Rankings Rain on Economic Parade

Forget the determined reformist government that has produced unprecedented economic achievements over the last two years, including one of the world's highest growth rates and lowest income tax rates -- Russia is still a "risky" and "mostly unfree" place for investors.

Those are the conclusions of two reports released in the last week by influential Western organizations.

The Wall Street Journal, together with the Washington-based conservative Heritage Foundation think tank, on Monday released their "2002 Index of Economic Freedom," a 450-page survey that ranks 155 countries on a range of issues, including trade and monetary policy, government intervention in the economy, banking and property rights.

According to the rankings published in the index, Russia, at 131st, is one the 25 most investor-unfriendly countries in the world and its overall score, based on 10 different categories, remains the same as it was two years ago -- a finding that was met with something short of shock by many analysts on the ground in Moscow.

By contrast, fellow former Soviet state Estonia is ranked No. 4, tied with Ireland, Luxembourg, the Netherlands and the United States and behind Hong Kong, Singapore and New Zealand.

Among the other 130 countries considered by The Wall Street Journal and the Heritage Foundation to be more "economically free" than Russia, are Albania, Sri Lanka, Botswana, Mongolia and even the small poverty-ridden African state of Djibouti, which has an unemployment rate of more than 40 percent and an HIV/AIDS adult infection rate of nearly 12 percent, according to the CIA.

Russia's main economic problem, according to the authors, is the absence of broad-based political support for reform. President Vladimir Putin's overall agenda is considered questionable because of his excessive reliance on security forces, lack of progress on legal reform, corruption and the war in Chechnya. Other problems mentioned are the "inability to close the gap between available public resources and government spending" and the inability to push forward with structural reforms.

Government protectionism in Russia, one of the 10 factors figured into the rating, remains high, the report says, even though import duties on about one-third of all classes of commodities have been cut by a third.

Russia's score for "fiscal burden of government" only moved up slightly over last year, despite the introduction of a 13 percent flat tax on incomes, which has been described as revolutionary, and an upcoming reduction of the corporate tax rate.

Russia was given the lowest possible score for inflation despite an impressive reduction in recent years -- because the report uses a weighted annual rate from 1992 to 2000.

Russia was also given a low, and unchanged, score for foreign investment despite new, more investor-friendly legislation and an overall improvement in investment climate, the report says.

Analysts said many of the points in the report were wide of the mark.

"I do not think that after the recent economic and policy progress, describing President Putin's economic agenda as questionable is correct," said Morgan Stanley's Marcin Wiszniewski. "Moreover, ascribing Russia's economic problems to 'the absence of broad-based political support for reforms' is difficult to justify given the result of the latest Duma elections and the continued popularity of President Putin," he said.

"In general, the report focuses too much on the past and gives the country too little credit for what happened over the last year," Wiszniewski said. "I think progress which has been made ... is not adequately reflected."

"The gap between public resources and government spending would mean a budget deficit," said Renaissance Capital analyst Katya Malofeyeva. "Estimating the rate of inflation as an average between 1992 and 2000, which included several years of hyperinflation, distorts the picture," she added.

The Wall Street Journal could not be reached, and the Heritage Foundation was not available for comment Monday, a national holiday in the United States, so it was impossible to establish, for example, how the authors of the report estimated that in Russia "the black market continues to account for at least 50 percent of GDP."

"I don't know whether to laugh or cry over this," Malofeyeva said. "Bahrain is rated the same as Canada, El Salvador beats Austria, Belgium and Germany -- and Armenia beat France!"

Consider Djibouti, which, according to the report, "has little industry and few natural resources" and where "outside the capital city, the primary economic activity is nomadic subsistence," and it is difficult to understand the reasoning behind the report.

While in Russia new legislation "grants national treatment to foreign investors," in Djibouti the government "announced its intention to restrict foreign companies in the shipping and transport sectors [creating a government monopoly]." Yet the two countries scored the same in the category of foreign investment.

Foreign companies interested in Russia will find a less pessimistic, albeit a less thorough, assessment of the country's economic environment in the Annual Riskmap Survey for 2002, which was launched last week by the London-based Control Risks Group, which consults companies in more than 130 countries about the risks of doing business overseas, including in Russia.

Next year there will be better diplomatic relations with the West and superficial improvements in the business environment in Russia, but "old problems such as corruption, vested interests and a complicated relationship between business and state will continue to hinder some foreign business operations," according to the survey.

Based on a mixture of reports from the media and Russian and London-based business analysts, the report concludes that there are "medium" security and political risks involved in doing business in Russia. That means that although foreign businesses here may run into corruption, strong and hostile lobby groups, absence of adequate legal guarantees, capricious policy-making and racism, they won't face direct attacks.

"Overall the risks for doing business in Russia are manageable," said Tanya Malcolm, a research analyst at Control Risks Group and author of the survey's section on Russia.

Although it offers up an overall favorable assessment of Russia, the survey instructs foreign companies to steer clear of Chechnya and to continue to tread carefully in areas of strategic interest to Russia in the former Soviet republics.

There are "extreme" security and political risks to doing business in Chechnya and "high" security risks to doing business in the North Caucasus, according to the Control Risks Group's report. It warns that the continuing separatist war in Chechnya will have a negative effect on the security situation across the North Caucuses and will continue to fuel thriving criminal networks.

The war in Chechnya may also pose particular threats to U.S. companies. "If Russia were to become closely involved with the U.S., there is a risk that U.S. commercial interests could also be targeted," it says. "This remains unlikely, but foreign companies -- particularly in the North Caucasus -- are advised to incorporate the prospect into their planning."

Afghanistan, Tajikistan, Burundi, Liberia and Chad are among the other countries that have "extreme" security risks. Georgia, Azerbaijan and Moldova are among those with "high" security risks.

According to the survey, the growing influence of Russian business in the former Soviet republics contributes to the risks for foreign companies.

Russia's largest companies, like Gazprom, LUKoil, Tyumen Oil Co. and Yukos have been consolidating, thereby reducing the number of companies in their sector, and are now making major acquisitions in areas of former Soviet influence.

Fears of a "new Russian imperialism" -- the marriage of foreign policy and business ambitions aided by political links and poor transparency -- have resulted from big deals that have already occurred in the Baltics, according to the survey.

The survey mentioned the scandal involving LUKoil's heavy-handed efforts to control Lithuania's Mazheikiu Nafta, the only oil refinery in the Baltics, which is 33 percent owned by U.S. Williams. The conflict deteriorated to the point that both the Russian, U.S. and Lithuanian governments got involved, with the end result being that LUKoil lost a permanent supply agreement, which went to Yukos.

Control Risks Group said that Yukos won out because "Putin believed that LUKoil's behavior was discrediting the image of Russian businesses abroad."

The group warns in its report that non-Russian businesses looking to invest in areas and business sectors of "strategic' interest" would face serious opposition.

"Foreign companies should tread carefully in these areas," said Malcolm. "They should find out more about potential partners and the people they will need to deal with in their sector -- business figures and people in the ministries."




























Economic Freedom Ranking (selected countries)

1. Hong Kong 12. Denmark 55. Sri Lanka
2. Singapore 12. Switzerland 60. Botswana
3. New Zealand 14. Finland 72. Uganda
4. Estonia 15. Bahrain 88. Nicaragua
4. Ireland 15. Canada 97. Zambia
4. Luxembourg 35. Japan 101. Albania
4. Netherlands 42. Cambodia 105. Moldova
4. United States 43. Costa Rica 108. Croatia
9. Australia 45. Bolivia 108. Rwanda
9. Chile 45. France 118. Niger
9. Unied Kingdom 55. Sri Lanka 131 Russia
Source: Heritage Foundation, The Wall Street Journal