A RUSSIAN RENAISSANCE?
By Michael Akerib
Rusconsult
Lausanne
Switzerland

The strong nationalistic inclination of the Putin government has led it to envisage a variety of means to establish itself as a challenger of the US’ dominant position.

Russia’s military is in total disarray and lacks the power to be credible, in spite of repeated announcements of rebuilding its firing power, whether through the development of new missiles and submarines, installation of new radar facilities, flights close to US installations or the building of new vessels. It remains, nevertheless, the only credible nuclear threat to the US. The government is to invest $ 200 billion to re-equip the army but whether that will be sufficient to help the institution regain credibility is doubtful.

Russia’s military-supply industry involves 70% of Russian manufacturers but they lack the innovative drive seen in other countries and a large number of them are technically bankrupt.

Senior officers are corrupt and increasingly Russia is relying on mercenaries who are trained mostly to fight domestic independence movements.

Clearly, therefore, other means must be found for the country to be able to weigh on world policy. Becoming an indispensable supplier of raw materials and thus weigh on political decisions is an approach that has its merits.

This approach was used by the Communist regime – eventually unsuccessfully so – to compete with the US. The present rise of the BRICs, accompanied by a sustained demography, gives an increased power to the holders of natural resources and such a strategy may well be used by the new team that will lead Russia in the coming years.

Russia is sitting on a collection of natural resource holdings that make it, among other things, one of the major energy suppliers of the world. As emerging economies and China in particular, develop, raw material requirements increase and boost prices. Russia’s geographic situation puts it in a unique position to cater to a large variety of markets, including China.

Energy

Russia is today the world’s second largest oil producer, immediately behind Saudi Arabia. While the deposits exploited today lie in Siberia, the Arctic offers a huge potential, particularly as climatic warming will open access to these wells.

Russia is also the world’s largest producer and exporter of gas. While today most of the production is destined to the European market, future infrastructure development should enable the country to target the Asian and North American markets.

Russia is also a major exporter of uranium originating mostly from the Megatons to Megawatts agreement – i.e. the dismantling of missile heads and the dilution of plutonium to uranium.

Russia has recently agreed to purchase large amounts of uranium, possibly up to 4000 tons per annum - from Australia and has also indicated that it will create a stockpile of enriched uranium worth $ 300 million. The stockpile would be managed jointly with the International Atomic Energy Agency (IAEA).

Russia’s ability to weigh heavily on uranium prices has been already felt in 1991 when cheap exports led to a collapse of world prices and eventually to anti-dumping duties in the US.

Europe today can hardly ignore Russia as it supplies 40% of its gas and oil requirements, 45% of oil derivatives and 50% of its uranium needs. Germany and the former Soviet bloc countries are even more reliant on Russia for their energy requirements. Alternative supplies such as Central Asia or Iran are not exempt of risks, and would encourage Europe to integrate Turkey as a member as the pipelines would inevitably have to pass through that country.

Russia’s cost advantage with regard to energy has enabled mining and metal companies to be extremely profitable compared to their foreign competitors. This also means that Russian corporations have a price leverage that could allow them to reduce international competition and, in a second phase, increase prices and squeeze out some of the transformers that could become easy preys for an international expansion and Russian mining companies are already starting acquiring mining rights, mining corporations and transformers abroad.

Aluminum

Access to cheap energy has enabled Russia to become one of the world’s top aluminum producers.

Today Rusal, after having merged with its domestic competitor Sual, is the world’s largest primary aluminum and alumina producer, producing 15% of the world’s total aluminum. It has extended its international coverage by purchasing bauxite deposits and smelters in Guinea and 16 other countries.

The company is increasing its capacity by building new smelters and revamping older ones. In particular it is carrying out a feasibility study to build a complex, in the Saratov area, to produce 1 million tons of aluminum.

Nickel

Norilsk Nickel is today the world’s most important nickel producer. Its production represents 20% of global production of this metal used in stainless steel production. It is expanding abroad and has made the largest-ever purchase abroad by a Russian corporation.

A tie with Rusal, through a cross shareholding, would create a large corporation that could use this base for international expansion.

Palladium

A metal of the family of the platinum group, its main industrial use is in catalytic converters used by the car industry. It is usually associated with nickel-bearing ores, and thus is also mined, in Russia, by Norilsk Nickel. This production represents 50% of the world’s output.

Platinum

South Africa is the world’s largest producer, but increase in world consumption is expected to grow by 3% per annum thus creating a production shortfall which would make Russia an important actor in this industry.

Steel

While the Arcelor – Mittal merger has created an undisputed leader in the industry, the Russian steel producers remain fairly large corporations that can produce at highly competitive prices due to access to raw materials - coal and iron as well as cheap energy and labor.

Increasingly the Russian steel producers are integrating downstream by purchasing operations in the US or Western Europe.

Should Russia finally join the WTO, duties on Russian steel would be abolished, giving producers a more important entry into foreign markets.

Titanium

VSMPO-Avisma, 66% owned by the arms conglomerate Rosoboronexport, is the world’s largest producer of titanium. Titanium is vital for the aviation industry and both Airbus and Boeing have commissioned the company for the manufacture of titanium parts.

Will Russia chose a confrontational policy?

Russia has equipped itself with a tool that would allow it to conduct such a policy – ZAO Kremlin, a holding company created by the government to manage its industrial development policy.

There are a lot of drawbacks, should it choose to do so.

Countries relying on natural resources, and particularly the petro-states, have shown not to be open to modern forms of democracy. Power and wealth, due to substantial margins of the companies – whether public or private - involved in the extraction process, are concentrated in a limited number of hands.

The heavy involvement in industrial development of state-owned corporations in monopolistic or quasi-monopolistic market structures translates into lower efficiencies due to little, if any, pressure to perform. This is aggravated by the lack of transparency in state-owned corporations which reduces its credit ratings and therefore its ability to raise capital.

These countries are prone to corruption and have a currency strong enough to make exports of industrial products uncompetitive – the so-called ‘Dutch disease’. The economy also depends greatly on fluctuating prices of commodities.

The reliance on energy prices is dangerous particularly if the US economy goes into a sharp recession and prices of oil drop significantly. A massive drop could have political repercussions.

Already today, Russia’s image abroad is increasingly negative making many of its potential allies nervous and not too eager to increase the level of their relationships and their purchase of Russian products. A more confrontational attitude might lead to an even worse image and make it difficult for Russian corporations to attract capital either in the form of Foreign Direct Investments or IPOs. The same would apply to the huge capital investments required to build, or re-build, the country’s infrastructure.

An alternative route to a stronger Russia

There is an alternative route for Russia to rise again to world power status: develop a modern industry not dependent on raw materials and modernization that would complement its position in natural resources.

Initial steps to move the country away from its dependence on commodities have been taken both in defense technologies and in more advanced areas such as nanotechnology. However, the state should gradually disengage itself from industry and allow private entrepreneurs to spearhead change. This should include foreign entrepreneurs whose investments should be attracted in under-developed areas thus avoiding large disparities between the richer and poorer regions.

According to the Economic Development and Trade Ministry, a move towards high technology rather than raw materials could lead to a GDP growth of 6.7% per year, making Russia one of the world’s top five economies by 2020.

That would be more than sufficient for Russia to be heard on the international scene.

Let us hope that this will be the choice of the new president.