Facing budget gap, Russia seeks foreign capital

Last Updated 26 January 2011, 16:08 IST
Facing budget gap, Russia seeks foreign capital

A few years ago, Vladimir V Putin, as president, compared the energy riches of Siberia to a piece of candy held tightly by Russia, as if in a ‘sweaty fist.’ However much investors might want it, it was off limits.

Yet just last month, Putin, now prime minister, said Russian officials “understand that we need foreign investment.” And if the current president, Dmitry A Medvedev, continues with his plan to attend the World Economic Forum in Davos, Switzerland, this week — despite Monday’s airport bombing in Moscow — he, too, will be trying to attract foreign capital.

What has changed, to turn the sweaty fist into the open hand? Simply put, Russia needs the money.

Windfall profits from oil exports, which Russia had salted away before the global recession to cover deficit spending, are about to run out. In fact, that portion of Russia’s sovereign wealth fund, the Reserve Fund, is down to $26 billion — not enough to cover even half of the projected 2011 budget deficit.

Thus, for the first time since the financial crisis of 1998, Russia will be compelled this year to turn to international banks and pension funds in the United States and Europe to maintain financing for everything from modernising the military to paying high public sector wages.

The government is also lining up a fresh batch of asset sales. It has retained Bank of America Merrill Lynch as an adviser for the planned sale of a stake in the state bank VTB.

Shares in oil companies, hydroelectric dams and shipping lines will also go on the market.

With so much state property scheduled for privatisation, Goldman Sachs reinforced its Moscow office this month by moving the chief of investment banking in France, Jean Raby, to Russia. Raby will be co-director, along with Christopher Barter.

Russian officials all the way up to the Kremlin are clearly trying to entice other foreign investors as well. Medvedev had been scheduled to deliver the keynote speech on Wednesday night at the Davos forum. But after the bomb attack on Monday at Moscow’s busiest airport, the Kremlin said that Medvedev had delayed his departure. There was no immediate word on when, or if, he might reschedule.

But Russia’s pressing need to raise cash will remain.

To make up its budget shortfalls, the government plans to issue $50 billion worth of ruble-denominated bonds and privatise $10 billion in state assets every year until at least 2014.

Medvedev had been planning to spend two days at Davos, seeking to charm chief executives from Deutsche Bank, Novartis, Siemens, PepsiCo, Boeing and others at a private reception and in public panel discussions.

“The main signal that Medvedev will give is that Russia is open for investment,” his chief economic adviser, Arkady V Dvorkovich, said.

Dvorkovich said the Russian president would also be going to gauge the chief executives’ interest in Russian assets to decide which state companies should go up for sale first.
Potentially on the block along with VTB are stakes in Rosneft, the state-owned oil company; RusHydro, the national hydroelectric utility, and Sovcomflot, a fleet of state-owned merchant ships.

Russian domestic banks, which are still relatively flush, will most likely buy about three-quarters of the newly issued government debt, said Ivan Tchakarov, the chief economist at Bank of America Merrill Lynch in Moscow. But the Kremlin will depend on foreign  investors to buy the rest.

“We are entering an entirely different ball game,” Tchakarov said. “They want to open up to foreigners.”

Foreign debt

Not since an oil price slump in the mid-1980s dented Soviet finances have officials in Moscow committed to such extensive fundraising. The 1980s borrowing led to foreign debt of more than $100 billion.

A big challenge will be overcoming multinational companies’ wariness of Russia. This month, the British political risk consulting firm Maplecroft ranked Russia 186th out of 196 countries for political risk to business — worse than Pakistan. India and China fared much better, ranked 26th and 62nd.

Meanwhile, the corruption perception index compiled by Transparency International ranked Russia as the world’s most corrupt major economy in 2010 — near the bottom of the overall list, at 154 of 178 countries, tied with Tajikistan and Kenya.

To make Russia look more appealing to foreign investors, a reform-oriented wing in the government has streamlined a host of rules. Russia lowered its capital gains tax, for example, while the main stock exchange, the Micex, eliminated a requirement that nonresidents trade through local brokers.

In 2010, after years of foot-dragging, Russian negotiators resolved sticking points on entry into the World Trade Organisation. By October, Lawrence H Summers, then director of the National Economic Council in the US, said Russia had made such progress that it appeared ready to join the trade group within a year.

And in September, Medvedev trimmed the list of so-called strategic assets that were off-limits to foreigners — the large oil and metals deposits clenched in the ‘sweaty fist’ — to about 50 sites, down from more than 200.

But problems remain. Dvorkovich, Medvedev’s economic adviser, acknowledged that the criminal conviction of the former oil company owner Mikhail B Khodorkovsky last month had harmed Russia’s ability to attract foreign investment and that the case would surely come up at Davos.

It was an unusually frank statement for a senior official. “'I think that a significant part of the international community will have serious questions, and the assessment of the risks of working in Russia will increase,” Dvorkovich said.

Once Russia’s richest man, Khodorkovsky had angered Putin by taking part in politics and by negotiating to sell a portion of his oil company, Yukos, to Exxon Mobil without the Kremlin’s blessing.

After the second conviction, handed down last month as the police were clubbing protesters on a street outside the courtroom, Khodorkovsky will remain behind bars until 2017.

Still, the Russian government’s warming attitude toward foreign business executives was on display this month in the latest twist for the assets of Khodorkosvky’s company.

Yukos was bankrupted and sold off, largely to Rosneft, which this month struck a partnership agreement with BP. The two companies have agreed to swap shares and jointly search for oil off Russia’s northern coast.

Encouraged by the implication that the pendulum was again swinging toward openness, investors shifted $742 million into Russian-dedicated funds in the week after the Rosneft-BP agreement.

That was three times more than the $196 million in the previous week, and the largest jump in Russian portfolio investment ever recorded, according to EPFR Global, a research firm in Cambridge, that tracks fund flows around the world.

(Published 26 January 2011, 16:08 IST)

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