RUSSIA& THE WORLDFINANCIAL TIMES SPECIAL REPORT | Thursday June 16 2011

Video on FT.comAs leaders gather forthe St PetersburgInternationalEconomic Forum,Neil Buckley, eastEurope editor, looksat Russia’ssearch for a newdirection

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Inside this issueEconomy Slowgrowth forecastspoint to themost starkchoice onstrategy in twodecades Page 2

Stock markets Russia hasbenefited from instability in NorthAfrica and the Middle East – butthe revenues from high oil priceshave delayed much­neededreform Page 2

Foreign listings Valuation is thecrucial question that companiesplanning overseas offerings needto address Page 2

The internetThe return toauthoritariancontrol of somemedia hasturned the webinto a valuableforum for freespeech Page 3

Inward investment Rewards arethere for those who are carefulwhere they put their moneyPage 3

St Petersburg A city of culturalicons has a lot to live up toPage 4

Auctions Old Masters arecoming out of the attic Page 4

Moscow as a financial centreEfforts to diversify the economyhave been blocked Page 4

Sochi The sitefor the 2014Winter Olympicsis boosting itsinfrastructure –and providingan example tothe rest of thecountry Page 4

Improved US tiespoint to a new era

The sight of a relaxed Presi-dent Dmitry Medvedevchatting over hamburgerswith his US counterpartBarack Obama on a visit tothe US last year was a signof just how much relationsbetween the two countrieshave warmed in the pastthree years.

A more tangible sign ofthe improvement since theUS “reset” of relations, andMoscow’s shift to a morepragmatic foreign policy,was Moscow’s abstention atthe UN Security Council inMarch on a motion allowingwestern intervention inLibya. In days gone by, it

might have been expectedto exercise its veto.

That was the latest in aseries of concrete advances.These have included: thenew Start treaty on reduc-ing strategic nuclear weap-ons; Russian backing for aUN resolution tighteningsanctions on Iran; anda deal permitting Natoshipments to Afghanistanacross Russian territory.

Cliff Kupchan, a directorof Eurasia Group, the politi-cal risk consultancy, and aformer state departmentofficial in the Clinton era,says the turnround in Rus-sian relations is “one of thesignature accomplishmentsof the Obama administra-tion”. He says: “If you lookat this in the sense of ‘Arewe better off now than wewere three years ago?’,there is only one way toanswer the question.”

Putting the relationship

back on a more productivefooting was certainly one ofthe biggest challenges fac-ing Mr Obama when hecame to office.

Relations had deterio-rated into what some calleda “new Cold War” in thefinal days of the presiden-cies of Vladimir Putin andGeorge Bush.

The US knew it neededRussian help on crucialissues such as non-prolifera-tion and counter-terrorism,so set out, in the phrase ofvice-president Joe Biden, to“hit the reset button”.

Dmitry Trenin, director ofthe Carnegie Moscow Cen-tre, points out that it washelped by the arrival of a

new, more youthful presi-dent in Russia, perhaps lessinfluenced by Cold Warstereotypes. Washingtonmade a point of trying towoo Mr Medvedev.

“Putin isn’t in the frontoffice any more,” says MrTrenin. “He sits in the backoffice and manages thestore. The guy in the frontoffice meets the clients andsigns things.”

For the US, he adds, “Weknow Putin is somewherein the back office, but weare not dealing with Putin,we are dealing with thepresident of Russia.”

There are, though, ques-

Foreign relationsMany pitfallsremain, explainsNeil Buckley

Dmitry Medvedev and Barack Obama chat over hamburgersduring a visit to the US last year AFP/Getty

Continued on Page 2

Unable to shake off energy dependence

R ussia has floated for most ofthe past decade on a cush-ion of steadily rising oil rev-enue, earning about

$1,500bn from oil and gas exportssince 2000. Oil revenues alone fundroughly 50 per cent of federal budgetrevenues and made up 25 per cent ofgross domestic product in 2010.

While few would say that havinglots of money is a bad thing, it isbecoming clear to some of Russia’sleaders that dependence on energyexports is actually a hindrance to thecountry making it into the top leagueof the world’s developed nations.

On the eve of the St Petersburg eco-nomic forum, designed to showcaseRussia’s westernmost aspect, thecountry increasingly resembles a Mid-dle Eastern oil autocracy more thanthe budding European democracy thatshowed so much promise 20 years agoafter the fall of the Soviet Union.

Russia has no shortage of leaderswho have correctly identified theproblem. Alexei Kudrin, finance min-ister, startled Russian economywatchers with a sobering predictionon April 21 that the era of oil-fuelledgrowth may be ending, and not justbecause oil prices may fall from theirhighs earlier this year.

He said that a further increase in oilprices might even “have a depressiveeffect” on the Russian economy. Arising oil price, he said, “used to actas an economic stimulus. Now how-ever, this model is exhausted.”

The rise in oil prices over the pastdecade “played a cruel joke on us”, hesaid. To fight inflation, the centralbank was forced to strengthen therouble, which hurt trade in all sectorsbut oil and gas, further concentratingdependence on energy. “We paid forgrowth with inflation,” he said.

The oil windfall has skewed theeconomy, pushing up wages withoutpushing up productivity, and leadingto an overvalued currency that hasstifled investment and ensured thatthe other sectors of the economyremain perpetually uncompetitive.

The new mood is a product of theeconomic crisis. While Russia’s GDPdoubled in the 10 years before 2009,that year its GDP fell 8 per cent. Thecauses were not hard to find – energyand commodity prices fell and foreigncredit lines dried up. The previouslyimpressive economic growth wasshown to be nothing more than theability to pump oil.

In 2009, President Dmitry Medvedevpublished a manifesto called “RussiaForward!” in the online newspaperGazeta.ru, calling his country’sdependence on oil “primitive”.

But talking about the problem anddoing something about it are differentthings. Two years after the financialcrisis started to abate, Russia remainslargely unreformed, despite MrMedvedev’s oft-repeated promises.

Increasing investment will be criti-cal to any attempts to modernise theeconomy. Currently, investment as aproportion of GDP is about 20 percent, while the average for emergingmarkets is 30 to 40 per cent (China is40 per cent). Instead, Russians spendon consumption, and 70 per cent ofthe federal budget is social spending.

Another reason for lack of domesticinvestment is low savings rates,which economists say are caused bynegative real interest rates. “Russianssave when the real interest rate ispositive,” says Natalia Novikova, sen-ior economist at Citibank Russia. Shepointed out that last year, when infla-

tion fell to below interest rates, savingrates climbed sharply, but fell backwhen inflation picked up.

This spring, the central bank beganto raise interest rates for the firsttime in two years in an effort to fightinflation, but economists are dividedon whether the action comes too lateand is too slow.

Meanwhile, on March 31, MrMedvedev outlined 10 reformsdesigned to raise investment, bothdomestic and foreign. He targeted thecosy relationships between cabinetministers and state companies, forc-ing ministers to step down from theboards of state companies which theyhave run like fiefdoms for years.These included the powerful IgorSechin, deputy prime minister andformer chairman of Rosneft, the stateoil company.

But Mr Medvedev’s attempts to runeconomic policy have been stymied bycompetition between the president’sadministration and the cabinet, whichtakes its orders from prime ministerVladimir Putin, Mr Medvedev’sformer mentor.

Mr Putin stood down from the presi-dency in 2008 at the end of his consti-tutional limit of two terms, and allbut appointed Mr Medvedev as hissuccessor.

Mr Medvedev is still very much inMr Putin’s debt, say observers, andthe two are old friends going back 20years. However, the difference in theirapproaches to economics is obvious.Mr Putin increased the state’s role in

the economy during his eight-yeartenure creating a model now called“Kremlin Inc”. Mr Medvedev wouldlike to end this. “What worked 10years ago may not work today. Weneed to get used to a changing world,”he told journalists in April.

Mr Medvedev detects differencesbetween his own approach and that ofthe prime minister. Mr Putin believesthat modernisation is “a calm, grad-ual movement”, Mr Medvedev said ata May 18 press conference in Moscow.“But I think that we have a chanceand enough forces to conduct thatmodernisation faster.”

Where possible, the president hasbeen combining the struggle to reformthe economy with the fight to broadenhis own political power. Over the pastfew months, this has had some note-worthy successes, weakening rivalssuch as Mr Sechin, and tackling someof the blatant problems with economicmanagement.

In some ways, Mr Medvedev’s strat-egy is reminiscent of Mikhail Gor-bachev, the Soviet leader who, facedwith an entrenched communist oldguard in the 1980s, identified himselfwith inevitable economic and politicalreforms, and used these as a tool toempower himself politically againstthe Politburo establishment.

The course of reforms is likely todepend on who becomes president in2012, and this is the most speculatedabout question in Russian politics.

While many people simply assumedMr Putin would return to his old jobafter Medvedev’s first term, MrMedvedev seems to be mounting aconvincing campaign for a secondterm. Most observers, however,believe the two men will work it outamong themselves who will stand.This will avoid a prolonged powerstruggle or even running against eachother in the election.

But commentators are split onwhether the mystery over who will

run is a purposeful tactic, designed toprevent either being seen as a lameduck, or simply that the two menhave not hammered out a deal yet.

Mr Medvedev used the first domes-tic press conference of his three-year

old presidential term on May 18 tospin yet more suspense about thedecision.

“There is not long left to wait,” hesaid. “Such an announcement is closeat hand.”

The country is more likea Middle Eastern oilautocracy than a buddingEuropean democracy,writes Charles Clover

Pumped up: Vladimir Putin, the prime minister, has been keen to give a leading role to state­owned oil groups AFP/Getty

Russia’s oil windfallhas hopelessly skewedthe economy,pushing up wages withoutpushing up productivity

2 ★ FINANCIAL TIMES THURSDAY JUNE 16 2011

Russia & the World

ContributorsCharles CloverMoscow Bureau Chief

Neil BuckleyEastern Europe Editor

Courtney WeaverMoscow Reporter

Leyla BoultonMain News Integrator

Isabel GorstCentral AsiaCorrespondent

Catherine BeltonMoscow Correspondent

Rachel MorarjeeMiriam ElderFT Contributor

Rohit JaggiCommissioning Editor

Steven BirdDesigner

Andy MearsPicture Editor

For advertising, contact:Samantha Lhoas on:+44 (0)20 7873 3708;e­mail:samantha.lhoas@ft.com

BetterUS tiespoint tonew era

tions over how durable thiswarming of relations mayprove. Russian foreign pol-icy hawks are quick towarn that the reset could bereversed by a future Repub-lican administration.

Sensitive issues still lurkin the background,– aboveall, expanding Nato toUkraine and Georgia, righton Russia’s borders.Though that question haslargely dropped off theagenda since Russia’s 2008conflict with Georgia, itremains a long-term aim ofthe west.

In addition, the US’splanned missile defence sys-tem in Europe remains anirritant, despite moves todrop elements that facedthe biggest opposition fromMoscow.

Grigory Yavlinsky, a lib-eral Moscow politician andfounder of the Yablokoparty, suggests relationsbetween the two countriescan only really be put on anew footing if they agree towork on building a jointanti-missile system.

“If you can agree on that,you solve all the problemsof the US-Russian relation-ship at once,” says Mr Yav-linsky. Though no greatadmirer of Mr Putin, henotes that this is preciselywhat Mr Putin offered inthe early days of his firstpresidency when he soughta closer partnership withWashington but was – asRussians see it – rebuffed.

“Looking forward, thechallenge is to renew thereset,” says Mr Kupchan.“To produce concreteachievements in the eco-nomic sphere, on rules ofbehaviour in Russia’s near-abroad, and to make furtherprogress on the arms con-trol agenda, especially ontactical nuclear weapons –these are in many waystougher issues than thosewe have already accom-plished.”

The area where theremay be the biggest scopefor disappointment on theRussian side is the businessrelationship. Russia lastyear recast its foreignpolicy to be a servant of itsbiggest domestic policypriority – modernising theeconomy.

As Mr Medvedev madeclear with trips to the Mas-sachusetts Institute of Tech-nology and Silicon Valleyduring his US visit lastyear, Russia is in search ofUS technology and invest-ment.

But here, improved for-eign policy relations canonly achieve so much. Amore constructive US gov-ernment stance towardsRussia is a necessary – butnot sufficient – prerequisitefor increased US investmentflows.

As commentators on bothsides note, what is reallyneeded to boost investmentfrom the US and other west-ern countries is improve-ment in the investment cli-mate and the rule of law,and action to tackle Rus-sia’s endemic corruption.

“You can’t buy westernparticipation in our mod-ernisation by, say, support-ing western sanctions onIran,” says Alexei Pushkov,a professor of foreign rela-tions and television host.

Continued from Page 1

Performancedisappointsonce again

Russia’s stock market saw astorming first quarter, out-performing every otherleading market, as turmoilin the Middle East pushedup oil prices.

The stellar performanceraised hopes that thiswould be the year whenRussian equities caught upwith their peers in theother Bric countries (Brazil,India and China) in attract-ing foreign investment.

However, performancehas become more sluggishand analysts are beginningto ask whether high oilprices are in fact bad forlong-term growth in theRussian economy.

“The performance ofRussian shares this yearreflects the fact that thecountry is a net beneficiaryof Middle East-north Africainstability, the Japanesedisaster and the Fed’s dol-lar policy,” says ChrisWeafer, chief strategist atMoscow-based investmentbank Uralsib.

“The country has beenblighted with the oil curse,where high revenues fromoil have been enough tokeep the economy afloatwithout the governmenthaving to tackle reform,” hesays.

At RBS in London, ImranAhmad, an emerging mar-kets strategist, concurs:“Oil remains central to theRussia story and the highprices mean we haven’tseen the reform needed inthe banking sector and else-where.”

Investors have been quickto cash in on rising com-modities prices, but memo-ries of how fast the stockmarket crashed in 2008remain fresh. The domesticgrowth story is not strongenough to bring in foreignmoney on its own.

Russia is seen as highlyexposed to global trends, forboth good and ill.

Mr Ahmad elaborates:“After the crisis, the oilprice rebounded so quicklythat the country wasn’tforced to make the reformsit needs. The oil priceremains uncertain anddomestic growth is laggingand the credit environmentwill remain a drag ongrowth.”

If one looks beyond thehigh commodities prices,analysts say, concernsabout corporate govern-ance, corruption, the snail’space of reform, and growinguncertainty about who willwin the presidential race in2012 are beginning to unset-tle investors.

Both foreign and domes-tic investors – as wellas the country’s consumers– remain wary, becausethey are uncertain abouthow the global and domes-tic economy will developand are nervously watchingthe political stage to seehow the elections next yearplay out, analysts say.

“There are concerns thatwestern investors have

underestimated the politicalrisk in Russia, and countedtoo much on a strongMedvedev-Putin axis, whenthings are in fact moreuncertain,” says one ana-lyst at a London bank.

“Locals are aware that,despite promises of reform,power and wealth havebeen consolidated in a fewhands in recent years.”

During the first quarter ofthe year, there was $21bn ofprivate capital flight eventhough the benchmark dol-lar-denominated RTS stockindex performed well – astrong indication that Rus-sian investors are nervous.

Nevertheless, Uralsib’s MrWeafer says there are brightspots in the market, withautomotive stocks likely tooutperform the broaderindex, as a string of dealswith foreign investors drawnew money and expertiseinto Russia’s growing carindustry.

“While oil and gas drovethe market in the first quar-ter, we are now in a transi-tion period, and expect tosee domestic and infrastruc-ture themes take the leadfrom early autumn.”

Investors should use thisperiod of weakness to buildexposure to those sectorsthat will benefit from thehigher-for-longer oil reve-nues and from the expectedinfrastructure spendingafter the March 2012 elec-tion, Mr Weafer says.

Dimitri Kryukov, chiefinvestment officer ofMoscow-based Verno Capi-tal, says that, with debt

problems weighing downwestern balance sheets,many Russian stocks stillrepresent good long-termvalue.

He says: “One case for theRussian market as a faster-growing segment of the glo-bal economy still remainsintact, which is that itoffers faster growth pros-pects than the Brics as awhole in the short tomedium term.

“Debt problems havetaken a toll on Europe,while emerging-marketbalance sheets are healthy,particularly in Russia. Overthe long term, it will bestrong market but we willsee pullbacks like this.”

To underpin strength inthe Russian market overthe long term, investorsneed to see not just prom-ises of reform but concreteactions. With the politicallandscape shifting ahead ofnext year’s election, thatwill not be forthcoming inthe next few months.

Mr Weafer comments:“One bright spot is thatRussian politicians are nowaware of the need forreform, because numerousindustrial accidents and theforest fires last summerhave shown that the econ-omy will crumble if actionis not taken.

“Lip service is no longerenough.”

Stock marketsMuch­neededreforms have beendelayed, writesRachel Morarjee

Reality check for groups seeking overseas IPOs

The years leading up to the2008 global financial crisis sawa succession of Russian issuerslisting on various stockexchanges and each time pocket-ing $1bn or so in equity.

Today, however, companiesthat try to tap global capitalmarkets are facing a changedlandscape, with unpredictablemarket conditions, greater duediligence, and – most disappoint-ingly – lower valuations.

Of the 11 Russian companiesthat have tried to list abroad thisyear, only five have succeeded.

One, Hydraulic Machines &Systems, a pump-maker, wasforced to lower its price range,while two others – real estatedeveloper Etalon and pork and

sugar producer Rusagro – pricedshares at the bottom of the tar-get range.

Bankers working with Russiancompanies say there could stillbe equity issuance from Russiaand the Commonwealth of Inde-pendent States totalling $10bn to$15bn this year, in line with the$10bn issued by companies lastyear. However, that is a longway from the $40bn raised in2007.

However, bankers say that ifmore Russian issuers are to listsuccessfully, there must be morehonest discussions with ownersabout what investors are likelyto be prepared to pay for theircompanies.

One senior western bankersays: “What is lacking is a dis-cussion about initial public offer-ing discounts at pitch, largelybecause clients don’t want tohear about it.

“Russian owners poorlyunderstand the need to providea discount at IPO,” he adds,noting that investors are cur-rently requiring 20-30 per cent

discounts for Russia issuers.“You tell someone that theirbusiness is worth $4bn – andthen you have to tell them thatthe market will only pay $3bn atIPO.”

The resulting conversation is atense one, explains a second sen-ior banker, especially as it tendsto be with the companies’ own-ers, who naturally believe theircompany deserves a higher valu-ation more in keeping with itsglobal peers.

Ultimately, he says, there is atleast one bank that agrees to tryto secure the company a $4bnvaluation – and placate the com-pany’s owners.

“Try getting up in front of [theoligarch Oleg] Deripaska and tell-ing him his company is not one ofthe best of the world [and doesnot deserve a higher valuationthan its peers] . . . Deripaska isnot going to accept it,” thebanker says.

“If we are realistic [withvaluations], we are not going towin the bid. If we are optimisticwe are going to have to have a

difficult conversation down theline [when the IPO is pulled].”

Looking at the offerings thathave come to market this year,bankers and analysts are quickto point out that they were alloffered at a discount.

Nomos Bank, the country’ssecond-largest private lender,ended up offering shares at adiscount to listed peer VTB,allowing the group to fill itsbook at the middle of theintended range.

Mickael Gibault, head of equitycapital markets at Troika Dialog,the Moscow-based investmentbank, says that in addition to thevaluation of the company inquestion, there are four factorsthat determine which Russiangroups investors are willing tobuy into – and which they arenot.

The first is the company’sgrowth potential; the second ishow highly leveraged it is; thethird is what kind of manage-ment it has; and the fourth isglobal market conditions.

“The market is far from being

closed for new issues,” he says,“but it is selective.”

One company that has stoodout from its peers is Yandex,Russia’s biggest search engine,which completed a $1.3bn offer-ing on New York’s Nasdaqexchange in May.

The offering was reported to be

17 times subscribed, and thestock has risen as much as68 per cent to a high of $42 afterlisting at $25 a share.

Yet both analysts and thoseworking on offerings are quick topoint out that Yandex has bene-fited from the global demand forinternet stocks and should notbe regarded as a barometer forthe Russian market.

“It’s easy for companies touse Yandex as a reference, butyou always have the one com-pany [that makes it] . . . Youcannot use that as a bench-mark,” says a senior banker.

The rest of the companiesattempting to come to marketthis year – a line-up thatincludes a port operator, apotash producer and the coun-try’s biggest bank – will face amore sceptical group of inves-tors, who have bought into Rus-sian offerings in the past only tosee the shares sputter.

And bankers are aware of thistoo. As another senior bankersays: “One thing I’ve learnt isthat the market is never stupid.”

Foreign listingsValuation is the crucialquestion that would­beissuers need to address,says Courtney Weaver

Banks try to strike right balance

Slow growth forecast pointsto stark choice on strategy

R ussia, as a recentresearch notefrom VTB Capitalnoted, seems to be

described as being at aneconomic “crossroads”every few years. But thechoice between paths itmust now make is perhapsthe most significant for twodecades.

The global financial crisisexposed the weaknesses ofthe economic model thatdeveloped under the presi-dency of Vladimir Putin –especially the failure todiversify away from naturalresources and to developsmall businesses.

The less than stellargrowth, compared with itscounterparts in the Bricnations (Brazil, Russia,India and China) – despiteoil being again more than$100 a barrel – is a signal,too, that oil-fuelled expan-sion is over.

Growth this year is fore-cast at perhaps 4.5 per cent.That is only just in linewith overall global growth,and below China or India –or the level Russia needsto catch up with moreadvanced economies in anyreasonable time frame.

“We’re at a bifurcation,”says Igor Yurgens, head of

the Institute for Contempo-rary Development, a think-tank that advises PresidentDmitry Medvedev. “Eitherwe do something to[improve] our 4 per centGDP growth, or we stag-nate.”

Another warning signal isthe level of inflation, cur-rently running above 9 percent, and which has rarelybeen far below 10 per centin the past 10 years.

Although high fuel andfood prices are factors inthe inflation rate, the risingprices are also a sign thatRussia is running out ofspare capacity.

Stimulating consumption– the main economic driverin recent years – no longerresults in productiongrowth, but simply drivesup prices and imports.

Vladimir Mau, rector ofthe Academy of NationalEconomy and co-head of ataskforce drawing up eco-nomic policy options for MrPutin, says Russia mustshift from a “demand-sideto a supply-side approach”.

Above all, that meansstimulating investment innew capacity and new tech-nologies – which in turnmeans improving theinvestment climate.

“Russia is still not veryfriendly to investors, eitherdomestic or foreign,” saysSergei Guriev, rector ofMoscow’s New EconomicSchool.

An added short-termproblem is that the un-certainty over who will be

Russia’s next presidentafter elections next Marchis making domestic tycoonseven more wary of invest-ing at home than usual.The result is high levels ofnet capital outflows inrecent months.

Both Mr Putin and MrMedvedev have recognisedthe need for action toimprove the investment cli-mate, though they oftenseem to differ on the paceand priorities of economicmodernisation.

Mr Medvedev, in a speechin the steel town of Magni-togorsk in April, set out a10-point plan aimed at

boosting investment. Thestep that grabbed headlineswas an order that ministersshould leave the boards ofthe state-controlled compa-nies that have come to dom-inate Russia’s economy inthe past decade.

This interconnection ofgovernment and state com-panies was one of the defin-ing features of the Putinisteconomic system.

However, it created con-flicts of interest, as minis-ters responsible for regulat-ing key economic sectorsalso played a role in the

biggest companies in thosesectors.

Several ministers havealready stepped down fromboards – including IgorSechin, the deputy primeminister responsible forenergy policy, who alsochaired Rosneft, the oilgroup.

The Magnitogorsk planfeatured other importantsteps. These includedreversing an increase insocial costs for employers,setting up a $10bn directinvestment fund to coinvestwith foreign investors, andgiving the economy minis-try power to throw out reg-ulations seen as hinderingbusiness activity.

The business communitywelcomed the package.Many economists, politi-cians and business leaders,however, warn that themost important way tostimulate investment is totackle corruption andstrengthen the rule of law –and hence safeguards forinvestors.

Mr Yurgens’ Institute ofContemporary Development– whose trustees arechaired by Mr Medvedev –has put forward radical andwide-ranging plans thatinclude moving towards fulldemocracy and separationof executive, legislative andjudicial powers.

But it is not clear towhat extent these plansare endorsed by MrMedvedev, or whether,even if he returns to thepresidency next year, he

would be able to implementthem.

Alexei Moiseev, an econo-mist at VTB Bank, suggestsmuch could still beachieved by retargeting eco-nomic policy. He says thegovernment should recog-nise that Russia cannotcompete with China in mak-ing cheap, basic goods aswages are too high.

So it should stop support-ing inefficient manufactur-ers through subsidies andhigh import tariffs on cer-tain goods, and use themoney to retrain workersand provide subsidisedmortgages to improvelabour mobility. It shouldthen provide tax breaks andother incentives for “smart”sectors such as higher-tech-nology products.

It should recognise thatresource production willcontinue to be the bedrockof the economy. But itshould support develop-ment of refineries to pro-duce oil products, andsmelters and processingfacilities for metals andminerals. A first step wouldbe revising oil taxes thatact as a disincentive toinvestment in difficult envi-ronments.

“The choice Russia facesis whether to become a‘developed’ supplier of com-modities,” like Canada,Australia, or Norway, saysMr Moiseev, “or to be con-stantly ‘developing’, likemany resource exportersfrom Latin America, Asia orAfrica.”

EconomyStagnation is agrowing risk,says Neil Buckley

A dummy of a businessman strangled by taxes is seen during a protest against a jump in employees’ social taxes that has hurt small businesses AFP/Getty

Another warningsignal is the levelof inflation,running at above9 per cent

‘Oil revenues havekept the economyafloat without thegovernment havingto tackle reform’

FINANCIAL TIMES THURSDAY JUNE 16 2011 ★ 3

Russia & the World

Web becomes valued forum for free speech

When state televi-sion showed adynamic VladimirPutin at the wheel

of a yellow Lada touring theprovinces after devastating for-est fires, a fuller picture was tobe found on the internet.

Video shot by laughingonlookers and uploaded to thenet showed that the primeminister was in fact followed bya motorcade of at least twodozen vehicles, including three

spare yellow Ladas in caseof a mechanical breakdown.

There are few sectors that bet-ter reflect Russia’s lopsideddevelopment than the internet.The web has grown strongly asa business, drawing on thenation’s strengths in maths andscience to produce a domesticsearch engine, Yandex, thatdescribes itself as “better thanGoogle”.

Yet the government’s effortsto foster a Russian Silicon Val-ley outside Moscow show how apoor investment climate is let-ting down that human potential.

Politically, the return to anauthoritarian system, in whichthe government controls televi-sion but not newspapers orradio, has turned the internetinto a valuable – though incom-plete – forum for free speechand discussion.

Like jokes in the Soviet era,

the internet takes the sting outof Russian life in the 21st cen-tury. Unfettered news and com-ment about everything that tele-vision will not touch includesdescriptions of high-level she-nanigans and mockery of theruling tandem of Mr Putin andDmitry Medvedev, the president.

Mr Medvedev’s online nick-name of “Captain Obvious”refers to his tendency to say theright thing with little to showfor it. A few days after hedeclared that the release fromprison of Mikhail Khodorkovskywould pose “absolutely no dan-ger” to society, the formertycoon was sentenced to a sec-ond term in prison in what waswidely seen as a politically moti-vated trial.

“You can go on the internet tovent your frustration and thatmakes you feel like you’ve donesomething, although of course

you haven’t really changed any-thing,” says Sergey Alexash-enko, a 21-year-old student atGeorgetown University in theUS. He is struck by the idealismof his US peers, compared withthe cynicism back home.

Exceptions to such apathyinclude the Duma intern whowas fired after he publisheddetails of expense-fiddling andtime-wasting by parliamentari-ans on his blog.

Although internet penetrationin Russia is expected to increasefrom 40 to 70 per cent over thenext four years, according toPublic Opinion Foundation, aMoscow-based polling agency,online debate is confined to arelatively small proportion ofthe population.

At one end of the range is theslick website of Snob magazine.Blogs by subscribers includingoligarchs sit alongside inter-

views with the likes of BillBrowder, a foreign investorbanned from Russia, whose law-yer died in custody while tryingto protect his client’s assetsfrom a scam involving officials.

At the other extreme, right-wing groups used the internet toorganise demonstrations againstimmigration and corruption inDecember, and more chillingly,to target specific individuals.Oleg Kashin, a reporter, wassavagely beaten in November(and filmed for all to see) afterhis picture appeared on a far-right website labelled “to bepunished”.

Given widespread apathy,Maria Lipman, a political ana-lyst at the Carnegie Endowmentin Moscow, argues that an Arab-style revolt driven by socialmedia is not on the cards. “I seethe mood but not the move-ment,” she says. “People are

increasingly angry, but thisdoes not change the overallassumption – that ‘there is noth-ing we can change’. ”

The authorities, for their part,are taking no chances.

In an embarrassing episodebefore its IPO in New York lastmonth, Yandex was forced bythe FSB security agency to handover details of contributors toan anti-corruption website runby Alexei Navalny, a popularblogger and whistleblower. Thedetails found their way toNashi, a nationalist youth groupprone to violent harassing ofgovernment critics.

And was the Kremlin involvedin a cyber-attack on LiveJour-nal, a blogging site used by MrMedvedev, Mr Navalny and theDuma intern?

“Yes and no,” says Ilya Pon-omarev, head of the Duma’ssubcommittee for high-tech

development, who advises thepresident on the internet.

He believes the attack was the“initiative of people sponsoredby the administration to gener-ate pro-government content inthe blogosphere . . . but I don’tthink they were directly orderedto [attack].

“As this community becomeslarger, they invent activities forthemselves to prove they areimportant. The same applies toour nationalist groups. It’s aCatch-22. The authorities givethem money to gain leverage;they ask for more and go out ofcontrol.”

But in the absence of “open”politics, says Mr Ponomarev –speaking in a still largely emptymansion housing the president’sInstitute for ContemporaryDevelopment – high-techremains Russia’s most likelyengine of progress.

InternetAn Arab­style revoltdriven by social mediais not on the cards,however, reportsLeyla Boulton

In touch with tomorrow: President Medvedev is keen to promote the country’s high­tech image AFP/Getty

Entrepreneurs live in fearof a government inspector

At the height of Stalin’s ter-ror, people lived in fear of aknock on the door from thesecret police. In modernRussia, the nightmare offoreign investors is a visitfrom a tax inspector sent bya rival or the state to appro-priate their assets.

Horror stories aboutmessy disputes and assetgrabs abound in a countrywhose corruption hasgrown worse as the politicalclimate has grown colder.

As Lilia Shevtsova put itpresciently in Putin’s Rus-sia, written in 2003, “We seethe strengthening of a statethat prefers to extend infor-mal rules that constantlychange, rather than follow,the law. These are under-the-counter deals which theregime covers up by usingthe courts and the prosecu-tor’s office.”

Yet the rewards are greatfor companies with theexperience, skill andpatience to invest in care-fully selected areas inEurope’s biggest country.

“We have a lack of politi-cal competition, and as aresult, we lack competitionin many economic spheres,”says Mikhail Berger, thedirector-general of UnitedMedia, a multimedia groupwith interests ranging frombusiness to entertainment.“But there are some excep-tions, including food, metal-lurgy, and media that donot cover politics.”

After 10 years of operat-ing a joint venture in Rus-sia, Charter International, aBritish engineering com-pany on the FTSE 250, con-sidered its welding, cuttingand automation business assufficiently “under theradar . . . not like an oil orgas company” to pay $20mfor Sychevsky, an electrodemanufacturer in the Smo-lensk region in March.

“We thought about set-

ting up on a greenfield sitein Russia, but we found itdifficult establishing whatthe land rights were or get-ting the utilities to connectat a price that made iteconomic, so we opted tobuy another plant,” saysMike Foster, Charter’s chiefexecutive.

Selecting the right sectoris as important as workingwith hand-picked partners.

“We look for people withintegrity and the ambitionto build large and successfulbusinesses,” says ElenaIvashentseva, a senior part-ner at Baring Vostok, whichspotted Yandex in 1999 tobecome the largest investorin the search engine with a22.6 per cent stake. Alongwith cash, the private equityfirm gave the start-up helpin areas such as humanresources to help it grow.

Equally important, saysome foreign investors, isupholding one’s corporateculture in the face of localpressures to do otherwise.

“There can be no doubton your stance on corrup-tion,” says Elizabeth Sulli-van, chief operating officerin Russia of UBS, the Swissbank, whose message is tar-

geted at both external par-ties and employees. “Youhave to keep saying ‘wedon’t pay bribes’ and leadby example if necessary.”

This was a lesson learnttoo late by Ikea, when theSwedish retailer was forcedlast year to dismiss two ofits top managers in Russiafor paying bribes to secureelectricity supplies to a StPetersburg mall.

More spectacularly, BP,the British energy group,discovered the perils ofrelying on a nod from oneof the government’s mostpowerful officials tosecure its deal with state-controlled Rosneft toexplore for Arctic oilreserves.

This came unstuck afterobjections from AAR, theRussian partners in theTNK-BP joint venture.

“What due diligence wasthat?” asks one westernbanker, who declined to benamed. “If it had been theother way round, and Ros-neft and AAR had done adeal, there would have beenhowls of protest [at injus-tice being done to BP].”

The state is trying to rec-tify negative perceptionswith initiatives such as thelaunch of a $10bn privateequity fund, and attemptsto create a Russian SiliconValley at Skolkovo businesspark outside Moscow.

Although Ms Ivashen-tseva says “any attention tothe [high-tech] sector is wel-come”, others are sceptical.

“They’ve got the con-sumer market, and they’vegot the human capital, butthey lack the bit in the mid-dle, which is the businessinfrastructure, includingstock options and anabsence of fear, that start-ups need,” says one entre-preneur with long experi-ence of Russia.

Ilya Ponomarev, a parlia-mentarian and governmentadviser, explains that theSkolkovo project is lessambitious than the SiliconValley analogy suggests –to create a university withthe support of an interna-tional institution such asMassachusetts Institute ofTechnology, and to providetax breaks for start-upscertified by an irreproacha-ble international panelincluding the likes of EricSchmidt, Google’s executivechairman.

In the interim, however,Russia is the biggest loserfrom the poor investmentclimate.

Yevgeny Yasin, a formereconomics minister who wasone of the architects of thetransition to a market econ-omy in the 1990s, says thecountry faces a choice.

“One path is tormozhenie[a braking process], anattempt to modernise fromabove, with projects such asSkolkovo, but which avoids[structural] reform as politi-cally risky,” says ProfYasin, now at Moscow’sHigher School of Economics.

“The other is modernisa-tion from below, where busi-ness drives growth, investingand insisting on its rights.”

Inward investmentThere are rewardsfor those who arecareful where theyput their money,says Leyla Boulton

Russia: inward investment

Source: Thomson Reuters Datastream

* Economist Intelligence Unit forecast

($bn)

0

20

40

60

80

1994 2000 05 11*

‘They’ve got theconsumer marketand the humancapital but lack thebit in the middle’

4 ★ FINANCIAL TIMES THURSDAY JUNE 16 2011

Russia & the World

Romanticised city of cultural icons has a lot to live up to

Svetlana Kryuchkova set-tles into a small table at theStray Dog Cellar, a subter-ranean café off St Peters-burg’s Arts Square.

“Look at these walls: theheavy brick, imagine whatthey have seen,” she says.

Her voice, deep, with anactress’s trained heft, fillswith reverence as she liststhe names of the poets whomade the café legendarynearly 100 years ago: AnnaAkhmatova, Osip Mandel-stam, Alexander Blok, Ser-gei Yesenin.

After building a 35-year-

stage and film career thathas made her one of Rus-sia’s most revered actresses,Ms Kryuchkova, 61, hasturned to enshrining thecountry’s rich cultural his-tory.

“The generation thatlived in those times – nearthese great poets and artists– is leaving us,” she says.

Her response is to takesteps to make sure theynever really die. She doesthis by publicly reading andrecording the poems ofAkhmatova and her con-temporaries for generationsto come.

Culture lives on in anygreat city, but there are aselect few that continue todraw, century after century,those hoping to become thenext voice of their genera-tion.

In Russia, that role haslong fallen to St Petersburg,

a city that inspires a feelingclose to reverence in loversof Russian culture.

It often feels as thoughRussia’s greatest gifts havesimply sprung from thecity’s winding streets andcanals, as if creativity werethe birthright of the StPetersburg native.

Yet more often than not,those whose names areinextricably tied to the citymoved here from elsewherein Russia – Alexander Push-kin, Fyodor Dostoevsky,Nikolai Gogol.

“It’s a city for peripheralpeople,” says Yury Shev-chuk, Russia’s biggest rockstar. Born in the far easternport of Magadan and raisedin the Bashkir city of Ufa,Mr Shevchuk was already awell-known undergroundpersonality as lead singer ofrock band DDT when hemoved to St Petersburg

(always called Piter by itsinhabitants) in 1985. “Mos-cow was too smooth. Piter –its clubs, its scene didn’taccept me,” says Mr Shev-chuk. “So I walked aroundthe city – I learnt it, I livedit, its architecture andmuseums.”

The greatness of StPetersburg’s past weighs onthose who have chosen tobecome part of its present,filling them with the sensethat they must live up towhat has come before.

“The first thing I did wasget a membership card tothe library on Nevsky,”says Mr Shevchuk. “If youwant to write poems andsongs here, you need tolearn its culture.”

Mr Shevchuk, now 54,still lives in the city and isabout to launch a country-wide tour with a newlyreformed DDT. His star has

risen in the past few years,as he has grown into one ofthe most outspoken oppo-nents of Vladimir Putin, theprime minister.

It is a role that he knowswell, having “fed”, as heputs it, on the dissidentpolitics of the late 1980s,when St Petersburg was thecentre of a passionatecounterculture that bothhelped push forward thecollapse of the Soviet Unionand enshrined what it feltlike.

“In your 20s, you’re hun-gry and you sit at the tableand feed,” he says. “Whenyou’re older, you giveback.”

Some members of StPetersburg’s old guarddecry the current state ofculture in Russia, and thecity does not draw as manygreat minds as it once did.

The writers currently

considered among Russia’sbest contemporary authors– from Viktor Pelevin toLyudmila Petrushevskaya –currently live in Moscow, orabroad. Its best popularmusicians – from rapperNoize MC to singer Zemfira– prefer to call Moscowhome.

One group that continuesto see the draw of Russia’snorthern capital is Voina,the controversial perform-ance art group that movedto St Petersburg last year.

It immediately set towork, winning plauditsboth at home and abroadfor an audacious stunt thatsaw the group drawing ahuge phallus on a St Peters-burg drawbridge, whichrose to face the city’s FSB(security service) headquar-ters when the bridge waslifted.

It is a city that is inevita-

bly romanticised by itsartistic inhabitants. Thehomeless and drug-addledare hidden from their view,the corruption is mentionedin passing. People choose tofocus on its beauty instead.

Oleg Basiliashvili, the cel-ebrated actor who moved toSt Petersburg more than 50years ago at the age of 22,says: “All of Russia is like alittle home – comfortable, alittle unpresentable, itsmells of pies and mush-rooms.

“But St Petersburg is dif-ferent: it’s like a resonantnote in this orchestra.”

Whether St Petersburgwill give birth to the voicethat captures today’s Rus-sia – as Gogol did in the19th century, and AlexeiBalabanov did with hisBrother film series in theearly 1990s – remains to beseen.

Old Masterscome outof the attic

When Lord Poltimore calledand politely withdrew aninvitation to a party at theSotheby’s auction house,the MacDougalls took it asa compliment.

“We had become competi-tors,” says William Mac-Dougall, co-founder of theLondon-based MacDougall’sFine Art Auctions house, aspecialist in Russian paint-ings and art works.

The MacDougalls are ahusband and wife team whoquit jobs in the City – Mos-cow-born Catherine was aGazprom analyst at Klein-wort Benson and William abond trader at Hill Samuel– for the art business sevenyears ago.

A minnow among theworld’s venerable auctionhouses, MacDougall’s hasgone head-to-head withSotheby’s, Christie’s andBonhams in one of the mostvibrant areas of the artmarket.

Art collecting becamefashionable in Russia in theearly 1990s, when the newlyrich oligarchs began buyingmasterpieces of theirnational heritage that wereavailable at the time for asong.

Prices for Russian paint-ings have risen by morethan 800 per cent in thepast two decades – evenfaster than Russian equi-ties, says Mr MacDougall.

MacDougall’s Fine Arthas offices in Moscow, butits auction room is in Lon-don, the epicentre of theRussian art market.

Specialist art sales areheld there by all the mainauction houses in the so-called Russia Art Weeksevery June and December.

The MacDougalls admittheir first auction in 2004was a “total disaster”, butthey had a lucky breakwhen someone called fromLos Angeles offering to sella painting by KonstantinKorovin, the RussianImpressionist, that the localbranch of a rival auctionhouse had shunned.

“Ballerina in a GreenDress” was part of the col-lection of Theodore Kosloff,a dancer in the ImperialRussian ballet who emi-grated to the US andbecame a silent movie star.MacDougall’s sold theentire collection for £2.5min 2005, establishing thefirm on the London marketfor Russian art.

Apart from a dip duringthe financial crisis, Mac-Dougall’s earnings haverisen steadily since then,reaching £25m last yearwhen it was the largestseller of Russian paintingsat specialised London auc-tions. At least 90 per cent ofthe bidders at MacDougall’sauctions are Russian orUkrainian and most fly intoLondon from Moscow orKiev for the sales.

Russian art weeks aresociety events, but alsohave a practical purpose,allowing Russian art buyersto bypass rules blocking theexport of national treasuresfrom their country. Artworks can be taken in and

out of Russia legally if theyhave been bought overseas.

Art collecting was afavourite pursuit of thesuper-rich in Tsarist times,but after the revolution, theauthorities confiscated pri-vately owned works andplaced them in state muse-ums. Thousands of iconswere burnt and some of thenation’s most precious arttreasures were sold to repayforeign debt in the 1920s,when the new rulers in theKremlin were struggling tobalance the economy.

The oligarchs, who builttheir fortunes during thewild early years of post-Soviet capitalism, revivedthe tradition of collecting,amassing large quantities ofmainly Russian art.

Much of the art appearingat London auctions firstarrived in the west in thesuitcases of émigrés fleeingoppression, or of foreigndiplomats serving in Mos-cow during Soviet times.

Within Russia, art worksconcealed in attics or KGBvaults for decades begansurfacing in the 1990s, asword spread about the surg-ing value of paintings andsculptures largely over-looked in the Soviet era.Many of these have madetheir way to London auc-tion rooms, enriching theirowners beyond their wildestdreams.

A troubled history mayadd value-enhancing poign-ancy to some art works, butalso makes for sketchyprovenance.

Authentication is a seri-ous challenge for auctionhouses striving to upholdtheir reputations in a mar-ket bedevilled by fakes.

“If someone came to youin the west and said theyhad kept a Goncharova[Natalia Goncharova, theRussian cubist painter] hid-den under their bed for 50years, you would be a bitsuspicious. But in Russia, ithappens,” says Mr MacDou-gall. Some Russian art buy-ers have made “bad mis-takes,” he adds

Peter Aven, president ofAlfa-Bank, stopped addingto his huge collection ofRussian avant garde artafter reports that more fakeversions were in circulationthan genuine works. OtherRussian collectors such asViktor Vekselberg, the bil-lionaire oil and metalstycoon, have sued auctionhouses for allegedly sellingthem forged paintings.

At first, Russian collec-tors focused on renownedOld Masters. But they arenow casting their netswider, buying contempo-rary and émigré worksunknown in the Soviet eraand branching out intoEuropean art.

Russians’ growing confi-dence may help the Mac-Dougalls capture more busi-ness from traditional auc-tion houses.

They themselves addvalue, says Mr MacDougall.“Rich Russians no longerneed the validity of a brandwhen buying art.”.

Authentication isa serious challengefor auction housesin a marketbedevilled by fakes

Financial reforms slow to reach Moscow

As the world’s top invest-ment bankers flock toRussia’s second capital thisweekend for the St Peters-burg economic forum,attention will once againfocus on Dmitry Med-vedev’s efforts to transformMoscow into an interna-tional financial centre.

The president’s initiativeis central to efforts to diver-sify the economy from itsdependence on exports ofraw materials and toshield it from global marketshocks by strengtheningthe domestic capitalmarket.

Though the drive maystill seem quixotic to manyinvestors, the president hasin recent months unveiled aseries of measures that aimto elevate Russia’s standingfrom a volatile local market

widely perceived as plaguedby red tape and a mercuriallegal system, to a regionalfinancial powerhouse.

Among the first big con-crete steps is the merger inFebruary of the country’stwo main bourses, the RTSand Micex stock exchanges.

This will help centralisecapital markets and sim-plify the structure for inves-tors.

Roman Lokhov, chiefexecutive of Otkritie Securi-ties, the Russian brokerage,says he believes the crea-tion of a centralised clear-ing house and depositarywill follow.

He says the growing appe-tite among Russian inves-tors for access to sophisti-cated derivatives means“there is huge potential forthe market that is not uti-lised yet”.

Alexander Merzlenko,deputy chief executive ofRenaissance Capital, theMoscow investment bank,agrees that the long-awaited merger is now closeto being “irreversible”,while the government’sprivatisation drive to sell

more than $32bn in stateassets over the next threeyears could also boostdomestic capital markets.

While big Russian assetshave traditionally headed tothe London Stock Exchangeto attract deeper, longer-term pools of cash, thegovernment is consideringselling big state assets onthe local exchange, MrMerzlenko says.

“One of the [top] priori-ties is the development ofdomestic equity markets,”he says. “The governmentis asking investment bank-ers how to manage theobjectives of getting thebest price and raising theprofile of the company, andalso developing financialmarkets here.”

In one potential endorse-ment of the domestic mar-ket, German Gref, chiefexecutive of Sberbank, thecountry’s biggest bank, pro-posed conducting the sell-off of a 7.6 per cent stake inthe state-controlled entityvia the Micex exchangeeither this year or next, aspart of the privatisationdrive.

Improvements must bemade to the investment cli-mate and the legal system,though, if Russia is toattract the investmentsneeded to develop into a topranking capital market.

To this end, Mr Medvedevhas unveiled a series of ini-tiatives aimed at empower-ing minority shareholdersand boosting transparency.

He has ordered theremoval of governmentministers from the boardsof state companies, to startdismantling the system ofstate capitalism known asKremlin Inc establishedunder Vladimir Putin.

Mr Medvedev has calledfor the adoption of interna-tional accounting standardsby all companies and forgreater disclosure of infor-

mation to minority share-holders.

Critics say these movesmay gain little tractionagainst the entrenchedinterests of officials. IgorShuvalov, first deputyprime minister, says gov-ernment ministers on statecompany boards are likelyto be replaced not by inde-pendent directors but bytrustees who will voteaccording to governmentdirectives.

“We have a situationwhere Medvedev is forward-ing concrete initiatives buthe has no means to imple-ment without the govern-ment, which is blockingthem,” says Alexey Nav-alny, the corporate govern-ance activist, who recentlyfaced criminal investigationin what some say is a back-lash against his activitiesuncovering corruption atstate companies.

Indeed, as long as uncer-tainty remains overwhether Mr Medvedev willlead Russia beyond presi-dential elections in 2012, orwhether Mr Putin will seekto return to the presidency,

investors cannot be certainwhether the impetus totransform Moscow into aninternational financial cen-tre will continue.

“The political will is thereat the moment and this isvery positive. We just needto see if the political will isthere over time,” says Alex-ander Branis, head of thecorporate governance com-mittee created as part of theKremlin’s internationalfinancial centre initiative.

Mr Branis, who is also afund manager at ProsperityCapital Management, sayshis committee started workonly last December andmany proposals are stillunder discussion.

One of the biggest chal-lenges is deepening the poolof domestic cash availablefor investing in local capitalmarkets, both by bringingback hundreds of billions ofdollars stashed in bankaccounts abroad by thecountry’s tycoons, and byembarking on pensionreform. This will be impos-sible without improvementsin upholding the rule oflaw, analysts say.

InvestmentEfforts to diversifythe economy havebeen blocked, saysCatherine Belton

Sochi boostsinfrastructureto prepare forthe Games

W hen Sochi won itsbid to host the 2014Winter Olympicsfour years ago,

Alexei Khraban, the city’s deputymayor, likened the night to a newbirthday for the city; and so in asense it was.

Once a Soviet-era resort withlittle infrastructure, Sochi is nowin the process of being trans-formed into what the Kremlinviews as a 21st-century city.

A single road running thelength of the city is beingreplaced with highways, road-ways and roundabouts, whilehigh-speed train lines will connectSochi to neighbouring cities inthe Krasnodar region and facili-tate transport between the coastand the mountains where theOlympic skiing and snowboardingevents will be held.

With fewer than 1,000 days to gobefore the Games begin, Russia isscrambling to pull off what eventhe president of the Olympicsorganising committee concedes isone of the most ambitiousprojects in the world.

Sceptics will be watching to seewhether the country can host theGames on time, on budget andwithout too much evidence of cor-ruption.

But the legacy of the Gameswill be just as big a test.

Following the closing ceremony,Russia must prove it can orches-trate an event of that size againwith the Fifa World Cup in 2018,and replicate the successfulaspects of Sochi’s infrastructureoverhaul across the entire coun-try.

“There are so many things hap-

pening, not only in the region, buton the national level . . . thatwould never happen if Sochididn’t host the games,” saysDmitry Chernyshenko, presidentand chief executive of Sochi 2014,the Games’ organising committee.

“The state leaders consider thebig social and sport events ascatalysts to accelerate the processof redeveloping the country’senvironment and the economy,”says Mr Chernyshenko. Sochi, headds, is meant to be a “modelcity” for Russia.

The task of getting Sochi readyfor the Olympics is not a smallone. The second-longest urbanarea in the world after Los Ange-les, until recently it had just oneroad running the length of it,causing traffic jams when truckstransporting construction materi-als began to clog up the street.

By the end of the year, the com-mittee hopes to complete the par-tially open Adler ring road, a free-way that will provide an addi-tional route for travelling fromthe airport to the city centre.

Sochi residents say they areexcited about the new road open-ing but bemoan the traffic condi-tions they have endured over thepast three years, with some com-plaining that their average com-mute times have increased from20 minutes to an hour and a half.

Dmitry Kaptsov, a local residentand vice-co-ordinator for Environ-mental Watch in the North Cauca-sus, an advocacy group, says heknows the traffic problem is onlytemporary, but that he and neigh-bours worry about what the citywill become after the Olympics.

“The traffic problem they’ll fixfirst, because of its effect on theOlympic site,” he says. “But allthe remaining problems: thetrash, the polluted sea, won’t besolved. And they won’t beresolved, because the cost of fix-ing them could be as much as thecost of the entire Olympics.”

Mr Chernyshenko admits thatenvironmental standards for the

project were not at the highestglobal level, mainly because thestandards in Russia had been solow. “We had to create our ownstandards,” he says. Now, thanksto foreign consultants, the situa-tion has much improved, heinsists. “Things are really gettingbetter.”

He believes the Games willprovide the impetus to raise envi-ronmental standards across thecountry, while simultaneouslyproviding residents with betterinfrastructure and higher livingconditions.

“We are redeveloping the entireregion. This is not just infrastruc-ture for the competition. This isroads, power stations, sewage

works. It will mean a better livingstandard for the people who livethere,” he says.

Meanwhile, the World Cup willextend what is happening atSochi to the national level, hesays. “Thanks to the preparationfor the World Cup, high-speedtrain connections will be built forthe majority of cities with 1m peo-ple or more. That’s the most tan-gible legacy of the Fifa cup: it willbring our regions closer to eachother,” he says.

For residents of Sochi, however,it is sometimes hard to believe thelegacy of both events will actuallybe worth it, especially given thenumber of corruption allegationssurrounding construction tenders,

and the cost of certain projects.Alik Le, a local activist, says he

has been disappointed by the dis-regard for people’s livelihoods inthe course of preparations. He isone of dozens of residents whohave been moved from theirhomes to make way for theGames, and, by his account, notproperly compensated.

“The government names itsprice and you don’t have the rightto dispute it,” he says.

While he wants to believe thatthe Winter Olympics will providethe type of legacy Mr Chernysh-enko describes, he has his doubts.“It is so much money,” he says.“And then in a matter of days it isall over.”

Winter OlympicsEnvironmentalistsworry about the lastingeffects on the region,says Courtney Weaver

Train lines linking Sochi’s coast and mountains will provide transport to skiing and snowboarding events Getty

AuctionsThe appetite forRussian art showsno sign of abating,writes Isabel Gorst

St PetersburgIts ambition is tobe the voice of thenew Russia, saysMiriam Elder

There will be littleprogress withoutimprovements inupholding the ruleof law, analysts say

‘In your 20s,you’re hungryand you sit at thetable and feed.When you’re older,you give back’

Yury Shevchuk,Rock musician