The Russia Conundrum

CHAPTER 11

ARRESTED DEVELOPMENT

Putin’s anti-Westernism, his wanton confiscation of private property and the corruption that flows from the highest levels of the Kremlin have devastated the prospects for any renewal or progress in the Russian economy. Why would anyone trust a mafia state that appropriates the resources of the nation and seizes the businesses of individuals solely to enrich itself? Why would global investors choose to invest their money in a country run by such a treacherous regime, and why would the Russian people continue to accept the abuses to which their leaders subject them?

The last question is perhaps the easiest to answer. Historically, the iron fist of Russian authoritarianism has crushed expressions of popular discontent, but it has not dispelled the mistrust that attaches to a system of governance which claims all power for itself and refuses to respect the rule of law or the rights of its citizens. I wonder if you can guess who wrote the following – and when it was written:

The fundamental principle of Russian government has always been the autocratic ruler who combines all legislative and executive powers and disposes of all the nation’s resources. There are no limits placed on this principle. When the powers of the ruling authority are unlimited – to such an extent that no rights are left over for the subjects – then such a state exists in slavery and its government is despotic.

It is a description that could accurately be applied to the autocracy of the Communist Party or that of Vladimir Putin, but it was actually written in 1809 by Mikhail Speransky, an adviser to Tsar Alexander I. Speransky lamented that Russia had never been a law-governed country, in words that describe perfectly the state of affairs today.

Under autocratic rule there can be no code of law, for where no rights exist there can be no impartial balance between them … there is nothing but the arbitrary decisions of the ruler, prescribing to the citizens their bounden duties until such time as the autocrat decides to change them. The law is completely dependent on the autocratic will which alone creates it, alone establishes the courts, names the judges and gives them their rules … as the fancy strikes it.

Speransky concluded that the absence of justice, law and protection from capricious authority stifles initiative and progress, with the result that the country remained mired in primitive backwardness. Today, in Putin’s Russia, the law continues to be trampled on and bypassed in favour of the dictatorship of the men who occupy the Kremlin. For them, laws exist merely to cloak despotism in the trappings of legitimacy, a fig leaf for the political coercion that makes the system incapable of constructive evolution.

A country’s legal system should not be the expression of the sole will of the ruler; it should be the consolidated will of civil society as a whole. That is what allows a state to function on the basis of consent, where citizens obey the law because they respect its foundations. Such laws must be built upon unchanging principles, ones not subject to alteration on the whim of the moment, and they must be passed by an independent, freely elected parliament. So long as personalised autocracy remains the only political configuration known in Russia, there is little prospect of progress.

The lack of legal protection for private possessions in the face of a rapacious, grasping state continues to undermine confidence in Russia. ‘What is the use of laws assigning property to private individuals,’ Mikhail Speransky wrote, ‘when property itself has no firm basis in any respect whatsoever? What is the use of civil laws when their tablets can at any time be smashed on the first rock of arbitrary rule? How can finances be set in order in a country with no public confidence in the law!’

Lack of belief in the protection of the law has caused an outflow of capital and people from Russia, a fall in the number of long-term projects financed outside of the state budget, and the insane corruption and embezzlement of state property that eat up more than 10 per cent of GDP.

Under Putin the state has not only neglected to develop the country’s intellectual potential; its predatory policies towards business and its trampling on individual rights have also contributed to a massive flight of human talent, including the cream of Russia’s young entrepreneurs. These are people who need to feel independent and safe in conditions of democracy, so the statist ideology that pervades our country has prompted them to emigrate. You can imagine the harm this has done. If a 25-year-old entrepreneur decides to leave Russia, the country loses millions of dollars in potential revenue back into the economy. And a hundred thousand such entrepreneurs and highly qualified specialists are leaving Russia every year.

Official figures record that 4.5 million people left Russia in the two decades following the collapse of the Soviet Union and experts agree that the real number was much higher. A 2016 report revealed the damage this brain drain has inflicted. The majority of those who emigrated to the West were people with potential who felt unable to develop in their homeland – scholars, college students, entrepreneurs and business leaders. The number of independently wealthy émigrés, including former government officials, families of politicians and members of the financial and bureaucratic elite, has escalated since 2000. The reasons they gave for leaving ranged from low salaries and the lack of funding for science and education to the volatile business environment, widespread corruption, fears for personal safety and business assets, the weakness of public institutions, and a lack of confidence in the law enforcement and judicial systems. The exodus, says the report, not only deprives the country of the most active members of society but condemns the remainder to slower development.

A country as richly endowed with human and material resources but with such a level of national poverty as Russia should be achieving 6 to 7 per cent growth rates. All that is needed is a commitment to legality and business integrity for Russia to attain Canadian standards of living within a decade. Two centuries ago, Mikhail Speransky explained to Tsar Alexander how the deadweight of Russia’s autocratic past could be thrown off and the door opened to a better future. He drew up plans for freely elected local councils, a national parliament and a remarkable draft constitution guaranteeing civil rights and the separation of powers, an end to the police state and freedom of the press. But Alexander refused, and in the third decade of President Vladimir Putin’s rule, the prospects for political reform and economic modernisation are still remote. Trust between Russia and Western governments is at an all-time low. This is bad for the wellbeing of the Russian people, and the safeguarding of their human rights. It tarnishes Russia’s attractiveness as a destination for Western investment. And it carries the risk of political mistakes and gambits that may lead to conflict. As a business leader, I am acutely aware of the way Putin’s leadership stifles economic prosperity. But it is more than that. It has a noxious effect on the moral welfare of the country. It stifles our nation’s present, our people and our future.

As for meaningful economic change, several obstacles stand in the way. The first is domestic investment. Not only is a lot of state expenditure unproductive, the authorities also withhold investment essential for modernising the economy. Apart from the banal purposes of theft and self-enrichment, the rationale for this policy is to accumulate reserves and avoid dependence on Western countries.

Second, Western sanctions, imposed in response to Putin’s military and sabotage activities abroad, had already restricted the flow of investment and technologies into Russia, even before the increased measures enacted after Putin’s invasion of Ukraine. The involvement of high-level foreign professionals and entrepreneurs in the economy has been reduced almost to zero by the international isolation of Russia after February 2022 and a large part of the Kremlin’s aforementioned financial reserves has been frozen. This situation is unlikely to undergo radical change, for no one wants to strengthen a Kremlin autarchy prone to exporting violence.

Finally, there is the question of Russia’s institutions and the rule of law. The state under Putin continues to demonstrate its high-handed attitude to private property and the decisions of international courts. Its own parliament, courts and other institutions are not independent. Russia today is simply not a good place to invest your energy, acumen and capital. Regular scandals erupt in the form of corruption, money laundering and even violent crimes – explosions, poisonings, murders.

By now, everyone should understand that the Kremlin sees the economy as a tool of politics. Simply put, one can achieve and hold on to economic success in Putin’s Russia only by agreeing to engage in corruption or by becoming an agent of Kremlin policies. This is what Western investors should keep in mind. The Washington-based think tank, the Atlantic Council, wrote in 2020 that ‘a “state–criminal partnership” developed in Russia, in which the shadow financial services market was monopolized by the SEB/FSB under the leadership of current FSB Director Alexander Bortnikov. Since then, SEB [the FSB’s Economic Security Service] employees control the entire chain, from schemes for withdrawing money from the budget to cashing out these funds and laundering them abroad.’

Putin wants to see himself as a full-fledged player in the ‘big game’ of global geopolitics, but the state of the Russian economy and society does not afford him that opportunity. Therefore, he claims his seat at the table by using other methods – by playing against the rules. Western leaders seem to have had enough. The Biden administration has promised that, from now on, such games will cost the Kremlin dearly. For his part, Putin has vowed to draw a ‘red line’ in defence of Russian interests, warning that those who cross it ‘will regret what they have done in a way they have not regretted anything for a long time’. Matters might be different if there were a genuine prospect of political change. But Putin’s regime in its current state is not ready for reform. Its laws completely rule out the possibility of changing the power structures by means of elections.

Combined with torrents of state propaganda, school education, orchestrated political processes and outright violence, this has contributed to a sense of hopelessness in society. At the same time, the authorities intentionally keep income levels within a range where people scrape along from pay cheque to pay cheque, keenly aware of the total dependence of themselves and their families. All this reduces Russia’s economic growth rates, but serves to preserve the political status quo.

Public attitudes to Putin’s regime reflect the structure of Russian society. Perhaps half the population would not mind keeping Putin in power for a fifth presidential term after his present six-year spell ends in 2024. The same half thinks that the sentence imposed on Alexei Navalny, the opposition activist ailing in prison, is appropriate. Among the other half, there are many critics of the system, but also many others who are not ready to take an open stance.

Russian society is heterogeneous. About 25 per cent of people are educated residents of big cities, where opposition to Putin is strongest. About the same amount, maybe a little less, live in ‘electoral sultanates’, or territories where feudal and even tribal orders rule. The remaining 50 to 60 per cent live in the industrial society of the mid-twentieth century – in so-called ‘mono-cities’ and other urban areas of central Russia that have only two or three large enterprises. Meanwhile, the population of big cities has changed greatly because of the influx of migrants from Central Asia. For all these reasons, I am not sure we can expect early positive political changes in Russia driven by public pressure.

Under Putin, the authorities have consciously sought to revive the imperial reflexes of the Russian population, and this includes the inculcation of a mentality that can perversely equate business success with foreign encroachment. It was an argument that was used to justify the Kremlin’s attack on Yukos and there are countless other examples, including the infamous Magnitsky case that brought the practice of state-sponsored corporate raiding – called reiderstvo in Russian – to the world’s attention.

In June 2007, armed police raided the Moscow offices of the thriving investment fund, Hermitage Capital, run by the British-American financier, William Browder. The police identified themselves as members of the FSB’s Economic Security Service and claimed they had authority to confiscate documents and computers as part of a tax probe. In fact, they were perpetrating a classic reiderstvo operation, which would result in three of Hermitage’s subsidiary companies being seized on bogus charges.

The FSB officers who carried out the raid were not acting alone; they had enlisted the help of corrupt law enforcement officials and judges, who were all part of the scam. Using the corporate registration documents that they had seized, the FSB men and their associates were able to perpetrate a fraud, in which they claimed (and received) a refund of $230 million in taxes that Hermitage had paid to the Russian state. When the company’s lawyer, Sergei Magnitsky, discovered that the raiders were claiming bogus tax refunds in Hermitage’s name, he made an official complaint, only to find himself arrested by the very police who were involved in the plot. In November 2008, he was brought before a judge and charged with tax evasion. On remand in jail, Magnitsky was pressured to make a deal and testify against Browder. He was threatened and denied medication for serious health problems, but he refused to perjure himself. On 16 November 2009, after 11 months of imprisonment, Sergei Magnitsky died in a cell in the prison hospital, having been handcuffed in a stress position. The European Court of Human Rights would later rule that he had been held in conditions that amounted to ‘inhuman and degrading treatment’ and subjected to negligence and lack of adequate medical care in breach of Article 3 of the European Convention on Human Rights.

The Magnitsky case provoked international outrage, prompting the US Congress to pass legislation targeting individuals directly or indirectly involved in his arrest and death. The Magnitsky Act, signed into law by President Barack Obama in December 2012, named a series of Russian officials who would henceforth be prohibited from entering the United States or using the US banking system. Canada, the United Kingdom and other European countries followed suit with their own sanctions.

In evidence to the US Senate Judiciary Committee in July 2017, Bill Browder testified that the Magnitsky Act restrictions were having an effect on those it targeted, including Putin himself. ‘President Putin is … the biggest oligarch in Russia and the richest man in the world,’ Browder said. ‘I estimate that he has accumulated $200 billion of ill-gotten gains from these types of operations over his 17 years in power. He keeps his money in the West and all of his money in the West is potentially exposed to asset freezes and confiscation. Therefore, he has a significant and very personal interest in finding a way to get rid of the Magnitsky sanctions.’

Inside Russia, the Magnitsky case changed little. The Kremlin’s failure to act against those responsible for Magnitsky’s death was a signal to foreign businesses that they would not be treated differently from domestic firms. Kowtowing to the authorities, paying kickbacks and bribes, would remain the cost of doing business there. Entrepreneurs have continued to be targeted and cases of reiderstvo are now estimated to account for one in seven of all business takeovers, involving funds in the tens of billions of dollars.

The reiderstvo pandemic began almost as soon as Putin came to power in 2000, when the Siloviki were given free rein to carve up Russia’s strategic assets and share the proceeds between themselves. Their first targets were the industries that had been privatised in the previous decade, which they picked off one by one. As scions of the security forces, the Siloviki held sway over the key state institutions, including the tax authorities, law enforcement and judiciary, fashioning them into a biddable machine that they deployed to plunder their hapless victims.

Under Putin, reiderstvo itself became a business, with specialist companies offering professional analyses of potential targets, teams of bent lawyers ready to rubber stamp the theft and detachments of corrupt FSB operatives to carry out the physical seizure. The Moscow magazine Ogoniok even produced a standard price list for the services on offer, ranging from $1,500 per day to tap a mobile phone to $20,000 for surveillance of the target enterprise, while suborning the police and Prosecutor’s Office costs between $30,000 and $60,000.

Because speed is of the essence, the raiders usually arrive in force, overwhelming the company’s security men and intimidating employees with threats of violence. The owners are either removed from the scene or bound and gagged and held in a storeroom. The police are then called, by which time the new ‘owner’ has his feet under the desk, armed with fraudulent company papers and forged share registers. If victims appeal to the courts, they invariably discover that the judge has been bribed by the raiders and consequently refuses to hear their case.

Just as in some third world countries, the law in Russia can be hired as a tool for profit. Judges can be bought; courts are not independent of the will of their political masters; the judiciary knows full well that its judgements must conform to the wishes of the Kremlin. Opposition activists, including Alexei Navalny, who have tried to pursue cases of official corruption through legal channels have been uniformly rebuffed. In the single instance when a court did agree to consider a lawsuit alleging financial impropriety by the president, the Kremlin moved swiftly to shut the procedure down. Judge Tatyana Leskina of the Saratov Court of Arbitration received a motion in April 2016 calling for Vladimir Putin to be tried as ‘an enemy of the state, due to his plunder of Russia and impoverishment of the Russian people’. When she imprudently agreed to hear the case, Leskina was fired from her position and her decision quashed on the grounds that the courts have no right to interfere with the activities of the president.

The constitutional immunity from prosecution that Putin enjoys has facilitated his acquisition of the fabulous levels of wealth referred to by William Browder and his gracious distribution of largesse to his friends and family. Forbes magazine has published an annual list of those who benefit most from Putin’s patronage, a remarkable number of whom have turned out to be his own relatives and childhood chums. Arkady Rotenberg, Putin’s judo partner, figured in every edition of Forbes’s ‘Kings of State Contracts’ roster from the year it first appeared, receiving annual orders from the Kremlin worth over $7 billion for his engineering and construction companies. Another fixture on the list, Kirill Shamalov, improbably became deputy CEO of SIBUR at the age of 30. The petrochemical conglomerate was the recipient of multibillion-dollar state contracts. Shamalov’s own company, Yauza 12, was reported in the media to have received a $1 billion loan from the state-backed Gazprombank (where his brother Yury happens to be the deputy chairman), which he used to buy 17 per cent of SIBUR from Putin’s old pal Gennady Timchenko. It was perhaps no coincidence that Kirill Shamalov was Putin’s son-in-law, married to his second daughter, Katerina; or that when relations with the president’s daughter faltered, he was forced to sell out to Leonid Mikhelson. Both Timchenko and Mikhelson also feature prominently on Forbes’s ‘Kings of State Contracts’ list. Helping to keep things in-house, Katerina herself, having achieved some success in the little-known discipline of acrobatic rock ’n’ roll, was appointed to head a $1.7 billion publicly funded project to build a new science hub at Moscow State University. Arkady Rotenberg’s son, Igor, whose assets have included the drilling company Gazprom Bureniye and power generation company TEK Mosenergo, has also powered his way up the Forbes list, underlining the extent to which people close to Putin now run Russia’s key industries and are passing down their wealth to sons and daughters.

Putin and his cronies have acquired a fondness for building themselves luxury residences – palaces, according to some reports – a trend that has been exposed and lampooned by Alexei Navalny’s Anti-Corruption Foundation (FBK). In January 2021, Navalny released a video titled Putin’s Palace: The World’s Biggest Bribe, which broke all records for social media views in Russia. The film showed footage of an opulent coastal property near the Black Sea resort of Gelendzhik that has been built for Putin by the grateful recipients of his state-funded business deals. According to Navalny, $1.35 billion of illicit funds went into the construction of the palace, which extends to more than 17,000 square metres, making it the biggest private residence in Russia. Putin can enjoy the services of a private port, a vineyard, a chapel, a casino, an indoor hockey rink and toilet brushes costing $850 each. Among those reported to have funded the president’s gift was Nikolai Shamalov, who worked with Putin during his time in the St Petersburg mayor’s administration in the 1990s and who had benefited from lucrative Kremlin contracts following Moscow’s annexation of Crimea. Nikolai also happens to be the father of Kirill, who married Putin’s daughter.

When other members of Putin’s inner circle, including Dmitry Medvedev, State Security Council chief Nikolai Patrushev, former Russian Railways boss Vladimir Yakunin and even Putin’s press secretary Dmitry Peskov, were all revealed to live in multimillion-dollar homes, the response was swift and indicative: Putin decreed that property ownership records would henceforth become classified information, no longer available to the general public. ‘They want to hide the truth about their homes and yachts,’ declared Alexei Navalny, ‘but our investigations will continue – we can still take photographs…’

Navalny’s videos of the luxury lifestyles of the Kremlin elite hit a national nerve. While Putin and co were getting ever richer, the Russian economy was going from bad to worse. Early in his reign, Putin benefited from high prices for Russia’s oil and gas, boosting GDP and lifting living standards. But, instead of using the breathing space to diversify the economy and develop other streams of sustainable revenue, the Kremlin marched blindly on towards the precipice. When global energy prices collapsed in 2014, Russia slid inexorably into recession. Putin’s response was to annex Crimea, a manoeuvre that succeeded in shoring up his domestic poll numbers, but brought Western sanctions and a further, inevitable decline in national prosperity. Putin has stifled market competition by shrinking the private sector and bringing more and more of the economy into the hands of the state or, to be more precise, into the hands of his inner circle. Since 2000, the share of GDP controlled by state-owned (and crony-controlled) firms has risen from 35 per cent to 70 per cent, a deadening influence that has reduced enterprise and innovation. With the exception of the arms industry, Russian goods have become dishearteningly uncompetitive on the world market; technological research and development have dwindled and the much-touted creation of a Russian Silicon Valley at Skolkovo, near Moscow, ended in fiasco. Putin’s promise of 25 million new jobs in the IT field was a farce. ‘Russia,’ goes one popular joke from Soviet times, ‘now boasts of producing the biggest nanochips in the world.’ The Kremlin has subsequently dropped any serious attempt to modernise the economy, with the result that it has been left behind by the developed nations of the West. Russia’s GDP is considerably smaller not only than that of the US, but also of Germany, Britain, France and Italy.

If the definition of a third world kleptocracy is a country where the leaders get fat at the expense of the people and the nation, Putin’s Russia fits the bill.