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Off-the-books construction industry to be brought into the light - is it for real?

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Off-the-books construction industry to be brought into the light - is it for real?

Is it possible to legitimize garage producers of construction materials?

Recently we published an article on the shady, so-called “garage” economy in the construction complex. It raised the problems of the legitimization of millions of unregistered builders, more than half of whom are citizens of post-Soviet countries.  

Today we continue the topic, considering the “garage” production of construction materials. Is it possible to legalize those working in this segment?

 

Hey, you there, in the garage!

Apart from construction itself, there is a lot of “shadiness” in construction materials production. But even qualified experts cannot evaluate the real volumes.

—  As opposed to low-rise construction, it is very difficult to count the volume of production here and give general figures, Valery Kazeikin, the Vice-President of National Agency for Low-Rise and Cottage Construction, admits.

Which sectors of construction materials production are most dominated by the “garage economy”? According to analysts, they are the production of paving slab (see “Expert opinion”); paints and construction chemicals in general; some types of roofing materials; counterfeit insulants (foam polystyrene); handmade building blocks of various types; fittings (nails, screws, etc.) and, of course, sawn timber.

— A strict set of controls has been developed recently in the sphere of sawn timber, — the Director General of the Wood Housing Construction Association, Oleg Panitkov, remarks. — The phenomenon surely exists but there are fewer “grey” materials than there are migrant workers on “grey” construction sites.

Which sawn materials? Mainly uncut board, profiled log — that is, non-dried materials delivered from so-called ‘black’ sawmills.

— They are usually used for fences, casing, etc., — the Head of the Association explained. — But still, their market share does not exceed 20%, and may be less.

To be fair, the grey brigades often use white materials: for example, there is practically no smuggled laminated log on the market.

Neither is there “garage” cement: vast ovens are required for its production, Valery Kazeikin reminds us.

Quite another thing is counterfeit cement produced, say, somewhere in Turkey and sold in Russia without customs clearance, but this has nothing to do with the “garage” economy.

By the way, counterfeit materials may be of rather high quality.

— In the Nizhny Novgorod region there is a Borsk glass factory famous all over the world, — one of the leaders of the Nizhny Novgorod Manufacturers and Entrepreneurs’ Association, Gennady Khomutov, tells us. — There are a couple of dozen small businesses producing glass quite similar to the original. It is produced according to the factory’s technologies due to specialists who have been made redundant. Others buy cars to deliver glass to Moscow, Chelyabinsk, Siberia… I know such people, and they are quite wealthy.  That is regarding the volumes…

Off-the-books construction industry to be brought into the light - is it for real? 

Change in a year

As far as paving slabs are concerned, according to an assessment by Alexander Logvinov, President of the Small Concrete Articles Producers Association, at present “garage” production makes up about 40% of the total volume of the market, but the share is gradually decreasing.  

— Now the majority of businesses and municipal representatives understand that quality slabs should be bought, Mr Logvinov told Construction.ru.

 — But the widespread pattern of buying cheap, low quality, off-the-books produced slab lives on, the buyers not realizing that in a year they will have to replace it.

        And how much is 40% of the paving slabs market in monetary terms? The total “white market” for paving slabs is evaluated at as much as 550m square meters of slab produced by about thirty factories. If this volume is multiplied by its average price of 450 roubles for 1 square meter, the total will be about 245m roubles — this is the “white” 60% of the market. It means that the “grey” 40% share of the market is worth about 165 m roubles - and it is only one segment of the “garage” construction materials production industry.

 

Expert opinion

Lev Antonov, Director General of the “Kamenny vek” (Stone age) company, producer of paving slabs 

If you drive along any suburban mainroad, at almost every crossroads you will see a stand with slabs which were produced in the neighbouring garage without any legal registration or standards, by, as a rule, migrant workers.  

That is a real garage economy, and its volume is so large that in private housing, where nobody asks for any regulatory documents, its share is, I think, as much as 35—40%. Such producers have one advantage – they are based close to cottage settlements.

It is like a Chinese car: it looks like a Japanese or a European one, but how it will behave on the road is a problem for its owner.

We do not know what colouring materials are used for such slabs.  And what if your baby runs barefoot on it - will it impact upon its health?

It is necessary to change customers’ attitudes. If slabs were not bought from such producers, there would be no problem with grey businesses to worry about. But such producers make profit from the technical illiteracy of their customers.  

The issue of the introduction of the notion of a counterfeit product in industry is being discussed on a governmental level, because such products represent the sheer deception of customers. Besides, the introduction of compulsory certification of all construction materials like cement is being discussed.

Off-the-books construction industry to be brought into the light - is it for real? 

Don’t start a revolution

It is clear that in the present condition of the Russian economy, millions of workers who will start paying taxes in case of their being ‘unshadowed’ could become a significant source of state budget taxes.

As Bloomberg reports, referring to two participants in the recent council on strategic development and priority projects, a non-public session in which ministers, governors, and councilors took part, the President charged them with working out a way to ‘unshadow’ off-the-books business and with motivating its participants to legalize their activity.

Improvements to conditions for businesses is being focused upon. It is not by chance that Svetlana Orlova, the Vladimir region’s governor, complained to Putin about, as she put it, law enforcement and revenue bodies’ tyranny over small business.

However, the “garage” economy should be treated very carefully, as all these off-the-books workers have mouths to feed and bills to pay. According to the officials who took part in the discussion, one of the most popular ideas for unshadowing businesses is to reduce income tax, as proposed by the RF Ministry of Finance.

If the reduction of social duty is accompanied by a growth of value-added tax, these measures will allow the authorities to gather about 30% of the total volume of salaries paid in envelopes, which, according to the financial ministry, makes up 2 trn roubles of lost taxes.   

In autumn, the government is going to adopt a law releasing some categories of self-employed workers from all taxes, excluding social duties.

— We understand that only the revenue service can unshadow them. The documentation process is being automated and financial discipline is growing, so in a couple of years it will be very difficult to dodge taxes, — Igor Shuvalov, First Vice-Premier, thinks.

Well, we’ll see what another campaign of unshadowing will bring.  

Off-the-books construction industry to be brought into the light - is it for real? 

The shady economy’s scale

According to the Russian Federal State Statistics Service (Rosstat) the volume of the off-the-books economy is about 15—18% of GDP, and is growing.

Specialists from the Higher School of Economics think that in the crisis the share of the informal sector may grow to be 20—22% of GDP, which may be compared with Greece. (see table).

Taking into account that Rosstat does not include the criminal economy in their assessments (the drug business, the illegal arms trade, prostitution, racketeering, etc), the real share of the illegal economy in Russia is estimated as being as much as 40—50% of GDP,  Christof Rühl, Chief Economist of the WB Russian Department, and a number of other experts, think.

Speaking about whole continents, according to the evaluation of the specialists from the Financial University under the Government of the Russian Federation, the scale of the off-the-books economy in Europe in 2015 was 6,5—22,4% of GDP, in the USA 5,9%, in the countries of Latin America 40%, and in Ukraine 47% of GDP.

The main shady industries are trade, construction, personal services and agriculture, the Director of the Labour Research Center of the Higher School of Economics, Vladimir Gimpelson, thinks. And the Head of the HSE Conjuncture Research Center, Georgy Ostapkovich, in his interview with our journal called construction the main shady industry of the Russian economy

According to the specialists of the HSE, the number of those employed in the shadow economy totaled 17—18m people by February 2015 and is increasing by 1.5—2m people annually.

Social research carried out in more than 20 regions of the Russian Federation shows that almost 12% of Russian citizens work on the shady market. Taking into account those who receiveenvelope wages’ at their official job, off-the-books employment may constitute 40% of the economically active population of Russia Andrei Pokida, senior research assistant at the center for social and political monitoring of RANEPA, thinks. In 2016, black salaries will only grow and off-the-books employment will increase, he is sure.

According to Alexei Kudrin, tax growth is inevitable in the near future. It is not clear yet which industry will suffer additional tax assessment. But anyway, in some businesses another 5—10% of workers will leave for shadowy work.

Off-the-books construction industry to be brought into the light - is it for real? 

Notes from underground

What do market participants think? According to Gennady Khomutov, a businessman from Nizhny Novgorod, it is impossible to exterminate off-the-books business, “unless it is done so that business paid a minimal sum of money to the state and was left alone. Licenses or patents might be introduced”.

Such a possibility is being discussed. But it is not easy: patents alone will not bring trillions back into the state purse. Business should be developed and taken care after. Systemic measures in changing the economy are needed.

Why is the share of the off-the-books economy so high in Russia?

One of the main reasons for the growth of the Russian shadow economy is “incomplete liberalization”. In essence, this is the insufficient implementation of a number of economic liberties, such as competitiveness, price forming, etc.  

Among other factors influencing the development of the off-the-books economy, analysts mention legislation imperfection, corruption, high taxes, restructuring of the economic spheres, insecure property rights, low standards of living, weak work by law enforcement agencies, etc.

Also, the great number of sanctions introduced lately against the Russian economy have added to the shadow economy. The reduction of the number of small businesses also contributes to the growth of the shady sector. As RBC says, 600,000 individual entrepreneurs have ceased their work for the last two years all over the country (according to Rosstat, in 2013, there were 5.4 m self-employed entrepreneurs in Russia). And 250,000—300,000 of them may ‘unregister’ if the strict fiscal policy remains in place, HSE’s specialists forecast.  

These concerns are supported by the 500 companies’ poll results, according to the poll carried out by the “Opora Rossii” organization. “According to our data,” the Head of the centre for expert assessment and problem analysis of entrepreneurship of the organization, Ivan Efremenkov, reported “28% of small and medium-sized companies have already reduced their staff and their salaries because of the crisis”.

Last but not least, the off-the-books economy sector is growing because of the low level of credit to the state.

— What can we see? First, grey business is legalized by some officials by bribery, then other officials stop it, as is now occurring with kiosks in Moscow, says Mikhail Khazin, a famous economist.

Off-the-books construction industry to be brought into the light - is it for real?

Philosophy of nonparticipation

The point of view of those who consciously work outside out of the existing economic system was expressed by a 36-year-old man, Alexander by name, who left a military career in the Far East and moved to the Moscow region. He deals with tile laying and working in the shade is profitable for him.

He worked at a factory for 5 years with a salary of 30,000 roubles. Now his income, though unstable, is from 80,000 to 150,000 roubles. He works without advertising; customers find him by word-of-mouth. Nevertheless, he is booked up for months ahead.

This former officer does not find the system attractive, and until there are millions of people like Alexander, officials will have no success with their ideas.

 

Level of off-the-books economy of different countries with regard to GDP in 2015 (%)

Source: Financial University under the Government of the Russian Federation

 

 

Georgy Ostapkovich: It is impossible to count the total losses from the shadow economy

— Rosstat evaluates the off-the-books economy at as much as 15—18%. Russian GDP is 80 trn roubles a year. This means that at least 12 trn roubles in monetary terms are generated in the informal sector including production and various services.

Subtract compulsory taxes paid even by informal workers and export from these 12 trn roubles, and we get 10trn roubles. But this cannot be called direct losses: people who earned this money in the informal sphere, tax-free, repay this money back into the legal economy via their customers’ demand. They buy cars, flats, food, clothes, pay for their parents’ treatment and for their children’s education, go to the cinema and play sports…So they return the money to the Russian economy.

Off-the-books construction industry to be brought into the light - is it for real?

So, it is a very complicated economic process. And with our “wonderful” business climate, business has been forced into the shade, so let them work until the economy becomes steady. If these people are oppressed now, no good will come of it, only an economic fall.

And besides, one cannot measure everything in monetary terms. One and the same factor may represent, on the one hand, losses for the state, and on the other hand, an increase in the quality of life.

 

Andrei CHERNAKOV

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