Russia may look promising from a valuation viewpoint but concerns over corruption, weak corporate governance and political risks continue to keep institutional investors at bay. There are signs of change in terms of the long awaited World Trade Organisation (WTO) entry and sweeping market reforms, but many want to see a more open environment before taking the plunge.
“There is a perception that legal rights are optional and the country needs to show more regard for the legal system.”
Plamen Monovski
The last few months have added to investors’ concerns. In May the newly re-elected president Vladmir Putin had just signed a new anti-protest law but arrested dozens of demonstrators after the Russian National Council on Corporate Governance gathered in Moscow to hold its Third International Conference.
There was also foreign outrage in September over the expulsion of the US Agency for International Development – complicating an already delicate relationship – as well as the arrest of the members of the female punk band Pussy Riot after they performed an anti-Putin song in a Moscow cathedral in the summer. One of the convicted women was recently freed but the two- year jail terms were upheld for the other two band members.
“It is easy for politicians to issue edicts about what they are going to do, but from a market perspective they need to follow through,” says Tom Wilson, emerging market fund manager at Schroders. “There is still a level of cynicism and a degree of scepticism about the likely pace of reform in Russia, partly because there is a huge amount of vested interests that act as a drag.”
Plamen Monovski, chief investment officer at Renaissance Asset Managers (RAM) also notes that “there is a perception that legal rights are optional and the country needs to show more regard for the legal system. There are also many things the government can do to encourage a more open economic path and the WTO entry is one important component in this.”
Long road to WTO
Russia first knocked on the WTO door 19 years ago and the ensuing road to membership has been long and tortuous. The immediate advantages may take time to filter through as dismantling the country’s foreign trade barriers and tariffs will not be an easy task. In fact, the government has adopted a phased reduction programme in cutting import tariffs to 7% from around 15%. The most vulnerable sectors to foreign competition such as automotive and manufacturing will have until 2019 to adapt to the new regime.
Over the mid-to-long term though the World Bank economists estimate entry will boost Russia’s economy by $49bn a year, or about 3% of gross domestic product.
According to David Reid, analyst for The Eastern European Trust, almost all the countries that have joined in the past have experienced sustained improvements in foreign direct investment and economic growth. China’s entry in 2001 is often held up as one of the big success stories, but the Eastern European region can also boast a record of success including countries like Poland, Hungary and the Baltic states. “This is a historic development, but we are not anticipating miracle results in the short term,” Reid says.
Only a certain proportion of reforms are immediate, with the rest being phased in over a period of several years. Of course there will be winners and losers. Reid points to the many export industries where Russia has a competitive advantage – such as steel and chemicals. They will have easier access to foreign markets while the consumer sector will also benefit from higher employment and wages as foreign investment in the economy takes effect. However, there will be a handful of areas, such as agriculture and auto manufacturing that have to adjust to the steady reduction of protectionist measures. Restructuring will be required but those that do will emerge stronger.
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