Summit News

Russia faces long road to diversify economy

MOSCOW (Reuters) - Russia must deliver on pledges to reform the tax system and encourage the creation of home-grown seed capital if it wants to make long-standing dreams of reducing its reliance on oil a reality.

Economic diversification has for years been the holy grail for a Russian economy that grew fat on the proceeds from oil, gas and metals revenues, but these goals have proved just as elusive in the financial crisis as they did in the boom years.

Politicians and business leaders attending the Reuters Russia Investment Summit this week were unanimous in agreeing the need to reduce the country’s reliance on natural resources. Achieving this, however, could yet take decades.

“It’s not enough to talk about diversification. You need to make actual investments to make this a reality,” said Vladimir Yakunin, head of the vast Russian railway network and a man once regarded as a leading candidate for the presidency.

Speakers at the summit called for tax reform to encourage investment and risk-taking, as well as the creation of venture capital and the growth of pensions and life insurance.

Before the financial crisis erupted a year ago, Russian efforts were hampered by a booming, oil-driven economy that masked an array of structural problems, said Ruben Aganbegyan, chief executive of investment bank Renaissance Capital.

“This was difficult to do when the country was awash with money,” he said. And when the crisis hit, the last thing people were thinking about was the long term.

"In a crisis, you deal with stabilizing the crisis," Stuart Lawson, chief executive of HSBC HSBA.L in Russia, said. "It wouldn't be reasonable for people in the middle of a crisis to be dealing with a long-term objective of diversification."

But he added: “It will be very important coming out of this period, once this crisis has stabilized, that those in authority continue to put forward the initiatives that will allow diversification of the economy.”

One of the biggest barriers to diversification is a shortage of home-grown, long-term capital. There is no significant life insurance and pension system in Russia, meaning in turn that it lacks a broad pool of domestic cash for investment.

Aganbegyan said the government must do more to encourage risk-taking by cutting bureaucracy and offering subsidies to support entrepreneurs.

“There should be some basic terms for setting up a business,” he said, including an acceptance that “nine out of ten start-ups will fail.”


Key sectors identified by the government are technology and pharmaceuticals, both areas that, in other countries, have thrived on early government support.

Top Kremlin economic aide Arkady Dvorkovich said cutting red tape was a priority for the government: “The bureaucratic burden needs cutting, because the time it takes to move from an idea to the market is too long. Too often people decide not to start.”

The oil sector -- which was earning Russia about $1 billion a day when crude prices peaked last July -- is also supportive, partly because it could spread the tax burden more evenly.

"It will reduce the government's dependence on our revenues," said Peter O'Brien, vice president for finance and investments at Rosneft ROSN.MM, Russia's biggest oil producer.

“The more the Russian economy can diversify, the better quality discussion we can have on rational tax reform, which is in the interests of both the government and the companies.”

But there are dangers on the road to a diversified economy. Russian bureaucracy is complex, inertia is pervasive and the country is huge.

“The economy of a big country is like a big ship. It is very difficult to change its direction,” said Leonid Reiman, chairman of state telecoms holding company Svyazinvest. “It’s sometimes impossible and dangerous to make very big turns.”

Reiman said major international companies were doing research and development in Russia, including Nokia NOK1V.HE and Boeing BA.N, but he argued the tax system was stacked against efforts by domestic companies in this area.

“The government is not doing enough. We should do more in terms of taxation, in terms of promoting Russian companies and supporting them in their work in the national markets.”

Although the oil industry is subject to targeted taxation, personnel-related taxes account for about 10 percent of its cost base, Reiman said. In the IT sector, the equivalent figure is closer to 70-80 percent.

Billionaire Alexander Lebedev was the most outspoken on the need for reform: “Our crisis is really the massive task of modernization, of structural reforms, the renewal of infrastructure and the creation of a real market economy.

“Our crisis is ancient infrastructure, which is 50 to 60 years old; roads, bridges, electricity stations and the aging way in which society is structured and the kleptocracy.”

Additional reporting by Robin Paxton; Editing by David Cowell