13.04.2004
Russia en Route to State Capitalism?
№2 2004 April/June

The trend toward toughening state control in the corporate
sector of the Russian economy, which first manifested itself in
2000-2001, has become especially evident since the beginning of the
year.

THE STATE’S EXPANSION AND CREATION OF ‘POWER CENTERS’

As early as 2000, Russia clearly tended to consolidate business
entities, as well as the shares it controlled in holding companies.
(This was the time when the consolidation of Rosneft’s subsidiaries
began in earnest. Additionally, there was the formation of the
Antey and Almaz concerns in the defense industry, the growth of the
Rosspirtprom holding company which united 89 alcohol producers, the
merger of all nuclear fuel producers and traders into one
corporation and the unification of all nuclear power plants in a
single power-generating company on the basis of Rosenergoatom,
etc.) The annual shareholders’ meetings at Gazprom, Unified Energy
Systems, Aeroflot and some other big companies in 2000 also
revealed the federal authorities’ intention of toughening their
control via corporate procedures (i.e. boards of directors).

Obviously, the toughening of state control through the formation
of new big holding companies, together with the state’s broader
representation in the existing companies, was prompted by a number
of objective factors, such as the need for technological
integration and improving the companies’ ability to compete on the
market. The increased pressure on various enterprises was also
aimed at increasing budget revenues. There are certain indications
that in 2000 the government implicitly set a strategic goal
of establishing at least one state-owned ‘power center’’ in each of
the most important sectors
based on the assets remaining
in state ownership (state unitary enterprises and blocks of
shares).

However, such a policy faced a whole range of objective
limitations: 1) a ‘streamlined’ system of state property
management, complete with corruption and kickbacks; 2) a limited
amount of state assets that would provide for the creation of
holding companies controlled by the state; 3) in certain cases, the
need to make decisions that are viewed by investors as systemic
risks (e.g. deprivatization); and 4) political and geopolitical
factors. Still, the path of simple integration and consolidation of
state assets looked particularly attractive (compared, for example,
with such an alternative as trust management).

In 2002, it became clear that simply forming big state-owned
entities on the basis of the remaining assets might have quite
negative results. A glaring example is Rosspirtprom where, in
addition to the unending scandals between the parent company and
its subsidiaries, there emerged problems that stemmed from its
managers’ opportunistic behavior. The government was forced to
intervene. Its official order of October 29, 2002 stripped the
holding company of the right to draw credits on its own; it also
forbade the shareholders to elect the boards of directors and
executive boards of companies whose shares had been contributed to
the federal state unitary enterprise’s authorized capital. Finally,
it could not dismiss the leaders of its subsidiaries. All of these
procedures required the exclusive consent of the governmental
cabinet. Furthermore, it is the cabinet’s authority to forward its
recommendations at the shareholder meetings of the aforementioned
companies on the size of its dividends, amendments to their bylaws
and changes in their authorized capital.

The integration of the defense industry enterprises is another
process that has not developed without conflicts as well. According
to a program for the defense industry’s development adopted in
October 2001, the defense sector’s reform in 2002 through 2006 was
to result in the emergence of 74 major holding companies and
concerns controlled by the state (on the basis of 400 defense
enterprises). However, in 2002 the planned number of holding
companies was reduced to 42. By the end of last year, three
integrated structures were actually formed (the Sukhoi aircraft
holding company, the Almaz-Antey concern and the Tactical Missiles
corporation). This year the program will be further amended.

The new federal authorities’ drive for self-affirmation at the
start of 2000 was accompanied by the state’s (mostly tax agencies’)
tough actions against LUKoil, TNK, AvtoVAZ, Gazprom, Norilsk Nickel
etc. Still, those raids – complete with searches and criminal
proceedings in 2001 (such as the Federal Tax Police Service v.
LUKoil, the Audit Office v. TNK, the General Prosecutor’s Office v.
Sibneft and Norilsk Nickel) produced no results – “in the absence
of corpus delicti.”

I can agree that prosecuting tax crimes is one of the few
effective ways for the state to influence corporations and their
beneficiaries. However, three points should be made on this
subject. First, tax reform must be further perfected, i.e. the
objective economic reasons behind the majority of tax crimes need
to be removed. Second, the rule of law should be ensured for the
use of force and verification of facts for commencing criminal
proceedings. Third – and this is of particular importance – the
ultimate goals of the instigators of selected criminal proceedings
are not clear, given that tax breaches appear to be systematic.

The year 2001 saw a significant expansion of the executive
influence in the economy in several directions:

  • personnel reshuffles in the biggest natural monopolies and
    strategic companies where the state had its stakes (Gazprom,
    Russian Railways, Rosenergoatom, etc.);
  • reorganizations (mostly through mergers) of existing companies
    and the creation of new holding companies in the strategic sectors;
    consolidation of regional communications monopolies into seven
    interregional subsidiaries  within the Svyazinvest holding
    company; consolidation of aircraft industry companies into five
    integrated entities, etc.;
  • the return of formerly withdrawn (privatized or leased) assets
    (e.g., Gazprom’s former assets handed over to SIBUR, Itera,
    etc.);
  • attempts to review the existing (since 1992) norms concerning
    the delimitation of companies’ ownership levels, as well as the
    stakes owned by the Russian Federation (e.g., ALROSA);
  • the establishment of control over main money flows and their
    concentration in state-owned banks. The Savings Bank (Sberbank) and
    Vneshtorgbank lend credit to Russia’s biggest companies and have
    unparalleled access to the ample, as well as the cheapest financial
    resources – the population’s savings and the Bank of Russia’s
    funds. Not surprising, there was a heated debate in 2001-2002 on
    whether or not Vneshtorgbank should be privatized;
  • a tough political struggle (2000-2002) around the
    reorganization of the country’s biggest natural monopolies
    (Gazprom, Unified Energy Systems, Russian Railways).

Federal authorities have increasingly intervened in regional
property conflicts via the president’s envoys to the federal
districts. For example, to settle the 2001 conflict between the
Karabash Copper Works and Karabashmed joint stock company, the
office of the presidential envoy to the Urals District proposed
handing over part of Karabashmed shares to the state.

“TRUST MANAGERS” IN THE PRIVATE SECTOR?

Following the first steps aimed at the consolidation of state
assets and the show of force against private companies in 2001 and
2002, an alternative strategic approach was developed. It
is based on the use of certain private companies (groups) as “trust
managers” of the federal center in a particular region (for
example, Tyumen) or a particular sector of the economy (for
example, ferrous or nonferrous metallurgy). The advantages for
private groups are obvious: they thrive not from successfully
avoiding prosecution in their use of illicit schemes, but rather
from the carte blanche given to them by the state to
expand while enjoying its political support.

During that period, the Russian president made a point of it to
avoid contacts with financial and industrial tycoons. This policy
certainly did not mean that he rejected such an approach; indeed,
his remoteness simply made it easier for a trust manager to be
easily replaced by another should he breach the established rules.
That condition certainly worried would-be trust managers, in spite
of all the potential benefits. Moreover, the state’s pointed policy
of remaining equidistant from large businesses directly influenced
the reorganization processes in the biggest private groups.

A clear counter trend emerged. Private capital attempted to
distance itself also from the authorities by moving as far away as
possible to ensure its safety; this would include the process of
legally registering property rights in consolidated assets abroad.
The establishment of TNK International by the Alfa/Renova group,
the registration of the Millhouse Capital managing company by the
Roman Abramovich group, and the formation abroad of a holding
company controlling the SUAL group’s assets were, perhaps, the
first signs of Russian businesses attempting to ensure ‘safe
transparency.’

Partners in the Alfa/Renova group opted to form alliances with
Western investors. Last year’s merger between BP and TNK and the
formation of an international industrial group based on SUAL assets
with Fleming Family & Partners were fully in line with that
strategy. As of January 2004, Fleming Family & Partners’ stake
in SUAL International (registered in the British Virgin Islands) is
said to have reached 23 percent. It cannot be ruled out that the
number of partners will grow (via IPO or strategic partnership
deals), i.e. the aluminum holding company may grow increasingly
‘multinational.’

Seeking to protect their assets, in the early 2000s other major
groups chose to ensure their representation in regional
administrations. For example, Norilsk Nickel CEO Alexander
Khloponin became Governor of the Taimyr Autonomous District and
later of the Krasnoyarsk Territory, while Roman Abramovich became
Governor of the Chukotka Autonomous District.

In addition, in 2002 and 2003 some groups began shifting from
attempts to directly privatize administrative control, to a marked
loyalty to the federal authorities, while exhorting big business’s
“social responsibility.” Some companies signed social partnership
agreements with the regional authorities. Others initiated an
increase of federal stakes or the transfer of certain assets under
the state’s control. In 2003 and 2004, the idea of ‘corporate
social responsibility’ (even though the notion is fairly abstract
where it concerns commercial entities) became dominant in the
debates over the ways to properly arrange relationships between the
business community and the government.

In the fuel and energy sector, as well as in the banking sector,
there seems to be a clear division marking the “loyal” companies
from the others. For example, Gazprom and Rosneft are clearly
pro-state companies (given the government’s equity control and
their managers’ loyalty), while YUKOS is obviously at the opposite
pole. Some of the biggest Russian groups, such as Interros and
United Heavy Machinery (OMZ), are not being directly affected by
the toughening of state control; according to analysts, they are
viewed as reliable since they properly “understand the state’s
interests.” Their real owners, in both cases, perfectly realize
that any deviation from “understanding the state’s interests” may
result in serious sanctions (such as the audit of the acquisition
of Norilsk Nickel by Interros).

Many large companies have been forced to prove their loyalty by
taking part in litigation that formally concerned economic
disputes, yet had clear political repercussions which damaged the
plaintiff’s reputation (for example, Gazprom v. NTV and LUKoil v.
TV-6).

It seems that between 2000 and 2003 attempts were made to
select loyal businesses as opposed to all the
rest
, although in reality there was a constant rotation
between these two groups. Yet some of the events of last year
suggested that the status of “trust managers” is rather
questionable.

THE YUKOS CASE

Since June 2003, YUKOS top officials have been under intense
pressure; Mikhail Khodorkovsky’s arrest was undoubtedly the most
important event of last fall. Actions by the General Prosecutor’s
Office have given rise to much speculation and accounts, but, as
usual, the real motives remain off camera.

Purely political explanations for the attack on YUKOS attempt to
link the oil company with the election campaign, or Khodorkovsky’s
political ambitions. Others point to the confronting groups in the
Russian president’s office and their financial sources (the
remaining members of President Boris Yeltsin’s ‘Family’ and
YUKOS-Sibneft vs. the St. Petersburg group of security officials
and Rosneft). However, none of these offer a comprehensive
explanation of the situation, although those motives could have
provided an additional impetus for the use of force by the state
agencies.

It is equally difficult to accept purely economic motives, aimed
at property redistribution, as the decisive reason. At the moment,
besides purely market activities, there are no available legal
methods for seizing a YUKOS stake, unless variants involving
personal pressure are considered: for example, a Special Trust
Arrangement (a 50-percent stake in the Menatep Group) could be
amended in favor of other beneficiaries. Another possibility would
be for a particular company to “voluntarily” return assets to the
state, or to an entity named by the state – by analogy with
MediaMost, SIBUR and other cases.

By all appearances, there are insufficient legal grounds for the
nationalization of YUKOS, or the coercive, yet legal, appropriation
of any part of its holdings in the state’s favor. The arrest of a
substantial share of the company (initially 44.1 percent) cannot
result in a legally backed alienation of this share in the state’s
favor. First, according to analysts, the act of arresting shares is
legally irrelevant – its being based on Article 115 of the Russian
Criminal Procedural Code is questionable. Second, offshore firms
that are the legal owners of the shares can file counterclaims in
British courts.

Another possible alternative is for the state to present tax
claims to the company; hypothetically, such a move could be used to
secure an ‘offset deal’ and swapped for a substantial stake in
YUKOS. However, such action also requires better validation (it
probably has legal grounds, but YUKOS was not an exception to the
rule when companies faced all sorts of tax schemes on a broad scale
in 1998 through 2000).

But let us go back straight to the cause of the conflict.

The reorganization of the biggest private groups (holding
companies) carried out energetically during the 2000s was to a
large degree triggered by the need, already understood in 2001, to
make their ownership and revenue structure legally flawless. The
formation of offshore holding firms (to avoid extra taxation in
Russia) was a logical step, and the owners (partners,
beneficiaries) opted to ensure the control and protection of their
assets via various juridical mechanisms. These measures guaranteed
better protection of their property rights, as well as a greater
transparency with regard to the real owners of Russian
companies.

Naturally, certain motives were insufficient for making
beneficiary ownership fully transparent. For example, getting
access to the capital market (the issuance of ADR), or having
pressure applied by Western banks in a global campaign against
money laundering (good examples are the moves by the FATF, OECD,
EU, ‘Wolfsberg Principles’, etc.). It was necessary for a certain
period of time to pass, after which the risk of losing the acquired
(often with breaches of civil or criminal legislation) assets would
be minimal. Furthermore, up to a certain point it is impossible to
disclose all sources used for property acquisition – this would
include tax-dodging. A great majority of Russian companies are
unprepared for such a task at the moment. YUKOS was, in
fact, the first Russian company to have completed that phase of its
development
.

Obviously, bringing the whole ownership scheme out of the
shadows (and I am not referring to tax and financial schemes here)
and creating a fully legal structure for the protection of assets
means, first, the reduction of the need for a company to have
intimate relationships with government bureaucracy (good
connections with federal and regional officials and courts,
financing of politicians, etc.).

Second, a private company’s (together with its owners’ and
beneficiaries’) independence from the state and its law-enforcement
system is growing. It would be difficult to name another private
company in Russia that has the size and the level of legal
protection of its owners as YUKOS. A question arises: How does a
major independent company fit into the ‘strong state’ ideology in
its current Russian version?

A potential reason for the use of force against the Khodorkovsky
group is related to the whole logic of YUKOS’s development as a
‘model’ company in the 2000s. The policy of promoting a favorable
corporate image, together with artificially increasing its
capitalization, could be indicative that preparations were underway
for the sale of the company, or its merger with a major global
company on a parity basis.

As a result of YUKOS’s merger with Sibneft announced in 2003
(and later put on ice), this new company would have been ranked
around the fourth or fifth amongst the world’s biggest oil
companies. Yet the strategic goal of the new company to become a
‘global energy leader’ would have been difficult to achieve had it
not gone multinational. Talks of a possible merger (or the sale of
a substantial stake) between YUKOS and ExxonMobil or ChevronTexaco,
reported at the end of last summer, make this version the more
probable.

The Russian authorities must have found the level of influence
and the rate of independence of such a big company unacceptable
(given that its production and refining facilities are based in
Russia and that it actually controls Eastern Siberia). If the guess
is right, a blow to YUKOS’s and Sibneft’s capitalization was also a
sensible move. The actions taken by the Russian law-enforcement
agencies (irrespective of the legal grounds, names and time
limitations) were intended to convey to YUKOS what they should not
do under any circumstances; the moves were also intended to show
the world that they should not deal with such a ‘tainted’ company.
As a result of the drop in capitalization, the YUKOS owners have
lost interest in selling off part of their shares.

What followed was an ‘anti-oligarch campaign,’ waged all through
last summer and fall (primarily, all sorts of ‘public opinion
polls’ were published). To a great extent, the campaign focused on
the hysteria around the “rejection of the results of privatization
by the people.” Clearly, this was only a cover for other
socio-economic objectives of the state.

Naturally, the above is an attempt to offer an adequate
explanation for what happened. Still, the first lesson is obvious:
the company that had openly (more than any other company) disclosed
its structure, shareholders and beneficiaries to the public was the
first to fall victim to this legalization. It cannot be ruled out
that this use-of-force-and-pressure policy may become standard –
especially since the developments in 2002 and 2003 indicate that
major international groups may emerge on the basis of several
metallurgical and chemical holding companies which have virtually
completed their consolidation. Time will tell whether or not this
assumption is right.

In conclusion to this section, I would like to make some more
general points.

It is quite possible that YUKOS managers and owners really
committed crimes (related to tax evasion, use of budgetary funds,
scheming with assets and transfer prices to the detriment of other
shareholders, and so forth). In that case, the action taken by the
prosecutors and subsequent lawsuits are perfectly legal. But this
is only true under one condition – that law enforcement is
non-selective. But if the owners and managers of only one company
fall under judicial pressure for wrongdoings that are common to all
companies in a given period, then this type of law enforcement can
only be described as being arbitrary.

The whole situation does not inspire optimism. If the
authorities only target YUKOS (irrespective of their true motives)
then all of the measures taken under the judicial reform in
2000-2003 are hardly worthwhile.

If YUKOS is only the beginning of a campaign (that starts with
Russia’s biggest private company so that the smaller companies
“fear outright”), there arises the question that deprivatization
may be the state’s general policy.

How realistic is it?

It is possible to find flaws in almost any privatization deal
that was hatched between 1992 and 2003, which is not surprising
given the rapid pace at which the relevant legislation was drafted
and the privatization program was implemented (therefore, there was
no malicious intent in the privatization deals). Clearly, the issue
of privatization legitimacy must be settled once and for all (for
example, the 10-year statute of limitations could be reduced),
except for cases where the law was flatly violated by officials
(including cases of corruption) and where there were clear signs of
criminal intent. The latter cases should be explicitly listed in a
special legislative act. Provided that the law enforcement
practices are equitable, this would be a safe barrier against any
attempts at property redistribution on a large scale under the
pretext of restoring justice.

It is worth noting that opinions concerning the YUKOS case have
polarized: Western officials, business (investment) and academic
circles are poles apart from the mass media, which in general
represents the “public opinion.” The latter often portrays the
YUKOS case in the overall context as an offensive against
democratic freedoms. On the other hand, business circles tend to
hold neutral attitudes or approve the steps taken by the Russian
authorities. This should not be surprising given the unending
string of corporate scandals in many developed nations, together
with the toughening of corporate and securities legislation.

Enron’s bankruptcy in 2001 and 2002 and scandals involving
WorldCom, Citigroup Tyco, Adelphia and other U.S. companies have
revealed serious faults of regulation norms concerning corporate
governance, accounting and the stock market. As a consequence of
these developments, the Sarbanes-Oxley Act was adopted in July
2002.

The 2003 scandal which led to Richard Grasso’s resignation as
chairman and chief executive of the New York Stock Exchange – after
it was disclosed that he had been given a pay package worth almost
$150 million – clearly showed the weakness of control over top
managers.

In December 2003, one of the biggest corporate scandals in
European history broke out with Italy’s Parmalat case. And already
this year, former managers of Germany’s Mannesmann were brought to
trial and charged with “breach of trust of the shareholders” in
selling their company to Britain’s Vodafone four years ago.
Numerous scandals involving Japanese companies and South Korean
chebol conglomerates were reported in the 2000s.

Therefore, since foreign businesses oftentimes confront problems
at home, they understand that there is sometimes a need to toughen
regulation regarding big public corporations abroad as well.

Paradoxically, the illegal corporate deals and legislative
problems in the Western nations that only became obvious over the
last few years have helped to remove Russia from the list of high
corporate risks. This is underlined by the fact that last year
YUKOS ranked second in terms of corporate governance among the
world’s top 20 publicly traded oil and gas companies, according to
Energy Intelligence, a U.S. analytical agency.

Still another effect of the YUKOS case is that it has clearly
showed the inner contradictions of what is known as a Russian model
of corporate governance. Despite its transparency, openness and
adherence to Western corporate governance standards, YUKOS is a
one-man company and this man is incarcerated in the Matrosskaya
Tishina prison.

Another possible long-term effect of the YUKOS case is that it
could weaken the prospects for the emergence of multinational
corporations in Russia based on major groups working in the
extracting sector. In a sense, a line has been drawn as
concerns  the question of  “limiting the omnipotence of
Russia’s financial and industrial groups.”

Finally, the YUKOS case will clearly have its effect on the
debates about taxation in the extracting sector and other
industrial policies.

FURTHER EXPANSION AND POLARIZATION OF INTERESTS

The logic of the state’s expanding control over strategic
sectors in 2003 was not limited to the YUKOS case, even though its
traces and side effects were observable in many cases.

First, it is worth mentioning that reform of the federal
unitary enterprise system was combined with further construction of
state (vertically integrated) holding companies
. In
particular, this year’s plans call for handing 123 federal state
unitary enterprises over to state holding companies.

It could be argued that this rather coercive integration could
be justified with respect to the fuel and energy sector, nuclear
power engineering, communications, the defense industry, and
certainly Russia’s unique production companies, such as the Energia
aerospace company and integrated aircraft companies which are built
around major R&D companies. This policy allows the state to
maintain control (even if formal) over the biggest natural
monopolies and certain strategic industries (sectors), prevent
potential disruption of traditional economic ties and the total
degradation of unique research efforts. Furthermore, it permits to
preserve the coordination of production and technological
activities within the framework of originally unified
complexes.

But the global record has clearly shown the real drawbacks of
such organizations: the extra costs connected with auditing the
subsidiaries, difficulties in exercising control over
redistribution of resources (assets) and revenues, a tendency
toward politicization, excessive red tape, etc.

Russia’s practices of the 1990s-2000s had the following specific
features: 

  • permanent reorganization of holding companies with inherent
    violations of property rights, strife for gaining control, handover
    of shares, etc. Economic efficiency and rational management were
    rarely the primary considerations for such reorganizations. It is
    important to see the differences between the motives for the
    reorganization of the state holding companies (politics, lobbyism,
    diverse methods for the transfer of assets, budgets, withdrawal of
    assets, corruption) and private companies (optimization of
    management, takeovers, dumping of unprofitable assets, forcing out
    ‘alien’ shareholders, expansion, tax dodging, outflow of capital).
    Many times these motives overlap;
  • the use of state holding companies for serving the factional
    interests of certain state officials and private entities,
    withdrawing  financial resources (offshore holding firms,
    transfer prices, profit centers outside formal state holding
    companies, violation of the rights of shareholders of the parent
    company and subsidiaries, etc.), pursuing non-economic goals
    (elections, financing particular political groups), and
    implementing spontaneous budgetary allocation decisions. In
    addition to plain corruption, this approach results in the state’s
    inefficiency as an owner and, consequently, minimal revenues on its
    assets.

Second, pension reform is a telling example of the side
effects of the state’s expanded control
. Last year even
the Finance Ministry admitted that the first phase of the reform
had been a flop. The non-transparent choice of Vnesheconombank as
the agent for managing state pension funds, the ‘tender’ in which
55 private companies were chosen to manage the assets, and the
incomprehensibility of the public information campaign suggested
that under the pretext of the pension reform the government sought
to maximize the funds remaining under its control. According to
Russia’s Ministry of Finance, only 1-1.5 percent of future
pensioners (up to 700,000 individuals) have turned over their funds
to private managers, against the 6-10 percent as had been
expected.

Third, in 2002 Russia witnessed vigorous debates on the
goals and principles of potential industrial policy
. These
talks focused around two essential and interrelated issues: 1)
alternatives in the country’s long-term economic development –
either maintaining the status quo or rejecting the national
economy’s reliance on raw materials. Furthermore, introducing
greater taxation of exports to level off profitability in the
extracting and manufacturing sectors; 2) absolute state support for
‘integrated business groups’ (as seen by the Russian Union of
Industrialists and Entrepreneurs) or “limiting the omnipotence of
Russia’s financial and industrial groups.”

In 2003, the debate was actually reduced to highly politicized
disputes around the ‘natural resource rent.’ The adoption of a new
law on underground resources – the government is expected to
consider its draft this summer – will be an important indicator of
the authorities’ real position on the issue and their attitude to
the toughening of state control in the sector. Key issues include
the possibility for local governments to take part in the
allocation of mineral rights (the Russian Constitution vests those
powers with the local authorities), finding an alternative to
licenses (for example, “exclusive rights to excavate within a
particular sector” purchased during auctions), the terms for
granting mineral rights, geological exploration and other problems
associated with prospecting.

Fourth, from the available data it is possible to suggest that
since last year the formation of a certain ‘nucleus’ for
state expansion and control has been underway
. This
includes Gazprom, several loyal oil companies and some entities in
the defense industry. In light of this fact, the chances for any
serious reform of Gazprom are next to impossible.

Licenses and auctions in the oil sector are another possible
route for the state’s expansion. It is very unlikely that the
review of some licenses that started in 2003 (e.g., Sakhaneftegaz,
affiliated with YUKOS, was stripped of its license for developing
the region’s biggest Talakan oil and gas field in favor of
Surgutneftegaz) was made possible just through the decision by the
Ministry of Natural Resources or a regional court.

Importantly, in December 2003 Gazprom, Rosneft and
Surgutneftegaz signed a contract and formed a consortium in order
to pursue concerted policies for the acquisition of licenses. These
were used for developing fields in Eastern Siberia (until recently
this region was mostly under YUKOS’s control) and Yakutia. Since
the government has ample stakes in the former two companies, it
looks like the state wants more control in the sector. State-owned
Transneft clearly backs the alliance.

Speaking about concerted policies, counteracting TNK-BP, as well
as the expansion of Chinese oil companies in the region, will
likely be an important aspect of the consortium’s activities. At
the start of the year the first step was made to limit TNK-BP’s
activities at the Kovykta gas condensate field. In particular, it
has virtually been agreed that Gazprom will join the project, since
otherwise the license holder may lose its license to this field and
face problems with other pipelines. ChevronTexaco and ExxonMobil,
both U.S. companies (which claimed a stake in YUKOS-Sibneft in
2003), this year lost the right to develop three blocks of fields
in the Sakhalin-3 project, which, presumably, lies in the sphere of
the Gazprom-led consortium’s interests.

Another potential innovation is the emergence of a national oil
company (Gosneft). In addition to the consolidation of all assets
that the state has retained in the sector, the company would be a
bridgehead for the state’s further expansion. In particular, the
new national company (along with Rosneft, Surgutneftegaz and
Sibneft) has been considered as a candidate for managing – on the
state’s behalf – a nationalized stake in YUKOS.

If we analyze the situation in terms of the confrontation
between the ‘old Moscow’ and ‘St. Petersburg’ groups, it is obvious
that in 2003 their clashing interests aggravated the situation,
thus leading to a greater polarization of Russia’s biggest business
groups: on the one pole there are the state-owned Gazprom, Rosneft
and Transneft companies, together with private companies
Surgutneftegaz, LUKoil and the Mezhprombank group; on the opposite
pole there is the Alfa/Renova group, YUKOS and Sibneft companies,
as well as the Oleg Deripaska and MDM groups.

Clearly, from the point of view of a “state-oriented” strategy,
the greatest threat was posed by the ‘old Moscow’ group’s
initiatives in the oil industry, telecommunications and the energy
sector. YUKOS was the first to fall victim in the battle, with the
Deripaska group and Alfa/Renova likely to follow suit. In January,
Russia’s Audit Office stated its plans to audit tax payments by
Sibneft. Given that tax optimization schemes are very similar at
YUKOS and Sibneft, it cannot be ruled out that Sibneft will face
tax claims with subsequent bankruptcy proceedings.

However, it would be inaccurate to explain all of the recent
steps in the sphere of economic policy exclusively by the two
political groups’ mutual attacks.

First, the Russian president has his personal opinion about the
proper place of a big private company within the Russian state;
actually President Putin expressed his views to the European media
during his visit to Italy and the EU summit in November 2003.
Second, even though the construction of a ‘federal power vertical’
has been quite successful, regional leaders (particularly those
having succeeded in building their own financial and industrial
groups) are still able to resist the federal authorities.

Finally, many measures have been definitely positive, namely the
attempts to radically reform the federal unitary enterprise system,
liquidate Russian ‘domestic offshore centers’ (soon after the
amendments to Article 25 of the Tax Code took effect on January 1,
2004), limit the application of tolling schemes, etc.

Since the beginning of the new millennium, the following trends
have been prevailing:  the state authorities’ property
expansion, attempts to establish (broaden) control over the main
financial flows in the Russian economy and, broadly speaking,
guaranteeing that businesses depend upon government institutions –
despite any decisions concerning deregulation, administrative
reform and privatization plans.

This policy may result in the formation of a model for
‘state capitalism’
characterized by a combination of the
following:

  • significantly expanding the sphere of application of the
    standard mechanisms of state entrepreneurship;
  • creating favorable conditions for the functioning of a narrow
    range of loyal private companies which have acquired a reputation
    for being ‘state-oriented’ and relying on the support of the highly
    centralized state machinery that is controlled by the President
    (including the legislature and the judiciary);
  • using (selectively) show trials and punitive actions against
    economic entities that fail to fit into the model;
  • drawing a dividing line between the national interests of
    Russia and the inviolability of the private property
    principle.

It is worth noting here that the notion of ‘state capitalism’ in
its traditional sense does not embrace all of the specifics of the
model under construction. ‘Bureaucratic capitalism’ would, perhaps,
be a more accurate term with respect to the realities of modern
Russia. The current system differs essentially from the so called
‘oligarchic capitalism’ of the 1990s, when the relationship between
big business and the authorities was based on the direct
involvement of major financial and industrial groups in formulating
the most important political decisions. Another characteristic was
that they were imposing upon the authorities those decisions that
yielded direct commercial benefits.

Since 2000, we have been experiencing the opposite trend: the
authorities have been noticeably neglecting the interests of
private business in general, while imposing their own rules of the
game; these are being enforced by enacting various levers. The
YUKOS case has drawn the line under the ‘oligarchic’ era. Repeats
of that scenario are quite possible, and the private companies need
to take certain protective measures to avoid them. While the level
of resistance remains rather low, this standoff will not end
overnight. Therefore, in the mid-term the number of judicial
actions questioning the legality of some privatization deals, as
well as the acquisition of assets, will most likely grow.

But the ‘state capitalism for cronies’ policy may naturally
bring Russia back to the situation of the 1990s. The problem is
that the system under construction leads to the emergence of new
potential ‘oligarchies.’ It is quite likely that upon the
completion of the consolidation (return) of assets and the
re-routing of financial flows of the biggest natural monopolies and
state holding companies, the strengthening of the ‘power centers’
in various industries, together with the formation of pro-state
inter-industry alliances, their CEOs will be given the green light
for expansion into the private sector and the creation of their own
groups.

There is no clear distinction between a policy aimed at
strengthening state control and property expansion (which
corresponds to the classical idea of ‘state capitalism’), and the
creation of ‘crony capitalism’ based on tightly intertwining
interests of the state authorities and certain business entities.
For that reason, the ultimate goals of that expansion are
particularly important – is it the strategic interests of Russia as
viewed by the initiators of this expansion, or are the goals simply
the trivial greed of gold and enrichment through property
redistribution?

A policy of state expansion has never been distinctly
pronounced. However, the trend toward ‘state capitalism’ became
especially obvious in 2003. Time will tell whether this was just an
election-year trick, or the beginning of a larger-scale initiative
until 2008. Whatever the case may be, property rights’ protection,
judicial reform and effective law enforcement will continue to be
pressing issues.