The Competitive Advantage of Russia

CASE: IB-73
DATE: 06/30/08
THE COMPETITIVE ADVANTAGE OF RUSSIA

It is foolish for people in the West to deny that Russia is a great power and that, in some ways, its
influence has increased.
⎯ “Putin’s People,” The Economist, August 23, 2007
INTRODUCTION
The Russian Federation (Russia) was the largest of the 15 geopolitical entities that emerged in
1991 from the Soviet Union. Despite a series of reforms initiated in 1992 to help the country
transition from its centrally planned economy, Russia plunged into a deep recession that was
exacerbated by a financial crisis in 1998. Tens of millions of people were thrust into poverty and
a severe fall in the standard of living triggered an outbreak of corruption and organized crime.
By 1998, Russia’s GDP had fallen nearly 40 percent from its 1991 level.1
It was not until 1999, following eight years of turmoil, macroeconomic stabilization and
economic restructuring, that the economy slowly began to grow again. When Vladimir
Vladimirovich Putin became president on December 31, 1999, Russia was the world’s tenth-
largest economy and its foreign reserves stood at $8.5 billion. By 2007, the country’s economy
had become the world’s eighth-biggest, with reserves of $407.5 billion.2 Russia’s GDP reached
$1,290 billion in 2007, and grew at approximately 8.1 percent.3 With its improved economic
performance, vast natural resources, a highly educated population of approximately 142 million
people, and a position of increasing political influence in the world, Russia’s potential was great.
Yet, supporters and critics alike remained cautious regarding the country’s burgeoning economic
power. For one thing, Russia’s economy was heavily dependent on high prices for oil, gas, and
other commodities that might not last. It was relatively weak in manufacturing, services, and
high-technology industries. And both foreign and domestic investments were low, particularly
compared with nations such as China. Furthermore, there were growing concerns regarding the
government’s perceived reversal in attitude toward private investment in the country, increased
media censorship, a general roll-back of political freedoms, and the progressively divisive role
that Russia was playing in its relations with the United States and the European Union.
Katya Reuk, Victoria Chang, and Lyn Denend prepared this case under the supervision of Professor Bruce McKern as the basis
for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. Some material
was drawn from an earlier work by Sweta Sarnot.
Copyright © 2008 by the Board of Trustees of the Leland Stanford Junior University. All rights reserved. To order copies or
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The Competitive Advantage of Russia IB-73 p. 2
In May 2008, when Russia’s new president, Dmitry Medvedev, was inaugurated and Putin
assumed the role of prime minister, western companies with interests in Russia faced great
uncertainty. Would Putin’s hand-picked successor, under Putin’s powerful and watchful eye,
continue to enact policies and take actions that would make the business environment
increasingly unfavorable to foreign investment? Or, would the new regime chart a more liberal
and democratic course for Russia that would enable the country to improve its global
competitiveness and allow outside investors to participate in its prosperity? Russia had made
great strides to improve its position in the world since the dissolution of the Soviet Union.
Nevertheless, it remained to be seen whether the country, particularly under its current
circumstances, could create and sustain lasting international competitive advantage, which many
western critics believed would require a more democratic political regime.
COUNTRY OVERVIEW
Russia’s Post-Soviet History
After the December 1991 dissolution of the Soviet Union, the Russian Federation became its
largest successor state, inheriting its permanent seat on the United Nations Security Council, as
well as the bulk of its nuclear weapons, foreign assets, and debt. Boris Yeltsin was elected
president of Russia by popular vote in June 1991. However, by the fall of 1993, politics in
Russia had reached a stalemate between Yeltsin and the parliament. In a dramatic speech in
September of that year, Yeltsin dissolved the Russian parliament and called for new national
elections and a new constitution. The standoff turned violent in October, with President Yeltsin
ordering the army to respond with force to capture the parliament building. In December, voters
elected a new parliament and approved a new constitution, which had been drafted by the Yeltsin
government.
The December 1995 parliamentary election produced an opposition-dominated State Duma (the
lower house of the legislature), but six months later, Yeltsin—with financial help and media
support from the country’s business elite (the oligarchs4)—won re-election in a second-round
run-off against the leader of the communist party, Gennady Zyuganov. Widely criticized for
presiding over a seemingly unstoppable increase in corruption and poverty, Yeltsin’s economic
reform policies nevertheless laid some of the foundations for the increased prosperity Russia
would enjoy in the 2000s. However, when a financial crisis in August 1998 undermined
Yeltsin’s credibility, he resigned on December 31, 1999. In doing so, he designated Vladimir
Putin, his prime minister at the time, as the acting president. This appointment was perceived as
controversial by some, since Putin was a former KGB officer, head of the FSB (the KGB’s post-
Soviet secret police/intelligence agency), and relatively unknown before becoming prime
minister.5
Putin achieved widespread popularity by stabilizing the government, in marked contrast to what
many Russians saw as the chaos of the latter Yeltsin years. At the same time, the consolidation
of state authority following Putin’s election as president prompted concerns as to whether
Russia’s nascent democracy was being undermined. However, Putin’s strong-man tactics in the
bitter Chechnya insurrection were electorally popular and, in March 2000, he won election in his
own right as Russia’s second president (with 53 percent of the vote).6 Under his leadership the
economy grew both because of rising oil prices and because Putin followed a reformist path,
further liberalizing the economy, stopping a spiral of hyperinflation, and cracking down on
corruption and crime (including the power of the oligarchs). He also maintained Russia’s
democratic institutions and moved closer to the West, particularly following the attacks of
September 11, 2001 in the U.S., which allowed him to portray Russia’s war in Chechnya as part
of a wider struggle against Islamist terrorism.
In 2004, Putin was re-elected with nearly three-fourths of the vote.7 In September of that year,
early in Putin’s second presidential term, a group of terrorists attacked a school in Beslan, a
small town in the Caucasus region of Russia. More than 330 hostages, including scores of
school children, were killed. Putin then proposed sweeping changes for consolidating
presidential authority to fight terrorism, which raised a blitzkrieg of condemnatory reactions
from the West. Some critics blamed the Russian military’s tactics for the heavy loss of life.
Many of Putin’s subsequent actions reinforced western worries, such as the government’s
closure of a prominent independent TV station, placement of extensive restrictions on the
activities of non-governmental organizations, the abolition of elections for regional
governorships, and the allegedly politically motivated arrest and trial of a former oligarch, which
led to the destruction of the country’s largest private oil company. As one 2008 article stated in
describing the raids and takeovers carried out by the Russian government against private firms,
“The practice is so widespread, it’s impossible to list all the cases.”8 Critics further asserted that
Putin was undermining Russia’s evolution as a liberal state and reversing the progress made on
private ownership and media freedom under his predecessor and mentor, Boris Yeltsin.9
In parallel with these changing domestic policies, Russia began playing a more controversial role
abroad, taking an increasingly confrontational position toward the U.S. and a more divisive
approach to its relations with the EU. As one 2008 article described:
Putin’s foreign policy—and, by extension, [new president] Medvedev’s—rests on

two key assumptions and one strategic calculation. It assumes the United States is
facing a collapse that is not much different from the collapse of Soviet power. It
also assumes that the EU—despite being, in Russia’s view, a temporary
phenomenon—is a threat to the Russian regime by its very existence as a
postmodern empire. The calculation is that the next decade presents a strategic
window of opportunity for Russia to position itself as a great power in the
emerging multipolar world, while also securing the legitimacy of the regime, even
if that means following a more assertive and confrontational foreign policy.10
While many were hopeful that Medvedev would take the country in a more liberal, democratic,
and diplomatic direction, others feared that his regime, particularly with Putin exercising
unprecedented levels of influence in the role of prime minister, would offer more of the same.
While Russia’s promise (and its vulnerability) were widely recognized in the international
community, the country was again, for the first time since the Soviet era, perceived as a growing
threat:
The paradox is that, faced with new Russian revisionism, the West is becoming
nostalgic for the old Soviet Union…. In the words of one senior French diplomat,
‘The Soviet Union was easier to deal with than Russia is today. Sometimes the
Soviets were difficult, but you knew they were being obstructive in order to
achieve an objective. Now, Russia seeks to block the West systematically on
every subject, apparently without purpose.’ In other words, Russia is not simply a
revisionist power—it is something potentially more dangerous: a spoiler at large.
The Kremlin’s recent actions easily fit this threatening image.11
Political System
In the political system established by the 1993 constitution, Russia was a democratic, federal
republic. The government was structured into three branches: the executive, legislature, and
judiciary.12 Russia was a federation, but the precise distribution of powers between the central
government and the regional and local authorities was still evolving.
The Russian Federation consisted of 89 components, including regions, autonomous republics,

territories, and the two federal cities, Moscow and St. Petersburg. The constitution explicitly
defined the federal government’s exclusive powers, but it also described most key regional issues
as the joint responsibility of the federal government and the components of the Federation. The
federal government, in the course of the 1990s, signed power-sharing agreements with many of
these entities. However, Yeltsin’s encouragement of greater regional autonomy in the early to
mid-1990s resulted in many regional leaders exercising disproportionate levels of power. As a
result, Putin made reforming Russian federalism a priority. In 2000, he grouped the regions into
seven federal districts, with presidential appointees established in Moscow and six provincial
capitals. At his initiative, the Federal Assembly passed legislation making regional leaders
subject to removal from office for failing to comply with federal law or the constitution. In
March 2004, the constitution was amended to permit the merger of some regional administrative
units. Another law, enacted in December 2004, took these policies further by eliminating the
direct election of the country’s regional leaders.13 Instead, senators were nominated by the
president and subject to confirmation by the regional legislatures. These and other initiatives
were designed to strengthen the power of the center and to rein in regional leaders, some of
whom had come to exercise almost unlimited authority in their own realms.
Executive Branch
Under the Russian constitution, the president and prime minister (chairman of the government)
represented the executive branch.14 The president wielded considerable executive power and
there was no vice president. The president nominated the highest state officials, including the
prime minister, subject to the approval of the Duma (part of the much weaker legislative branch).
The president could pass decrees without the assent of the Duma and was also head of the armed
forces and the National Security Council. The president was elected for a four-year term and
could serve a maximum of two terms.
Legislative Branch
The legislative branch, or Federal Assembly, was a bicameral body consisting of the Federation
Council and the State Duma. The State Duma, the lower house, consisted of 450 deputies. Until
2005, half of these deputies were elected from single-mandate geographic districts and half on
the basis of party lists. In the election of 2003, 100 of these seats had been won by independents
or minor party candidates.15 However, these single-member constituencies were abolished in
early 2005 as a result of a presidential measure adopted by the Duma. Supporters argued that the
new approach would simplify the Duma system, strengthen local representation, and direct
public attention and political resources outside of Moscow, Russia’s capital city. Critics, on the
other hand, maintained that the policy shift toward a pure majoritarian system would exaggerate
representation of larger political parties, undermine the representation of political and social
minorities, and reduce incentives for development of new political parties.16
In terms of their responsibilities, representatives of the Duma confirmed candidates for prime
minister, passed federal laws, adopted the federal budget, and ratified treaties. Deputies were
elected to four-year terms (the next election was scheduled for December 2, 2007), although the
constitution allowed the president to dismiss the Duma and call early elections in rare
circumstances.
Historically, Russia’s upper house, the Federation Council, was composed of senators elected by
components of the Federation. In 2007, there were 176 senators.17 As noted, a new law adopted
in 2004, authorized the president to pick these representatives, subject to the confirmation of the
regional legislatures.18
Unlike the State Duma, with its multiple political parties, the Federation Council had a specific
rule that political factions were not to exist in the upper house. As a result, the Council relied on
consensus politics to perform its work (cooperating with the State Duma to complete and vote on
draft laws, budgets, customs regulations, credit monitoring, and the ratification of international
treaties). Senators were able to retain membership of their respective parties; however, they
were instructed not to directly represent these views on the floor of the upper house. Since the
reforms of the early 2000s, which did away with party politics, the Council had enjoyed a
relatively close relationship with the Kremlin and was criticized at times for easily passing laws
according to the president’s wishes, under the guidance of the chairman and the various
committee and commission chairs.19
Judicial Branch
The 1993 constitution empowered the Constitutional Court to arbitrate disputes between the
executive and legislative branches, and between Moscow and the regional and local
governments. The court was also authorized to rule on violations of constitutional rights, to
examine appeals from various bodies, and to participate in impeachment proceedings against the
president. The new Constitutional Court Act of July 1994 prohibited the Constitutional Court
from examining cases on its own initiative and limited the scope of issues it could hear.20
By the late 1990s, the Russian government had begun to reform the criminal justice system and
judicial institutions, including the reintroduction of jury trials in certain criminal cases. President
Putin had made judicial and other legal reforms one of his top priorities and had secured the
passage of several key judicial reform bills, including a new Code of Criminal Procedure, which
came into force on July 1, 2002.
Despite these reforms, Russia’s judiciary and justice system were relatively weak. Numerous
matters, which in other European countries were dealt with by administrative authority, remained
subject to political influence in Russia,21 and judges were only beginning to assert their
constitutionally mandated independence from other branches of government. There were rising
concerns that prosecutors selectively targeted individuals for political reasons, as in the
prosecution of Mikhail Khodorkovsky, the CEO of Yukos Oil, who had been a vocal critic of the
Kremlin. In spite of the general tendency to increase judicial independence (for example, by
raising the salaries of judges), many judges still saw their role not as impartial and independent
arbiters, but as government officials protecting state interests.
Political Environment
2008 was an important year for Russia politically due to the country’s presidential election.
Putin, who had served for two four-year terms, was banned from running for re-election under
the constitution (although he would be eligible again in 2012). In December 2007, he announced
that Dmitry Medvedev would become his successor, while also promising to become the
country’s prime minister.22 When Russian voters cast their ballots on March 2, 2008, it was
described as a “mere ritual.”23 According to one article:
‘There was no election,’ said a young, middle-class Muscovite. ‘I voted for

Medvedev, because there was no choice.’ Opposition candidates who might have
proven more of a challenge to the Kremlin, such as Mikhail Kasyanov [Russia’s
prime minister from 2000 to 2004 and a vocal opponent of Putin] were banned
from running. Those candidates allowed to compete by the Kremlin included the
Communist Gennady Zyuganov, the clownish nationalist Vladimir Zhirinovsky,
and a Kremlin clone, Andrei Bogdanov.24
Critics further asserted that the Kremlin fixed the election in favor of its candidate by turning
some voters away from the polls and massaging both the results of the vote and the turnout
figures,25 another sign that Russia’s democracy was seriously weakened.
However, while some feared that Medvedev would be little more than Putin’s puppet, others
perceived him as more of a liberal. On the one hand, “Moscow has been rife with speculation
about who will really be in charge ever since Mr. Putin chose his long-time protégé and lawyer
as his successor. For now, the answer appears to be either that nobody knows, or that it will still
be Mr. Putin.”26 On the other hand, “Mr. Medvedev is the first Russian leader since the tsars to
have come from neither the security services nor the old Communist Party. And judging by what
he says, including in his inaugural speech, he has some liberal instincts and an understanding of
why the rule of law matters.”27
During Putin’s time in office, the role of the president increased in strength. As a result, the
relationship between the president and the Duma was strained and often fractious, as each one
carefully guarded its own powers and privileges. The political system was also characterized by
a plethora of parties, often with policy programs that were defined more by loyalty to key
political players than by ideology.28 In 2008, though, the situation looked somewhat different.
In preparation for his move to the position of prime minister, Putin, while still president, “gave
himself extra powers, including oversight of regional governors; and transferred more mundane
tasks to some ministries, giving himself time to concentrate on strategic tasks.”29 He also
accepted the position of leader for the largest political party in Russia⎯the United Russia Party,
which held 70 percent of the seats in the Duma in 2008. As one article put it:
Becoming the chairman of United Russia will significantly enhance Putin’s

political power beyond the authorities of the prime minister’s office. While being
prime minister will accord Putin authority over the government's administrative
apparatus … he will now also have effective control of the country’s legislative
branch. This includes key constitutional prerogatives such as veto powers over
new legislation and certain presidential appointments such as the central bank
chairman. Even more crucial is that with a two-thirds vote of the Duma, which
Putin will easily be able to command, he will be able to initiate impeachment
proceedings against the president and amend the constitution. Moreover, as
United Russia controls most of the country’s regional legislatures, Putin will
continue to exert influence over matters of sub-national policy. From a policy
perspective, this underlines our core view that the transition to a new president
will not signal a major shift in Russian government ideology.30
Moreover, Putin remained at the peak of his popularity, with an approval rating above 70
percent.31 According to at least one poll, “as many Russians want the two men to share power as
say they would like Mr. Medvedev to lead alone.”32 This signalled that many citizens welcomed
the continuation of Putin’s policies. Yet, it remained to be seen how this new political scenario
would play out following Medvedev’s inauguration in May 2008:
Maybe Mr. Putin will slowly fade out, building up Mr. Medvedev as a strong
successor. More likely, either Mr. Medvedev will be a figurehead atop a strong
Putin government, perhaps an interim leader before Mr. Putin returns as president;
or he (and those around him) will set about using the president's immense powers
to try to sap Mr. Putin's strength. Either way, a double-headed government
promises to be a source of extra instability. At a time when the challenges for the
next president are harder than ever, that is the last thing Russia needs.33
Political Outlook at the End of 2008

As noted, a measurable cooling in Russia’s relations with the West was among the political
challenges Russia’s leadership faced. These strained relations reflected deep differences in the
Putin era on issues such as national security and nuclear armaments. Relations between Russia
and the U.S. were particularly contentious, although Russia’s relations with the EU were also
poor. Importantly, however, many EU countries (unlike the U.S.) were closely tied to Russia
due to their close trade and energy links with the country: the EU satisfied approximately one-
fifth of its energy needs from the Russian Federation. Russia’s temporary suspension of gas
supplies through Ukraine in 2006 and oil supplies through Belarus in 2007 exacerbated European
doubts about Russia’s reliability as a source of energy. The EU asked Russia to agree to
international rules on investment and trade in energy as part of an attempt to enter into a strategic
partnership with the country, yet Russia seemed reluctant to relax state control over the sector.
Furthermore, the increasing role in EU energy markets of Gazprom, the largest Russian company
and biggest extractor of natural gas in the world, continued to be a source of contention.34 One
article summarized Russia’s foreign policy this way:
In recent years, for example, Moscow has orchestrated a noisy and

confrontational return to the international scene. It decided not to cooperate with
the West in taming Iran’s nuclear ambitions or in settling the final status of
Kosovo. Last year, the Kremlin unilaterally suspended the Treaty on
Conventional Armed Forces in Europe. It blocked the work of the Organization
for Security and Cooperation in Europe. Gazprom, Russia’s gas monopoly,
aggressively tries to control the energy supply throughout the region. The
country’s military budget has increased sixfold since 2000. Russian planes are
patrolling the Atlantic. Moscow’s intelligence network is creeping into all corners
of Europe. Not since the hottest days of the Cold War have so many wondered
just what was going on behind the Kremlin’s closed doors.35
Russia also had to deal with its post-Soviet relationship with former republics. For example, in
mid-2005, relations between Russia and Estonia took a negative turn. The Estonian parliament
introduced a reference to Soviet occupation into its border treaty with Russia before
parliamentary ratification. Russia responded by withdrawing from the agreement. In 2007,
serious tensions remained with Ukraine and Belarus over the pricing and terms of payment for
natural gas. Meanwhile, Chechnya continued to be a major concern at the core of Putin’s fight
against terrorism. The death of the central figure within the Chechen resistance in July 2006,
however, was seen as a coup for the government.
In parallel, government pressure continued to weaken freedom of expression and the

independence of some media, particularly major national television networks and regional media
outlets. For example, a government decision resulted in the elimination of the last major non-
state television network in 2003.36 The national press was increasingly under government
control, narrowing the range of expressed opinions and provoking self-censorship. Unsolved
murders of journalists, including the killing of respected investigative reporter Anna
Politkovskaya in October 2006, caused mounting international concern and pressure on
journalists to avoid subjects considered sensitive. While Russia’s highest court ruled in favor of
a media-training group in May 2008 in a case that was seen as an example of the Kremlin’s
pressure on civil society and freedom of the press,37 critics remained concerned about the
direction of the Russian government in this arena. To observers, Medvedev appeared “well
aware of Russia’s colossal corruption, lawlessness and inefficiency … but he also believes that
the system needs only upgrading, not replacing.38
Economic Environment
As described, following the collapse of the Soviet Union in 1991, Russia launched reforms with
the goal of transforming the centrally planned economy into a free-market system. Difficulties
in implementing fiscal reforms aimed at raising government revenues, combined with a
dependence on short-term borrowing to finance budget deficits led to a serious financial crisis in
1998. Lower prices for Russia’s major exports⎯oil, natural gas, metals, and timber accounted
for more than 80 percent of Russian exports at the time39⎯as well as the non-payment of taxes
by the energy and manufacturing industries, and a loss of investor confidence due to the Asian
financial crisis (which began in 1997) all exacerbated the country’s financial problems. The
result was a rapid and steep decline in the value of the ruble by more than 80 percent,40 the flight
of foreign investment, delayed payments on sovereign and private debt, a breakdown of
commercial transactions through the banking system, and the threat of runaway inflation.
While life for Russia’s people was economically difficult during this period, the economy as a
whole rebounded remarkably quickly from the crisis. By 1999, the country began to experience
a financial turnaround, driven in part by rising world oil prices, which created a large trade
surplus in 1999 and 2000. Some of the country’s domestic industries, such as food processing,
also benefited from the currency devaluation, which caused a steep increase in the prices of
imported goods. Additionally, the economy was helped by an infusion of cash (from financial
assistance packages provided by the International Monetary Fund and World Bank). As
companies were able to pay off their debts and other obligations, they were encouraged to hire
and expand, causing unemployment to drop and consumer demand to rise.41 Signs of Russia’s
recovery included an average annual gain of 10 percent in real fixed capital investments between
2003 and 2007, while real personal incomes increased in excess of 12 percent within the same
period. The country also reduced its foreign debt from 90 percent of GDP to approximately 28
percent by 2006.42
By nearly all accounts, Russia’s turnaround under Putin was remarkable, although it was not
clear how sustainable:
Even Mr. Putin’s critics are impressed by Russia's transformation in the past few
years. A country that almost went bust ten years ago now boasts a $1.3 trillion
economy, foreign-currency reserves of nearly $480 billion and a $144 billion
stabilization fund [created from the taxation of] oil and gas revenue. Annual
growth of real incomes has been in double digits. GDP per head has risen from
less than $2,000 in 1998 to $9,000 today at current rates of exchange. Yet the
truth is that Russia's economy began its rebound 18 months before he became
president. Behind it lie three factors: a revival of private initiative, oil prices that
have risen fourfold during his presidency and macroeconomic stability. Only the
third can be credited to Mr. Putin. The economy is now more dependent on oil
than ever. And the outlook is bleaker: a slowing world economy means that oil
prices may not rise further, and could even fall.43
The need to diversify the economy and reduce the overarching dependence on high prices in the
energy and raw material sectors was explicitly recognized by the government and was reflected
in a number of subsequent measures, including changes in tax rules coupled with tax breaks to
promote innovation-related activities, as well as the creation of special economic zones (SEZs)
and technology parks to boost the manufacturing and IT sectors. To bolster exports, a move that
was necessary because Russia “had largely failed to convert the oil stimulus into domestic
production,”44 the government also proposed subsidized credits for exporters. It further sought
to accelerate the implementation of the numerous recently enacted economic reforms, attract and
retain additional foreign investment, and stimulate the development of small and medium-sized
enterprises. Despite these moves, economists feared the Russian economy was overheating.
Unable to digest the money generated by the oil-and-gas boom and the resultant sizable capital
inflows, Russia experienced double-digit inflation in late 200745 despite appreciation of the
ruble.
Russia’s economic stability was considered all the more fragile when one viewed it in the
context of the country’s current political environment. According to an interview with Andrei
Illarionov, a former economic advisor to Putin during the early years of his presidency, Russia’s
reforms went off course in mid-2003 when the government initiated its attacks on oil company
Yukos. The article further asserted:
The significance of the Yukos affair went beyond the destruction of Russia’s
largest [private] oil company and the imprisonment of its boss, Mikhail
Khodorkovsky. It dictated the country’s entire economic and political course.
The attack on Mr. Khodorkovsky was presented as a crackdown on the oligarchs.
Yet it created a new, more powerful and less visible caste that began to play a
dominant role in the economy. The share of crude-oil production controlled by
state and semi-state companies doubled. Growth in oil output, which before the
Yukos affair had been running at about 9 percent a year, slowed to just 1 percent
by the end of 2007. Worse, the destruction of Yukos negated any efforts to
strengthen the rule of law. ‘The problem is not that the Russian legal system is
weak,’ says Vitaly Naishul, who watches Russian institutions. ‘The problem is
that it does not exist. The Russian justice system has as much to do with justice
as the Soviet system of trade with trade.’ That problem is as old as Russia, but
under Mr. Yeltsin the courts, however corrupt, were at least independent of the
Kremlin. Under Mr. Putin, judges have again turned into bureaucrats who rubber-
stamp dubious administrative decisions. The destruction of Yukos and the
redistribution of its assets to Rosneft, a quasi-state oil company chaired by Mr.
Putin’s deputy chief of staff, showed that property rights count for little. ‘After
Yukos nobody can feel safe,’ says the owner of a factory making kitchen shelves
in Kaluga. Instead of cultivating the rule of law, as Mr. Putin promised, Russia
was subjected to the rule of thugs, says Mr. Illarionov.46
Economic Reforms
The process of economic reform in Russia accelerated significantly in late 2000 through early
2002, with the enactment of a range of sweeping legislation. As the focus began to shift toward
implementation, progress slowed. Despite this slowdown, however, there had been significant
policy changes in the areas of fiscal policy, trade, foreign investment, banking, taxation, tariff
and non-tariff barriers, and currency policies.
Fiscal Policy
The economic upturn due to improved competitiveness and higher oil prices had led to more
buoyant fiscal revenues, particularly from the energy sector. However, an unprecedented
increase in the current account surplus exacerbated inflationary and exchange rate pressures. In
response, the Central Bank introduced more flexibility in the exchange rate policy, allowing the
ruble to appreciate in nominal terms (in the first 10 months of 2006, the ruble appreciated 7.6
percent against the US dollar). Despite this move, inflation was becoming increasingly
worrisome.
Large balance of payments surpluses complicated monetary policy for Russia. The Central Bank
followed a policy of “managed” appreciation in an attempt to ease the impact on domestic
producers, while the government attempted to offset the impact of the capital inflows by running
large budget surpluses. However, the Central Bank had to buy dollars generated by the export
surplus, pumping additional ruble liquidity into the system. The rising demand for money due to
the growth of the economy softened the inflationary impact, but these policy choices complicated
the government’s efforts to lower inflation to the single digits. Consumer price inflation was 9.2
percent in 2007, having steadily decreased from more than 20 percent in 2000. Despite these
measures, inflation was forecast to climb to 13.5 percent in 2008.47
The extent of real effective appreciation in recent years was considerable and had by 2007
nullified the gains in competitiveness arising from the 1998 devaluation. Further strengthening
of the ruble appeared inevitable, owing to continued foreign-exchange inflows and the dearth of
sterilization instruments at the Central Bank’s disposal.48 Concerns over inflation were expected
to lead the Central Bank to accept more ruble appreciation.
Russia’s federal budget policy was aimed at ensuring balanced government finance, increased
spending efficiency, risk reduction, refinement of inter-budgetary mechanisms, and
modernization of the budget sphere. Starting in 2006, the budget was developed on the basis of a
prospective three-year financial plan. In 2006, the Ministry of Finance pursued a policy of
separating existing and new government obligations (in particular, this concerned the decisions
to increase the salaries of government employees, as well as pensions and benefits) in order to
improve stability, predictability, and transparency in government spending. This project was
expected to create a more flexible and efficient incentive system for government employees and
to raise the appeal of government service on the employment market.49
The Russian federal budget had run growing surpluses since 2001, as the government had taxed
and saved much of the rapidly increasing oil revenues. The 2007 budget surplus was more than
5 percent of GDP.50 Although there were strong pressures to relax spending ahead of elections,
the government loosened its spending gradually, as the economy was running at near capacity
and there were dangers of continued inflation and rapid exchange rate appreciation. Spending
increases were mostly for increased salaries of government employees and pensions.51
Trade
Exports represented $355 billion in 2007, with imports at $223 billion, resulting in a trade
surplus of $132 billion, which boosted domestic demand. Primary exports included petroleum
and petroleum products, natural gas, wood and wood products, metals, and chemicals. Russian
GDP growth and the surplus in the federal budget were closely linked to world oil prices, since
commodities comprised such a high percentage of Russian exports.52
Since the collapse of communism, Russia’s trade with the West had grown significantly, while
its trade links with the former Eastern Bloc countries and other parts of the former Soviet Union
had become relatively less significant. The EU emerged as Russia’s largest trading partner,
accounting for more than 50 percent of the country’s total trade, followed by the countries of the
Commonwealth of Independent States (CIS), which contributed another 14 percent. On the
export side, the Netherlands was the biggest destination, accounting for 10.3 percent of total
Russian exports. Germany and Italy accounted for another 8.3 percent and 7.9 percent
respectively. Among the CIS countries, Ukraine was the biggest export destination, receiving
around 5.2 percent of total Russian exports. China (5.5 percent), Turkey (4.5 percent), and
Switzerland (4.4 percent) were also key markets.
On the import side, Germany was Russia’s largest supplier, accounting for 13.6 percent of total
imports. In the CIS, Ukraine (8 percent) and Belarus (4.7 percent) were the most important
suppliers. China (7.4 percent), Japan (6 percent), the U.S. (4.7 percent), and South Korea (4.1
percent) were other important sources.53 Primary imports to Russia from the U.S. included
machinery, meat (mostly poultry), electrical equipment, and high-technology products.54
Foreign Investment
Despite Russia’s size and economic potential, foreign direct investment (FDI) inflows were
meager throughout the 1990s. In the 2000s, FDI inflows increased, as foreign investors sought
opportunities in line with those in China, India, and Brazil. However, Russia’s cumulative FDI
per capita still lagged far behind such countries as Hungary, Poland, and the Czech Republic.
Russia’s poor business climate, lack of transparency, and widespread corruption partly negated
the country’s solid macroeconomic fundamentals and its consumer and retail booms, which were
providing double-digit returns to investors and attracting some new inflows. Another significant
drawback to investors was the Russian banking sector, which lacked the resources, capability,
and credibility needed to attract substantial savings and direct these toward productive
investments.55
Russia attracted nearly $29 billion in FDI in 2006, up from almost $13 billion in 2005.56 In
2007, FDI again increased significantly and was estimated to have reached $52 billion.57
Russian domestic funds were also flowing back into the country, as much of the foreign
investment coming into Russia from locations such as Cyprus and Gibraltar was actually
repatriated Russian capital.58
Russia’s approach to FDI was relatively subdued, compared with some other developing
economies. However, the energy sector was an exception, with some large oil and gas projects
distorting the overall investment picture. While efforts were made to reform tax law and
administration, foreign firms sometimes struggled to interpret rules. Direct investment could be
particularly tricky in the country’s regions, as corruption remained a serious issue, and the
treatment of foreign investors in Russia’s privatization program was far from consistent. During
Putin’s tenure as president, the government focused strongly on attracting FDI, particularly
through structural reforms. However, while many regions also developed laws and programs to
attract FDI, the tax reforms instituted in 2001 effectively limited the amount of incentives that
regions could offer.
In general, foreign investors had limited access to the privatization process, which had already
disposed of the country’s most attractive assets. For instance, the 1995-1996 “loans-for-shares”
privatization policy banned foreign investors from investing in the oil, natural gas, and precious
metals sectors. (Subsequently, some foreign investors bought shares of privatized enterprises in
secondary transactions, including oil and gas). Foreign investors participating in Russian
privatization sales often were confined to limited positions and faced problems with minority
shareholder rights and corporate governance.
Until 2002, FDI in Russia was also limited to specific sectors, causing some critics to question
the government’s commitment to foreign investment. For example, until that time, tight controls
in its energy sector restrained foreign companies from anything more than minority stakes (and
often only 20-25 percent) in larger projects.59 Investment in other key sectors, such as aerospace,
natural gas, insurance, electric power, defense, natural resources, and large-scale construction
projects, remained subject to official or de facto restrictions. In sectors where licensing was
needed, such as banking, mining, and telecommunications, lengthy and nontransparent
procedures created another deterrent to FDI.
Despite some opening up of government policies toward foreign investment, prior approval was
still required in the following sectors: (1) new enterprises using assets of existing Russian
enterprises; (2) defense industries; and (3) the exploitation of natural resources. Approval was
also required for all investment ventures in which the foreign share exceeded 50 percent, or
which took over incomplete housing and construction projects.
British oil giant BP was one company which had realized the importance of close relationships
with state-controlled enterprises in order to do business in Russia. In 2003, it formed a joint
venture with a Russian company TNK, investing some $6.8 billion for a 50 percent stake.60
According to the SEC, TKN-BP had estimated proven petroleum reserves of 4.1 billion barrels
(of which 3.2 billion barrels were developed), making it the third-largest oil company in Russia
by some accounts.
After Russia’s largest private oil company, Yukos, was thrust into bankruptcy by the Russian
government’s claims that the company owed as much as $32 billion in back taxes,61 TNK-BP
decided to bid for Yukos’ 9.4 percent stake in state oil producer Rosneft. Many considered this
an attempt by TNK-BP to build strategic ties with the state-run company. However, at auction in
March 2007, BP quickly conceded defeat to Rosneft, the only other bidder. As a result, Rosneft
reclaimed ownership of its assets for $7.6 billion, a 10 percent discount to market value.62 Two
months later, in May 2007, Rosneft purchased additional Yukos assets in Siberia, enabling the
company to overtake the privately owned Lukoil in terms of oil production capacity and become
Russia's largest oil company. This move also continued efforts by the Russian government to
strengthen its control of the country’s oil and gas sectors, which had been diminished during the
privatization process of the early 1990s.63
In 2006, TNK-BP invested a large amount of money and prestige in a plan to develop a giant
natural gas deposit in Siberia, with an eye on the Chinese gas market. However, in 2007 the
Russian government threatened to revoke its license on the grounds that the firm was not
producing gas quickly enough from the Siberian development. In response, TNK-BP asserted
that it was unable to develop the field because the authorities had refused to grant the joint-
venture access to important gas pipelines. The move highlighted growing state control of
upstream assets, a trend that had earlier prompted Russia’s largest privately owned company,
Lukoil, to form a joint venture with GazpromNeft, the oil division of state-controlled Gazprom in
order to counter Rosneft’s rising dominance.64 In June 2007, the TNK-BP joint venture agreed
to sell Gazprom its majority interest in the Siberian field for some $900 million, in exchange for
an agreement to join with Gazprom in unspecified foreign ventures. Analysts considered the
agreed-upon price to be considerably less than what TNK-BP’s stake was worth, and saw it as
another example of the Kremlin forcing out Western energy firms.65 BP’s problems, together
with the earlier forced withdrawal of Royal Dutch Shell from a major energy project in 2006 in
Sakhalin, were evidence of mounting concerns regarding the Russian government’s diminishing
commitment to market norms in the energy sector.66 As one article described:
Last year [in 2007] the authorities began investigating TNK-BP, a joint venture
between Britain’s BP and private Russian investors, for failing to meet its
production quotas from Kovykta, a huge gas field. Before that, Royal Dutch Shell
and its partners fell foul of environmental inspectors. In both cases, the firms
agreed to sell controlling stakes in the relevant projects to Gazprom, Russia’s
state-owned gas giant, and their problems magically disappeared.67
In July 2007, the Duma introduced a new bill restricting foreign investment in 39 industry
segments linked with state monopolies, Although the bill further restricted foreign access to the
Russian economy, it reportedly provided more transparent and permanent “rules of the game” for
foreign investors68⎯a change that was sorely needed, according to many established and
potential investors.
In 2008, however, ventures such as TNK-BP’s still faced pressure in Russia, although it was
unclear in this case whether the government or its Russian partners were the source of the
difficulty. Concurrently under investigation for tax-evasion at a subsidiary, “industrial
espionage” activities by one of its employees, and other labor-related issues that resulted in the
company and its CEO, Robert Dudley, being fined, BP professed to see no connection between
these events.69 Yet some suspected the Kremlin of seeking more assets for state-owned
Gazprom and Rosneft. Another theory was that BP’s partners in the venture, a group of Russian
billionaires, were maneuvering for more control and a stronger financial position.70 This conflict
became public in mid-2008 when the Russian owners demanded Dudley’s resignation and
announced that they were planning legal action to defend their interests.71 As one article
described:
As it fights to preserve its TNK-BP Ltd. Russian joint venture, BP PLC is

struggling with two big unknowns: What does the Kremlin want and what are
BP’s Russian-billionaire partners really after? Lacking clear answers to those
questions, BP has been fighting trench warfare to keep its partners from gaining
control inside TNK-BP even as it continues high-level talks with them. BP has
also marshaled support from London, Washington, and Brussels to quietly convey
the message to Russian officials that Western capitals are watching the fight as a
key test of newly elected President Dmitry Medvedev.72
BP offered to exchange the Russian shareholders’ stock in TNK-BP for shares in BP, if
the Kremlin would approve the transaction and agree to let BP, in turn, sell 50 percent or
more of the venture to a company such as Gazprom or Rosneft. Publicly, the Russian
shareholders indicated that they would not consider such an exchange for at least 12 to 18
months. Insiders speculated that this could have been because they believed TNK-BP’s
estimated market capitalization—of approximately $40 billion—to be substantially
undervalued at the time the offer was made.73
Banking
As noted, Russia’s banking sector was a source of concern for foreign investors as well as those
with domestic and government interests. It had been adversely affected by the currency
fluctuations and the economic conditions following the 1998 financial crisis. Further, the lack of
well-developed bankruptcy laws, the absence of formalized procedures for the registration and
enforcement of collateral, and other legal and fiscal impediments contributed to the challenging
environment for banks. The Central Bank regulated all activities of the banking industry and
state-owned banks dominated the industry. A large number of foreign banks had established a
presence in the market, but their activities were largely restricted to Moscow and St. Petersburg.
Domestic capital markets were still in a developmental stage, with a low level of liquidity in the
public and private debt and equity markets.
The structure of the banking sector suffered from the dual difficulties of excessive concentration
at one end and inadequate concentration at the other. At one extreme was the leading bank,
Sberbank (in which the Central Bank had a controlling stake), which accounted for
approximately one-fourth of the country’s total banking assets. Sberbank also accounted for
more than one-half of total bank deposits, and more than three-fourths of total household
deposits in the banking sector. At the other end of the spectrum were almost 1,400 active
commercial banks. Within this group, the smallest 800 banks each had an average asset level of
around $1 million, and low levels of capitalization and profitability meant that many were at risk.
Although consolidation might have produced scale efficiencies and improved the health of the
financial sector, this possibility was hampered by a lack of transparency over ownership
structures and balance sheets.
Areas for further reform included improved on-site supervision of financial institutions, more
consolidated supervision of large banking groups, and more stringent licensing requirements,
including proper requirements for both managers and shareholders. Some organizations in the
sector had begun to provide the foundation for capital markets. Russian investment banks
emerged, such as the highly regarded Troika Dialog Bank. Meanwhile, a number of large
Russian companies, constrained by the fledgling domestic capital market, successfully turned to
international capital markets, primarily for debt, while some others listed on foreign stock
exchanges.
Taxation
In 2001, the tax system in Russia underwent a comprehensive reform, designed primarily to ease
the tax burden on individuals and companies. As a result, tax legislation more closely matched
the needs of a growing market economy and eliminated many of the distortions of previous
legislation, which had kept many businesses in the shadow economy. Highlights of the new
program included a reduction in personal income tax to a flat rate of 13 percent, and
simplification of corporate taxes, which were reduced from 35 percent to 24 percent. Most
turnover taxes were abolished, sales tax was eliminated, and taxation of the oil sector was
simplified. With oil production declining at alarming rates, the government provided $4.5 billion
in tax breaks to the industry in 2007. However, according to the oil companies, this was barely
enough to keep production stable. In his inaugural speech to the Duma as prime minister in May
2008, Putin proclaimed that taxes on the industry would have to be further reduced.74
The recent buoyancy in tax revenues suggested that the overall program to reform taxation was
positive (although surging oil revenues deserved at least part of the credit). Yet, the use of
punitive taxes as an instrument in settling disputes continued, and though rules governing tax
inspections had been revised, the new rules left the tax authorities with much the same arbitrary
power as before.75
Tariffs and Non-Tariff Barriers

Russia continued to maintain a number of barriers with respect to imports, including tariffs and
tariff-rate quotas, discriminatory and prohibitive charges and fees, and discriminatory licensing,
registration, and certification regimes. Discussions were under way to eliminate these measures
or modify them to be consistent with internationally accepted trade policy practices. However,
tariff and non-tariff barriers were frequently used to restrict foreign access to Russian markets.76
Currency Policies
Under the Foreign Investment Law, after exchange regulations were satisfied and taxes paid,
profit generated in foreign currency could, in principle, be repatriated. Central Bank
amendments in 2001 extended this to dividends on equities, as well as corporate and sovereign
bond repatriations.
Transactions involving currencies were liberalized under the December 2003 law “On Currency
Regulation and Currency Control.” Notably, the new law limited the authority of the Central
Bank to restrict currency operations in Russia, and divided responsibility for managing currency
regulation functions between the CBR and the government. The CBR was given responsibility
for currency operations related to loans and financing, transactions with securities, and banking
operations. The government was chartered to regulate currency operations relating to foreign
trade, such as export and import of goods, works and services, intellectual property, and the
participation of residents in the charter capital of foreign companies other than joint-stock
companies. Together, the two entities were to manage residents’ investments into foreign
companies, partnerships, and other property.77
The new law also aimed to replace the permission-based system with a free-hand regime,
meaning that any currency transaction not specifically prohibited under the law was permissable.
Under the old system, only a limited number of currency operations could be performed without
a Central Bank license (which sometimes took more than six months to obtain).78 The new law
also prohibited the Central Bank and Russian government from introducing new requirements to
the currency regime, except as provided by the law itself. Three primary forms of restrictions on
currency operations that remained were mandatory reserving (to help manage currency reserves
and protect against ruble exchange-rate fluctuations and capital flight), preliminary registration
(to allow for monitoring), and the establishment of special accounts (for settlements associated
with certain operations).79 However, some of these restrictions were earmarked for further
relaxation in 2007.
WTO Accession Prospects

Russia had been engaged in negotiations to join the World Trade Organization (WTO) for more
than 15 years. In mid-2002, an important milestone was reached when both the U.S. and the EU
granted Russia the status of a market economy. The signing of a trade pact between Russia and
the U.S. in November 2006 lifted perhaps one of the biggest obstacles to the country’s inclusion
(along with the endorsement of the EU, which was secured prior to the U.S. agreement).
However, because any single member was empowered to block another country from joining the
group, Russia continued to face challenges (and delays) in gaining membership. Its latest
difficulties had been raised by the Ukraine, which became a member of the WTO in May 2008.
This country sought to engage in bilateral talks to resolve long-standing trade disputes with
Russia before endorsing the country’s accession to the WTO. Georgia had also become
increasingly vocal about blocking the country’s membership. This former-Soviet country joined
the WTO in June 2000, after just four years of negotiations. Tensions between Georgia and
Russia had intensified over Russia’s wooing of two separatist regions to cede from Georgia, and
its efforts to block Georgia’s membership in NATO. Until Russia could bring these issues under
control, it would not achieve its goal of becoming a WTO member.
Business Environment
In 2008, one of the most crucial policy issues facing the country was the extent of state
intervention in business and the economy. The future of capitalism in Russia depended on
whether its economic policies maintained a supportive environment, or continued to impede the
creativity, growth and profitability of private companies.80 Small business, the economic engine
of most developed economies, employed only 20 percent of Russia’s economically active
population, versus more than 50 percent in Europe and 80 percent in Japan.81 Economists argued
that supportive policies would encourage entrepreneurship by reducing the bureaucratic
requirements for starting businesses, and also reduce opportunities for bribery and corruption.
Russia was one of the most industrialized of the former Soviet republics. However, despite the
prevalence of a large manufacturing sector, much of the industry was antiquated, highly
inefficient, and unproductive according to global standards. The replacement or modernization
of equipment and production processes was deemed essential if this sector was to contribute to
economic growth. Russia also inherited most of the defense industry of the former Soviet Union.
Efforts throughout the late 1990s and early 2000s to convert defense industries to civilian use
had met with varying levels of success. One positive consequence of this conversion was the
availability of highly skilled scientists, engineers, and technicians in the business environment.
Labor Force
Driven by these changes, the Russian labor force was undergoing a transformation. Although
well educated and highly skilled, the country’s workers were largely mismatched to the rapidly
changing needs of the Russian economy. As a result, much of Russia's existing large pool of
scientific and engineering talent remained under-utilized. Foreign investors were beginning to
harness these inexpensive skills by opening enterprises such as engineering design bureaus and
offshore software development shops in Russia. Projects of this type were proving to be
particularly successful, and were embraced by Russian authorities who were worried by a brain
drain overseas of Russia's best talent.
Corruption
One of the most significant problems in Russia’s business environment was the continued impact
of corruption in both the public and private sectors. The complex central planning system of the
communists left a legacy of patronage, kickbacks, and cronyism among government officials,
bank employees, and productive sector managers. This culture had survived, and in many cases
flourished, since the transition to capitalism, permeating and distorting many market
mechanisms. For instance, one estimate suggested that annual bribes paid to police officers
approached $400 million, with even higher levels of kickbacks and unofficial payments made to
health and education sector officials. Low salaries and morale within the public sector were
major contributors to the problem. In the financial sector, for example, crony capitalism
manifested itself in direct lending on favorable terms to large, politically influential firms and the
withholding of financing from more dynamic small and medium-sized enterprises.
According to a 2008 article:
Andrei Sharonov, a liberal reformer who left the economics ministry last year,
says he underestimated the impact of arbitrary bureaucratic decisions. ‘We have
turned our back on healthy competition. The system rewards those who are closer
to the centre of power, not those who work better. It is easier to get a competitor
into a jail than to compete with him.’ Businessmen complain that corruption,
already rampant in the 1990s, is now more entrenched, and the sums involved are
getting larger…. Corruption is of two kinds. One sort is driven by private firms
and individuals who bribe officials to turn a blind eye to the rules. This allows
businesses to get around a net of conflicting and outdated laws. ‘If everyone
followed every rule and instruction in Russia, the country would grind to a halt,’
says Mr. [Vitaly] Naishul [who watches Russian institutions]. The other kind of
corruption emanates directly from the Kremlin and benefits state officials and
their friends who double up as businessmen. Both damage the country, but the
second is more insidious.82
Russia’s Oligarchy and Siloviki Capitalism

“Oligarchic capitalism” in Russia referred to the economic activities of a small number of very
large and powerful financial-industrial groups operating in highly concentrated industries in the
private sector, predominantly in natural resources. These firms operated globally, with limited
domestic competition, and benefited from the buoyant climate for natural resources prevailing in
the early years of the century. Oligarchic capitalism dominated the Russian economy in the
second half of the 1990s and early 2000s, and remained an important but less dominant
component of the economy in 2007. Most of these financial-industrial empires were owned by a
small number of extremely wealthy and powerful individuals, the oligarchs⎯many of whom
were included on Fortune’s annual list of billionaires.83
The growing government involvement with oligarchy in business led to a condition that
economist Marshall Goldman termed “siloviki” capitalism. The term siloviki referred to
politicians or bureaucrats, often with ties to the old regime, who exercised power with
government support. This form of capitalism characterized the various ways in which the
government exerted influence over the economy to favor national interests, and the major
corporations in which it had a majority stake (or significant ownership). A growing number of
representatives from the siloviki had been appointed to key positions in major corporations with
majority government ownership, and some to essentially private companies. Putin’s siloviki
appointments included administration deputy head Igor Sechin, as chairman of the board of state-
owned Rosneft, as well as top Putin aides Alexei Miller and former KGB officer Viktor Ivanov,
as chairmen of the boards of Gazprom and Aeroflot respectively.
Economic minister German Gref announced in February 2006 that the government intended to
gain majority control of Alrosa, the Russian diamond monopoly, whose chairman was Finance
Minister Alexei Kudrin. Some analysts considered these activities a vivid example of how
members of Putin's inner circle, many of them with links to the former KGB or its successor,84
were using their network to take over private companies and amass personal wealth in the
process.85 Oligarchs who did not cooperate could find their holdings threatened with tax
assessments, or confiscated by emerging firms in state-declared strategic industries (as in the
Yukos case). Their power was demonstrated by the sales of valuable natural resource assets by
several oligarchs to state-owned companies, often under duress.
In 2008, however, as one of his first acts as prime minister, Putin initiated somewhat of a shake-
up within the siloviki, demoting or sidelining many of the men he previously had put into power
(including Ivanov and others like him). One explanation for this behavior was that “they had
become too powerful for Mr. Putin’s liking.”86 According to Olga Kryshtanovskaya, a
sociologist who studies the Russian elite, Putin was cleansing the siloviki clan and getting rid of
those who were equal or even senior to him in the KGB. “A tsar does not have colleagues, he
has subjects,” she said.87
Additionally, the state used many other methods to exert its influence on the economy. These
included regulating and restricting entry of firms, controlling the use of land and real estate that
private businesses occupied, taxing businesses to suit its own ends, inspecting firms and
sometimes closing them at will, and exercising control over international trade and foreign
exchange transactions.88 In early 2006, for instance, government policies remained in place to
prevent investors and business people from owning land in Moscow, even though federal law
had legalized private land ownership in 2001.89
Obstacles to Foreign Investment

Despite Russia’s continued growth, as well as its vast potential, structural economic problems
and well-publicized problems in the business environment made many individuals and groups
wary of making major investments in the country. Highest on the list of concerns raised by
foreign business people in periodic surveys were issues such as the pervasive influence of
government bureaucracy in every area of business operations, unofficial barriers imposed by
regional authorities, weak enforcement of the rule of law, and lack of respect for property rights.
Taxation and business regulations were still not wholly predictable, and legal enforcement of
private business agreements (especially outside Moscow and St. Petersburg) was weak.
According to World Bank data, it took 29 separate procedures and an average of 330 days to
enforce a contract (compared to 19 procedures and 229 days in high-income, developed

nations).90
Investors were further dissuaded by the high costs of complying with the Russian tax code,
inconsistent government regulation, limited ability to obtain redress through the legal system,
organized crime, and corruption. On Transparency International’s Corruption Perceptions Index
in 2005, Russia was ranked 126th (out of 159), and its score of 2.4 was lower than the average
score of 3.25 for emerging countries in Europe (the average score for developed countries in
Western Europe was 8.2).91 The most common forms of corruption were bribe demands from
officials with responsibility for licensing and other investment-related activity; extortion of
foreign firms by central and local tax authorities; and courts influenced by vested domestic
business interests, particularly regional senators. In September 2006, Andrei Kozlov, the first
deputy chairman of the Russian Central Bank, was shot to death. Prosecutors surmised that
Kozlov may have been killed because of his leadership in the decision to revoke the licenses of
several banks believed to be guilty of money laundering. His decision had likely been intended
to deter corruption in a country seeking to build better transparency. The killing of Kozlov sent a
warning that such efforts were likely to be resisted with deadly force.92
These systemic problems were compounded by lack of available financing, and concerns about
long-term economic and political stability. Many large U.S. companies remained cautious about
acquisitions in Russia because of fears of unknown liabilities associated with past operations
(especially environmental cleanup obligations), hidden financial liabilities, inadequate
bankruptcy procedures, and weak protection of minority shareholder rights. The absence of a
functioning framework for production-sharing agreements, along with weak corporate
governance practices in Russia’s oil majors, deterred FDI in the lucrative natural resources
sector. Though investment levels had improved recently, without significant institutional reform
Russia was unlikely to improve on its past record in attracting inward investment.93
Before the end of his second term, President Putin admitted that the government was too large
and intrusive, and that past attempts to reduce its influence had failed. Planned measures to
reduce the size and role of the state in the economy included reducing the number of activities
that required a state license from 500 to 90, and the outright abolition of some ministries.
One additional problem that served as a barrier to foreign investment in Russia was the quality of
the country’s physical infrastructure. Due to lack of infrastructure investment through the 1980s
and 1990s, Russia was sorely behind other developed and developing nations. As of mid-2000,
the majority of Russia's ports, airports, railways, and power stations were about 40 years old, and
the quality of fixed assets in factories was generally poor. Outside the major cities, the energy
infrastructure was in need of renewal. Huge investment in the electricity industry was vital in
order to eliminate the gap between energy production and consumption. Fuel shortages, non-
payment, and outdated equipment resulted in frequent blackouts, while the telecommunications
infrastructure was also substandard, in terms of both its quality and geographical coverage.
The Russian Mindset94

When doing business in Russia, foreign companies often discover that the older and younger
generations have quite different mindsets. Older generations were conditioned to secrecy,
distrust, and fear during the Communist era, and their sense of personal responsibility, self-
worth, motivation, and personal security were affected. The younger generation, in contrast, was
generally more open and relaxed.
Core Russian values across generations included the family, security and stability, loyalty, honor
and pride, endurance, patience, and mutual support. Russians took duality to greater extremes
than other nationalities. They could be emotional and irresponsible and yet haunted by
conscience; reckless yet cautious; independent yet needing a sense of belonging to a family
group or team. There was conformity within a loose hierarchical structure and a tendency to
follow a leader rather than the rules. As a result, working with Russians could be both frustrating
and rewarding. Getting an appointment could be difficult. Meetings could go on for hours and
stray far from their original agenda. Negotiations could be protracted and contracts easily
broken. Schedules could change constantly, making planning almost impossible. Hours might be
spent discussing a problem with no real plan to develop a solution. A common attitude was that
one should work to live and not vice versa. Apart from the new business-oriented class,
Russians could take a laid-back attitude to getting things done. When time could be saved at the
expense of money, a Russian would often opt for lower cost (despite the expenditure of more
time). Money was a much more precious commodity than time, and this philosophy was
reflected in their business behavior. (See Exhibits 1 through 5 for additional background
materials and economic data, as well as Exhibit 6 for additional information about the
characteristics of Russian society.)
RUSSIA’S INTERNATIONAL COMPETITIVENESS
The Competitiveness of Nations
Although there is a role for government in creating a macroeconomic and microeconomic

environment in which business can flourish, the increasing role of government in the business
environment of Russia was unfavorable for the development of a broad range of internationally
competitive companies. As Michael Porter of Harvard University, an authority on the subject of
national competitiveness, recently noted, a top-down approach by government must be
complemented by a bottom-up (or microeconomic) approach that stimulates individual firm
performance.95 This paper now shifts its focus to explore Russia’s current international
competitive position in the light of its resources and government policies.
Porter’s Competitive Advantage of Nations Framework

In early 1990, Porter published the results of a major research project in his book, The
Competitive Advantage of Nations.96 In this book, Porter defined international competitiveness
in terms not of static trade performance but of the raising of incomes over time through trade and
the attraction of foreign investment. He asserted that competitiveness was determined by the
productivity that a nation achieves in using its human, capital, and natural resources.97
According to Porter:
• Productivity defines the standard of living (wages, return on capital, return on

natural resources) for a country and, in turn, drives national prosperity.
• Productivity depends on the value of products and services a nation provides (e.g.,
uniqueness, quality) as well as the efficiency with which they are delivered.
• It is not in what industries a nation competes that determines prosperity, but how
firms compete in those industries.
• Productivity in a nation is a reflection of what both domestic and foreign firms
choose to do in that location. The location of ownership is secondary for national
prosperity.
• The productivity of “local” industries is of fundamental importance to
competitiveness, not only that of industries in the traded sector.98
Porter believed the capacity of a nation to innovate was the cornerstone of productivity.99
However, his definition of innovation went far beyond the traditional concept of scientific
discovery. In an economic development context, innovation referred to a country’s ability to
upgrade its business environment continually to support and encourage more sophisticated ways
of competing.100 Economic upgrading occurred through the interaction of four key variables
referred to as the “Diamond of National Advantage”⎯Factor Conditions, Demand Conditions,
Related and Supporting Industries, and the Context for Firm Strategy, Structure, and Rivalry.
Porter’s framework maintained that a nation could build and sustain increasing levels of
competitiveness by managing these four determinants.
The Global Competitiveness Report

Each year, the World Economic Forum produced an annual Global Competitiveness Report
(GCR) with the objective of evaluating the economic competitiveness of countries.101 In its
2007-2008 version, the GCR presented two complementary approaches for assessing national
competitiveness. The first was the Growth Competitiveness Index (GCI), developed by
Professor Xavier Sala-i-Martin of Columbia University. Through the GCI, the report assessed a
nation’s ability to sustain economic growth over a medium to long-term period by evaluating
twelve ‘pillars’ of competitiveness: (1) Institutions; (2) Infrastructure; (3) Macroeconomic
stability; (4) Health and primary education; (5) Higher education and training; (6) Goods market
efficiency; (7) Labor market efficiency; (8) Financial market sophistication; (9) Technological
readiness; (10) Market size; (11) Business sophistication; and (12) Innovation. In this edition,
the GCI examined 131 countries and rated them by providing a weighted average of the many
different components that made up the 12 pillars of competitiveness.
The second approach used to evaluate national competitiveness in the Global Competitiveness
Report was called the Business Competitiveness Index (BCI), developed by Michael Porter. The
BCI took a microeconomic approach toward assessing a nation’s competitiveness. According to
a previous report:
The productivity of a country is ultimately set by the productivity of its

companies. An economy cannot be competitive unless companies operating there
are competitive, whether they are domestic firms or subsidiaries of foreign
companies. However, the sophistication and productivity of companies are
inextricably intertwined with the quality of the national business environment.
More productive company strategies require more highly skilled people, better
information, more efficient government processes, improved infrastructure, better
supplies, more advanced research institutions, and more intense competitive

pressure, among other things. This is what the BCI tries to capture.102
For the BCI, Porter calculated two primary subindices focused on (1) company operations and
strategy, and (2) the national business environment. Based on a country’s score in these two
areas, an overall ranking was then determined. In the 2007–2008 Global Competitiveness
Report, the BCI included 127 countries. To calculate the GCI and the BCI, the GCR drew on
publicly available statistical data, as well as qualitative information collected via an Executive
Opinion Survey conducted annually by the World Economic Forum.
While the Global Competitiveness Report, in its entirety, extended beyond the microeconomic
boundaries of Porter’s Competitive Advantage of Nations framework, they were considered
complementary. Accordingly, this paper references data and rankings from the GCR as it
evaluates Russia’s competitive position in the worldwide economy.
Russia’s Competitive Position
Russia’s overall ranking on the Global Competitiveness Index fell from 53 in 2005-2006 to 62 in
2006-2007 and then climbed to 58 in 2007-2008. The report pointed to a number of problems
related to the country’s business environment, all of which affected its overall ranking (see
Exhibits 7 and 8):
Despite the country’s large market size and improving macroeconomic

management, Russia places below the other large European countries, mainly
attributable to weaknesses in its institutional environment and business standards.
Of major concern is a perceived lack of government efficiency (118th), the lack of
independence of the judiciary (106th), and more general concerns about
government favoritism in its dealings with the private sector. Further, the
environment for the protection of property rights is extremely poor and worsening
(122nd this year). Private institutions also get poor marks, with corporate ethics in
the country placing Russia 120th overall on this indicator.103
On the Business Competitive Index (BCI), Russia improved its overall ranking by six points,
climbing to 71 in 2007-2008.
To assess Russia’s challenges for improvement, this paper turns to a more detailed evaluation of
Russia’s performance in the four key areas of the Porter “diamond”—Factor Conditions,
Demand Conditions, Related and Supporting Industries, and the Context for Firm Strategy,
Structure, and Rivalry.
Factor Conditions
Within the microeconomic environment, factor conditions refer to the efficiency, quality, and
specialization of the underlying inputs that companies draw on when competing.104 Important
factors include human resources, capital resources, the country’s physical, information,
scientific, and technological infrastructure, and its natural resources.105
Human Resources
Relative to many other countries, the Russian workforce was relatively highly educated. The
average Russian citizen (25 and older), spent 10.5 years of his/her life in school. This statistic
placed Russia ahead of Brazil, India, China, South Africa, Germany, Japan, and the United
Kingdom in terms of education. In the 2007-2008 GCR, Russia ranked 47th in secondary
education enrollment, but in tertiary (university) enrollment, it ranked much higher at 14th.
Russia also ranked among the highest in terms of the proportion of its population with a tertiary
education (more than 50 percent).
However, the Moscow Times reported that only two Russian colleges, Moscow State and St.
Petersburg State, were listed among the world’s top 500 universities. Moreover, Russia spent far
less of its GDP on higher education than Europe or America.106 In recent years, the quality of
higher education in Russia had attracted the attention of the government, including Putin himself.
The system was beset by familiar problems, such as meager salaries, corruption, outdated
materials, and a lack of proper oversight.107 Quality was just barely above average in terms of
ranking in the 2007-2008 GCR, where Russia ranked 46th in terms of quality of the educational
system and 38th in terms of math and science education quality.
The quality of the workforce was also declining, according to Raj M. Desai of the Wolfensohn
Center for Development and Itzhak Goldberg of the World Bank:
The Russian workforce lacks the requisite skills for firms to compete on the
global market. More than a third of all managers reported deterioration in the
quality of their workforce between 1996 and 2005. Almost half of the firms hired
workers with lower quality skills, while only 10 percent of firms improved
workforce quality by hiring more skilled workers.108
In addition to deterioration in workforce skills, according to an article in the Moscow Times in

2004, an internal government report indicated that “the country’s workforce is shrinking at twice
the rate of the general population due to a decrepit healthcare system and dangerous working
conditions that have remained unchanged for the past century.”109 Other studies by the Federal
Statistics Agency echoed these concerns, stating that the population was shrinking by 1 million
per year. 110 Such workforce reductions were caused by workplace-related illnesses, injuries, and
deaths, usually in the manufacturing industry. Health-related issues such as the rapid spread of
tuberculosis and HIV/AIDS also caused workforce-related problems and general health issues.
The World Bank warned that HIV/AIDS could decrease Russia’s annual growth by half a
percentage point starting in 2010.111 Russia was rated 39th in terms of the medium-term impact
of HIV/AIDS on business, and the country’s life expectancy was on the low end in the 96th
position.
In terms of the productivity of Russia’s labor force, Desai and Goldberg asserted that
productivity in sectors such as manufacturing was substandard. They argued that:
Although productivity in the manufacturing sector has been rising, it has not kept
pace with rising real wages in recent years, limiting the international
competitiveness of the Russian manufacturing sector. Real wages in
manufacturing in Russia (deflated by the producer price index) have increased 72

percent since 1999. The monthly manufacturing wage in 2005 was approximately
$300, an increase of 65 percent in just two years, and a 369 percent increase over
the 1999 level of $64 per month. Under these conditions, international
competition with countries whose labor costs are cheaper may be increasingly
difficult for Russian manufacturers. Russian manufacturing productivity is now
about 40 percent of Brazil’s and only one-third of South Africa’s. Productivity in
Poland is twice as high as in Russia. Although labor productivity in Russia is
slightly higher than that of India and China, Chinese wages in manufacturing are
30 percent lower than in Russia. And low labor costs in these two countries give
Russia a competitive disadvantage: for each dollar of wages, a Russian worker
produces about half the output of an Indian or Chinese worker.112
Compounding these challenges was the fact that employer-employee relations had traditionally
been heavily regulated by the Russian Labor Code, which included provisions to protect
employees against wrongful dismissal, a harmful working environment, and excessive working
periods. However, new labor legislation, which came into effect in 2002, had begun to address
these barriers. Policies to make it easier for employers to hire and fire employees, standardized
hiring procedures, and longer probationary periods (six months) for more categories of
employees were all helping make the labor environment in Russia more business-friendly.
Capital Resources
According to the 2006-2007 GCR, Russia ranked 60th in terms of venture capital availability,
108th in terms of the soundness of its banks, and 81st in terms of financing through the local
equity market. Russia’s financial markets also ranked poorly on the financial market
sophistication scale (88th).
In 2005, the Russian government developed a state-backed venture capital program, spearheaded
by then President Putin (and announced in early 2006). Putin’s goal was to jumpstart the high-
tech industry and move beyond oil-related growth. The government earmarked $800 million in
funds and the first of these, the Moscow Venture Fund, began accepting applications in 2006.
Putin also created the Russian Venture Company (RVC), an organization that used oil money to
finance various venture capital funds. The idea was to create approximately 10 funds with $50
million of government money in each. The government’s money constituted 49 percent of
ownership, with 51 percent being raised by private investors. Importantly, because the
government would be in a minority position, it would play no role in the investment decision-
making process.
In contrast, the government’s telecommunications fund, which received $300 million to invest
directly in the telecom sector, was not a “fund of funds” structure like the RVC. Thus, it
received criticism related to potential bureaucracy and corruption issues. As a Western banker
stated, “The point of the RVC’s fund of funds structure is to remove bureaucrats from the
investment decision process. Not only are they, by definition, the worst people to make this sort
of decision, you also lay yourself open to the problems of vested interests and corruption. The
structure of the telecom fund is fundamentally flawed.”113
Prior to these efforts, a venture capital industry did exist in Russia. However, it was small
(estimated at $200 million in assets in 2006). Most venture capital money in Russia did not
typically come from venture capital funds, but rather from big domestic companies investing in
new technologies in their respective industries. Similarly, private equity firms were not very
developed, with most of their money coming from business people who decided to back certain
projects. The government’s focus on venture capital has led some to estimate that the industry
could reach $3 billion before 2010.114 By comparison, in 2006 U.S. investors raised $30.8
billion in venture capital.115
Physical and Information Infrastructure

In the 2007-2008 GCR, the overall quality of Russia’s infrastructure ranked towards the bottom
of the list (81st). The railway system ranked highest at 29th while all other measures ranked
lower—the quality of the port infrastructure was 72nd, air transport infrastructure was 79th,
electricity supply was 76th, and roads were lowest at 106th.
Russia’s railway system was the most important mode of transport, with 80 percent of the
country’s freight traffic traveling by rail compared to only 20 percent in the West. Under Putin’s
rule it had received significant funding for modernization.116 When the government decided to
initiate these upgrades, it estimated that 58 percent of railway equipment was worn out and that it
would cost $20 billion to upgrade the system. To raise the money, the government transferred
the country’s rail assets in 2004 to a new government-controlled company called Russian
Railways Co. with the idea of wresting control of the system from the Railways Ministry, which
traditionally owned and operated the country’s railways. Although the infrastructure remained
government-controlled, 60 percent of the rolling stock (railroad vehicles) would eventually be
under private control.117
According to Business Monitor International, Russia needed to double the length of its roads in
order to meet its economic and social needs.118 The government announced the “Modernization
of Transportation Infrastructure in Russia” program in May 2004, which included the
improvement and development of highways, railways, airports, seaports, and urban
transportation systems. The program was funded with $170 billion from federal and local
budgets, as well as the private sector.
The country’s airport infrastructure was inherited from the former Soviet Union. Although the
government was aware of necessary modernization, financial aspects hindered airport
development projects. The Russian government planned to retain 60 of the 350 airports under
federal supervision and the remaining airports would go under the control of regional
authorities.119
Physical infrastructure for information and communications technology remained a challenge in

Russia, as demonstrated by the country’s Internet users, personal computer users, and mobile
telephone subscribers, which ranked in the middle of the 2007-2008 GCR at 56th, 47th, and 36th
respectively. With Internet penetration rates at only 19.5 percent in 2007,120 Internet usage in
Russia remained on the low side. The broadband Internet market was nearly nonexistent with
just under 2 percent of the population subscribing to services121 (although the country rated 60th
on this measure). Because of Russia’s size, Wi-Fi connections served as potential cost-effective
alternatives to fixed networks, and companies such as Cisco Systems were betting on future
growth. In April 2007, Cisco announced a venture capital initiative in which the company would
invest in technology-related startups and in local venture capital firms that invested in
technology. Its first investment was in a leading Russian e-commerce site similar to Amazon,
called Ozon.
In terms of landline phone service, Russia ranked 44th. Rostelecom had a strong monopoly in the
long distance and international phone service markets, and its service could be inefficient and
unreliable. Local phone companies were only partially privatized under the government’s
holding company Svyazinvest.122
Scientific and Technological Infrastructure

Russia’s science and technology infrastructure was still in the process of being developed,
despite the high quality of Russian science. The country ranked 61st on research collaboration
between its industries and universities, and 50th on company spending on research and
development in the 2007-2008 GCR. The country ranked 46th in terms of the availability of
scientists and engineers and 37th in the quality of scientific research institutions, the latter being a
legacy of the country’s Soviet past. In fact, the country had up to 40 percent more scientists per
capita than Germany, France, and the U.K., and 20 percent more than India.123
Natural Resources
As noted, Russia was one of the world’s richest countries in terms of raw materials. The country
accounted for 20 percent of the world’s production of oil and natural gas and Russia had large
reserves of both, making the country self-sufficient in energy, as well as an exporter of the fuels.
Other non-fuel minerals such as iron ore, manganese, chromium, nickel, platinum, titanium,
copper, lead, diamonds, and gold were abundant, too. The few natural minerals imported into
Russia were tin, tungsten, bauxite, and mercury. Russia also had one-fifth of the world’s timber
within the forests of Siberia.124
The emphasis on growth throughout Russia’s Stalinist history led to significant environmental
degradation and, in general, the country’s environmental record has been dismal. Uncontrolled
growth along with limited environmental protection resulted in pollution problems in many of its
largest cities. In 84 of Russia’s largest cities, the air pollution was 10 times the accepted safety
levels. Russia was a major contributor to global ozone depletion. It had been the world’s largest
producer and consumer of Ozone Depleting Substances until several Russian enterprises ceased
production of chlorofluorocarbons (CFCs) and halons.
In the past, the Russian government did not respond as quickly to incidents such as bursting of
oil pipelines, due to the country’s abundant resources and the belief that the land could absorb
pollution. However, in the 1990s, the government identified 40 percent of Russia’s territory as
under high or moderately high ecological stress. Both pollution and environmental incidents
have led to health problems such as respiratory and endocrine diseases.125 Although the
government was gradually beginning to respond to environmental issues, the damage would take
decades and trillions of dollars to remedy.126
Demand Conditions
According to Porter’s framework, demand conditions refer to the sophistication of domestic
consumption and the pressure that local consumers exert on a country’s firms to create and
improve products and services, which are then able to compete in world markets.127 According to
the 2007-2008 GCR, Russian buyer sophistication ranked 58th, slightly above the median,
meaning that its consumers tended to be reasonably knowledgeable and demanding and looked
for superior performance attributes rather than the lowest price.
Part of what was driving increasing consumer sophistication was the improved economy,
following a seven-year decline in the early 1990s. Since that period, Russia had experienced
eight straight years of economic growth and consumers had benefited measurably. “Russia has
one of the fastest-growing income and consumption [growth] rates in the world,” said Mikhail
Terentiev, a consumer analyst at Moscow’s Troika Dialog investment bank. “People who could
never afford to buy quality goods now can.”128 All the data pointed to an emerging middle class,
particularly in major cities such as Moscow and St. Petersburg. Estimates of the middle class
segment usually ranged from 20 percent to 40 percent of the population. Real disposable
incomes grew by 8.8 percent in 2005, spurring considerable growth in private consumption.129
The proportion of the population living below the poverty line (defined as a subsistence wage of
$94 per month) also fell to less than 8 percent, in contrast to 38 percent in 1998.130 However,
despite improved conditions and increasing consumer optimism, millions of Russians still lived
in poverty, particularly in more rural areas.
The Russian culture of spending rather than saving helped the consumer sector, especially as
average disposable incomes were on the rise. Household consumption was buoyant; it played a
stronger role than investment in the 11.6 percent increase in domestic demand recorded year-on-
year in the first quarter of 2007. With real disposable incomes up by 13 percent, private
consumption rose by 12.7 percent year-over-year in January through March 2007, according to
the economic development ministry's estimates. This helped to fuel a 13.6 percent rise in retail
sales and a 7.9 percent increase in the sales of services to the population.131 The consumer sector
fundamentally operated in a market-oriented, competitive fashion, with many growing Russian
companies and an increasing number of foreign competitors, such as Coca-Cola, Gillette,
Danone, Caterpillar, Indesit and General Motors. Russian automotive companies, in particular,
faced increasingly severe competition from imported and foreign vehicles assembled in Russia.
Improving access to consumer credit also helped to fuel demand. Domestic credit rose by 46.4
percent year-over-year in 2006, and continued to expand in the first quarter of 2007. The Central
Bank reported a 53.7 percent rise in the value of ruble credit in 2006, with foreign-currency loans
up by a more modest 29.3 percent. Loans to individuals recorded unprecedented growth,
increasing 75 percent in 2006 (more than twice the 38.6 percent increase in corporate credit
within the same timeframe).132 The rapid rise in lending to individuals came from a low base,
and was expected to continue, particularly as the government’s emphasis on housing pushed up
the traditionally low demand for mortgages.
Related and Supporting Industries

Within Porter’s framework, the concept of related and supporting industries refers to the
presence of interconnected companies and institutions in a particular field. These clusters bring
together the environment, resources, and partnerships needed for innovation to occur more
rapidly and easily.133 In Russia, the quality of local suppliers and the sophistication of
production processes were both low, ranking 86th and 79th respectively. The intensity of local
competition was also low, ranking 92nd.
In the twenty-first century, the Russian government began making technology a higher national
priority. In 2005, Putin announced the plan to create a network of “technoparks.” This initiative
aimed to raise the volume of Russia’s IT market to $40 billion, bringing high tech’s share of
GDP to 5 percent. The initial plan was to establish seven technology parks in seven regions
across the country which would be open to technology companies, including nanotechnology and
biotechnology companies. A federal budget of $75 million was set aside by the government and
it expected the parks to employ 19,000 people by 2008 and 75,000 by 2011. The Russian IT
Minister predicted that the output of the technoparks would be $749 million by 2008 and $4.4
billion by 2011. Boeing, Cisco, IBM, and Intel expressed interest in becoming a part of these
technoparks, although several of them already had projects in Russia.
The government also established special economic zones which provided companies with long-
term favorable tax breaks and adherence to private-property laws. The seven zones were in St.
Petersburg, Dubna, Zelenograd, Elabuga, Lipetsk, Tomsk, and Kaliningrad.
Context for Firm Strategy, Structure, and Rivalry

Despite Russia’s successes in the late 1990s and the early twenty-first century, Russia’s business
environment still posed significant challenges. As noted, corruption remained a significant part
of the culture, with companies that held monopoly positions or political connections receiving
tax breaks, investment credits, subsidies, and guaranteed loans. According to the 2007-2008
GCR, Russia ranked 107th on the scale of favoritism in the decisions of government officials,
meaning that government officials tended to favor well-connected firms and individuals; and
118th in terms of burden of government regulation. It was also 118th on the transparency of
government policymaking. On organized crime it ranked 103rd, indicating that crime imposed
significant costs on businesses.
According to Desai and Goldberg:
While there has been some improvement over the past few years, more firms
complain of bribe payments to acquire business licenses, to inspectors, to tax
collectors, and in dealings with courts in 2005 than in 2002. During the same
period, this problem has become less acute in the Commonwealth of Independent
States (CIS) and in Central Europe and the Baltic region. There are, additionally,
problems with real estate transactions and land privatization, as they are neither
transparent nor fair. Over one-third of the firms trying to purchase premises had
to spend over half a year on that procedure; about 90 percent of the firms trying to
purchase land failed to finish the procedure in half a year.134
According to the 2007-2008 GCR, Russia ranked 122nd in terms of property rights, implying that
relative to other countries its rights were poorly defined and not protected by law.
Russia ranked 115th in intellectual property protection, which was weak or nonexistent. Desai
and Goldberg commented on the challenging intellectual property rights environment:
With regard to innovation, the intellectual property rights (IPRs) regime remains one of
the primary weaknesses. First, the assignment of IPRs remains unclear, specifically if
they should belong to the inventor, the inventor’s employer, or to the state that may have
paid R&D costs. These uncertainties complicate collaboration between private firms and
public institutes, inhibit technology transfer, and impair the development of spin-off
companies into independent and growing businesses. Second, registered IPRs are weakly
protected due to inability of public authorities to police producers or importers of pirated
goods.135
Another important issue affecting Russia’s competitiveness was its companies’ lack of breadth in
the global value chain. With a rank of 120th on this measure, Russia’s companies were
disproportionately involved in resource extraction and production instead of higher value
functions which would serve as a long-term source of competitive advantage, such as product
design, sales, marketing, logistics, and after-sales services.
CONCLUSION
As Medvedev took office in 2008, Russians looked to the future with a mixture of optimism and
concern. The country’s vast petroleum wealth had freed Russia from foreign debt and enabled it
to put aside funds for investment, while at the same time allowing the government to reassert
Russia’s importance and power as a force to be reckoned with on the world stage. Yet, while
many Russians were benefiting from the country’s increased prosperity, others had not yet seen
great improvements to their living standards and were impatient for change.
Despite Russia’s undoubted strength in the sciences and the high standard of its education
system, great challenges remained to bring the country's infrastructure and services up to
acceptable standards. The great experiment in democracy which began with Gorbachev was
compromised by the growing concentration of political power, and the intrusion of the state into
the economy was inhibiting the spontaneous development of entrepreneurial business. The
opportunities for foreign investors in Russia were undeniably attractive and extensive, but would
international corporations be able to find the right balance between opportunity and risk, to
contribute towards meeting the growing needs of this great country?
As one article concluded:136
…. there’s so much we can’t know about the direction Russia is heading. It is, at
once, a regime that offers its citizens consumer rights but not political freedoms,
state sovereignty but not individual autonomy, a market economy but not genuine
democracy. It is both a rising global power and a weak state with corrupt and
inefficient institutions. The Kremlin’s regime seems both rock solid and
extremely vulnerable, simultaneously authoritarian and wildly popular. Although

Russia’s economy has performed well in the past 10 years, it is more dependent
on the production and export of natural resources today than it was during Soviet
times. Its foreign policy is no less puzzling. Russia may be more democratic
today, but it is less predictable and reliable as a world player than was the Soviet
Union. The more capitalist and westernized Russia becomes, the more anti-
western its policies seem. The more successful Russia’s foreign policy looks, the
more unclear its goals appear.
Exhibit 1
Russia: Country Profile
Geography
• Area: 17,075,200 sq. km., approx. 1.8 times the size of the U.S.
• Cities: Capital – Moscow (population 10.4 million). Other cities – St. Petersburg (4.6
million), Novosibirsk (1.4 million), Nizhny Novgorod (1.3 million), Yekaterinburg (1.3
million).
• Terrain: Broad plain with low hills west of Urals; vast coniferous forest and tundra in
Siberia; uplands and mountains along southern border regions.
• Climate: Ranges from steppes in the south through humid continental in much of European
Russia; subarctic in Siberia to tundra climate in the polar north; winters vary from cool along
Black Sea coast to frigid in Siberia; summers vary from warm in the steppes to cool along
Arctic coast.
People
• Nationality: Russian
• Population: 141 million (July 2007 est.)
• Annual population growth rate: -0.5% (2007 est.)
• Ethnic groups: Russian 79.8%, Tatar 3.8%, Ukrainian 2%, Bashkir 1.2%, Chuvash 1.1%,
other or unspecified 15.9% (2002 census)
• Religions: Russian Orthodox 15-20%, Muslim 10-15%, other Christian 2% (2006 est.)
• Languages: Russian and local languages
• Literacy: Age 15 and over who could read and write: total population 99.4%; male 99.7%;
female 99.2% (2002 est.)
• Workforce: Total of 73.9 million workers: agriculture 10.8%, industry 29.1%, services
60.1% (2006 est.)
Government
• Type: Federation
• Independence: August 24, 1991 (from Soviet Union)
• Constitution: Adopted December 12, 1993
• Branches: Executive – President (chief of state), Premier (head of government), Cabinet

Legislative – bicameral Federal Assembly
Judicial – Constitutional Court; Supreme Court; Superior Court of Arbitration
• Administrative divisions: 48 oblasts, 21 republics, 7 autonomous okrugs, 7 krays, 2 federal
cities, and 1 autonomous oblast
• Suffrage: Universal from 18 years of age
Economy
• GDP (Official Exchange Rate): 2005 – $740 billion, 2006 – $734 billion; Real GDP Growth
6.7% (2006 est.)
• Currency: Russian ruble (post-January 1998 ruble is equal to 1,000 of the pre-January 1,
1998 rubles)
• Unemployment: 7.1 percent (2006 est.), plus considerable underemployment
• Natural resources: Wide natural resource base including major deposits of oil, natural gas,
coal, and many strategic minerals, timber (note: formidable obstacles of climate, terrain, and
distance hinder exploitation of natural resources)
• Trade: Exports ($317.6 billion) – petroleum and petroleum products, natural gas, wood and
wood products, and metals account for approx. 80% of exports (2006 est.)
Major markets: Netherlands 10.3%, Germany 8.3%, Italy 7.9%, China 5.5%, Ukraine 5.2%,
Turkey 4.5%, Switzerland 4.4%. Imports ($171.5 billion) – machinery and equipment,
consumer goods, medicines, meat, grain, sugar, semi-finished metal products. Major
suppliers: Germany 13.6%, Ukraine 8%, China 7.4%, Japan 6%, Belarus 4.7%, U.S. 4.7%,
Italy 4.6%, South Korea 4.1%
Source: Compiled from the CIA’s “The World Factbook” (2007) and The Economist Intelligence Unit’s “Country
Profile: Russia” (2007).
Exhibit 2
Russian Federation Macroeconomic Data
Annual
Indicators 2000 2005 2006 2007 2008 2009
GDP at Market
Prices (Rb bn) 9,638 13,182 14,131 15,233 16,328(f) 17,366(f)
GDP (US$ bn) 260 765 989 1,290 1,691(f) 1,966(f)

Nominal GDP at
Purchasing Power 1,115 1,698 1,881 2,087 2,301(f) 2,504(f)
Parity (US$ bn)*
Real GDP Growth
(%) 10.0 6.4 7.4 8.1 7.2(f) 6.4(f)
GDP per Head

(US$) 1,772 5,342 6,934 9,059(f) 11,920(f) 13,900(f)
GDP per Head at

Purchasing Power 7,609 11,861 13,190 14,661 16,220(f) 17,700(f)
Parity (US$)
Population (m) 146.6 143.1 142.6 142.3 141.8(f) 141.4(f)
Consumer Price
20.8 12.7 9.7 9.2 13.5(f) 10.9(f)
Inflation (%)
Unemployment
(%)* 10.6 7.6 7.2 6.2 6.7(f) 6.6(f)
Lending Interest
Rate (%) -
Working capital 24.4 10.7 10.5 10.0 11.0(f) 9.5(f)
loans of 1 yr
maturity*
Exchange Rate
28.1 28.3 27.2 25.6 24.0(f) 24.5(f)
(average Rb:US$)
Exports of Goods
fob (US$ bn) 105 244 304 355 446(f) 469(f)
Imports of Goods
-45 -125 -165 -223 -300(f) -353(f)
fob (US$ bn)
Trade Balance
60 118 139 132(f) 146(f) 115(f)
(US$ bn)*
Current Account
47 83 94 78 89(f) 58(f)
Balance (US$ bn)
Budget Balance
2.4 7.5 7.4 5.4 3.5(f) 2.9(f)
(% of GDP)*
Foreign Exchange
Reserves (US$ bn) 24 176 296 464 556(f) 665(f)
- Excluding gold
Annual
Indicators 2000 2005 2006 2007 2008 2009
Total Foreign
Debt (US$ bn) 160 229 251 341(e) 378(f) 406(f)
Notes: f=forecast; e=estimate
Source: Data marked with an asterisk is from EIU Data Services, “China: Selected Series,”
http://countrydata.bvdep.com (April 8, 2004). All other information is from Economist Intelligence Unit,
Country Data, June 11, 2008.
Exhibit 3
Foreign Direct Investment (FDI) in Russian Federation (2001-2006)
2001 2002 2002 2003 2004 2005 2006

Russian
Federation
--Inward 2,469 2,421 2,421 7,958 15,444 12,766 28,732
--Outward 2,533 3,284 3,284 9,727 13,782 12,763 17,979
Comparative 2001 2002 2002 2003 2004 2005
Data
Developing
Economies
--Inward 209,431 162,145 162,145 175,138 283,030 314,316 379,070
--Outward 47,382 43,095 43,095 35,566 117,336 115,860 174,398
World
--Inward 823,825 651,188 651,188 557,869 742,143 945,795 1,305,852
--Outward 711,445 647,363 647,363 561,104 877,301 837,194 1,215,789
In Million US$
Source: Data from 2001 through 2003 compiled from UNCTAD’s “World Investment Report 2004.” Data from
2004 through 2006 compiled from UNCTAD’s “World Investment Report 2007.”
Exhibit 4
Ruble-Dollar Historical Exchange Rate (2000-2009)
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Nominal
exchange
rate
(Rb/US$)*
Close 28.12 29.16 31.34 30.69 28.81 28.28 27.19 25.58 24.00(f) 24.50(f)
Real
effective
exchange
rate index –
CPI based** 66.1 77.8 79.7 81.9 88.2 97.0 107.1 114.0 122.9 (f) 131.2(f)
Notes:
* Expressed in re-denominated rubles
**Trade-weighted basket of currencies converted to an index (1997=100) and adjusted for relative price movements.
f=forecast
Source: Nominal real effective exchange rate data compiled from Global Financial Data, June 2008. Real effective
exchange rate data compiled from EIU Country Data, September 2007.
Exhibit 5
Comparative Economic Indicators (2007)
Russian Federation and Other Countries
Russia Kazakhstan Ukraine Poland Germany

GDP (US$ bn) 1,290 104 141 422 3,319
GDP 2,087 167 (e) 323 (e) 621 (e) 2,807
(US$ bn at PPP)
GDP per head 14,661 10,760 (e) 6,990(e) 16,291 (e) 33,990 (e)
(US$ at PPP)
Population (m) 142.3 15.6 46.2 38.1 82.6 (e)
Consumer price 9.2 10.8 12.8 2.5 2.3
inflation (av %)
Current-account 78 -7 -6 -16 183
balance
(US$ bn)
% of GDP 6.1 -6.9 -4.2 -3.7 5.5
External debt 36 (e) 22 (e) 16 (e) 40(e) n.a.
(US$ bn)
Debt-service ratio, 8.1 (e) 39.0(e) 24.6 (e) 21.4 (e) n.a.
paid (%)
Note: e=estimate.
Source: Economist Intelligence Unit, Country Data, June 2008.

Exhibit 6
Doing Business in Russia and Characteristics of Russian Society
In 2007, Russia was still going through a tortuous struggle to exchange the values of communism
for those of a free-market economy and democracy. Some observers likened present-day Russia
to the American Wild West of the 1870s⎯fortunes were being made and sometimes lost in the
scramble. There had always been inequality and struggles for power, such as those between
free-market economists and nationalists. Ethnic tensions within Russia were also coming to a
head and threatening to disrupt social stability. Harshness and casual indifference were stark
features of everyday Russian society. Distance as a means of survival (often manifested as self-
reliance, stony resolve, and strong will) was a characteristic of the Russian people (who had been
isolated from the rest of the world for centuries). Russian culture was characterized by two main
groupings: the intelligentsia and the working class. An emergent middle class had begun to
establish itself in major cities such as Moscow and St. Petersburg.
Diversity and Lifestyle

Diversity was not a big concern of most Russian companies. Women had reasonable access to
key professional positions⎯virtually all doctors, for example, were female. However, ethnic
minorities had a harder time. Laws existed to protect against racist-related violence but were
rarely invoked. Lifestyles varied enormously between the rich and poor, as well as rural and
urban dwellers. Levels of income and quality of life in Moscow and St. Petersburg greatly
surpassed those in the other regions.
Attitudes Toward Money

In Russia, relations between people were almost entirely oriented around money. One of the
biggest changes since the break-up of the USSR has been the rapid rise to wealth of some
individuals, and their extravagant spending habits. Yet the vast majority of working Russians
got by on the equivalent of between $50 and $300 a month, which led to a debilitating brain-
drain after 1991, as highly qualified scientists and doctors pursued better-paying work abroad.
Only a handful of people earned more than $400 a month and they were in Moscow, where the
cost of living was high compared to the regions. Many Russians, located primarily in the big
cities, were big spenders, label-conscious, and gadget-loving. Outside the cities, Russians tended
to be uneasy about financial success, often assuming that wealth was amassed dishonestly, or at
least at someone else’s expense. Many Russians held their savings in US dollars or Euros, as
most did not trust the ruble, and many were still reluctant to deposit cash in a bank following the
high-profile collapse of some banks and investment schemes in the late 1990s.
Teamwork
Russian society had a pronounced collective emphasis. Young children were taught how to
behave and relate to others from an early age. Respect and deference for authority figures was
the norm in every classroom. Russians worked very well together in teams. There could be a
high level of human contact between colleagues, and teams often developed a family
atmosphere. Groups might even become almost closed to outsiders, but in times of crisis, team
members would support one another. Russian workers typically wanted a place where they
would be understood. They wanted work to feel like home, needed time on the job to chat, and
time off for special occasions. Russians wanted and needed to feel a part of a greater good.
Change at short notice could unnerve a team, but Russians often operated without back-up or
contingency plans, so change had to be implemented with care and sensitivity.
Russian leaders were almost always male, and mostly middle-aged, so typically would have
grown up in the Communist era. Status was valued and respect for age and position was
expected to be observed. Russian managers were expected to be authoritarian, assertive, and
inspirational⎯but also to understand and work at a grassroots level. An enterprise was
considered a democratic institution. Everyone was entitled to have his or her voice heard, and
even the humblest of employees felt free to speak to the boss. If the manager stood up for
workers’ interests, then s/he could count on their loyalty. Older-style Russian managers were,
however, fairly dictatorial, whereas the more educated managers would let objective facts dictate
the truth. Management skills, as accepted in Western Europe and the U.S., were often lacking,
although Russians were enthusiastic to learn.
Registration
Business registration in Russia was regulated by the following basic laws and government
resolutions:
• The 1999 Federal Law “On Foreign Investment in the Russian Federation.”
• The 1999 Civil Code.
• The August 8, 2001 Federal Law "On State Registration of Legal Entities"
(entrepreneurs).
• The Russian Government Resolution No. 319 "On Authorized Federal Entity of the
Executive Power, Providing State Registration of Legal Entities" of May 17, 2002.
Conducting business without registration was illegal. Russian law offered several commonly
used modes to conduct business, including:
• Several different forms of corporations such as the limited liability company (OOO).
• The privately held, closed joint stock company (ZAO) and the publicly held, opened joint
stock company (OAO).
• The representative or branch office of a foreign company.
• Registration as an individual private entrepreneur.
Representative offices and branches were not legal entities under Russian legislation, but were
considered subdivisions of their head office, which was liable for their activity in Russia.
Russian regulations represented the biggest liability to any successful joint venture. Since these
regulations were in constant flux, a good legal expert was essential for anybody setting up in
Russia. Majority ownership of a company was different in Russia from the West; 51 percent was
not a controlling interest, as most companies required unanimity among the partners for major
decisions.137
Source: Compiled from TMA’s Country Navigator: Russia, “The Russian Mindset” (2007) and BISNIS, U.S.
Department of Commerce, International Trade Administration, September 2002,
http://www.bisnis.doc.gov/bisnis/country/Rsfactsheet_2002.htm (December 26, 2002).
Exhibit 7
Sample of Data on Russia from the 2007–2008 Global Competitiveness Report
Competitiveness Rankings
Global Competitiveness Index (GCI) Rank

Out of 131 countries
Overall 58
Institutions 116
Infrastructure 65
Macroeconomic stability 37
Health and primary education 60
Higher education and training 45
Goods market efficiency 84
Labor market efficiency 33
Financial market sophistication 109
Technological readiness 72
Business sophistication 88
Innovation 57
Business Competitiveness Index (BCI): 2006-2007

Out of 127 countries
Overall Ranking 71
Sophistication of company operations and strategy 77
Quality of the national business environment 70
Most Problematic Factors for Doing Business
Percent of responses
Corruption 18.8
Tax regulations 15.0
Tax rates 10.0
Crime and theft 8.4
Inefficient government bureaucracy 8.3
Access to financing 8.2
Inflation 7.0
To compile the data in the table above, respondents to the World Economic Forum’s 2007
Executive Opinion Survey were asked to select and rank the five most problematic factors for
doing business in Russia (from a list of 14 factors). The percent of response figures listed above
are weighted to reflect the assigned rankings.
Source: World Economic Forum, The Global Competitiveness Report 2006-2007 (New York: Oxford University
Press, 2007).
Exhibit 8
Excerpts from Porter’s Research on Russian Competitiveness
Source: Presentations on National Competitiveness, Institute for Strategy and Competitiveness, Harvard Business
School. Copyright © 2007. All rights reserved. Reprinted by permission of Michael E. Porter.
Endnotes
1
Igor Nikolayev, “The Russian Economy in 2006,” The Washington Post.com,
http://www.washingtonpost.com/wp-adv/specialsale/spotlight2006/articles_v6/economy.html (September 4, 2007).
2
“Putin’s People,” The Economist, August 23, 2007, pp. 25-28.
3
Economist Intelligence Unit, Country Data, June 11, 2008.
4
Powerful businessmen, commonly referred to as ‘the oligarchs,’ exerted considerable influence on Russian
political life during the 1990s. During Yeltsin’s presidency, the Russian government engineered the infamous loans-
for-share scheme in 1995, wherein a number of Russian companies were ‘privatized’ at bargain rates in exchange
for loans used in part to fund Yeltsin’s 1996 re-election campaign. Some of these oligarchs served as ministers while
others were awarded prestigious official positions. Apart from the continuing influence of the ‘old’ oligarchs, by
2007, Russia had a younger generation of powerful businessmen favored by the Putin administration and an
influential group of former members of the security services.
5
“Russia Country Profile,” Datamonitor, December 2006.
6
“Background Note: Russia,” U.S. State Department, Bureau of European and Eurasian Affairs, February 2007.
7
“Russia Country Profile,” op. cit.
8
“Smoke and Mirrors,” The Economist, February 28, 2008,
http://www.economist.com/research/articlesBySubject/displaystory.cfm?subjectid=349002&story_id=10765120
(June 5, 2008).
9
Padma Desai, Conversations on Russia: Reform from Yeltsin to Putin (Cary, NC: Oxford University Press, Inc.,
2006).
10
Ivan Krastev, “What Russia Wants,” Foreign Policy, May/June 2008, pp. 48-51.
11
Ibid.
12
“Russia: A Country Study,” Library of Congress, July 1996, http://lcweb2.loc.gov/frd/cs/rutoc.html (December
19, 2002).
13
“Background Note: Russia,” op. cit.
14
Ibid.
15
“Russian Legislative Election—2007,” www.wikipedia.org,
http://en.wikipedia.org/wiki/Russian_legislative_election,_2007 (September 4, 2007).
16
Robert Alan Dahl, “Alternative Voting Systems for Electing Deputies to the State Duma of the Russian
Federation,” March 1998, http://www.democracy.ru/english/library/comments/eng_1998-5.html (September 4,
2007).
17
“Federation Council of Russia,” www.wikipedia.org, http://en.wikipedia.org/wiki/Federation_Council_of_Russia
(September 4, 2007).
18
Desai, op. cit.
19
“Federation Council of Russia,” op. cit.
20
“Constitutional Court of the Russian Federation,” www.wikipedia.org,
http://en.wikipedia.org/wiki/Constitutional_Court_of_the_Russian_Federation (September 4, 2007).
21
22
“A Putin-Shaped Throne,” The Economist, March 6, 2008,
http://www.economist.com/world/europe/displaystory.cfm?story_id=10808981 (June 5, 2008).
23
Ibid.
24
“An Ugly Victory,” The Economist, March 2, 2008,
25
“An Ugly Victory,” The Economist, March 2, 2008,
26
“Enter, Pursued by a Bear,” The Economist, May 8, 2008,
http://www.economist.com/opinion/displaystory.cfm?story_id=11332356 (June 5, 2008).
27
Ibid.
28
29
A Strange Kremlin Wedding,” The Economist, May 8, 2008,
29
“New Jobs, Old Faces,” The Economist, May 15, 2008,
30
“Russia – Political Risk,” BMI, June 5, 2008.
31
Ibid.
32
Alan Cullinson and Marc Champion, “Putin, Now Premier, Still Plays a Presidential Role Overseas,” The Wall
Street Journal, June 4, 2008, p. A9.
33
A Strange Kremlin Wedding,” The Economist, May 8, 2008,
33
34
“Country Outlook,” Economist Intelligence Unit, August 2007.
35
Krastev, op. cit.
36
37
Gregory L. White and Daria Solovieva, “Small Victory for Speech in Russia,” The Wall Street Journal, May 28,
2008, p. A10.
38
39
“Russian Financial Crisis,” www.wikipedia.org, http://en.wikipedia.org/wiki/Russian_financial_crisis (September
5, 2007).
40
“Russia’s Crisis: Will Russia Survive its Economic and Political Crisis?” PBS, September 17, 1998,
http://www.pbs.org/newshour/forum/september98/russia.html (September 5, 2007).
41
“Russian Financial Crisis,” op. cit.
42
“Flight Pack: Russia,” Country Navigator, TMA 2007.
43
“Smoke and Mirrors,” The Economist, February 28, 2008,
(June 5, 2008).
44
“Smoke and Mirrors,” op. cit.
45
Ibid.
46
Ibid.
47
Economist Intelligence Unit, Country Data, June 11, 2008.
48
“Country Outlook,” op. cit.
49
“The Economy and Investment Climate in Russia,” American Chamber of Commerce in Russia, 2007.
50
“Zubkov Forecasts $40 Bln Budget Surplus in 2008,” Moscow News, January 31, 2008,
http://www.mnweekly.ru/busbrief/20080131/55306488.html (June 12, 2008).
51
52
Ibid.
53
54
55
Ibid.
56
UNCTAD’s “World Investment Report,” 2007.
57
Vladimir Kvint, “Russia’s Surging Economy,” Forbes, January 8, 2008,
http://www.forbes.com/2008/01/08/russia-economy-projections-oped-cx_vkv_0108russia.html (June 12, 2008).
58
Ibid.
59
“Doing Business in Russia: A Country Commercial Guide for U.S. Companies,” U.S. & Foreign Commercial
Service and U.S. Department of State, 2005.
60
“TKN-BP Overview,” BP, October 2003,
http://www.bp.com/liveassets/bp_internet/globalbp/STAGING/global_assets/downloads/T/TNK-BP_Overview.pdf
61
“Bankruptcy Court Opens Yukos Case, BBC News, March 28, 2006,
http://news.bbc.co.uk/1/hi/business/4854530.stm (September 28, 2007).
62
“Rosneft Buys Asset Cheaply After BP Drops Out of Early Bidding,” The Times Online,
http://business.timesonline.co.uk/tol/business/industry_sectors/natural_resources/article1577240.ece (September 28,
2007).
63
Sergei Blagov, “Rosneft Wins Key Yukos Assets in Eastern Siberia,” Eurasia Daily Monitor, May 8, 2007,
http://www.jamestown.org/edm/article.php?article_id=2372149 (September 28, 2007).
64
“Russia Risk Profile,” Emerging Europe Monitor, July 2007.
65
“BP Sells Siberia Stake to Gazprom,” BBC News, June 22, 2007,
http://news.bbc.co.uk/1/hi/business/6230556.stm (September 28, 2007).
66
“BP Playing Russian Roulette,” American Metal Market, March 23, 2007.
67
“Another Inspector Calls,” The Economist, March 27, 2008,
(June 5, 2008).
68
Vedomosti, Tuda Nelzya, July 9, 2007.
69
“Another Inspector Calls,” op. cit.
70
Ibid.
71
Gregory L. White and Guy Chazan, “Boardroom Brawl Roils BP’s Russia Venture,” Wall Street Journal, June 12,
2008, p. A1.
72
Gregory L. White and Guy Chazan, “BP is in the Dark in Battle to Save Russian Venture,” Wall Street Journal,
June 30, 2008, p. A1.
73
Ibid.
74
“Trouble in the Pipeline,” The Economist, May 8, 2008,
http://www.economist.com/opinion/displaystory.cfm?story_id=11332313 (June 5, 2008).
75
“Russia Income Taxes and Tax Laws,” www.worldwide-tax.com, August 2006, http://www.worldwide-
tax.com/russia/russia_tax.asp (September 5, 2007).
76
77
“New Currency Control Law,” CommerceCan,
http://commercecan.ic.gc.ca/scdt/bizmap/interface2.nsf/vDownload/IMI_0502/$file/X_3717013.DOC (September 5,
2007).
78
“Alla Russia Con Amore,” Trade and Forfaiting Review,
http://www.tfreview.com/xq/asp/txtSearch.Legal+Issues/exactphrase.1/sid.0/articleid.7B40443F-1398-475A-B3E5-
81468606D1AB/qx/display.htm (September 5, 2007).
79
“New Currency Control Law,” op. cit.
80
Sheila Puffer, “Can Russia’s State-Managed Network Capitalism Be Competitive?” Northeastern University,
December 11, 2006.
81
Ibid.
82
“Smoke and Mirrors,” op. cit.
83
Puffer, op. cit.
84
“Putin’s People,” op. cit.
85
G. Chazan, “Kremlin Capitalism,” Wall Street Journal 19, 2006.
86
87
Ibid.
88
A. Shleifer, A Normal Country: Russia After Communism (Cambridge: Harvard University Press, 2005).
89
Puffer, op. cit.
90
“Business Environment: Russia,” Business Monitor International, Q3 2006.
91
Ibid.
92
“2007 Country Review: Russia,” CountryWatch, Inc., 2007.
93
94
This section was drawn heavily from TMA’s Country Navigator: Russia, “The Russian Mindset,” 2007, as was
Exhibit 3.
95
B. Snowdon and G. Stonehouse, “Competitiveness in a Globalized World: Michael Porter on the Microeconomic
Foundations of the Competitiveness of Nations, Regions, and Firms,” Journal of International Business Studies,
2006.
96
Michael E. Porter, The Competitive Advantage of Nations (New York: Free Press, 1990).
97
Michael E. Porter, “Chinese Competitiveness: Where Does the Nation Stand?” Institute for Strategy and
Competitiveness (Harvard Business School), June 18, 2004,
http://www.isc.hbs.edu/pdf/CAON_China_2004.06.18.pdf (August 19, 2004).
98
Ibid.
99
Ibid.
100
Ibid.
101
World Economic Forum, The Global Competitiveness Report 2006-2007 (New York: Oxford University Press,
2007).
102
Ibid., p. 192.
103
World Economic Forum, The Global Competitiveness Report 2007-2008 (New York: Palgrave MacMillan, 2007)
p. 22.
104
World Economic Forum, The Global Competitiveness Report 2006-2007, op. cit., p. 95.
105
Porter, “Chinese Competitiveness: Where Does the Nation Stand?” op. cit.
106
Thomas Friedman, “Will Russia Bet on its People?” The International Herald Tribune, February 17, 2007.
107
Byron MacWilliams, “Russia Looks to Reform its Higher-Education System,” The Chronicle of Higher
Education, November 11, 2005.
108
Raj M. Desai and Itzhak Goldberg, “Russia’s Innovation Gap,” October 2006,
http://www.brookings.edu/views/op-ed/20061024desai.htm.
109
Simon Ostrovsky, “Report Warns of Crisis in Workforce,” Moscow Times, August 24, 2004.
110
Ibid.
111
Ibid.
112
113
Ben Aris, “Russia-Kremlin Nurtures Venture Capital—Moscow Hopes Venture Capital Will Boost Investment
and Kick-Start a High-Tech Industry That Is Sadly Lacking Funding,” The Banker, November 1, 2006.
114
Ibid.
115
Thomson Financial and National Venture Capital Association, New York, July 16, 2007.
116
Jason Bush, “Putin Has Been Working on the Railroads,” BusinessWeek, April 28, 2003.
117
Ibid.
118
“Russia Infrastructure Forecast Q2 2007,” Business Monitor International, June 14, 2007.
119
Ibid.
120
“Internet World Stats,” http://www.internetworldstats.com/europa2.htm (June 6, 2008).
121
“Telecommunications Forecast Q2 2007,” Business Monitor International, June 14, 2007.
122
“IT in the Russian Federation,” www.American.edu, http://www.american.edu/initeb/sw5840a/infrastructure.htm
123
“Russia Infrastructure Forecast Q2 2007,” op. cit.
124
Glenn E. Curtis, “Russia: A Country Study,” Washington: GPO for the Library of Congress, 1996,
http://countrystudies.us/russia/59.htm (September 6, 2007).
125
Ibid., http://countrystudies.us/russia/25.htm (September 6, 2007).
126
“Russia,” www.RussiansAbroad.com, http://www.russiansabroad.com/russian_history_89.html (September 6,
2007).
127
World Economic Forum, op. cit., p. 95.
128
Michael Mainville, “Russians Relish Their Freedom to Shop,” The Toronto Star, p. A16.
129
130
Ibid.
131
“Country Data: Russia,” Economist Intelligence Unit, August 9, 2007.
132
Ibid.
133
World Economic Forum, op. cit., p. 95.
134
135
Ibid.
136
Ivan Krastev, “What Russia Wants,” Foreign Policy, May/June 2008, pp. 48-51.
137
“Flight Pack: Russia,” op. cit.

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CASE: IB-73

THE COMPETITIVE ADVANTAGE OF RUSSIA

Russia’s Post-Soviet History

Putin’s foreign policy—and, by extension, [new president] Medvedev’s—rests on

The Russian Federation consisted of 89 components, including regions, autonomous republics,

‘There was no election,’ said a young, middle-class Muscovite. ‘I voted for

Becoming the chairman of United Russia will significantly enhance Putin’s

Political Outlook at the End of 2008

In recent years, for example, Moscow has orchestrated a noisy and

In parallel, government pressure continued to weaken freedom of expression and the

As it fights to preserve its TNK-BP Ltd. Russian joint venture, BP PLC is

Tariffs and Non-Tariff Barriers

WTO Accession Prospects

According to a 2008 article:

Russia’s Oligarchy and Siloviki Capitalism

Obstacles to Foreign Investment

enforce a contract (compared to 19 procedures and 229 days in high-income, developed

The Russian Mindset94

RUSSIA’S INTERNATIONAL COMPETITIVENESS

The Competitiveness of Nations

Although there is a role for government in creating a macroeconomic and microeconomic

Porter’s Competitive Advantage of Nations Framework

• Productivity defines the standard of living (wages, return on capital, return on

The Global Competitiveness Report

The productivity of a country is ultimately set by the productivity of its

supplies, more advanced research institutions, and more intense competitive

Russia’s Competitive Position

Despite the country’s large market size and improving macroeconomic

In addition to deterioration in workforce skills, according to an article in the Moscow Times in

manufacturing in Russia (deflated by the producer price index) have increased 72

Physical and Information Infrastructure

Physical infrastructure for information and communications technology remained a challenge in

Scientific and Technological Infrastructure

Related and Supporting Industries

Context for Firm Strategy, Structure, and Rivalry

According to Desai and Goldberg:

As one article concluded:136

extremely vulnerable, simultaneously authoritarian and wildly popular. Although

• Branches: Executive – President (chief of state), Premier (head of government), Cabinet

GDP (US$ bn) 260 765 989 1,290 1,691(f) 1,966(f)

GDP per Head

GDP per Head at

Notes: f=forecast; e=estimate

2001 2002 2002 2003 2004 2005 2006

Russia Kazakhstan Ukraine Poland Germany

Source: Economist Intelligence Unit, Country Data, June 2008.

Diversity and Lifestyle

Attitudes Toward Money

Global Competitiveness Index (GCI) Rank

Business Competitiveness Index (BCI): 2006-2007

Most Problematic Factors for Doing Business

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