THE INSIDERS: The youthful face of Russia's liberal reforms

By bne IntelliNews April 12, 2011

Ben Aris in Moscow -

The office of Arkady Dvorkovich in the presidential administration's headquarters in Staraya Ploshad (once home to Stalin's personal apparat) has many of the trappings of old school Soviet power. The room is large, but slightly shabby. There is the de rigueur bank of cheap white plastic phones with no dials or keys that connect directly to other VIP offices. Then there is a T-shaped desk, where subordinates sit when talking to their boss, and the overstuffed sofa. Although this office has none of the gold or walnut wood that you'd find in the office of his boss, Russian President Dmitry Medvedev, Dvorkovich is no chinovnik, or Soviet paper pusher; as one of the faces of Russia's liberal reform programme and special economic advisor to the president, he's in a position to make a difference.

I first met Dvorkovich in about 2000 when he was a fresh-faced assistant to the then minister of economic development and trade, German Gref, who had just launched a plan to revamp the Russian economy. Dvorkovich studied at the highly respected Stockholm Institute of Transition Economics and "gets" the free market, and we spent an hour talking about a rule that dictates the length of the electric cord on fridges and the difficulty of getting rid of these stupid Russian regulations.

Today, Dvorkovich has risen to become one of the most powerful liberal reformers of the new generation who are entering public service. Business Week named him one of 50 potential future world leaders in 2003. Gref quickly promoted him to deputy minister, then Medvedev made him special economic advisor in 2008. Dvorkovich has become the voice of reason that whispers in Medvedev's ear.

Patchy investment success

As the presidential elections loom, Medvedev has become increasingly outspoken, saying at the end of March that Russia's investment climate is "very bad." Investment is recovering from the crisis, albeit slowly: Rosstat estimates that Russia attracted $13.8bn of foreign direct investment (FDI) in 2010, down from $15.9bn in 2009 and well off the $80bn in 2008, a record year. However, while the overall volume of FDI has fallen, the size of deals is going up, with a string of large and strategically important investment commitments arriving in the first months of this year, led by the car sector. "We hope to attract new investment to Russia and this is not just car assembling. Not sure that this can be achieved just by raising tariffs, it is about increasing the quality of the investment climate," says Dvorkovich.

The state has stipulated that carmakers that can't increase their production to more than 300,000 units a year will have to pay higher import tariffs from 2020 and a similar scheme is now being mooted for the pharmaceutical sector. "However, the situation with pharmaceuticals is a bit different. There is a high domestic demand in particular from the state; it is a different landscape and we can attract investment by the size of the market. If there is some degree of certainty [in the growth of demand], then the international companies will place production here without the need to raise tariffs," says Dvorkovich in his soft and slightly clipped English.

The makeover of the car industry has been a huge success, as the state's investment policy that offered tax breaks and guarantees has managed to attract most of the world's leading producers, most of whom agreed in February to double or treble their output over the next nine years. The Ministry of Industry and Trade, which has taken point for the reform, claims Russia is ready to compete on the global car market, but Dvorkovich is typically more restrained. "We are not quite ready to compete head to head with international car producers, but the [World Trade Organization] includes a seven-year transition period and that is enough to increase competitiveness substantially. We need good strategic investors," says Dvorkovich, who is regularly rolled out to speak to foreign investors at conferences.

Medvedev's main investment thrust has focused on winning more FDI, but Dvorkovich says the Kremlin is hoping to boost investment of all forms; investment by strategic investors is best, but the Kremlin is also looking at partnerships, joint ventures, projects that can be implement jointly with investors. "But we are still at the beginning of the process," Dvorkovich admits, in one of his trademark no-nonsense, straight-to-the point statements.

Privatisation is key

The state's efforts to improve the investment climate is going frustratingly slowly - if it's moving at all. Dvorkovich blames most of the problems on the state's pervasive presence in almost all branches of the economy and says that everything - bar a few strategic companies - should be sold off as soon as possible. "We have already agreed to sell the state-owned stakes, but it is a question of timing. However, it is clear that eventually we don't need state participation in most sectors," says Dvorkovich.

Amongst the special cases, he names the state's rail monopoly, the federal power grid company, the state-owned oil pipeline network and the gas giant Gazprom. Everything else - including Russia's second largest bank VTB Group - will eventually be put on the block.

But there's the rub - privatisation, along with much of the rest of the reform process, is going slowly despite the government's efforts to pick up the pace. "The president has already ordered an increase in the pace [of privatisation]," says Dvorkovich. "Just this week, the National Banking Council board agreed to sell a 7.58% of Sberbank over the next three years and we are preparing this now, waiting for the best time. It will happen in 2011 or 2012, depending on market conditions - but the decision has already been made. It is a done deal."

Despite Sberbank's dominance of the deposits business, Dvorkovich says that the Kremlin has no objection to taking state ownership below 51%. But he says that would take time, because the Duma would need to change the law to allow the sale of more shares, "and Sberbank also has to get the agreement of its existing minority shareholders."

Corruption is a symptom, not the disease

Most of the criticism of Russia centres on the high level of corruption, but Dvorkovich suggests that this is putting the cart before the horse, and that corruption is symptomatic of the high level of state ownership, hence the privatisation programme is also one of the more effective means to reducing corruption.

Medvedev upped the ante with a speech in Magnitogorsk on March 31 with a rant against state-owned enterprises and the ills of government officials sitting on company boards, a speech delivered with Dvorkovich at his side. "Russian officials such as deputy prime ministers and ministers will be withdrawn from the boards of directors of state-owned and state-controlled companies," Medvedev said as part of the effort to improve the efficiency of these companies.

Given these government corporate postings are a major source of cash for bureaucrats, there is likely to be a lot of resistance to the initiative, but it also shows the president's administration is attempting to strike at the right places. "[Corruption] is a systemic issue, as this is not just a bunch of criminals, but exists at all levels and comes back to the state's involvement in the economy," says Dvorkovich. "If we can reduce this, then the potential for corruption will also fall. Corruption is connected to the preferential treatment state-owned companies receive."

So the problems Russia's faces are pretty clear - and so are the solutions. But this doesn't explain why the reform process is going so slowly. In an editorial at the end of March, Swedish analyst Anders Aslund compared Russia to Estonia, pointing out that the small Baltic republic has almost completed its reforms and is reaping the benefits; the implication was that Russia doesn't want to make reforms, because too many officials are making too much money. Dvorkovich gives a more considered explanation.

First, he says that the system is too big and the number of reformers too small, so the Kremlin can only tackle a few issues at a time. "We have made progress in cutting red tape and there are less licenses than before, but there is not enough focus," says Dvorkovich. "This is such a big system that if people know there is a political focus on an issue, they follow up on it; but if not, then they go back to doing the same things they did before the reform."

But the bigger problem is that the sheer size of the country means that the Federal government is actually relatively powerless to force reform on the regions without the regions willing participation in the process. "There are some regions that are already very active and have been very successful - Kaluga [home to one of Russia's main car production clusters] and [the autonomous region of] Tatarstan are both good examples of active and progressive regions," says Dvorkovich. "A huge responsibility rests on the governors and mayors of regions. We need to introduce best practices across Russia, but we can't impose this top down. We could do more to make this work, but we are not like [the small progressive former Soviet republics of] Georgia or Estonia - both those countries are smaller than one of Russia's regions."

THE INSIDERS: The youthful face of Russia's liberal reforms

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