Putin offered the masses an antidote to the chaos of the Yeltsin years that left the average Russian more than willing to trade freedom for security. Russians had no history of self reliance and the return of order was paramount to the majority. Putin had the support of the oligarchs who needed to see Russia recover if their new business empires were to succeed. Putin, a brilliant political and geopolitical strategist, offered a renewed national agenda based on strength, national respect and civil order. He called all of the Oligarchs to the Kremlin, including the ones with strong ties to organized crime, and said, “In today’s Russia it is hard to see where the State ends and business begins, and it is hard to see where business ends and the State begins. This ends starting today. It is a new era.” When some of the Oligarchs reminded Putin that they had funded his rise to power, he responded with an answer that hushed all those present. “That was yesterday. The past is gone. The present is now. You may keep what you have, but starting now you will pay all of your taxes, support the State and stay out of politics.¨
Since then Putin has largely kept to that policy although, many would argue correctly that his interpretation of what constitutes ‘staying out of politics’ is a rather restrictive definition. One Oligarch criticized Putin’s handling of the war in Chechnya, both personally and through his media empire, only to have the police raid his home and businesses and wind up behind bars charged with tax fraud. He was allowed to forfeit his shares in the company to the State in exchange for his freedom. He left Russia for Spain a wealthy man. Another Oligarch, Boris Berezovsky, once considered the ‘shadow president’, was forced to claim political asylum in the UK after being accused of stealing from the state.
The best known Oligarch, former Yukos CEO Mikhail Khodorkovsky, demonstrates just how fragile power is in Russia. In 2003, he openly challenged Putin’s policies and pledged to form his own political party. He was not yet 40 years old and he was the richest man in Russia. He was a threat. He was arrested, charged and convicted of tax evasion in what most observers called a politically motivated show trial. He has been in jail ever since. He is scheduled to be released in 2011 and he has vowed to stay on the public stage in opposition to the government once released. He remains a threat to Putin and Medvedev. He is presently on trial again facing charges that he stole oil from his company and could face an additional 22 years in prison if convicted. The evidence seems flimsy but why should that matter? Russia loves its dissidents, and if he is released we would not be surprised if he were to become a major political force, or perhaps even a future President.
There is a valid argument that Putin first attacked independent-minded politicians and forced them into the political wilderness. Then he went after the independent media and finally he went after independent capital. The merits of the argument can be debated, but there is no question that Putin is no friend of the individual if the individual is in opposition to the State.
There is also no question that the public at large respected, and in most cases appreciated his position. There was even a popular pop song about Putin with the chorus “I need a man like Putin. Putin won’t let you down. He does what he says he will do.”
Autocratic rule is the order of the day and Russians seem to be appreciative of the stability. Critics will rightfully say that freedom of speech and freedom of the press has been limited under Putin, and that his regime did not tolerate opposition of any kind. It didn’t seem to matter. After the chaos of the 1990s the public was grateful for a strong leader. An affront to my Libertarian principles, yet not at all surprising in the Russia I know.
Since Putin came to power, and continuing under the Medvedev regime, organized crime has resumed its activities of the 60s and 70s. They know it is not wise to confront the central government head on, so they have focused their efforts on the corrupt mid-level officials; police investigators, regional officials and tax authorities. They continue with their illicit trading and racketeering and shake downs of local business people, but where they really make their money is by stealing from foreign companies.
Foreign companies used to view the nationalization of firms controlled by the Oligarchs as an internal problem from which they were largely immune. High profile cases surrounding British Petroleum, Hermitage Capital and Occidental Petroleum are just a few examples of how foreign companies have been forced to relinquish assets under Putin.
Investing in Russia
Don’t do it. The Russians have a zero sum mentality. Sadly, they judge their station in life in comparison to their neighbors rather than by their own criteria. The attitude is that if one person gains, another person must lose something. There is a saying in Russia, “If my goat is sick, my neighbor’s goat must die.” This encapsulates a mentality that will never foster free enterprise, long term risk taking, or systemic wealth creation. Fortunes are made in Russia, but not through investment.
Speculation can be successful, but you are betting on a change in prices not the growth of a sustainable enterprise. Quick-hit schemes that extract value over the short term can produce significant profits. You can make money in Russia, but the risks exceed the rewards. It remains a fatalistic and violent society.
I once had dinner with a young, new breed of Oligarch at Crockford’s, the private club and casino in Mayfair. He had just expanded into North America in a big way. Over dinner he explained that you can make money in Russia, but only a fool would reinvest it there. After dinner we went into the casino where he put ten thousand pounds on a single spin of the roulette wheel. He lost. The club was full of Russians and an odd Arab. You had to search hard for an Anglo Saxon not in the employ of the establishment. He placed another bet. He lost. He shrugged and we left.
In the car on the way back to my hotel I commented on the national composition of the players, and asked him if he was addicted to big risks. He answered, “I gamble in there to support the Casino and remain a favored customer. Most of the Russians are there to show off; to impress someone else. I have enough risks in my business. Business in Russia is just like roulette; Russian roulette.” Wise words from a survivor of the toughest game in town.
As of this writing, his assets in and out of Russia are in recovery mode. He has the support of the Kremlin for now. He is a supporter of Putin and thus far he has escaped the prosecution that his peers have faced. Yet his parting words were, “You like Russia. You have an o.k. understanding of Russians. That much is clear. You should be smart enough to focus your efforts elsewhere.”
Russia’s Influence Abroad
As we will discuss in greater depth in the Pulse section below, Russia is a world power. They may not be the massive military power they once were, but they are still a military power. Russia’s resources combined with the fragility of the western European economies makes them a player on the world stage once again. They have massive currency reserves. They control the supply of natural gas westward, and they control much of Central Asia.
As we have written before in Without Borders, ‘The Great Game’ is alive and well. A friend in Beirut told me a month ago that the FSB presence there is back to cold war levels. The popular theory in the western press that Russia has too many internal problems to worry about external issues is pure folly. The Kremlin is as active abroad today as it was in the 1960s. This will only increase in the coming years.
Russian Espionage and Foreign Policy
There is a widely held belief that Russian governments since the Romanovs don’t believe in diplomacy. CIA officers joke that the only reason Russia has a diplomatic corps is so they have somewhere to hide their spies. The Russian foreign security services are active throughout the world, and are the primary tool of Russian foreign policy. During the cold war the fifth directorate of the KGB was the primary Soviet foreign intelligence organization. It disbanded in 1991. The SVR replaced it shortly thereafter, but for years took a back seat to the military intelligence organization the GRU.
The GRU is still the largest intelligence organization in Russia, with five or six times as many operatives deployed overseas than the SVR. The problem with the GRU is that during the period of the 1990s, western intelligence agencies bought or stole their records. If you think a crate of AK 47s were easy to get in the 90s, the central files of the GRU were available for less than a night out on the town. A list of all GRU officers stationed in a given country over a fifty year period could be acquired for less than the tab at Night Flight.
As a result anyone trained by the GRU between 1950 and 1996 was compromised. The SVR on the other hand was a new organization, and almost unknown of in the west. The SVR is more influential than the Foreign Ministry in Russia. The SVR makes recommendations to the President on foreign policy options and probably has a larger budget than the Foreign Ministry. This is often lost on western observers who monitor Russian diplomatic affairs. Russian diplomats, including ambassadors, are little more than decorative party favors.
Unlike GRU officers which are almost always stationed in an embassy under official cover, SVR operatives are placed in academia, private industry, media outlets, and charities. When Putin started to purge the oligarchs he placed people with ties to the SVR in key positions. It can be assumed that every major Russian company with operations abroad has SVR trained personnel within the management structure. They may do their day job very well but they are also capable of providing critical information through the SVR. They are not necessarily trained operatives but they are trained observers, and they certainly document their observations. It is possible, and at times likely, that the heads of these companies are unaware who is associated with the SVR. The SVR is a sophisticated intelligence service on par with the Mossad or any western intelligence organization. They play a critical role in the Russian government.
The Recent Scandal???
What do I know about this that you don’t? – Nothing. What I suspect is that this is going to be much to do about nothing. This was not a spy ring. The Russians are very good at espionage, and this was not espionage. Even if you believe the government’s complaint is accurate, the information that these ‘spies’ were asked to procure was nothing more than a blogger or journalist covering foreign affairs or economics could find.
‘Sleeper agents?’ Yawn. Were these people agents of the Russian security services? – Unlikely; it’s possible, but highly unlikely. Are many Russians living abroad approached by the security services and asked for information they may come across in their day to day life? Yes, absolutely. Are they trained operatives conducting espionage? – Absolutely not. And just in case you think this may be a tactic used by those devious Russians and other countries that don’t play fair, the CIA has an entire division within the Directorate of Operations called the National Resources division that does the exact same thing. NR division, as it is called, is the lowest rung on the clandestine service ladder, staffed by the average and the drying out, but they routinely debrief US business people on their foreign travels. High intrigue it is not, but sometimes an interesting tile within the mosaic can be obtained through casual observation.
So what about this supposed suburban spy ring? They are not charged with espionage. They are charged with failing to register as an agent of a foreign government. This law is also the law that governs lobbyists that work for other countries. About half of K Street, where the highest paid DC lobbyists reside, is registered as agents of a foreign government. Had these Facebook fem fatales and PTA infiltrators registered they would have joined the ranks of other international provocateurs, like the duly-registered Alpine Tourist Commission, and the American Palm Oil Council. This entire episode is both absurd and embarrassing. Personally, I’m offended that the FBI wasted valuable resources when there are dangerous criminals out there hitting home runs on steroids.
The headlines and sound bites will continue to be peppered with the bake sale operatives for a few weeks, but it will have no effect on US Russian relations or Russian foreign policy. Russian leaders are feeling more confident with their place in the world. Their economy is mending.
Russia was hurt more than most during the first act of the financial crisis. The swift collapse of oil prices had them on one knee for a while. That is when Obama asked Medvedev if he wanted to take an injury time out. Obama and the brain trust around him took a quick break from nationalizing US industry to offer the Russians a ‘reset’. Maybe they wanted tips on how to draw up a five year plan, or set automobile production quotas? The timing was great. Moscow was hemorrhaging cash. Factory workers in the Russian interior were looking for someone to blame, and Putin had to assure them it was the business people and not the Kremlin. They were busy blaming the American capitalist system when Obama extended the offer.
But now Russia’s fortunes have changed and they are in better financial shape than most of Europe and North America. The crisis allowed the Kremlin to wipe out a couple more oligarchs, and the populace accepts that their iron fist, if not curtain, is the way to go.
Russia is also more confident about its ability to throw its weight around in its sphere of influence. Their favored candidate is now in power in Ukraine. Russia’s military adventure in Georgia was met with a trademark Bush shrug during a commercial break between the Javelin, and synchronized swimming in Beijing. And now we have the first really fun ruckus in Central Asia.
We have written about how Moscow is just itching to get back into the Great Game. While government troops are literally getting their ass kicked in the streets, Putin and Medvedev have been officially placed in the driver’s seat by the Obama administration. It’s doubtful anyone in the welfare line, or on the shop floor, cares that the US government has reached an understanding with Russia that in effect cedes influence of the strategically important valley that controls access to the Central Asian oil fields. Mind you we don’t think the US should be sticking their nose into anyone else’s back yard either, but the point is that the balance of power has shifted. The US is so worn out and weary that they can’t be bothered to even pretend to throw their weight around. The US is the foreign policy equivalent of the college campus cop. “Stop. Stop I say, or I’ll say Stop again.” They don’t even pretend otherwise.
Economically, the Russians realize they are overly dependent on oil and gas revenue. Perhaps they are concerned about a drop in prices or demand. More likely they want to be able to use energy supplies as a weapon without crushing their economy. If they are clever, and we know they are, then they are worried that unconventional gas extraction techniques will reduce their leverage if they don’t act quickly.
Russia will have to diversify its economy and reduce their reliance on energy exports. U.S. investment, particularly in advanced technology, will come in very handy. Intel just signed onto their Russian Silicon Valley, how foolish of them. But while Intel will probably come away with an expensive lump on the forehead, Russia will be better off and their cyber criminals better equipped.
Medvedev plans to eliminate capital gains, reduce corporate taxes and subsidize investment into high tech industries; smart move. Not enough to entice my capital but a step in the right direction, and it may stem the flow of capital out of the country. He also claims he wants to turn Moscow into a global financial center. Not likely, unless the corruption that is the general order of business for mid-level bureaucrats and law enforcement, is stamped out first. But fools rush in time after time and we would not be surprised if foreign direct investment will fund the Kremlin for a short time as the Eurozone crumbles. Institutional investors are often seeking ¨safer returns in emerging markets¨ when they really should say, “there is nothing smart for us to do with your money, so we are going to give it back to you since we can’t charge you big fees for keeping it under the mattress.”
All in all, Russia’s geopolitical stock is rising at a time when the traditional powers are looking inward. Foreign policy wonks and security experts will praise a “better relationship with Moscow”, when in actual fact the opposite trend will be taking hold. Control of Central Asia is once again in play. China will likely get involved sooner rather than later because the region is home to a bunch of fun and exciting chess pieces. Nuclear weapons, oil supplies, islamic fundamentalists and a myriad of Asian ethnic groups who have a grudge to settle with Beijing.
We live in interesting times. Keep an eye on Kyrgyzstan. It will be a Petri dish, and those pictures of government troops getting beaten by little old ladies are sure fun. And Obama thinks the Tea Party rallies are bad.
Lately, Russia has been making headlines with announcements of legal reforms. President Medvedev has pledged to clean up the legal system. Bloomberg estimates that over 100,000 entrepreneurs in Russia, who are in pre-trial detention, would be released if the reforms were passed. This does not account for the many Russians who are serving harsh sentences for what would be punishable by a small fine throughout most of the world.
History has not been kind to the Russians. Seventy years of cruel rigidity under Communism, preceded by hundreds of years of autocratic rule, has inculcated a near genetic dependence on central authority. As de Tocqueville once observed, “of servitude,” a resulting lack of personal responsibility and self-confidence, and a fatalistic distrust of the future. Not a place I would want to put my capital anytime soon.
Jim O’Neil at Goldman Sachs is credited with coining the term BRIC about ten years ago. He included Brazil, Russia, India and China because it made for a nifty acronym, and because they were all fast growing economies. That does not mean that the countries are in any way equal nor are they all investable. In traditional Wall Street money management style the acronym and the marketing that surrounds it became a flavor of choice. And, in the over simplistic and formulaic way that is a hallmark to the asset management industry, each country was nominally equated because they have ‘equal weighting’ in the acronym.
I love Russia, and I am fascinated by Russians. Once the kids are grown and my wife tires of me, I will probably take the opportunity to move to Russia for a while so I can finally satiate my life- long desire to experience the country. I will endeavor to master the language and grow a mustache worthy of a Tsar. I will plow through the classics in the original Russian and I will continue the search for long legged physicists who play the violin. But I doubt that I will ever work or invest there. When you have a global investment outlook you should invest where capital is treated the best. That has never been Russia. It likely never will be.
About The Author
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