The Russian investment paradox
31 July 2008

Written by Sophie Baker

Policy concerns remain despite news that Russia’s international investment flows reached record levels in 2007, according to a new report by the Organisation for Economic Co-operation and Development (OECD).

Russia had foreign direct investment inflows of US$52bn and US$46bn was invested by Russian firms abroad in 2007, but the OECD’s Investment Policy Review of Russia 2008 says that more needs to be done to improve the investment climate.

The organisation warns that a significant downturn in energy prices would hurt long-term growth, and domestic bottlenecks, including labour shortages and a lack of skills in some sectors could also damage the country’s investment programme.

However, the OECD highlights the fact that the biggest obstacle to further domestic and foreign investment in Russia remains uncertainty over government policy, and notably the risk of greater state interference in the economy and the impact of the postponement of necessary administrative and regulatory reforms.

The review also looks at Russia’s investment regulations, including the new law of May 2008 on strategic sectors. This law defines 42 sectors in which the control by foreign investors will be subject to prior authorisation from a special governmental commission, and the report says it represents an important step in enhancing legal transparency and predictability.

The government’s decision to include natural monopolies as ‘strategic sectors’ means it has extended its control over large parts of the Russian economy. The OECD says that stricter restrictions on foreign participation in oil and gas prospection and extraction risk further aggravating the difficulties faced in these sectors which are already struggling to cope with difficult exploitation conditions. They are also faced with growing domestic and international demand.

The OECD suggests that Russia aligns domestic energy prices with production costs, secures property rights, improves the transparency of tax procedures and ensures effective competition policy in order to encourage investment by both foreign and domestic firms. The Russian government must play an important role in terms of business conduct as this is essential to boost Russia’s creditworthiness and reliability as both an inward and outward investor.