Committee for Russian Economic Freedom

A spate of recent articles have noted a 45% drop in foreign direct investment in Russia for the first six months of this year. Although the global economy has been challenging for all economies, China’s own FDI fell 35.7% through July of this year.

Cyprus leads with investment in Russia, but it is a well-known tax-advantaged locale for Russian businessmen. The other leading countries are Netherlands, Luxembourg and Germany.

Chris Weafer, a frequent Russian economics commentator and chief strategist at Uralsib, discounted a large portion of the cited FDI figure by saying “actual non-Russian sourced FDI is currently negligible.”

Out of all the recent articles, Eurasia Daily Monitor summed up the current Russian situation best: Medvedev’s Euro-Modernization Hits the Corruption Wall. The European Union is keen on establishing a more normalized business relationship with Russia and proposed a “Partnership for Modernization.” This partnership empasizes the rule of law and corporate governance as European businesses are wary of the Russian commerical climate. The crucial issue in the EU-Russia business relationship is corruption.

The US State Department issued their annual human rights report last week and described corruption in Russia as

widespread throughout the executive, legislative, and judicial branches at all levels, and officials often engaged in corrupt policies with impunity.

Additionally, TRACE International’s Alexandra Wrage mentioned in a Reuters interview that corruption extracts a high tax on development in emerging market economies. And in comparison to other BRIC countries, the corruption in Russia is especially pervasive,

Corruption in China is an inverted pyramid with most bribery at the top while India is the opposite with corruption rampant at lower levels but tapering off higher up. Russia is a solid block. There is bribery at all levels. There appears to be sense of near-complete impunity, a sense of entitlement.

To underscore the endemic corruption, Russian bloggers have found plans by the Interior Ministry to buy a $800,000 golden bed. With only government-sponsored news available to Russians, bloggers have taken on the role of whistleblowers in a country with few outlets for political discourse. But with only 30% of Russian households with access to the internet, the impact of the bloggers remain muted.

Ian Bremmer and Alexander Kliment published an interesting article in the World Politics Review today called, “State Capitalism and the Future of Globalization.” In it they argue that the assumption that globalization and capitalism will lead to free markets and free ideas must be reconsidered.

Far from blossoming into the pro-Western, market-oriented democracy that the 1990s shock therapists dreamed of, the successor to the Soviet Union has developed into a quasi-authoritarian petro-state, strongly committed to a form of tightly managed oligopolistic capitalism, in which elements of free market ideology coexist with strict government control over sectors that the Kremlin considers vital to Russia’s economy and security.

In Russia today, Bremmer and Kliment point out that Prime Minister Vladimir Putin has crafted a public policy that puts the interests of the state and its officials above the interests of investors, domestic or foreign. These state capitalists have codified their behavior by passing the “strategic sectors law” of 2008, where foreign investors must receive special governmental approval to obtain large stakes in Russian companies in the 42 sectors deemed of national strategic importance.

As an example of this state control, Bremmer and Kliment point to the energy sector where the state now controls 50% of Russia’s oil output, up from 10% when Putin initially come to power. Part of this was accomplished by

jailing in 2003 of Mikhail Khodorkovsky and the state takeover of his Yukos oil company. [And] several years later, the state pressured the Shell-led consortium at the Sakhalin-2 oil and gas project to cede a controlling interest to Gazprom for below-market value.

Interestingly, the 13 largest energy companies on Earth are owned and operated by governments and these state-owned companies now control nearly 80% of global crude oil reserves. As Russia and China take the lead to dominate sectors domestically, they are also funneling the wealth from these state organizations into sovereign wealth funds, maximizing not only their investment returns but also international political influence.