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Russia does not Stimulate Innovative Economy

December 2013

Meeting with the prime minister did not inspire investors to new projects

The meeting of foreign investors with Russian ministers, held within the framework of the Foreign Investment Advisory Council (FIAC) meeting, on 21 October was quite frank. Foreigners made concrete demands – from price controls on baby food to weakening of sanitary standards, while also expressing strong disapproval of Prime Minister Medvedev, blaming his government for the lack of development in creating an innovative economy. Meanwhile, officials and experts, both note an unpleasant fact - by the end of 2014, Russia will have exhausted normative opportunities to improve the investment climate as a whole.

'Unfortunately, in Russia only 15 % of job vacancies are created in small and medium-sized enterprises, whereas in efficient economies, this figure reaches 60–70 %' – said chairman and CEO of Ernst & Young Mark Weinberger at the Foreign Investments Advisory Council meeting. – You need to do more to develop small and medium business and innovation – a point that we have spoken about many times before." According to Weinberger, Russia has a fine history of developing new technologies and introducing ideas, but because of the lack of skills in commercialization, many of them are not introduced.

This brings us to a very unpleasant conclusion: 'You are lagging behind developed nations – you are ranked #51 in the innovative ratings.' Meanwhile, with respect to the country's capital - as the International Monetary Fund mentioned in its recent study, investment inflows to Russia are not yet expected. The Ministry of Economic Development also expects zero balance and agrees with this unpleasant fact. In turn, the Central Bank issued a forecast of capital flows for 2016 in the amount of 5 billion dollars, whereas this year it's expected to reach 62 billion dollars, 5 billion more than in the past. And these are just optimistic assessments, as independent experts believe that outflows will reach at least 70 billion dollars.

Experts consider the FIAC mechanism efficient as a whole, though it is not able to dramatically change the investment climate inside the country. At the Foreign Investments Council, the decision was made to create "road maps" to improve the investment climate in Russia, iterated the managing director of UFXMarkets, Dennis de Jongh. 'The question is how active will we be on implementing the remaining solutions as we move ahead', – he said. It is his opinion that, the investment climate in Russia directly depends on the political climate. "And though the share of political risk exists in all countries, in Russia it has crucial importance, – the expert believes. – 'We believe that in order to attract more investments, improvements are needed in developing several areas: Structural reforming of the economy and judicial system, separation of power from business, and the creation of a more transparent monitoring system of investment projects, as well as the expansion of infrastructure investment.'

In turn, the deputy director of the analytical department of the Alpari Company, Darya Zhelannova, states that there were no radical changes in improving the investment climate seen within the last year. 'We did not see any realistic working initiatives coming from Prime Minister Medvedev.' – she laments. – For example, recent ideas of creating domestic offshores in Russia – worldwide and in Russia, declaring a policy of an economic ‘off-shore-ization' was very odd.' Especially, after taking into consideration all the bad experiences that Russia had already experienced.'

According to Zhelannova, the investment community trusts President Vladimir Putin more. 'Foreign investors are attracted by the political stability, favorable legal infrastructure, good ideas, – Zhelannova lists. – Besides Russia has much to offer. However, the scope of work on improving the country's image, and implementing the project on creating the International financial center remains to be realized.' Nevertheless, it appears that independent experts and the officials, who are responsible for improving the economic condition, seem to have no illusions regarding this matter.

Particularly, the former head of the Ministry of Economic Development, and now assistant to the President, Andrey Belousov, acknowledged that by the end of 2014, Russia will have exhausted all normative opportunities to improve the investment climate. This means, it is imperative that Russia improve its regulatory enforcement practices. The Government is only now discussing about the creation of such a mechanism with the Russian Union of Industrialists and Entrepreneurs (RUIE), Chamber of Commerce and Industry, "Business Russia" and "Support of Russia" at the suggestion of the President's economic block. Even if we assume that the solutions can be adopted quickly, while at the same time, take into consideration all the needs of the business community, their realization may be delayed for many years.

The reality is that the businesses operating in Russia, are finding it difficult to adapt to innovations of the new authorities. Permanent changes in tax legislation are causing an in increase in the cost of doing business. Particularly, from 2014 collecting taxes on commercial property will be altered. Taking as a basis the cadastral price, as close as possible to the market price, from which will be levied a tax at the rate of 0,5 %.

Recall that, organizations currently on the older taxation system pay a property tax of 2.2 % from the residual balance of the property value. As a result, expenses will significantly rise, for business owners in Moscow, St. Petersburg, and all other cities with a high cost per square meter. For example, according to data provided by tax authorities, the average market price of 1 square meter of commercial and industrial space in the capital now stands at nearly 100 thousand rubles, while in the suburbs the cost is cheaper, and much more expensive within the central area.

Sergey Kulikov,
Economic Commentator for Nezavisimaya Gazeta.
Exclusively for Russian Survey

What do you think about Russian economy?

Managing director of UFXMarkets, Dennis de Jongh

Russian investment market is a dainty place. From one side it is still developing, but from the other one, it is vital, that companies of this market run honest business. Since the beginning of 1990 and till nowadays, there is a prejudice among population towards investments: this is both a negative experience with “MMM” and fraudulent actions with clients’ accounts in brokerage companies and banks. All this formed a stable distrust in financial structures and tools. What we see now in Russia is a breaking of the distrust trend. Financial organizations, as well as the state, should stimulate interest of the society, but not to the damage of economic reasonability. Now we can see measures taken by the Central Bank to cool the overheated consumer lending sector, what, to our point of view, is suitable preventive actions. Crisis of 2008 is also a consequence of the overwhelming appetit to risk and lack of preventive mechanisms for quick crisis solutions. The next sovereign debt crisis in Europe could be avoided due to adequate correlation of national governments, Euro zone structures and banks. So, Russia is somehow in an attractive position now. Thus, economic situation that we see now in Russia is a crisis of trust. This is a crisis of trust of the society in economic developments that took place in Russia since 1990 and economic institutes; trust of investors in Russian economy, its efficiency and security of investments. Prosperity and economic growth in Russia mostly depend on how Russia will solve this «trust puzzle».

Another Russian problem is dependence on energy market. We can see steps of the government towards lowering of this dependence now. Many steps towards developing a full investment climate are made. But now the attraction of Russia is measured by its power to meet the economic negative. Great Britain is interested in Russian economy, and, in particular, in such Russian giants as Gazprom, Rosneft and Sberbank. That’s why we extended the line of derivatives for our clients, included offers of the Companies named above.