Going for growth: race to recapture FDI

With Russia’s post-crisis economic recovery proving slow, the Kremlin is targeting foreign direct investment in the drive to modernise the economy.

The recovery of the Russian economy continues to lag behind others around the globe, according to the latest manufacturing and inflation figures. This is threatening to dampen the return of investment from overseas, whether on equity and debt markets or in foreign direct investment (FDI). It’s the latter that is the focus of the government’s programme to steer the Russian economy following the crisis, as it looks for long-term cash and partnerships to help develop and diversify away from natural resources, increase productivity and rebuild ailing Soviet-era infrastructure.

However, Russia has a fairly poor record in attracting FDI. Although levels sky-rocketed in the boom years prior to autumn 2008, volumes were still modest compared with other Brics, and tethered to natural resources for the most part. This is the result of commonly acknowledged issues (corruption, poor legal protection and, frankly, abysmal PR for the most part), against which president Medvedev is leading a charge, under the all-encompassing banner of “modernisation”.

A major factor in this campaign is to improve the country’s image as a safe investment target. The eventual goal is to lever foreign investment and expertise to help create the hi-tech economy about which the president so often eulogises. As prime minister Vladimir Putin said recently, a key focus in the future is to locate long-term investment in scientific sectors independent of budget funding. That, however, won’t happen until Russia’s basic infrastructure is updated.

It adds up, then, that this year’s privatisations are targeting strategic or project-based investors in transport. Not only are highly publicised privatisations of shipping and port companies on the cards, but deals to push forwards stalled projects, such as the Western High-Speed Diameter in St Petersburg (a highway connecting the city port to the ring road), or the development of that city’s Pulkovo Airport, for which VTB Capital has recently put together an investment consortium.

FDI is key to the political leadership’s vision for Russia’s future. For now, the origin of the bulk of direct investment remains offshore financial centres, such as Cyprus, through which Russian corporations route what is in effect domestic investment, due to the preferential treatment available to “foreign” investors.

That said, the push to attract infrastructure investment proved reasonably successful in 2009, with transport and communications sectors leading the way in attracting FDI, according to state statistics service Rosstat. Meanwhile, the leading role of retail last year indicates that foreign investors now believe that the country is genuinely starting to see additional drivers to the hydrocarbon roadhog.

Russia attracted $15.9bn in FDI in 2009, 68pc below the 2008 record of $49bn, but a fall in line with global levels. That means that Russia now faces serious competition to secure a share of the international investment flows – particularly from fellow Brics, Brazil, Cina and India. Of the four, the Russian economy was the hardest hit, and its growth is widely expected to lag over this year and next. As Mr Putin noted in February, “In the post-crisis period, the competition for attracting this investment will be tough.”

Meanwhile, finance minister Alexei Kudrin suggested last month that it could take until 2013 for FDI to return to the level seen in 2008. The details released thus far on the latest privatisation drive are therefore only likely to prove the tip of the iceberg: the authorities hope to create a virtuous circle, with additional FDI speeding structural reform and growth of the economy, in turn spurring further investment.

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