Russia and Business Law

I’m reading a lot about Russia, trying to get ready for the trip I’ve scheduled — I leave home in one month and will be away until mid-June. I don’t think I’ve been there since 1997, and a lot has changed, obviously.

For one thing, there will be the new president, Dmitry Medvedev. Everyone assumes that he will obey his mentor, Vladimir Putin, but I’m more curious about the differences that will emerge. So far, he has not shown any warmer feelings toward Europe or North America, nor any great admiration of democracy, nor any loss of desire for military supremacy, so I wouldn’t expect those changes to appear. But he made a couple of interesting speeches in Krasnoyarsk while supposedly “campaigning” for election. The main thing I noticed is that he seemed intent on institutionalizing the rule of law. Medvedev is a lawyer by training and, at least when it comes to rhetoric, he castigated Russia for being a most lawless country, and he intends to change that.

That could mean a lot of different things. Maybe he just means that he wants to lock up more petty criminals. If so, that won’t make any important change. But the important problem is that today the government itself does not obey its own laws, and that private individuals and companies cannot know what legal outcome to expect if they enter into contracts that are broken. And contracts are the only basis for social order in a society that is not ruled by autocrats but by mutual agreements among free citizens. One very important step in the direction of democracy is simply to establish that Russian society shall be ruled by law, and that legitimate contracts shall be enforced by the state.

True, few people in Russia want a democracy now anyhow — at least they don’t want the kind of chaos and wild west that prevailed under Yeltsin. They say that they prefer “stability,” which is the rhetoric used to justify the authoritarian regime that has emerged under Putin. But anyhow, if they only bring in the authority of law, that will be a major advance in the direction of true democracy. And Medvedev might do that — if he can.

I’ve been reading a paper by a Swedish economist, Stefan Hedlund, who has made me question one of the crucial assumptions I had held for the past few years: that Russia is catching up with the West economically. For one thing, even in 1997 I could see that Moscow had been spruced up lavishly. There were new cathedrals and monuments all over the place, the buildings had been freshly painted, and there were expensive, elegant restaurants and fast European cars everywhere. Definitely the rise in oil prices had brought prosperity to a city that had, only a few years before, experienced a hyperdepression.

Yet according to Hedlund, this new prosperity is less than meets the eye. The growth rate has been consistently running at 6 or 7 percent annually since 2000 — according to the official calculations. But if you start counting at the year 1990, the overall growth looks much less impressive, for the 1990s were the Yeltsin years, when there was a deep depression. Not until 2006 did the Russian economy actually return to the level of GDP that had been achieved before the dramatic changes began.

I had believed that, although Putin did not encourage democracy, he fully supported the development of a market economy. Hedlund does not agree. The conditions for a market economy still do not exist, he claims — at least if that involves generating entrepreneurship from below. There is simply not sufficient protection of financial transactions from racketeering, or the right to expect due process in courts of law.

The new wealth of Russia still consists largely of rents — especially oil and gas. Under Yeltsin, the capital stock of the country was sold off at bargain basement prices, yielding instantaneously a new class of oligarchs.” When Putin came in, his game plan consisted of regaining control of energy resources, and he did not observe many legal niceties in doing so. The most powerful of the oligarchs were forced to sell their new companies and even contracts with foreign companies were manipulated in illegal ways. For example, BP entered into a joint venture as an equal partner with a Russian company, with the newly merged company to be called BP-TNK. And there was also to be another deal between Exxon and Yukos, Russia’s main oil company But a few days later the Kremlin started a legal battle to expropriate Yukos and incarcerated its chief owner, oligarch Mikhail Khodorkovsky.

The recapturing of oil and gas resources was part of Putin’s grand strategy to re-establish Russia’s position on the world stage, especially vis a vis Europe. His motivation probably was his understandable reaction against the humiliating status of Russia as requiring Europe’s help over the previous decade. But as a long-term game plan, it must seem a bit alarming. Europe absolutely depends on Russia for energy, and it seems likely that the Russian government will be able, within a few years, to use this leverage and gain control over the pipelines inside Europe.

One must hope never to see such a dangerous new form of economic blackmail played. But if that is to be avoided, the counter-measures must begin by adopting practices that enable a market economy to function within a rule of law that binds the actions, not only of individuals and small enterprises, but also large corporations and the government itself.

I hope Dmitry Medvedev really intends to bring that change about.