showed the most spectacular rise in its private wealth-to-income ratio, which approximately tripled from 250% in 1970 to over 700% in 2015, followed by the UK where the private wealth-national income ratio more than doubled, from approximately 300% to 650%, over the same forty-five years. France (from approximately 300% to more than 550%) followed a similar trajectory, though at a slightly lower order of magnitude, while this trend was also followed by Germany (from approximately 250% to 450%) and Spain (from about 400% to 650%) over the same period.

Outside of Europe, Australia and Canada demonstrated comparable evolutions in their private wealth-national income ratios to France, Italy, and the UK. Canada’s private wealth more than doubled between 1970 and 2016, from around 250% of net national income to more than 550%, while Australia’s rise was still significant but less striking, increasing from slightly less than 350% of national income to over 550%. In the United States, private wealth—relative to national income—rose by a half over the same time period, from less than 350% of national income to around 500%.

In Japan, the private wealth-income ratio also almost doubled over the time period (300% to almost 600%) and, like Spain, experienced enormous fluctuations as a result of its asset price bubble in the years leading up to 1990. In Japan, real estate and stock market prices rose dramatically from around 1986 as overly optimistic expectations regarding future economic fundamentals increased the value of the country’s capital assets and sent its private wealth-national income ratio soaring to as much as 700% by 1990. But soon after the Nikkei stock market index had plummeted and the price of assets followed suit, leading to what was dubbed the “lost decade” and a 150-percentage-point fall in the wealth-income ratio by 2000. However, despite further falls, the wealth-income ratio remained one of the highest among the rich countries. As explained in detail in chapter 4.6, Spain has followed a similar trend since the bursting of the country’s asset price bubble, with its wealth-to-income ratio falling by around 150 percentage points from its peak in 2007 to approximately 650% in 2014.

Thanks to recent research that has been completed on some of the world’s largest emerging economies, it is now also possible to compare how these countries’ wealth-income ratios have evolved. This is particularly interesting given the changes in political and economic regimes experienced in the emerging world over the period considered. As depicted in Figure 3.1.2, China and Russia both experienced large rises in their private wealth-income ratios after their transitions away from communism. While to some extent these increases are to be expected (as a large proportion of public wealth is transferred to the private sector), the scale of change experienced is particularly striking in China. The comparison with the trajectories observed in developed countries is also of particular interest (about which more will be said below).

At the time of the “opening-up” policy reforms in 1978, private wealth in China amounted to just over 110% of national income, but by 2015, this figure had reached 490%, following almost unrelenting rises. Russia’s transition began twelve years later in 1990, but the change since has been no less spectacular. Over this shorter period of time, Russia’s private wealth-income ratio more than tripled from around 120% to 370%. It is interesting to compare these changes with those in Europe and North America, described above, as China’s ratio is only just below that of the United States, and Russia is not a long way behind, either. Furthermore, the speed and scale of the change in these emerging economies far surpasses that seen in rich countries. By way of comparison, the only time the UK or the United States experienced a similar magnitude of change in wealth-income ratios followed their huge falls at the beginning of the twentieth century.

Rising national wealth-to-income ratios in recent decades come exclusively from the rise of private wealth

From Figure 3.1.3 it quickly becomes clear that the recent upward trend in national wealth-to-income ratios has exclusively been the result of private wealth accumulation. Indeed, in the UK and the United States, national wealth consists entirely of private wealth, as net public wealth has become negative (that is, public assets are now below public debt). France, Japan, and Germany have also experienced a significant decline in public wealth, which is now worth just about 10–20% of national income according to official estimates—that is, a very tiny fraction of total national wealth. The domination of private wealth in national wealth represents a marked change from the situation which prevailed in the 1970s, when net public wealth was typically between 50% and 100% of national income in most developed countries (and over 100% in Germany). Today, with either small or negative net public wealth, the governments of developed countries are arguably limited in their ability to intervene in the economy, redistribute income, and mitigate rising inequality. (More on this will be said below.)

In practice, the decline in net public wealth in recent decades is mostly due to the rise of public debt, while the ratios of public assets to national income have remained relatively stable in most countries (see Figures 3.1.4a and 3.1.4b). The relative stability of public assets—relative to national income—can be viewed as the consequence of two conflicting effects: on the one hand, a significant fraction of public assets were privatized (particularly shares in public or semi-public companies, which used to be relatively important in a number of developed countries between the 1950s and the 1970s); on the other hand, the market value of the remaining public assets—typically public buildings hosting administrations, schools, universities, hospitals, and other public services—has increased over this time period.

China and Russia provide two contrasting examples of how private-wealth-to-national-income ratios have evolved, relative to the aforementioned countries, for which the privatization strategies chosen by the two countries play an integral role. (This is further analyzed in chapters 3.2 through 3.4.) The gradual process of privatization of public wealth in China led to a slight over-fall in the value of public wealth as a proportion of national income, from just over 250% of national income in 1978 to approximately 230% in 2015, in a context of rapidly rising asset prices. In Russia, the voucher privatization strategy chosen aimed to transfer public assets into the private sector as quickly as possible, and subsequently had the effect of reducing the net public wealth to national income ratio enormously, from over 230% of national income in 1990 to around 90% in 2015.

The dominance of private wealth over public wealth within countries is further highlighted by their relative shares in national wealth. As depicted by Figure 3.1.5, all observed countries (with the exception of Norway) have seen a decline in the value of public property relative to private property. In the late 1970s, the share of net public wealth in net national wealth was positive and substantial in all developed countries: it was as large as 25% in countries including Germany and Britain, and 15% in Japan, France, and the United States. By 2016, the share of public wealth has become negative in Britain and the United States, and is only marginally positive in Japan, Germany and France. In China, the share of public wealth was as large as 70% in 1978, and seems to have stabilized around 30% since 2008—a level that is somewhat larger (but not incomparable) to that observed in Western countries during the mixed-economy period of the 1950s–1970s.

Privatization strategies were key in determining wealth accumulation differences between China and Russia

The transition away from communism in both China and Russia had profound effects on aggregate wealth in both countries. However, there were also considerable differences between the two countries, which are first evident in the evolution of their respective private wealth–national income ratios. As examined in detail in chapter 3.2, the general rise of private wealth relative to national income in rich countries since the 1970s–1980s can be attributed to a combination of factors including the combination of growth slowdowns and relatively high saving rates and general rises in asset prices. The case of Russia together with that of China and other ex-communist countries can be viewed as an extreme case of this general evolution, but the liberalization and public asset privatization strategies chosen by the two countries also had crucial impacts on the development of these countries’ wealth to national income ratios.

In Russia as in China, private wealth was very limited back in 1980, at slightly more than 100% of national income in both countries. But by 2015, private wealth reached approximately 500% of national income in China, roughly equal to levels seen in the US, and rapidly approaching the levels observed in countries such as France and the UK (550–600%). Private wealth in Russia has also increased enormously relative to national income, but the ratio was comparatively only of the order of 350–400% in 2015—that is, at a markedly lower level than in China and in Western countries as illustrated by Figure 3.3.1. This gap would have been larger if estimates of offshore wealth were not included in Russia’s private wealth (more to come on this in chapter 3.5). This is an important source of wealth to include in estimates for Russia as it represents approximately 70% of national income, while the global average offshore wealth is estimated to be in the region of 10% of national income.¹⁵

The rise of national wealth in Russia has been almost exclusively driven by increases in private wealth, which have themselves come at the expense of public wealth. National wealth increased only weakly relative to national income during the last quarter of a century, rising from 400% in 1990 to 450% by 2015, with public wealth falling from around 300% of national income to below 90%. In contrast, China’s public wealth remained relatively constant from 1978 to 2015, staying above 230% of national income. Given the large rise in private wealth described above, national wealth has thus doubled from around 350% to 700% of national income over the period (see Figure 3.3.2). Interestingly, national wealth fell notably following the end of communism in Russia, dropping from around 425% of national income in 1990 to 300% in 2000. This was largely due to the speed at which the so-called shock therapy and voucher privatization strategy was implemented to transfer public wealth to the private sector (particularly that of state-owned enterprises). However, while public wealth-income ratios in China fluctuated during the first decade that followed the “reform and opening up” policies of 1978, they have risen almost constantly since. The speed of privatization of both state-owned enterprises and housing stock was much slower in China than in Russia, allowing for a more gradual and consistent transfer of wealth from the public to the private sector. The larger variations seen in Russian wealth as compared to Chinese wealth that occurred between 1998 and 2002, and between 2006 and 2010, can in large part be explained by the stock market fluctuations experienced in Russia during these periods of time.

Understanding the differences in wealth accumulation between China and Russia

The widely divergent patterns of national wealth accumulation observed in Russia and China can be accounted for by a number of factors. First, saving rates (net of depreciation) have been markedly higher in China, typically as large as 30–35%, as compared to 15–20% at most in Russia. If a country saves more, it is natural that it will accumulate more wealth. Second, these Chinese savings were used for the most part to finance domestic investment and hence domestic capital accumulation in China. In contrast, a very large fraction—typically about half—of Russia’s national savings were used to finance foreign investment, via very large trade surpluses and current account surpluses, rather than domestic investment. This is not necessarily disadvantageous in itself, but these large flows of foreign savings resulted in little wealth accumulation as a result of the general mismanagement of the surpluses, including bad portfolio investment, capital flight, and offshore leakages.

Again, the gap between Russia and China would be even larger if offshore wealth were not included in Russian national wealth calculations. Its inclusion is undoubtedly illuminating in helping readers to understand the evolution of wealth trends in Russia, but given that offshore wealth is largely out of the reach of the national government, its presence in Russian wealth calculations could also be argued to overestimate its tangible value for the country. In contrast, if the full value of cumulated trade surpluses in Russia’s national wealth were considered in estimations, then Russia’s national wealth-income ratio would have been at the same level as China’s by 2015, at around 700% of national income. The magnitude of change when including and excluding these factors illustrates the macroeconomic significance of this issue.
Finally, China’s national wealth-income ratios are higher than in Russia because relative asset prices have increased more in the former than the latter. In particular, Tobin’s Q ratios are much closer to one in China than in Russia.¹⁶ This means that the market value of wealth assets in China (that is, their price on the stock market) is much closer to their book value (that is, the value of assets based on the company’s balance sheet account; their assets minus liabilities) than in Russia, where these values were consistently very low. The interpretation of this finding may reflect a number different factors.

On the Chinese side, the key factor influencing Tobin’s Q ratio nearing one is the country’s restricted capital markets which limit the number of Chinese companies listed on the stock exchange.¹⁷ On the Russian side, there are a larger number of factors. One interpretation is that company stakeholder models have various actors other than shareholders—including worker representatives and sometimes regional government, share corporate decision-making power— which may reduce the market value of equity shares, but not necessarily the social value of companies. A less optimistic interpretation of low Q ratios, which may better fit the Russian case, is that there were ill-defined property rights and low protection of shareholder stakes in companies, not because of the benefit of other well-defined and potentially efficiency-enhancing stakeholders, but simply because the legal system is not working well. In addition, it could also be that this low market valuation reflects the importance of offshore assets and legal outsourcing in the management and control of Russian corporations. That is, Russian corporations are embedded into a complex nexus of contracts and offshore legal entities, of which the system of official shares ruled by the Russian legal system and traded on Moscow stock market is only the visible part.¹⁸

Understanding the evolution of public wealth in China and Russia

The ex-communist countries of China and Russia have followed the same general patterns of a declining overall share of public property in total wealth as rich countries in recent years, though starting from a much higher level of public wealth. In the ex-communist countries of China and Russia, the share of net public wealth fell from around 70% in 1980 to 35% and 20%, respectively, in 2015—a veritable turnaround in their public-private wealth ratios. As depicted by Figure 3.3.2, the share of net public wealth in net national wealth reversed in both China, from around 70%–30% in 1978 to 30%–70% in 2015, and in Russia, from 70%–30% to 20%–80% between 1990 and 2015. These recent figures for the countries’ public-private wealth ratios are not incomparable to those observed in the so-called “capitalist” countries during the mixed-economy period that followed the Second World War (1950–1980). But while these countries have ceased to be communist, in the sense that public ownership has ceased to be the dominant form of property, they still have much more significant public wealth than other capitalist countries. This is due both to low public debt and significant public assets—for instance, Russia’s energy sector. (Figure 3.3.3)

However, there are also strong differences between China’s and Russia’s experiences. The larger magnitude of the reversal in public-private wealth ratio in Russia, and its occurrence over a shorter time period, serves to underline the greater speed and depth of privatization in Russia relative to China. Indeed, this process is still continuing in China, and the public-private divide could even be stabilized at the current level if the Chinese authorities choose to do so. In contrast, Russia’s “shock therapy” approach to privatization was markedly different from that followed in China and other ex-communist countries. This contrast is evident in the period immediately after Russia’s transition toward a market economy commenced, from 1990 to 1995, when the fall in the share of net public wealth in net national wealth in Russia (70% to 35%) was five times larger than that in China (55% to 50%). Its implications for income inequality and wealth inequality are discussed in more detail in Part II and Part IV, respectively.

In contrast, the importance of foreign assets within China and Russia has been fairly similar since their transitions away from communist models, but have occurred for vastly different reasons. As illustrated by Figure 3.3.4, both countries have positive net foreign assets, meaning that the assets they own in the rest of the world are more valuable than those owned by foreigners in China and Russia, respectively. In Russia, this has largely been due to the country’s economic and natural endowments, given its large, but not necessarily permanent, natural resources, and has allowed the country to accumulate trade surpluses and foreign reserves for the future, as can also be observed in most oil-rich countries in the Middle East and elsewhere.

Russia’s transition from public to private property

The evolution of aggregate private and public wealth in Russia has changed dramatically since the fall of the Soviet Union. As the country transitioned from a communist to capitalist model after 1990, public property was transferred to the private sector. Net national wealth amounted to slightly more than 400% of national income in 1990, roughly three-quarters of which was owned by the state and one-quarter by private individuals. But by 2015, these proportions reversed, as illustrated by Figure 3.5.1. Net private wealth amounted to 350% of national income, while net public wealth represented less than 100%; the overall national wealth to national income ratio had increased by just 12% over 25 years. Furthermore, this dramatic fall in Russia’s net public wealth occurred over just a few years, between 1990 and 1995, as the country implemented its so-called shock therapy transition strategies, which included the privatization of state-owned enterprises through vouchers.¹⁹ (More on this will be addressed in Part IV of the report.)

It is noteworthy that aggregate national wealth fell relative to national income in the initial stages of Russia’s transition. As can be seen on Figure 4.3.1, net national wealth decreased between 1990 and 1999, from over 400% of national income to about 300%, such that aggregate national wealth fell even more than national income over this period, which almost halved itself. National wealth rose then considerably between 1999 and 2009, reaching about 550% of national income. This peak corresponded to a very large rise of Russian stock market prices and housing prices during this decade, but as asset prices then fell in the aftermath of the financial crisis, aggregate national wealth fell back to around 450% of national income in 2015, only just above its value 25 years previously. As a consequence, the major transformation during the 1990–2015 period was the shift from public to private property, rather than any significant and sustained increase in the aggregate value of national wealth.

Private housing has risen to dominate private wealth in Russia

In order to better understand which factors influenced the evolution of national wealth-income ratios in Russia and the composition of the country’s wealth, it is critical to look separately at the different asset categories. As seen in Figure 3.5.2, there was a significant rise in private wealth since 1990.²⁰ Housing played a critical role here as property prices more than doubled between the year 2000 and the peak of the housing bubble in 2008–2009, increasing the value of housing wealth from less than 50% of national income in 1990 to 250% at its peak, before easing to approximately 200% by 2015. Comparatively, other domestic capital (mostly consisting of unincorporated businesses owned directly by households) and agricultural land (which was also largely privatized during the 1990s) increased over time, but these assets played a relatively limited role as compared to the rise of private housing.

In addition to real estate price movements, the gradual rise of private housing wealth between 1990 and 2015 can be accounted for by the more continuous manner in which housing privatization occurred, relative to the voucher privatization method used for companies. Tenants were typically given the right to purchase their housing unit at a relatively low price, but they did not need to exercise this right immediately. Due to various economic, political and psychological factors, many Russian households waited until the late 1990s and even the 2000s to exercise this right. Indeed, some were concerned about the possible maintenance costs associated to private ownership as under public housing ownership maintenance work was taken care of by public authorities, while others were more concerned about a possible political downturn, particularly following the presidential election of 1996 when Boris Yeltsin won with a relatively small margin against communist party leader Gennady Zyuganov.

Official household financial assets are particularly low in Russia, due largely to the voucher method chosen to privatize former state-owned enterprises

What is also particularly striking is the very low level of official financial assets owned by Russian households attained in official Rosbank financial balance sheets and other official sources. Household financial assets have always been less than 70–80% of national income throughout the 1990–2015 period, and they have often been less than 50% of national income; in the late 1990s and early 2000s, they were as little as 20–30% of national income. Thus, it is as if the privatization of Russian companies did not lead to any significant long-run rise in the value of household financial assets, in spite of the fact that it had become possible for individuals to own financial shares in Russian firms. This appears particularly paradoxical.

The initial decline in financial assets was perhaps predictable. Back in 1990, household financial assets—which at the time mostly consisted of saving accounts—amounted to about 70–80% of national income. But as prices were liberalized in the early 1990s, these Soviet-era savings were all but eradicated by hyperinflation. The consumer price index was multiplied by nearly 5000 between 1990 and 1996, with annual inflation rates consistently above 150% and as high as 1 500% in 1992 and 900% in 1993. Following the introduction of the new ruble—worth 1 000 old rubles—in 1998, the inflation rate stabilized at around 20–30% per year on average up to 2006.

What is more surprising is why the new financial assets that were accumulated by Russian households during the 1990s—in particular through voucher privatization—did not compensate for this loss in savings. Of course, when vouchers were first introduced in 1992–1993, it was very difficult for Russian households to know what to do with these new financial instruments and how to put a price on them. More generally, it could be argued that in the chaotic monetary and political context of the 1990s it is not too surprising that the market value of household financial assets remained relatively low until the somewhat more stable mid- to late-1990s. What is more difficult to understand, however, is why such extremely low valuations persisted well after this period. In particular, in spite of the spectacular Russian stock market boom that occurred between 1998 and 2008, it is conspicuous that total financial assets officially owned by Russian households amounted to little more than 70% of national income in 2008—that is, less than the level observed in 1990.

Taking into account offshore wealth doubles Russia’s total official financial assets

In the view of Filip Novokmet, Thomas Piketty, and Gabriel Zucman, the main explanation for this paradox is the existence of a small subset of Russian households that own very substantial offshore wealth—that is, nonofficial financial assets in offshore tax havens. According to their benchmark estimates, offshore wealth has gradually increased between 1990 and 2015, representing approximately 75% of national income at the end of the period. As depicted by Figure 3.5.2, offshore wealth was thus roughly as large as official financial assets owned by Russian households. By definition, offshore assets are difficult to estimate, and the benchmark estimates presented in this section are neither precise nor fully satisfactory, but these orders of magnitude seem to be reasonable, and if anything may be somewhat underestimated given the way in which they are constructed, as explained below.

In order to estimate the rise and magnitude of offshore wealth held by Russian households, it is natural to start by looking at the evolution of Russia’s trade balance and its balance of payments. Examining these two balances together, there is a clear contrast between the very large trade surpluses recorded in Russia and the country’s relatively modest foreign assets, as illustrated by Figure 3.5.3.

Russia has had strong trade surpluses each single year since the early 1990s. These trade surpluses—mostly driven by exports in oil and gas—averaged almost 10% of national income between 1993 and 2015, having been at around 5% between 1993 and 1998, and as much as 20% in 1999–2000. Thus, in each of the last 20 years, the Russian economy has exported the equivalent of around 10% of its annual income in excess of what the country has imported. Given that Russia’s initial financial position when beginning its transition was close to zero, with very few foreign assets or foreign debt, these sustained surpluses should have led to a massive accumulation of foreign assets held by Russian citizens in the rest of the world. However, the paradox is that net foreign assets accumulated by Russia are surprisingly small at about 25% of national income in 2015.

Investigating Russia’s balance sheet reveals further inconsistent information regarding the ownership of financial assets. Both foreign assets (that is, assets owned by Russian residents in the rest of the world) and foreign liabilities (that is, assets owned by rest-of-the-world residents in Russia) have increased significantly since the fall of the Soviet Union. Both were extremely small in 1990, at around 10% of national income, reflecting low levels of financial integration with the rest of the world and strong capital controls. But by 2015, foreign assets had reached almost 110% of national income, and foreign liabilities were close to 85% of national income, hence a net foreign asset position of about 25% of national income.

How can such a low level of net foreign wealth accumulation be accounted for? An obvious explanation is capital flight: some Russian individuals, and/or some Russian corporations acting on behalf of individuals, and/or some Russian government officials acting on behalf of individuals, were able to appropriate some of Russia’s trade surpluses to accumulate offshore wealth—that is, foreign assets that are not properly recorded as such in Russia’s official financial statistics. Given the weaknesses of Russia’s legal and statistical system, and the widespread use of offshore entities to organize business and financial transactions in Russia over this period, it is maybe not too surprising that such leakages might have occurred.²¹

Discrepancies in Russia’s balance of payments can aid estimations of the country’s offshore wealth

How large these capital flight leakages are, and the associated accumulation of offshore wealth is, are challenging to measure. Simple calculations of trade surpluses (230%) minus official net foreign assets (30%) over the 1990–2015 period, would suggest that cumulated capital flight is on the order of 200% of national income. But this does not include the cumulated capital income flow on these foreign assets, which could have been significant if rates of return on these assets were high. Indeed, it appears that returns on foreign assets were lower than the returns on foreign liabilities over the 1990–2015 period, as illustrated by the small negative net foreign income flows in Figure 3.5.3. This net capital income outflow hence absorbed approximately a quarter to a third of Russia’s annual trade surplus.

Furthermore, the capital gains and losses realized on the portfolio of foreign assets and liabilities needs to be accounted for. These portfolio effects can be substantial if there are large differences between annual surpluses and the observed evolution of net foreign assets. This is partly what happened in Russia as foreign investors bought Russian assets in the 1990s when stock market prices were extremely low and benefited from the country’s booming stock market of the 2000s, providing part of the explanation as to why foreign liabilities rose as much as Figure 3.5.4 shows. These portfolio effects therefore imply that a substantial part of Russia’s trade surpluses was translated into assets held by citizens from elsewhere in the world. But the magnitude of the aforementioned differentials in rates of return and portfolio effects were not large enough to fully explain the missing wealth paradox.

Filip Novokmet, Thomas Piketty, and Gabriel Zucman therefore look to exploit inconsistencies in Russia’s balance of payments to estimate the size of offshore wealth—that is, Russia’s missing foreign assets. Their relatively conservative estimations indicate that offshore wealth reached approximately 75% of national income by 2015, suggesting that Russians own approximately as much offshore wealth as their official financial asset holdings (about 70–80% of national income in both cases). That is, they own about 50% of their total financial wealth offshore. These results are similar to estimates obtained by Gabriel Zucman’s earlier research that used a different methodological approach.²² Thus they can be viewed as somewhat reassuring. But while these magnitudes are believed to be broadly accurate, these estimations lack absolute precision given the general lack of international financial transparency—and the difficulties of identifying by whom these missing assets are owned and what form they take potentially pose even greater challenges.

Even more uncertain is the location of the assets held offshore by Russian citizens. Some of this offshore wealth might be invested back in Russian corporations, while it is also discussed that some Russians own significant property assets in cities such as London and in the countryside of nations such as French, and/or have large shares in companies and in sports teams in countries such as Germany, the UK, and the United States. Inspecting the list of Russian billionaires released by Forbes illustrates that these individuals collectively own more than $400 billion in assets—that is, the equivalent of about half of the estimated $800 billion in Russian offshore wealth. Comparing the corresponding wealth portfolios published by Forbes and other magazines, one could be tempted to conclude that most of the offshore wealth is held in Russian companies, in particular in the energy and financial sectors. On this basis, interpretations of the available data indicate that a large fraction of Russia’s official foreign liabilities—over 80% of national income in 2015—is actually held by Russian residents via offshore accounts. But given that the Forbes list does not provide any information regarding the fraction of reported billionaire wealth held offshore—likely a very large proportion—it is difficult to provide more conclusive explanations.