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Is Russia Too Corrupt for International Business?

Concerns are mounting that a failure to stamp out the practice will continue to damage the country's international reputation and, ultimately, its economy.

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Russia is the “vanguard and model” in stifling civil society amid growing popular discontent. (Natalia Kolesnikova/AFP/Getty Images)

Despite efforts by the Russian government to tackle corruption, concerns are mounting that a failure to stamp out the practice will continue to damage the country's international reputation and, ultimately, its economy.

"Corruption has been a major concern for Russia for many years now. This is reflected in Russia's consistently poor performance in all benchmark international rankings of business environment as well as anecdotal evidence such as the fact that building a gas pipeline on Russian territory costs around three times as much as it does in Europe," Liza Ermolenko, emerging markets economist at Capital Economics, told CNBC.

"While corruption and problems within business environments are common across Emerging Markets, Russia appears to have a particularly bad reputation."

Transparency International, an organization that measures perceptions of corruption worldwide, ranked Russia 133 out of 176 countries on its Corruption Perception Index in 2012 (in joint position with countries including Iran and Kazakhstan). The country also ranked poorly on the World Bank's Doing Business Survey; when "ease of doing business" was considered, it came 112 out of 185 countries.

Jens Berthelsen, an anti-corruption specialist who prepares companies for doing business in Russia, said there were many cases of extortion in Russia's regional areas.

(Read More: Half of All Employees Think Corruption Is OK: Report)

"In the north west of Russia you see a lot of foreign investment or foreign companies operating - anything from western oil firms to shipping and construction industries, particularly Scandinavian ones," he told CNBC. "The local magistrates are focused on that investment and often target them. Companies often face extortion or have court cases brought against them."

Berthelsen's company, Global Advice Network, has run a number of anti-corruption workshops for firms operating in Russia.

"There was one Finnish company we met with that was producing windows in Russia. They decided to take anyone that turned up at their premises (to demand money) to court. After 44 cases, no one bothered with them anymore," he said.

(Read More: Which Country Is Most Corrupt, and Which Is Least?)

"They adopted a zero-tolerance policy towards local corruption and it worked. There's a lesson to learn from the Finns – they understood that not paying small bribes in Russia is about being in control of your transactions costs," Berthelsen added, saying that smaller foreign companies were the "low-hanging fruit" often targeted.

Foreign Investors Wary

Beyond this local level, there have been a number of high-profile legal cases in Russia of late, with businesses and their leaders becoming victims of the country's penal code, fueling fears of state intrusion in business affairs.

One such case was that of oil giant Yukos, which was privatized in 1996 and later accused of tax evasion in 2004. The company's chief executive, Mikhail Khodorkovsky, was convicted of fraud and jailed. The Russian state then bought the company and its assets at a knock-down price, prompting widespread accusations that the charges were politically motivated.

As a result of cases like this and others, foreign direct investment in Russia remained low compared to other major Emerging Market economies, Ermolenko added.

(Read More: Russia's Leadership 'Could Hinge on Economy')

But Nikolay Katorzhnov, chief executive of Russia's sixth largest financial group Otkritie Capital, defended the business environment in Russia, saying tolerance of corruption was waning.

"It is a big problem but you can't change it overnight, it takes time. Once people understand that it is bad and really dangerous for the country, then it will change," he told CNBC. "People complain much more now about corruption, whereas five years ago no one did. That makes it much more difficult for the mechanisms of corruption to operate."

(Read More: Which Country Is Most Corrupt, and Which Is Least?)

Katorzhnov said he had been fortunate not to have encountered corrupt practices during his career.

"Corruption is a big problem in Russia but it is not the biggest problem - the biggest problem is that investors don't trust Russia in the long-term," he added.

(Read More: China's Anti-Corruption Drive Hits New Year Sales)

Katorzhnov's concerns are not unfounded. Transparency International's Global Corruption Barometer revealed that 53 percent of respondents believed that the level of corruption had increased in Russia over the last three years, with the police and public officials identified as most corrupt.

Government Efforts

Under Prime Minister Dmitry Medvedev and President Vladimir Putin, the government has made overt moves to combat corruption and perceptions that Russia is not fit for foreign business.

In 2011, Medvedev approved an Anti-Corruption Strategy, and last year he signed the OECD's Anti-Bribery Convention which places the country under international scrutiny. Furthermore, the most recent report from the Council of Europe's Group of States against Corruption (GRECO) said the country was making progress on fulfilling anti-corruption obligations.

(Read More: 10 Corruption Hot Spots)

But although analysts acknowledged the Russian government was making an effort to tackle corruption, they stressed that more needed to be done.

"The government is clearly very concerned about Russia's corruption problem, particularly given the backdrop of the recent slowdown in economic growth and the need to boost investment," Capital Economics' Ermolenko said.

"There have been several changes to legislation which are aimed at reducing corruption. However, the bigger picture is that policymakers have been talking about the need to improve the business environment for a long time, but the actual change has so far been disappointing," she added.

"As such, there is little to suggest that this time is different: under the current political and economic set-up there appears to be little incentive for the government to embark on the path of radical economic reform needed to fight corruption."

- By CNBC's Holly Ellyatt, follow her on Twitter @HollyEllyatt

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Original Source URL: 
http://www.cnbc.com/id/100805382

http://www.globalpost.com/dispatch/news/regions/europe/russia/130611/russia-too-corrupt-international-business