Strong domestic demand will help Russia sustain robust economic growth in 2003, but high oil-driven capital inflows are likely to fan inflation more than officials had hoped, the OECD said Thursday.

"Investment, mainly in oil and utilities, has recently picked up, and private consumption will continue to be strong due to a further rise in disposable income," the Organization for Economic Cooperation and Development said.

According to the OECD's twice-yearly economic forecast, gross domestic product is expected to grow 5 percent this year after 4.3 percent in 2002.

The OECD appeared to be more upbeat on Russian economic growth this year than the International Monetary Fund and the European Bank for Reconstruction and Development, which have forecast a 4 and 4.5 percent rise for 2003, respectively.

The OECD noted that inflation declined gradually to 15.1 percent in 2002, supported by the real appreciation of the ruble against the dollar and was likely to ease to 14 percent this year, but officials had sought a steeper decline.

"Given underlying inflationary pressures and high oil-driven capital inflows, achieving the 2003 inflation target of 10 to 12 percent without damaging the competitiveness of the Russian economy will be challenging," it said.

High global crude and commodities prices as well as rising investment have flooded Russia with oil dollars, boosting the value of the ruble, whose strength is increasingly blamed for hurting the competitiveness of local producers.

The Central Bank has tried to absorb extra oil dollars into its own reserves, but it has to print more rubles, further adding to inflationary pressure.

The OECD said that further expansion in oil production and planned investments in utilities were likely to help Russia sustain growth beyond 2003, but warned it that the unbalanced nature of the economy might pose a medium -to long-term threat.

"Growth in the oil sector and a further shift away from more complex and less competitive manufactured goods into commodities and basic manufacturers should contribute to increase overall productivity levels," it said.

"These developments may, however, increase the vulnerability of the Russian economy to external shocks, while rising wages and real exchange rate appreciation risk undermining growth in other industrial sectors."

To offset these risks, Russia has to accelerate structural reforms, particularly in taxation and banking, to reallocate resources to more dynamic sectors, the report added.

(The Moscow Times 25.iv.03)