#3 - RW 1-9-04
Moscow Times
December 30, 2003
Kremlin Reloading After Shot At Yukos
By Catherine Belton
Staff Writer

News of the October arrest of Mikhail Khodorkovsky was greeted with shock and horror in Washington, which had come to regard the Yukos billionaire as its most influential agent in Moscow -- a position previously held by Anatoly Chubais, the man chiefly responsible for Khodorkovsky's vast wealth.

The United States, like Saudi Arabia, its counterpart on the other side of the global oil equation, was quick to realize that Russia's months-long legal onslaught against its biggest oil company and most powerful pro-Western sympathizer had reached the point of no return.

It became clear that President Vladimir Putin was determined to take the country in a bold, new and fiercely independent direction, and that there was no longer a domestic force strong enough to stand in his way.

The move may have delighted Riyadh, which had long feared American influence over the oil policies of its main rival, but it rattled Washington, where Khodorkovsky had increasingly been feted and hailed as the torchbearer of 21st-century Russian capitalism.

But now that the torch has been wrested from Khodorkovsky's hands, the man who rose to power at the dawn of the new millennium will not let it go.

"Putin's aim is to restore the state," said Dmitry Rogozin, a Putin envoy and co-leader of the populist-nationalist Rodina bloc, which rode an anti-oligarch platform into the State Duma earlier this month.

"The state was very weak under [former President Boris] Yeltsin. It was filled with oligarchs that dictated their will to a puppet leader, which also left Russia weak in the global arena. Now a trend has been set in motion that is making Russia more of an equal player."

To hear the West tell it, the downfall of Russia's richest man was nothing more than political payback for his funding of opposition parties and blatant attempts to buy seats in parliament. But evidence suggests there is more to the story, including questions of Khodorkovsky's allegiances.

Khodorkovsky has spent years pursuing what is essentially a personal, pro-American foreign policy, cultivating contacts with the most influential politicians, diplomats, bankers and public

relations specialists in Washington -- actions the siloviki, a group of hawks in the Kremlin made up of former KGB men, consider reprehensible.

Rightly or wrongly, the siloviki see Washington's role as the world's sole superpower as a threat to Russia and are determined to reclaim the global clout once enjoyed by the Soviet Union. Compounding this perceived threat are Khodorkovsky's efforts to endear himself to the White House. One only need look at the people who have rallied to Khodorkovsky's defense to see how the siloviki could make a convincing case to cut Khodorkovsky down to size.

For example, The Washington Post reported last week that shortly after his arrest, Khodorkovsky bought the lobbying services of Stuart Eizenstat, a Washington lawyer who held several top posts in the U.S. government under President Bill Clinton -- deputy treasury secretary, undersecretary of state for economic affairs, undersecretary of commerce for international trade, and U.S. ambassador to the European Union.

Eizenstat told the Post that he intends to build "U.S. government support for the rule of law in Russia, specifically in connection with actions taken by Russian authorities against principals of Group Menatep and Yukos."

Some even see America's hand behind the privatization program that made billionaires out of Khodorkovsky and a handful of other businessmen. Indeed, Chubais, the architect of the rigged loans-for-shares scheme by which many of the state's most valuable assets were sold for a song, was a key ally of the Clinton administration.

Chubais studied under former Clinton-era Treasury Secretary Larry Summers at Harvard in the late 1980s, according to one insider who has known Chubais for years. He was also on the U.S. government's payroll via agencies like USAID that helped fund Russia's early privatization program, the source said.

Although the Clinton administration eventually condemned the loans-for-shares scheme, it had come to view many of the same robber barons as the guardians of pro-market and pro-Western values by the time Russia emerged from its devastating 1998 crisis.

"The priority in the 1990s was for the oligarchs to get rich, and USAID and U.S. businesses came in strongly," said Chris Weafer, chief strategist at Alfa Bank, a pillar in the empire of Mikhail Fridman, who joined Khodorkovsky at the original privatization trough.

"Some of the oligarchs began to push a strong U.S. policy, but that has ended now. Russia is now clearly pushing its own domestic agenda," Weafer said. "This all started when Putin was appointed acting president on Dec. 31, 1999. The last four years of Putin's presidency have been preparation for this stage. He has been consolidating power."

The Empire Strikes Back

Increasing signs of frustration are coming out of Washington, especially when it comes to oil.

In a wide-ranging interview earlier this month with Moskovskiye Novosti, a Russian weekly owned by

Khodorkovsky, U.S. Ambassador to Russia Alexander Vershbow, who has roundly criticized the handling of the Yukos affair, urged Russia to make up its mind on whether or not it would build a new pipeline to Murmansk. The project, which Khodorkovsky aggressively lobbied for, would allow Russian tankers to directly feed America with crude.

"It's time [for Russia] to make a principle decision on building a pipeline to export oil to the U.S.," Vershbow told the paper. "Otherwise you risk losing the chance of becoming a major supplier of energy resources for us."

Vershbow's comments followed similar remarks made by U.S. Commerce Secretary Don Evans, who told the U.S.-Russian Investment Symposium at Harvard last month that Russia "needs to pick up the pace on making decisions" about new pipelines.

Although President George W. Bush has not publicly condemned Khodorkovsky's arrest, other influential voices in Washington have. Senator John McCain, Pentagon adviser Richard Perle, and influential currency trader-turned-billionaire philanthropist George Soros, to name three, have all called for Russia to be kicked out of the elite Group of Eight highly industrialized nations.

"A creeping coup against the forces of democracy and market capitalism in Russia is threatening the foundation of the U.S.-Russia relationship and raising the specter of a new era of cold peace between Washington and Moscow," McCain told the Senate last month. "The United States cannot enjoy a normal relationship, much less a partnership, with a country that increasingly appears to have more in common with its Soviet and tsarist predecessors than with the modern state Vladimir Putin claims to aspire to build."

McCain also called for an investment blockade of Russia and for the continued enforcement of discriminatory trading restrictions imposed on Russia under the Jackson-Vanik amendment, which the U.S. has been promising to lift for years.

Russia's response? Even harsher rhetoric.

First Deputy Federation Council Speaker Valery Goreglyad warned of a new Cold War and blasted McCain for "direct interference in Russia's internal affairs."

Bush has raised the Khodorkovsky issue with Putin in at least two phone calls this month, something Kremlin watchers in Moscow called untoward interference in what should be an internal affair.

Vershbow, too, while publicly distancing himself from statements such as those of McCain, nevertheless is ratcheting up the pressure, saying that McCain's proposal to kick Russia out of the G-8 "reflects the deep concern about the Yukos affair across the whole American political spectrum."

McCain's initiative, he said, "cannot be underestimated."

Commanding Heights

The oil industry is vital to the economy, but Putin wants to make it less so. And that's means economic diversification. The only question now is how it will be achieved.

In his annual phone-in conference with the nation earlier this month, Putin gave the first indications of how the state intends to redirect oil revenues without crippling the industry. He said he wanted to push for increased taxation on windfall profits and to improve the state's "administration" over private businesses so that each and every citizen can share their wealth.

He complained that earlier measures to boost taxation on the oil sector had foundered on aggressive lobbying in the State Duma by the oil sector. He didn't name names, but he listed the parties that voted against the measures -- and all of them were funded by Khodorkovsky or people linked to Khodorkovsky.

Putin's defense minister, Sergei Ivanov, a member of the siloviki who is widely regarded as a potential replacement for Prime Minister Mikhail Kasyanov, went further last month, saying the state should simply take control of the oil industry. "The state should not lose control over strategic sectors of the economy" -- in particular it should control crude production levels and exploration, he told Kommersant.

Politicians and analysts said the fact that the defense minister is now weighing in on oil policy shows how closely the two issues are viewed by the government. If the Kremlin's plan is to rebuild Russia's geopolitical power, than the government must gain control over Khodorkovsky and the rest of the private energy sector, they said.

"If Yukos is not sold for cheap to the United States, and the state in the meantime is able to take control of Russia's biggest company to form a syndicate of major oil companies, it will increase the resources of the Russian state and increase its influence on the world arena," said Sergei Markov, a Kremlin-connected political analyst.

But if the Kremlin moves, as promised, to achieve its goal simply by hiking taxes, then how will a notoriously corrupt bureaucracy distribute these resources?

"The problem is there's no plan for what to do with the extra revenues," Alfa's Weafer said.

"Shifting resources from the most efficient part of the economy to less efficient ones is extremely risky," Weafer said. "For this to work, the government must curtail bureaucracy and corruption. Otherwise you could end up with something like Suharto's corrupt regime in Indonesia."

The Military Build-Up

The problem, perhaps for the West, is that Russia is already armed to the teeth. And, there is in fact a plan already for what to do with additional oil revenues.

According to long-term strategies for the economy drafted by the Economic Development and Trade Ministry, whose policies are generally applauded by the Western business community, the plan is to redistribute energy revenues into "high-tech" -- otherwise known as the defense sector.

Those plans seem modest so far, but some fear what the siloviki will do if they rise in power.

"The siloviki seem to want to take back control of oil revenues so that they can build up the military industrial complex as they did in Soviet times. They're saying let's go back to the good old days," said Marshall Goldman, associate director of the Davis Center for Russian and Eurasian Studies at Harvard University and author of "The Piratization of Russia: Russian Reform Goes Awry."

"The West should be very afraid of what is going on in Russia now," said Boris Berezovsky, the former owner of Sibneft and Putin antagonist exiled in London. "What's happening now could lead to a new military build-up. And a nationalist Russia armed with nuclear weapons is far more dangerous for the West than Hitler's Third Reich ever was."

Not everyone is worried, though, including, at least publicly, the U.S. State Department.

"Russian defense spending took a real nosedive after the break-up of the Soviet Union," a senior State Department official said by telephone from Washington. "A certain increase in defense spending is not seen as a threat. The Russian military is not seen as an adversary."

It's not clear if Russia's top brass thinks that way. Last week Ivanov proudly showcased the new Topol-M, the nation's state-of-the-art intercontinental missiles that Ivanov said was the most advanced nuclear weapon in the world.

"Only such weapons can ensure and guarantee our sovereignty and security and make any attempts to put military pressure on Russia absolutely senseless," Ivanov said in comments shown on state television.

Putin has also seemed anxious to talk up Russia's military capabilities. On the eve of the EU-Russia summit in Italy shortly after Khodorkovsky was arrested, he made clear in an interview with Italian journalists that he considered Russia a force to be reckoned with. He stressed again that Russia retains the right to launch preemptive strikes and pointed out that Russia has weapons that "can penetrate any missile defense system."

Putin raised the same issues while courting Muslim leaders on a trip of unprecedented duration to Asia earlier this year.

He also threatened to move Russia's oil business from dollars to euros, a move that could fundamentally alter the global economy and do harm to the United States.

Eyeing the Near Abroad

Some observers fear that the rise of the siloviki and the erosion of democratic freedoms in Russia might lead to a dangerous form of dictatorship that could threaten to spark new conflicts among former Soviet republics.

"If Russia does not consolidate the democratic system and instead gets a full-blown dictatorship, then you've got lots of problems for U.S.-Russia relations," said Michael McFaul, an expert on Russian politics and its relations with the United States at Stanford University.

"The guys with guns would like to have a greater role in influencing Georgia's affairs, for instance. Suddenly you'd have the possibility of state-to-state conflicts. That's something the U.S. does not want to see," he said.

"Who do dictators have to rely on to stay in power? It's not big business, it's the siloviki, the guys with guns. The U.S. administration does not have full control over Russia's foreign policy, but right now there's still ways of influencing it."

There's no talk of retaliation for Washington's recently announced intention to move its military bases right up to Russia's borders. And, during the recent phone-in conference, Putin stressed that Russia would respect Georgia's territorial sovereignty. But Putin is very much seeking to reestablish Moscow's influence over former Soviet space.

Last week, for example, he continued to push for an acceleration of ways to create a common economic space between Ukraine, Russia, Belarus and Kazakhstan.

The Great Gambit

Even if Putin's gambit to restore state might does not spiral into some of the doomsday scenarios being spun, it seems clear that he will find a way to increase Russia's influence in the global economy. Some nations are already taking note, including Saudi Arabia.

As Russia ramped up oil output following the August 1998 crisis to a level where this year it briefly surpassed Saudi Arabia as the world's top producer, the fear in Riyadh was that Russia was doing so at the behest of America, according to a source close to OPEC. That all changed, however, when Khodorkovsky's partner, Platon Lebedev was arrested in July. The arrest of a Yukos billionaire signaled a sea change in the Kremlin's relationship with big oil -- that the government was intent on reining in its independent giants.

"They didn't see the distance between the companies and the government," said the source, who was in Riyadh when Lebedev was arrested. "But the arrest made it clearer."

Despite the potential threat to U.S. economic interests and despite U.S. concern over where the Khodorkovsky case might lead Russia, it seems unlikely Bush is going to backtrack on the close relationship he's forged with Putin any time soon.

"Bush is still very positive on Russia. None of this is going to change that," Stanford's McFaul said. "He has staked his Russia policy on his personal relationship with Putin. He has no time or inclination to think about the future of Russian democracy. And you can't change your position a year before elections, otherwise you look like you've made a mistake."

In the meantime, however, according to Oleg Kalugin, Putin's former KGB boss in St. Petersburg who has since defected and received political asylum in the United States, Washington will try to weigh in.

"Behind the scenes [the U.S. government] will continue to exert pressure on Putin and try to check him," Kalugin said by telephone from Washington.