Daily Archives: July 25, 2008

July 25, 2008 — Contents


(1) EDITORIAL: An Economy Built on Sand

(2) Inflation Continues to Brutalize Putin’s Russia

(3) Economic Storm Clouds over Russia

(4) Latynina on the Arctic Gambit

(5) Nashi in the Wilderness

(6) Annals of Foreign Investors: Another One Bites the Dust

EDITORIAL: An Economy Built on Sand


An Economy Built on Sand

As you can see from the chart above, over the past four weeks the Russian stock market has lost 12.5% of its value.

For anyone with a lick of sense, this news is truly jolting. Since Russia is benefiting from the stratospheric increases in the prices of oil, the stock market’s performance betrays a fundamental weakness in the foundations of the economy itself.

Writing in the Moscow Times James Beadle, a portfolio manager for Pilgrim Asset Management, wrote in column entitled “Russia’s economy is stalling” that the government’s economic growth data for June fell far below the market’s expectations and noted that “initial public offerings have slowed substantially and May industrial production data were also weaker, as they showed manufacturing growth of less than 1 percent over the year. Cooling growth dynamics point to a possible shift in confidence.” He concluded: “June’s economic data caught the market by surprise and serve to remind that the path ahead is less clear. With the benefit of hindsight, the sharp declines in these economic parameters, which constitute some of Russia’s key economic drivers, are not surprising. It has long been recognized that President Dmitry Medvedev faces far greater development challenges than his predecessor ever did. Even if the global backdrop remains benign, the country faces economic constraints that cannot be resolved with easy money.”

Beadle makes money by convincing folks to invest in Russia’s markets. When somebody like that is ringing the warning bell, you know things are pretty dire indeed. And below we offer two more devastating nails in Russia’s economic coffin. But the Russian people go blithely on, telling a naked Mr. Putin he’s wearing a cloak of mink, fit for a king, just as in Soviet times.

MT Columnist Boris Kagarlitsky put it bluntly: “We are being told that Russian capitalism is self-sufficient, invincible and unique, not unlike Josef Stalin’s view of his socialist society. It is not entirely clear why our government and business leaders so zealously tried to open Russia’s markets and to pull us into the global economy if we now intend to lead some kind of solitary existence, isolated economically from whatever happens to the rest of the world. The main question is: What will we do when the global economic system collapses?”

Kagarlitsky is right on target, but he’s wrong about the main question, and his own text betrays this. The question isn’t what will Russia do, but why isn’t Russia asking that question. Why isn’t anyone challenging the Putin government given all this disturbing reality? Could it be that they are afraid to do so, just as many were afraid to confront Stalin, leaving the nation on an essentially rudderless course to destruction?

Inflation Continues to Brutalize Putin’s Russia

Interfax reports that inflation continues to brutalize Russia far more dramatically than Europe. And remember, this is just the Kremlin’s data. The true picture is likely far more bleak than even these appalling numbers indicate.

Inflation on food prices in Russia was almost four times higher than in the EU countries in the first half of 2008, the Federal State Statistics Service (Rosstat) said on Tuesday.

Food prices in Russia grew 1.1% in June (and 12.9% in the first half) compared to 0.3% (3.5%) on average in the EU countries.

The biggest jumps in food prices among EU countries in June were seen in the UK at 2.4%, Portugal – 1.6% and Latvia – 1.4%. Food prices dropped in a number of EU countries in June, mainly due to seasonal declines in fruit and vegetable prices. Food prices were down 3.1% in Bulgaria, 2.1% in Greece, 2.0% in Cyprus and 1.2% in Finland.

In the January-June period, the biggest EU food price increases were posted in Latvia (up 9.6%), Lithuania (8.4%), Finland, Hungary, Estonia, Slovakia, and the UK (up 6.3%-6.9%). The smallest increases were in Malta (up 0.7%), Austria (1.1%) and Greece (1.3%).

Oil and fat prices saw the biggest increase in the EU in June, rising 1%, while prices on meat and meat products rose 0.9% and the cost of fish and seafood grew by 0.8%. Baked goods and cereals grew 0.7% in price.

The cost of baked goods and cereals grew the most in Russia in June 2008 (2.4%). The cost of meat and meat products rose 2.1%, while butter and fat prices rose 1.6%. The cost of vegetables, sugar, jam, honey, chocolate and confectionaries rose 1.4% in June, while the cost of dairy products, cheese and eggs fell 2% and fruit prices dropped 0.8%.

In the EU, fruit prices saw the biggest increase in the half, growing 8.4%. The cost of baked goods and cereals rose by an average of 4.6% in the half, while butter and fat prices grew 4.2%.

Vegetables prices soared 53.5% in Russia in the first half of 2008, baked goods and cereals – 18%, butter and fats – 16.1% and fruit – 13.2%.

Economic Stormclouds over Russia

The International Herald Tribune reports:

Fears are growing that Russia’s oil and gas fueled economy is running too hot — and about to boil over in the kind of mess that has scalded smaller East European neighbors.

Some of the most vehement warnings have been coming from the normally bland Finance Minister Alexei Kudrin, who saysgross domestic product is growing too fast and any ill-conceived stimulus measures such proposed tax cuts will lead to intolerable inflation and a sudden stall in growth.

Kudrin startled audience at a recent tax conference when he compared the issue to nuclear war. Cut taxes, Kudrin warned, and Russia won’t maintain its thousands of atomic warheads. “The 33 percent share of the budget spent on defense and security is our guarantee that there won’t be a nuclear war,” the minister said.

His opponents, including Economic Development Minister Elvira Nabiullina, are clamoring for the sharp tax cut to wean Russia off its addiction to imports, which are growing at an annual rate of over 40 percent.

The government is walking a tightrope. With all the government and private sector spending, inflation is reeling out of control — food prices are soaring at an annual rate of 25 percent — and threatens to submerge hundreds of thousands of people below the poverty line.

Dollars are flooding in thanks to record-high oil prices, and the country’s rising middle class is on an unprecedented spending binge thanks to accessible bank loans. The government, in the meantime, is hustling to modernize exhausted infrastructure, pumping up the economy even more.

Kudrin’s sensationalist remark about Russia’s nukes comes at a time when the nation’s economy is bucking recessionary trends around the globe. GDP growth, fueled by the rising price of Russia’s mainstays, natural gas and oil, was 8.1 percent last year and 8.7 percent year-on-year in the first quarter of 2008.

“Russia’s economy is overheated at the moment,” said Eric Berglof, chief economist at the European Bank for Reconstruction and Development. “The growth rate is too high — two to three percentage points above potential.”

An economy overheats when its capacity to produce cannot keep up with rising demand. A World Bank report issued in June lists seven signs — ranging from infrastructure constraints to accelerating property prices.

“The government has failed to address bottlenecks in the economy, to implement necessary infrastructure projects that would improve the power system, railroads, agriculture, or alleviate the traffic jams in Moscow,” Berglof said.

But if the government throws too much money at resolving these problems, the risk is that the cash injection will only further fuel inflation, economists say.

During the waning months of his presidency last year, Vladimir Putin approved a number of big projects as part of a pre-election spending spree. As a result, state spending jumped 37 percent last year, and 70 percent in the fourth quarter alone. Putin’s favored candidate, Dmitry Medvedev, was elected president and Putin is now Prime Minister.

Russia’s consumer price index has climbed 9.1 percent from the start of the year to July 14, according to the state statistics agency — three percentage points higher than in the same period last year and outpacing the Central Bank’s forecast of 10.5 percent for 2008. On an annual basis, prices soared above 15 percent.

As prices rise, workers demand higher pay, creating an inflationary spiral. And as food prices rise, poorer people spend more on necessities. FBK International, a consultancy, has forecast that the number of Russians living in poverty could increase this year for the first time since 2000 — by 1.1 million people to a total 20 million.

“Inflation needs to be cooled down sooner rather than later. If it is not dealt with early, the consequence will be … a greater fall in the growth rate, as we see in Estonia and Latvia right now,” said Anders Aslund, senior fellow at the Peterson Institute for International Economics in Washington, referring to the two Baltic states whose economies overheated and are now seeing a sharp decline in growth.

Tax-cut supporters insist that reducing the value-added tax from 18 to 12 percent will provide manufacturers the necessary respite to rejuvenate output. Also, by jump-starting manufacturing and small and medium businesses, tax-cut advocates also hope to diversify the economy, which is highly dependent on oil and gas.

Not so, countered Kudrin. The VAT accounts for one-third of federal budget revenues. Cutting it will not help economic restructuring, as badly as Russia needs it.

Concerns over Russia’s economy coincide with the approaching 10th anniversary of the 1998 financial crisis, when the country defaulted on domestic debt and devalued the currency, causing a shock wave on international markets. Millions of Russians lost their savings.

Economists stress there is no chance of a repeat crisis. Russia has wisely used the oil windfall to tuck away hundreds of billions of dollars in strategic reserves and sovereign wealth funds — “rainy day” funds that it can use as a buffer against any short-term shock such as a precipitous drop in oil prices.

Latynina on the Arctic Gambit

Writing in the Moscow Times Yulia Latynina decries Russia’s malignant Arctic corruption:

The vast oil deposits located in what the Kremlin believes to be an extension of Russia’s continental shelf in the Arctic will be distributed solely at the government’s discretion, without holding the usual auctions or tenders. In a meeting on Friday with Deputy Prime Minister Igor Sechin, who oversees the energy sector, President Dmitry Medvedev explained the decision, saying, “This was done consciously to ensure rational use of this national wealth.”

Is he saying that only the imperialists allocate the rights to develop oil deposits through competitive auctions, whereas the Kremlin lets Sechin decide who gets what? Is Sechin the sole guarantor of Russia’s “rational use of its national wealth”?

Prior to this announcement, Russia had been trying for a year to prove that the Lomonosov ridge, on the bottom of the Arctic, is a logical extension of the Siberian plain. General Vladimir Shamanov even said in a June 24 interview in Krasnaya Zvezda, the country’s military newspaper, that the military is prepared to fight any country that disputes Russia’s rights to the continental shelf.

So we won’t hold a tender, but we are willing to go to war. Naval warships will repel the forces of any country that contests Sechin’s right to exploit the oil deposits on the continental shelf.

In January, when Prime Minister Viktor Zubkov told the then-prosecutor general to find out what is going on with country’s drilling activities in the Arctic, it was discovered that the country’s only functioning Arctic drilling rigs, the Murmansk and the Valentin Shashin, had been rented out to a Norwegian drilling company at one-fourth of the market price. What a great example of the country’s “rational use of its national wealth”!

Things are no better with the military. During Soviet times, the country’s nuclear submarines patrolled the Arctic region. Strategically, it was the most favorable location from which Moscow could launch a possible nuclear strike against the United States; a missile launch from the Arctic would have the shortest possible flight time to U.S. territory.

Maintaining a military presence in the Arctic, however, requires a complex and very expensive infrastructure, including a sophisticated communications system that can function reliably despite severe magnetic interference, and the ability to accurately predict bad weather conditions.

But the Soviet Union had all that. My colleague and specialist on the Russian military, Alexander Golts, once pointed out to me that, “If anybody thinks we were on [the Arctic island of] Spitsbergen solely to mine coal, they should take a look at the weather station and landing strip there.” But since it was impossible to rent out our Spitsbergen assets for one-fourth of their market value to maximize “the rational use of its national wealth,” the whole installation fell into disrepair.

It is, therefore, unclear what military resources Shamanov will have at his disposal to defend Sechin’s claims to the rich Arctic natural resources.

The most interesting part of this story is that, although there might really be large oil and gas reserves under the Arctic, Russia, unfortunately, is unable to mine those deposits without the help of foreign expertise and equipment. We can’t even tap the huge Shtokman gas field in the Barents Sea by ourselves.

But it is hard to imagine Russia entering joint Arctic exploration and development projects with foreign companies when our leaders are constantly shaking our fists at them and sending the country’s nuclear submarines to patrol the Arctic waters.

Or perhaps the Kremlin is planning to pour a couple billion dollars into the creation of an exotic new Russian hybrid — half-nuclear sub and half-underwater drilling platform. Not a bad idea at all! And I have got a perfect name for this one-of-a-kind vessel — “The Igor Sechin.” On its side we could write: “For the optimal use of Russia’s natural resources.”

Nashi, in the Wilderness

The Times of London reports:

It should have been a celebration of their success in defending Vladimir Putin’s Russia from a democratic revolution. Instead, the annual summer camp of the youth movement Nashi (Ours) seems a listless affair. The ideologues behind it admit that Nashi has run out of steam now that Dmitri Medvedev is in the Kremlin as Mr Putin’s handpicked successor. The face of Mr Putin, now Prime Minister, still hangs from banners spread across the campsite, on the shores of Lake Seliger, 300 miles (480km) north of Moscow. Mr Medvedev is virtually invisible.

Even the anti-Western propaganda seems half-hearted compared with previous outpourings of hate against opposition leaders such as Mikhail Kasyanov, a former Prime Minister, and Garry Kasparov, the former chess champion. Nashi’s principal “enemy” this time is a pig named after Toomas Hendrik Ilves, the President of Estonia. An Estonian tricolour flies over his sty in protest at the removal of a Red Army monument in the capital, Tallinn.

Fewer than 5,000 activists are at the two-week camp, half the number last time, as organisers struggle to find a purpose now that the presidential election is over. Street protest has given way to support for Russian economic development under the “Putin plan” to 2020.

Patriotism remains a constant theme, particularly the need to produce children for the Motherland. Igor Shuvalov, the First Deputy Prime Minister, toured the camp in a T-shirt with the slogan “Home, wife, children. I love my family”. Yuliya and Vitali Shuvayev were among 15 Nashi couples who demonstrated their devotion to the cause in a mass wedding. They spent their honeymoon in a group of tents formed in a heart shape under a banner proclaiming: “This is the miracle of Seliger.”

“Nashi means patriotism for us. That’s why we wanted to get married here,” Yuliya, 22, said. “We want three children because the first two are for the parents and the third is for growth of the country.”

Nashi has now splintered into different branches that support causes ranging from the Orthodox Church to business innovation. Some of its more muscular traditions remain. One section, Stal, organises street protests, while another trains young men to form street patrols with the police. The movement revives a Soviet-era tradition of volunteer druzhniki to maintain order. “A lot of young people have nothing to do and just watch TV, so we tell them that if they want to help the country then here’s their chance,” Roman Verbitsky, the Stal leader, said. Mr Shuvalov laughed as he passed a derelict shed symbolising Mr Kasparov’s movement, The Other Russia, which was hounded by riot police during anti-Putin demonstrations before the elections.

Nashi was founded in 2005 as a response to the pro-democracy Orange Revolution that had swept Ukraine and the Rose Revolution in Georgia. Sergei Markov, a United Russia MP and a key Nashi ideologist, admitted that the movement had “lost its mission”. He told The Times: “The mission was to prevent an Orange Revolution.” Asked whether Nashi had any place when the Kremlin under President Medvedev was attempting to present a more liberal face to the West, Dr Markov replied: “Nashi is part of pop culture now and they are fans of Putin. Medvedev for them is a bureaucrat, while Putin is a hero.”

The AFP has more:

Military training, satirical shows and US-style business seminars were among the strange mix of activities on offer at this year’s summer camp for Nashi — the Kremlin’s youth movement. With political power in Russia now firmly in the hands of President Dmitry Medvedev and his mentor, Prime Minister Vladimir Putin, it seems that the massive group set up to counter any popular dissent has lost its focus. As the movement searches for a new purpose in Medvedev’s Russia, its activists say one solution could be to concentrate on beating the West at its own game by making the most of the country’s oil-fueled economic boom.

“Medvedev unfortunately doesn’t have the same attitude towards Nashi as Putin,” a senior member of the movement told AFP during a visit this month to the camp near Lake Seliger, 400 kilometres (250 miles) northeast of Moscow. “But it would be dangerous to let these young people go now. They could join the opposition,” said the Nashi member, who spoke on condition of anonymity, noting that there were three times fewer activists this year than last year. “The authorities have lost their interest in Nashi,” read a report on the Gazeta.ru news website. Nashi leader Nikita Borovikov was quoted in the report as saying: “The movement changes in line with the country’s agenda.”

Reflecting Kremlin thinking, events at the camp included a wedding of 20 couples who were then told to go and procreate to solve Russia’s demographic crisis, and the founding of an Orthodox group against Kosovo’s independence. Nashi, which translates as “Our People” [LR: No, it doesn’t. It translates as “us Slavic Russians”], was set up by Kremlin officials under Putin in 2005 immediately after Ukraine’s Orange Revolution, where youth activism proved decisive in toppling the country’s pro-Moscow government. They have held large-scale demonstrations as a show of force against Russia’s beleaguered opposition and have launched stinging campaigns against Kremlin critics, as well as trying to spread a Putin personality cult.

But this year, Nashi members said they wanted to focus on career prospects. “We have selected 340 students from 25 regions. Experts work with them to help them join the elites,” said Yelena Berezhnikova, head of one of the movement’s subgroups called “Personnel for Modernisation of the Country”. The library at the camp contained economic manuals, a biography of former US president Bill Clinton and a book by US management guru Tom Peters. One of the lectures on offer was entitled: “How to overcome US hegemony.”

But while some Nashi activists charted out stellar careers to serve Russia’s national interests, others were busy mocking Russia critics or undergoing military training to fight against the anti-Kremlin opposition. Activists organised a show at the camp in which a character covered in dollars representing the United States walked around with a pig on a leash. The pig was named after Estonian President Toomas Hendrik Ilves.

Relations between Estonia and Russia are testy as Kremlin officials say the Baltic country discriminates against its large ethnic-Russian minority. One of the Nashi slogans for the show read: “If you lose control, you get fucked!” For more direct action, the movement even showed off a military wing that trains reformed alcoholics and drug addicts and turns them into street fighters who patrol cities alongside Russian police to clamp down on “disorder.” The peaceful transition of power from Putin to his ally Medvedev is paraded by the Nashi as a victory. But Matvei Matyushin, one of the group’s leaders, said: “It seems that everything’s okay but we have to remain vigilant.”

Another one Bites the Dust

So Russia has ejected yet another foreign company from its soil, appropriating its assets and stabbing it in the back. How many more such incidents must occur before greed-blinded Westerners realize that they have no future in Russia? Does Russia need to starting chucking a few CEOs into concentration camps before this happens? If so, hopefully that will soon begin to occur. The Telegraph reports:

BP’s battle to stay in oil-rich Russia has been dealt a major blow after the UK company was forced to withdraw its last engineers and technical staff from the country.

After months of pressure the company bowed to the inevitable yesterday and withdrew the remaining 60 staff it had assigned to work at TNK-BP, the joint venture at the centre of a power struggle between BP and three Russian oligarchs.

The withdrawal marks a further slip in BP’s grip on Russia’s third largest oil producer, which accounts for 25pc of the UK company’s annual production and last year made profits of $5bn on sales of $38bn.

Next week, Robert Dudley, chief executive of TNK-BP and a former employee of BP, may be forced to leave Russia in a row over his work permit, putting BP’s partners in de facto control of the joint venture.

In all, 148 BP secondees to TNK-BP have been forced to leave following a dispute over the renewal of visas that started in March.

The Moscow immigration office eventually approved the visas, but the employees were barred from TNK-BP’s Moscow offices by security guards.

Then, in May, a previously unknown investment company, Tetlis, got an injunction in Tuymen, Siberia, blocking the visas, claiming that the BP staff enjoyed inflated salaries.

The Daily Telegraph tried to contact Tetlis, but a Moscow address listed on court documents housed a chemist shop and a grocers. A second address, registered with the authorities in Moscow, was a children’s nursery.

Yesterday, BP said that the Tuymen court case had made little progress and there was no point having valuable employees idle in Russia when they could be redeployed on other business in the Middle East and Gulf of Mexico.

“We are taking this action reluctantly,” Lamar Mckay, BP’s executive vice-president, said. “These technical experts have played a huge part in making TNK-BP one of Russia’s most successful oil companies in the past few years.”

Analysts said losing the BP specialists would probably start to impact on TNK-BP’s operations by the end of the year. “These people work on projects with long lead times. The impact will start to be felt in a few months.”

However, Stan Polovets, chief executive of Alfa-Access-Renova (AAR), the consortium representing the Russian investors, welcomed BP’s decision.

He said: “We respect BP’s decision and are confident it will not have an adverse impact on TNK-BP’s operations. The BP secondees have not been working for TNK-BP for many months now, and the company’s operations have not been hampered in any way. In fact, production has been up for the past three quarters, as our colleagues from BP have noted.”

In addition to the secondees, about 85 former BP employees, including Mr Dudley, are now directly employed by TNK-BP. All are facing problems with work permits and visas.

AAR claims that BP runs TNK-BP for its own benefit, rather than for all the shareholders, and has been campaigning for the removal of Mr Dudley. BP denies the claim.

AAR argues that he no longer has an employment contract, and therefore must leave Russia when his visa expires next week. BP says the contract is renewed automatically.