COMMENT: Western investors and the Kremlin Succession

By bne IntelliNews February 6, 2007

Ariel Cohen in Washington -

The triumphant presentation President Vladimir Putin delivered to journalists Thursday highlighted truly impressive achievements of his tenure.

He pointed out that Russia's close to 7% GDP growth in 2006 was based not only on high energy prices, but also domestic demand for consumer products and capital goods. Putin bragged – justifiably – that capital flight from Russia in 2006 was replaced by $10bn in portfolio investments inflows and $31bn in foreign direct investment.

This rosy picture, however, won’t distract foreign investors from understandable anxiety about how the post-Putin succession will affect their current and future assets and cash flows. Does it really matter who rules Russia? The answer is, yes it does.

Levels of Russia's openness varied widely in the Soviet times – from the New Economic Policy partial openness to Stalin's autarky. Since the collapse of communism, however, Russian elites have made a conscious effort to integrate their country into the global economy. Only then can they maximize value of Russia's immense natural resources – and hope that enough technology transfer and capital inflows will turn Russia from an emerging market into a developed economy.

It is no secret that three groups are currently competing for Putin's legacy.

The contenders

The first is led by Vice Premier Dmitry Medvedev, Putin's former chief of staff and a long-time friend and legal adviser. Medvedev, unlike many in today's Kremlin, is not a silovik – "man of power". Nor is he a KGB alumnus.

Medvedev's bid for succession is being coordinated by Alexander Voloshin, a politically savvy chief of staff for both former president Boris Yeltsin's as well as Putin in 1999-2003. Two Russian business giants – Gazprom and the RAO UES electricity monopoly, of which Voloshin is chairman - are Medvedev's key supporters.

It also helps that Medvedev's campaign is being bolstered by multi-billion-rouble "national programmes" in areas such as healthcare, education, housing and agriculture, which will tangibly put money in the pockets of teachers, nurses and other workers.

The Medvedev group is often portrayed in the media as most pro-Western, as many of its civilian members are well traveled, polished and often come in contact with Western business people and officials.

The second "official" contender is Defence Minister and Vice Premier Sergei Ivanov. He demonstrated his growing power when during the recent visit with Putin to India when he not only signed up the Indians to co-produce with Russia a fifth-generation fighter jet, but also announced that Indian companies could enter the Russian market to explore for oil – an area far removed from defence.

According to insiders' accounts, Ivanov, a former Soviet KGB foreign intelligence officer and a general in Russian foreign intelligence, is now supported by KGB General (Ret.) Vladimir Yakunin, president of the Russian railroads.

The Ivanov-Yakunin group can be characterized as pragmatically nationalist, suspicious of the West and having excellent connections with the Russian Orthodox Church.

Igor Sechin

The third group is headed by Igor Sechin, a long-time Putin confidante and deputy chief of Presidential Administration. Persistent Kremlin rumours have it that Sechin, chairman of the Rosneft oil company board, does not want Putin to leave his post, as this may threaten his own political – and business – survival. The Sechin group is rumoured to be the most nationalistic of the three.

The three contending groups may cultivate different perceptions as far as the West – and foreign investment – is concerned.

At his recent appearance at the World Economic Forum in Davos, Medvedev promised that a new law on foreign investment in the near future and suggested that Russia might reconsider the freeze on large-scale Western investments in natural resources, including the coveted Shtokman and Kovykta gas fields.

Medvedev sounded like a Russian patriot and liberal – in the tradition of the early 20th century democratic politicians. To the Davos audience he hailed democracy and the rule of law, promised that Russia would produce more oil than Saudi Arabia and "catch up and overtake" Italy, France and the UK in two years, making the rouble one of the world' principal reserve currencies. He also promised that Russia will be respected and not harmed. In short, he sounded enlightened and presidential.

However, a close Medvedev associate says that even if he is elected president, Gazprom will keep its monopoly on gas pipeline infrastructure, portfolio investors will be limited to 50%-minus-one share floats in state-controlled natural resource companies, while Westerners are likely to be limited to 25% of equity stakes in large-scale energy projects.

"The Medvedev group will manage the economy pragmatically, privatizing when possible and nationalizing when necessary, while maximizing profits of those who are closest to it," says a Kremlin insider.

This makes Medvedev not that different from the pragmatic nationalists around Ivanov. However, Medvedev might differ from the rest in three substantive ways.

First, he is a lawyer's lawyer, and will hopefully address the greatest shortcoming of the Putin tenure – the weak, incompetent, and sometimes corrupt judiciary. No such luck with the siloviki.

The second difference might be in foreign policy. While Medvedev positions himself as the West's partner and may balance Russia between the West and emerging China, Ivanov is rumoured to be a proponent of the "iron triangle" to include Russia, China, and India. Russia's overtures to the Muslim world, including the attempts to create a gas "OPEC" with Iran and Algeria should be seen through this geopolitical prism as well. Moreover, nationalists want Russia to be the pivot, the "indispensable power" of such a triangle, which is supposed to stave off and offset US and Western cultural influence and economic power.

But the third difference may be more in style than in substance: the two nationalist-siloviki groups will cultivate a more anti-Western atmosphere. This suspiciousness of, and at times hostility to, the West may make both foreigners and Russian investors more uncomfortable – and prompt them to take their investment dollars elsewhere.

-- Ariel Cohen, Ph.D., is a Senior Research Fellow at the Heritage Foundation and the author of Eurasia in Balance (Ashgate, 2005) аnd Russia-Kazakhstan Energy Relations (GMB Publishing, 2006).

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