Foreign direct investment (FDI) has skyrocketed in Russia. In 2007, Russia collected some USD 50 billion in foreign direct investment. Ten years earlier the annual FDI inflow was below USD five billion. Due to the high FDI inflows in recent years, Russia’s FDI inward stock exceeds USD 200 billion. With the aforementioned sum, Russia is the 17th largest FDI recipient in the world. In a couple of years, Russia’s FDI stock may surpass those of Australia, Brazil, Italy, Mexico, Singapore, Sweden, and Switzerland, and hence, lift Russia to among the top 10 FDI recipients around the globe.
Today, Russia occupies some 1.65 percent of the globe’s FDI inward stock. In the year 2000, this share was just 0.55 percent. Despite the notable FDI growth, clouds have rapidly begun to gather above Russia’s investment firmament. The first sign of an approaching storm is the slowing down of FDI inflow. The net FDI inflow was only USD 12 billion in the first half of this year. The government’s retroactive attitude towards the production-sharing agreements (PSAs) concluded in the 1990’s, the Yukos and Russneft cases, the TNK-BP, Vimpelcom and Norilsk Nickel owner disputes, and the recent Mechel incident are notorious examples which do not build trust among foreign investors towards property rights in Russia.
Skyrocketing foreign direct investment to Russia does not necessarily mean that the country has received much more foreign capital. This paradox stems from the fact that round-tripping represents an enormous part of Russia’s FDI stock. The extremely large share of Cyprus and the Netherlands of Russian FDI stock (two-thirds) is a clear indication of this round-tripping. To put it differently, Russian business tycoons are most probably the largest foreign investors in Russia.
According to the OECD, mining and quarrying represented 49 percent of the FDI inflow in 2007. I cannot name real foreign companies, which have conducted FDI worth USD 25 billion in the aforementioned sector last year. In order to improve the transparency of FDI-related information in Russia, I would recommend that the Russian government publish the list of the 100 largest FDI investors. This is common practice in many other emerging economies, which aim at attracting real foreign capital.
The FDI law passed in May does not give clear rules for foreign investors. I interpret the law as a legislative basis, which aids Russia in conducting swap deals abroad, i.e. if a foreign country prevents Russian businesses entering into its market, Russia will not allow investment by the given country in Russia’s strategic sectors. In other words, the law helps Russia’s state in her international bargaining rather than offering a stable legislative foundation for foreign firms in Russia. The Russian government has recently established several state corporations, which distort or even destroy competition in the fields in which they operate. It is hardly beneficial for the Russian economy or Russian citizens to have less competition.
The World Economic Forum suggests that Russia ranks 58th in terms of her competitiveness among the 131 countries studied. It is not possible to become globally more competitive without real intensive competition in the domestic market. Russia is no exception. The state has not consolidated its power over key industries only by taking over the shares of the major corporations and by establishing new state corporations but it also has used managerial nationalism.
Prime Minister Vladimir Putin has referred to the importance of nominating a Russian citizen in key positions of the core firms. Managerial nationalism is hardly a remedy to improve the corporate governance and transparency of Russian firms. Without better governance and transparency, foreign portfolio investors will find less risky places for their capital elsewhere in the world than Russia. It is important to remember that the portfolio investment accounted for just six percent of Russia’s foreign investment inflow in 2007.
In July, a new law was passed. That it gives, without competition, offshore hydrocarbon fields to the state-controlled firms, namely Gazprom and Rosneft, is an alarming sign for the future path of the Russian economy. Despite the fact that the private sector share of the GDP has not decreased dramatically since the beginning of the millennium, in certain core industries the state has become far too dominant.
It should not be forgotten that the deviation of the economic reform is not only an economic issue but also may have serious political and societal complications in longer run. Even if the rule of law has improved at the lower levels of business, the Russian oligarchs remain more equal than others. The oligarchic system is a bigger risk for many foreign firms than corruption.
Even if the state has once again launched a campaign against corruption, it cannot win the fight, unless the people start to perceive corruption as immoral. Without influencing the values, attitudes and behaviour of common people, the fight against corruption will be comparable to shadowboxing, where the boxer becomes exhausted, finally knocking himself out.
To end, it is wise to remember that all change is not growth, as all movement is not forward. Abnormal bureaucratic hurdles faced by some foreign firms and espionage accusations towards certain foreign companies remind me of the end of the NEP era at the end of the 1920’s. Then the liberal NEP policy was ended and foreign firms were pushed out of the Soviet Russia by using various groundless accusations. Some unwanted foreign firms in the strategic sectors of contemporary Russia have faced almost the same accusations as their counterparts eight decades ago. Therefore, major foreign investors have become nervous and are wondering, what the new restrictions that foreigners will face in the future might be.
For the time being, strategic natural resources, security and defence-related industries, and strategic media have become restricted for foreigners by the law. However, more state intervention in agriculture and forestry, heavy industry, the chemical industry, the strategic innovation sector, the information society, and logistics is likely. Obviously, state intervention will be executed without amending the FDI law, and therefore, the discussion about the increase or decrease of the number of strategic industries in the FDI law is not fruitful.
This is to say that Russia’s strategic government policies are much broader than the law per se, implies. In addition, I would not be surprised to see more restrictions towards foreigners, which are based on growing nationalism, not on economic rationality or security considerations in Russia.