Russian President Vladimir Putin speaks during a press conference on the sidelines of the final day of the Belt and Road Forum in Beijing on April 27, 2019. Photo: Sergei Ilnitsky / AFP

Economic isolationism and massive financial reserves have cushioned Russia from much of the global Covid-19 fallout, but a return to pre-pandemic levels will not change the calculus of a stoic state of affairs.

The arrest last year of American investor Michael Calvey and spiking numbers of economic crimes have raised the risks of acquiring Russian assets, while a combination of low oil prices and expanding state capitalism might trigger greater distrust. This could be particularly alarming in light of Russia’s hope of boosting cooperation with Asian countries, and specifically China.  

During the past few years Russia has experienced an unusual dichotomy. Although the pre-pandemic growth trajectory looked bleak and suggested long-term stagnation, it likewise seemed surprisingly resilient on a macroeconomic level for a country being cut out of global financial markets by international sanctions and hit by declining oil revenues.

The government and the Central Bank of the Russian Federation also did quite well in managing inflation rates, while fiscal policies helped to increase tax revenues and maintain a massive financial cushion of more than US$550 billion. At the same time Russia has been witnessing a record outflow of capital during the past two years and, in the week after the collapse of the OPEC+ deal, investors removed an all-time record of $1.4 billion.

Russia is known for being a popular destination for speculators, but such behavior does not correlate with fiscal standing.

In March, President Vladimir Putin informed TASS news agency that the country’s “outflow of capital is insignificant.” His words, however, should be taken with a grain of salt. Last year, his former economic adviser Sergey Glazyev, known for challenging tight-money policies, claimed that around $1 trillion of capital had been pulled out of Russia since the fall of the USSR.

That number might not be precise, but more or less coincides with the 2015 research by University of California at Berkeley economist Gabriel Zucman, who revealed that 52% of Russia’s wealth resided abroad. Whereas capital outflow was almost two times smaller in 2019 than a year earlier and totaled $26.7 billion, by all the estimates even that volume is significant.

The major reason for the anomaly is, nonetheless, quite banal. On July 28, 2000, Putin famously summoned 21 oligarchs to the Kremlin and announced that they should no longer engage in politics and act against his interpretation of the national interests. The meeting marked the beginning of state capitalism in Russia and the quest to divide the economy among the so-called national champions, giant state-owned enterprises run by Putin’s affiliates.

Three years later, Mikhail Khodorkovsky, head of Yukos, a major oil and gas company, and the richest man of Russia at that time was arrested and sentenced to nine years in prison. His company was bankrupted and based on the court’s decision sold to Rosneft.

The demise of Yukos did not undermine Russia’s economic miracle. Until the financial crisis of 2008, average annual growth of GDP totaled 6.5% and helped Putin to secure political legitimacy and laurels as one of the most successful Russian rulers in history. Never before had Russians enjoyed such levels of wealth. The Yukos case, however, send clear signals to investors about the rise of state capitalism.

Concerns about lacking legal protection surged again after the Russian annexation of Crimea. After the first round of international sanctions, Russia witnessed a gradual increase in arrests under the pretexts of economic crimes.

In 2018, Russian courts charged more than 7,700 businessmen, 20% more than a year earlier and almost twice as many as in 2014. The lack of independence of the judicial authorities, combined with confusing and disproportionate red tape, supplied the security forces or siloviki with powerful and yet ambiguous legal arguments, which left businessmen with small chances to appeal.

The latest signs suggest that the siloviki increasingly act as tools in raider seizures.

In February 2019, the court ordered the arrest of Michael Calvey, a US citizen and founder of Baring Vostok, a major private equity fund in Russia, and several other executives. The decision caused shockwaves through the Russian business community and many foreign investors who were still betting on the country’s assets.

Discontent was heard even among some Russia’s business leaders who are traditionally cautious, such as the head of Russia’s sovereign wealth fund, Kirill Dmitriev, and the head of Sberbank, Herman Gref. The latter described Calvey as “one of the most transparent investors in Russia.” This, however, did not stop the court from ordering Baring Vostok to sell its stakes in Vostochny Bank to Artem Avetisyan, who is known for his connections in the highest echelons of power.  

The arrest of the country’s top foreign investor triggered an international backlash. In May last year, the then US ambassador to Russia, Jon Huntsman, announced a boycott of a flagship investor forum in St Petersburg that is traditionally attended by Putin. Although the event turned out to be quite successful and attracted thousands of participants, the arrest of the American investor was an elephant in the room.

Two months later, Putin and French President Emmanuel Macron held talks that allegedly influenced the court’s decision to release Baring Vostok executive Phillipe Delpal from custody and put him under house arrest. This, however, did not change the sweeping consensus among many foreign investors that nobody should feel safe when doing business in Russia, regardless of geopolitical posture.

Since the annexation of Crimea, Russia has nurtured high hopes about its so-called turn to the East. Bilateral trade with China grew from $69.6 billion in 2016 to $110.79 billion last year, with China emerging as Russia’s largest individual partner in both exports and imports.

Although the total investment of Chinese companies in Russia over those 11 years amounted to only $6 billion, a recent survey by EY showcased readiness to boost the portfolio. Lack of legal protection of investments, however, might challenge such hopes. Fear of losing a portfolio to raiders might outweigh both potential benefits and geopolitical motives.

Today, the path to post-pandemic recovery might further boost the Russian state’s grip over the economy, and this does not spell good news. Investors might feel vulnerable, while lack of impartial arbitration could elevate already high levels of toxicity of Russian assets and attract even more speculators of all stripes.

In 2010, Sergei Guriev, former chief economist at the European Bank for Reconstruction and Development (EBRD), predicted that lack of structural reforms and supporting enterprises with the help of banks could transform the Russian economy into the Soviet Union of the 1980s by the end of the decade. This has not happened so far, but as a recovery begins the Soviet model might look less distant than before.

The state’s share has been consistently growing during the past two decades and could receive an additional impetus. Although the most realistic current estimates of that share fall between 33% and 46%, the crisis might expand it, while the number of registered small and medium-sized enterprises could shrink by a third.

This means that Russia would probably be able to withstand serious socio-economic disruptions and retain most of its financial cushion, but long-term macroeconomic stability will solely rely on the well-being of a handful of major state-run corporations and accumulated reserves. One could not get too far with such an economic model at the disruptive age of digital transformation, and yet it will remain both stable and stagnant in the foreseeable future.

With no signs of possible judicial changes, the influence of the security forces on the economy will likewise very likely be commensurate with the growth of the state’s share of the economy.

This will probably further influence the already common narrative that despite the benefits, investing in Russia is a venture one undertakes at one’s own risk, with arrests or raider seizures being the possible ultimate price. Thus many Asian investors might think twice before committing to Russian assets. 

The author is a political analyst and independent journalist. He is a consultant on policy and strategy and has written about Russia’s foreign policy.

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