May 24th, 2010

Build It and They Will Come

Field of Dreams

In late 2008 President Medvedev discussed the need to create a global financial center in Moscow and recently has accelerated the process by appointing through executive decree on May 18, 2010 that Alexander Voloshin, chairman of Russia’s metals giant Norilsk Nickel, will be the newest member of a presidential council on financial reform. This group will set out a five year plan to make Moscow a financial powerhouse rivaling Shanghai, Dubai and Mumbai.

Global financial centers are based on basic economics, efficient allocation of capital from investors to businesses. A recent Moscow Times op-ed noted the challenges Moscow faces in creating such a center in five years. One such issue is attracting capital and creating an infrastructure of investment domestically. A main reason Russian companies list on foreign exchanges is that it provides a gateway toward more investors and capital. If Russian companies shun their local exchange, there is little motivation for foreign companies to invest the money required to list in a foreign country through understanding of its rules and regulations.

The four components of successful financial centers include:

  1. Communications infrastructure, including solid and uninterrupted international links and modern IT capabilities.
  2. Legal certainty through clear commitment to the rule of law, protecting property rights and efficient legal processes. Fiscal structures and policies must also be clear and predictable.
  3. Fair treatment. Markets must be better regulated so that local insiders are unable to exploit their position. Standards of governance of corporations and institutions must ensure disclosure and the fair treatment of minority shareholders through adequate and consistent disclosure.
  4. Availability of skills at all levels either locally or through the free admission of foreign staff.

Of these four issues, international standards of corporate governance may be the hardest for Russia to achieve. At Russia’s annual Securities Market Regulation Conference, Dmitry Ananyev, chairman of the Russian Financial Markets Council conceded that, “We have an additional task of overcoming the non-competitive financial system, which we have inherited from the Soviet era.”

Help may come from abroad.

New financial reforms are sprouting in all countries as the global economic crisis deepens on sovereign concerns that extend beyond Greece to Spain and Ireland and some assert may adversely impact the United Kingdom and the United States.

The London Stock Exchange (LSE) remains the favorite listing exchange for Russian companies, but with Rusal’s recent listing on the Hong Kong Stock Exchange (HKSE) more companies are also looking East. The implications o f HKSE’s more lax listing requirements are disputed by Hong Kong officials, but LSE has begun to require that non-UK companies seeking a premium listing on the LSE to comply with the UK’s Combined Code on Corporate Governance, not just the corporate governance requirements in their home country. Maybe this is the impetus Russian companies need to strengthen their own corporate governance even as the Russian government stalls.

The Russian government’s efforts to limit the percentage of shares a Russian company can list abroad is restricting an important source of capital for Russian companies to expand and refinance debt which puts them at a global disadvantage from other companies.

Russia views entry into the International Organization of Securities Commissions (IOSCO) an important milestone in establishing a global financial center. But as the Moscow Times notes, a financial center is built not with only steel and glass, a vital Moscow financial center needs international investors and transparent laws and regulations. In order for President Medvedev to realize his vision, he needs to change the strict top-down management mentality at the Kremlin and allow capital to flow without government interference. And then, foreign investors may come.

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