Plus ça change

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By Chris Weafer

It is both a truism and a cliché that change is constant. That is particularly the case in developing nations, as the description makes clear, amongst which is Russia. Sometime, if one is lucky, that change is evolutionary and proceeds at a sedate pace. More often changes are forced as a result of some egregious policy decisions or actions. Russia has always been in that latter category and appears doomed to remain there.

So, as we approach the 2nd anniversary of the prologue to the Ukraine crisis, what changes can we see resulting from this crisis? In particular, what might be the legacy of this period for foreign companies and expats working and living in Russia? Of course it is still too early to make a definitive assessment as both the geo-political and economic trends are far from resolved, but we can make a useful interim assessment under a number of categories.

For companies working in Russia there is a sort of bitter-sweet message; the boom years are gone forever but a new economic reality is starting which can deliver above global-average returns over a long period to those companies who are willing and able to adapt. A great deal has been written about the reasons why the period of strong average annual growth in the economy started to come to an end from mid-2012 and the fact that the country now needs a new investment led growth model. It is early days yet but the evidence of policy commitment from the government is encouraging.

But before any meaningful actions can start there needs to be an easing, if not a full lifting, of financial sector sanctions so that the state and Russian companies can again access new debt and investment capital. For now the government’s core strategy is ‘damage containment’ rather than expansion. It means that while there is a lot of talk about recovery strategies none will be funded until the crisis has definitely passed. Despite the optimistic rhetoric from senior officials, that condition is still some way distant. For foreign companies, especially those in the import-substitution industries, the game is changing from import and distribution to local manufacturing. That is especially the case for such basic industries as food, pharmaceuticals, engineering and services.

A key condition to make that new growth strategy work is that the state is successful in creating a more competitive manufacturing base. During the boom years workers enjoyed year after year real strong wage growth and the Central Bank’s (CBR) mandate was to maintain a strong rouble. Both of those conditions need to change and appear to have done so. In the future wage growth should be less of an entitlement and more closely linked with economic conditions and company performance. We can see that already changing in the state sector as the budget debate shows.

There is a lot of uncertainty over workforce demographics in Russia and that makes wage growth prediction difficult to apply across all sectors. In general, whenever an economy has such a big shake up as Russia is now experiencing, there is a tendency to push out expensive foreign workers in favour of local hires. That will not be possible in all sectors, especially given the fact that emigration of skilled Russians continues. For other sectors where local or Eurasian Union talent is available, foreign workers will find themselves less in demand or facing lower remuneration.

The big policy change, which affects both companies and foreigners in Russia, is the 180-degree policy shift towards the rouble. For the fifteen years after 1998 the strategy was to maintain a strong rouble. This was seen as important for domestic stability and a sign of robust sovereign fiscal strength. That has now changed and the preference for the foreseeable future will be to try and keep the rouble stable but closer to 60 against the US dollar. Clearly where the oil price trades will continue to be the key driver of the exchange rate but don’t expect much CBR intervention unless the R/$ rate falls below 55 (intervention to weaken it) or above 65 (intervention to slow the decline, albeit not to halt it).
For expats earning salary in foreign currency Russia has become, and will remain, a much cheaper place to live. Those earning in roubles will have the same domestic inflation issues as Russians but will have considerably less to spend back home than they were used to pre-crisis.

Apart from economics and money, the other big legacy change is in the sphere of politics. While all government ministers and agencies are consistent with the message that there is a clear distinction being drawn between geo-politics and business, inter-government relations with western countries will remain bad and occasionally confrontational for a long time to come. That is now abundantly clear. Major companies already understand this means paying closer attention to reputation risk and to any form of publicity concerning their activities in Russia. Greater due diligence concerning business and trade partners is now the order of the day especially after the US recently expanded the list of those covered by sanctions to catch any attempt to camouflage the interests of primary targets.

Expats living in Russia also have had to get used to a different set of responses when they tell people back home where they work and live. In the boom days the typical reaction was a mixture of wow and envy. These days it is more likely to provoke a look of sympathy and questions about your sanity. The perception of Russia, especially in the US and many EU countries, has badly deteriorated since early 2014. One only has to count the number of stereotypical Russian villains in Hollywood movies these days to understand that. On the positive side, you might have a better chance of arguing for a hardship allowance if working for an international company…then again, no chance if your boss has been and saw just how wide of the mark are the perceptions.

Clearly there is a lot which is uncertain about living in Russia, as is the case for most developing economies, albeit always at the extreme edge of that scale. Predicting how the business and living environment may change in the years ahead is even more difficult than usual. To the uncertainties of the conflict in eastern Ukraine and the oil price there is the upcoming election season in Russia. Nationalism and anti-western rhetoric are bound to be prominent through most of 2016 in the lead up to the Duma election.

As always those companies as well as individuals who thrive in such conditions are those that are most aware of the changes and are adaptable rather than resistant to them while holding onto core values. Most expats in Russia are particularly good at that. One has only to look at how adroitly they have shifted from spiriting caviar out of the country to smuggling cheese in (allegedly).