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Johnson's Russia List


October 29, 1998    
This Date's Issues: 2451 2452 

Johnson's Russia List
29 October 1998

[Note from David Johnson:
1. Reuters: Timothy Heritage, ANALYSIS-Russia seeks smooth transition
of power.

2. Reuters: Russia money printing seen open question.
3. Moscow Times: Boris Kagarlitsky, Last Stand Government.
4. Andrei Liakhov: In response to Boris Kagarlitsky/2450.
5. Barry Ickes: Reply to Peter Clateman/2446.
6. Wallace Kaufman: Hough on Polish and Russian paths.
7. Los Angeles Times: Michael Hiltzik, Its Banks Put Russia in the Hole.
8. The Guardian (UK): James Meek, Defenceless Hermitage waits for the 
Great Flood.

9. Financial Times (UK): Charles Clover, UKRAINE: Region tempted by 
reunion with Russia.

10. The Times (UK): Robin Lodge, Kurile islanders call for return to
Japan control.]


ANALYSIS-Russia seeks smooth transition of power
By Timothy Heritage

MOSCOW, Oct 28 (Reuters) - Russia's political leaders have their sights set
firmly on life after Boris Yeltsin following the president's latest battle
with poor health. 
Yeltsin refuses publicly to contemplate the idea of resigning before his term
ends in mid-2000, despite a series of unsteady performances capped by the
cancellation of a trip to Austria this week because doctors said he was
But Yeltsin's physical decline has fuelled calls for his resignation or
impeachment, and prompted some of his former allies to call for constitutional
changes to ensure stability when Russia eventually elects a new president. 
Even the Kremlin now acknowledges its priority is now to guarantee a smooth
transition of power when the 67-year-old president eventually steps aside. 
"It is already now clear there will be a new president in 2000," Oleg Sysuyev,
deputy chief of the Kremlin staff, said in an interview published by the
Sevodnya newspaper on Wednesday. 
"The most important task for the president is to turn over stable power to his
successor. He no longer has the right to be distracted by day-to-day issues.
His main work will become reexamining the constitution." 
Sysuyev's comments amount to acceptance that Yeltsin, 67, is doomed to play a
strictly limited role in everyday politics and that the Kremlin's main aim now
is just to keep Yeltsin in power until his term ends in 2000. 
The Kremlin is also signalling that after years of rejecting calls for
constitutional changes, it is now ready at least to consider the demands, if
only to appease Yeltsin's opponents in its efforts to keep the president in
An array of proposals are on the table. 
The most extreme is impeachment, but even the Communists who launched the
proceedings say there is little chance of the slow and difficult procedure
forcing Yeltsin out. 
Communist leader Gennady Zyuganov also wants the political system changed to
shift power from the president to parliament. 
He also says the president could be elected by a constitutional assembly,
including major political forces and regional leaders, rather than by a
popular vote. 
Such ideas may be unpalatable to the Kremlin, although it has already held
negotiations with its political opponents on ways to water down Yeltsin's vast
powers under the 1993 constitution, which was drafted to suit his own needs. 
More acceptable to the Kremlin might be constitutional changes restoring the
vice-presidency abolished in 1993, installing an understudy to take the reins
of real power while Yeltsin takes a back seat until his term ends. 
"Most parties are right in saying that the constitution is not a dogma,"
Gustov said last week. "We modelled our constitution on that of the United
States but they have a vice president who works with parliament and we have
cut this out." 
Many politicians say Prime Minister Yevgeny Primakov already fulfills the vice
president's role anyway because of Yeltsin's health problems, but installing a
formal vice president would allow the premier to concentrate on Russia's
economic crisis. 
"The president is for foreign policy, internal strategy, the power department
(security and the military)," said Alexander Lebed, who is governor of the
Krasnoyarsk region and a likely presidential candidate. 
"The vice president is for the regions, and the prime minister should look
after the economy." 
A variant of this proposal has been made by the liberal deputy Vladimir Lukin.
He says Primakov should be given the formal role of vice president while a
first deputy prime minister takes over everyday affairs of government. 
Another constitutional change has been forwarded by former Prime Minister
Viktor Chernomyrdin. He wants an amendment to allow Primakov to serve out
Yeltsin's full term if the president is forced to resign early. 
The 1993 constitution allows the prime minister to step in for only three
months until a new election is held, a period which many experts say is too
short to allow a proper campaign. 
"This creates a very nervewracking situation," Chernomyrdin said on Tuesday. 
Alexander Shokhin, a centrist deputy, says an early election would be costly,
especially as a parliamentary election is due at the end of this year. He has
proposed that Yeltsin resign early and call the two elections simultaneously. 
"If such a wise move is taken, I am sure all political forces will reach
agreement on such a proposal," he said. 
Two factors stand in the way of all these options. 
The first is the difficulty in making major changes to the constitution, which
requires a rare degree of consensus among Russia's fractious political forces.
The second is Yeltsin himself who, despite his poor health, is a political
fighter who may not yet have had his final say. 


INTERVIEW-Russia money printing seen open question
By Anna Smirnova

MOSCOW, Oct 28 (Reuters) - Russia is adamant it will not print roubles next
year, but there is no telling how big the budget shortfall will be this year,
a deputy finance minister said on Wednesday. 
Oleg Vyugin told Reuters in an interview that the ministry expected a fourth
quarter deficit of 70 billion roubles on spending of 130 billion, including
foreign debt payments. 
``Will the government cover the gap with a (monetary) emission? That is an
absolutely open question,'' he said. 
Russia is coping with a financial crisis and a huge hole in its budget, but no
one is stepping up to lend money after it stopped some payments on foreign and
domestic debt. 
The central bank planned to print 15 billion roubles to stabilise the rouble
and banking system and the finance ministry saw 20 billion needed for the
budget this year, Vyugin said. 
But Vyugin, a senior negotiator with the International Monetary Fund generally
considered a reform-minded monetarist, said next year's budget would be
The IMF wanted Russia to target 1999 inflation of a maximum 25 percent, he
said. Prices rose 38.4 percent in September alone, this year, but Vyugin
forecast a slim 1999 budget deficit to meet the inflation target. 
``It is realistic, if only because there are no sources to finance a major
deficit,'' he said. ``To finance a deficit with the help of central bank
credits -- that would be completely crazy and the government and central bank
will never do it. 
``I would not say that what we offer (for a budget) is weak...although the
finance ministry believes it would be better to take a tougher position
regarding revenues (which have generally come in below target),'' he said. 
An IMF mission ended talks with Russia on Wednesday, but is due to return mid-
November, when a draft budget and monetary policy programme for 1999 will be
ready, First Deputy Prime Minister Yuri Maslyukov said after negotiations
Vyugin said the IMF was prepared to wait for more details on government plans,
which Maslyukov said the mission criticised. The cabinet will debate the plan
again on Saturday. 
A government source has said Russia could get more than $2 billion in funds
from the IMF once a programme was agreed. 
``In principle an even larger sum is realistic,'' Vyugin said. ``But no one
can say whether a decision by the board of directors will be taken by the end
of the year or if it will be the beginning of next year.'' 


Moscow Times
October 29, 1998 
Last Stand Government 
By Boris Kagarlitsky 
Boris Kagarlitsky is a researcher at the Academy of Sciences' Institute for
Comparative Politics. He contributed this comment to The Moscow Times. 

From day one of its existence, Yevgeny Primakov's government has been under
fire from the critics. The new prime minister's sluggishness and caution
suggested that the new team would be incapable of dealing with the situation.
However, after several weeks it is clear that first impressions were
deceptive. The former head of foreign intelligence understands that it is
better to hear out such accusations than to run into serious opposition. And
for this reason the Cabinet went underground. 
The government has no firm program yet, although it has been working on one
for over a month, which in a crisis situation seems an unthinkably long time.
A "closed" government that releases little or no information, let alone a
crisis plan, is a disaster for journalists, yet the public, tired of political
squabbling, even seems impressed with this silent approach, and the prime
minister's Brezhnev-like style of reading out announcements from bits of
Nor did the slow process of appointing ministers have any immediately
disastrous effects. In fact, while the press and deputies in the State Duma
speculated who would be appointed to which cabinet post, things in the country
somehow took care of themselves. A single government line formed itself
naturally, and those who did not agree with it departed of their own accord.
And although the results of the work so far by First Deputy Prime Minister
Yury Maslyukov and Central Bank Chairman Viktor Gerashchenko are extremely
modest, they are there nonetheless: the exchange rate just about managed to
stay around 15-17 rubles to the dollar; imports have been resumed and the
slump in production seems to have slowed. Mass discontent has not blown up
into civil unrest; ruble emissions began, but not on a scale that has
triggered hyperinflation. This winter there will most likely be no starvation,
and major cities will not freeze to a standstill. 
In short, something resembling stabilization can be observed. Yet most
political forces in Russia are still waiting for this government to collapse,
seeing this as their chance to return or come to power. 
Leading the offensive are the liberals who, controlling a considerable
proportion of the mass media, are scaring the public with the terrible specter
of Communist Maslyukov, who allegedly intends to return the country to the
socialist order. The press is full of prophecies about the dreadful
consequences of the left coming to power - something which is supposed to
happen in about six weeks as new upheavals shake the country. How thispredi
ction was calculated is not immediately clear given that the Cabinet still has
not taken a single major decision. But in fact the dynamics of the crisis were
clear before Primakov's name was put forward for the post of prime minister. A
lull was inevitable after the first critical blow in August, and now, equally
predictable, is the fact that with the current gold reserves the crisis is due
to repeat itself no later than the start of December. Primakov's enemies are
well aware of this. 
Although having kept a low profile of late, the infamous oligarchs are
counting on renewed turmoil to allow at least an attempt to place their own
man in the White House, especially since Maslyukov has let it be known that
the nationalization of their property is a very real possibility. 
However, neither the public mood nor the political scene is in the favor of
liberals. And in crisis conditions a return to neo-liberalism and a market-
oriented course is virtually excluded by the absence of banking and financial
Nor are any serious liberal contenders likely to try to come to power soon.
With the onset of winter, any government's first priority will be ensuring
heating supplies and transport and averting starvation, rather than fretting
about the stability of the ruble. The worse the situation, the stricter the
administration required. 
Despite the presence of left-leaning technocrats in the current government,
the Communist Party leadership is also busy distancing itself from the Cabinet
in which its people were largely excluded. If anyone gets consulted by the
Cabinet now, it is Duma Speaker Gennady Seleznyov, who in turn has recently
moved away from his Communist comrades, viewing himself as the new leader of
the center-left. Given this, the Communists are quite prepared to profit from
the failure of the government to strengthen its own position. 
While expressing his sympathy for Primakov, Moscow Mayor Yury Luzhkov also
wishes destruction upon him, and even contributes to this by urging Western
investors not to put money in projects connected with the federal center but
rather to direct it his way. Luzhkov is sure that Primakov's downfall will
open up the way to the Kremlin, as is Krasnoyarsk region Governor Alexander
Nor is Grigory Yavlinsky, leader of the Yabloko party and the person who first
proposed Primakov as prime minister, enamored of the new head of government
who has done nothing to increase his faction's political influence. 
But by building all their plans on the anticipated downfall of the Cabinet,
all the competing forces overlook the fact that this really is a "last stand
government." If it fails, then it will not be a question of congratulating its
successors, but of counting the costs. And while none of these politicians
would openly admit it, they all reckon on coming to power on a wave of hunger
and chaos. In a nuclear power realistically facing the prospect of collapse,
the only alternative to this chaos is not presidential elections, but
So although Primakov's government is far from ideal, wouldn't it simply be
best to wish it luck? 


Date: Wed, 28 Oct 1998 
From: "Andrei Liakhov" <> 
Subject: In response to Boris Kagarlitsky

It's probably my first atempt to be heard in public, but Boris Kagarlinsky's
response in Oct.27 issue which we received in the office has caused to break
my usual self restraint rules. 
When the what the official propaganda called the perestroika (and the West
quickly concurred) was launched by a bunch of amateurs who only vaguely
guessed what they wanted to change (but had no idea how) I do not think that
anyone either in the West or the Soviet Union had any idea what they were
unleashing. To really understand what I'm referring to you have to have a
very clear understanding of what the soviet society and economy was like in
the early to mid 80-ies. The situation then (and Mr.Kogalinsky please
correct me if I'm wrong) was unique in that it combined a moderately (in
general - I can't even argue that some sectors were a disaster) successful
production sector which reached the point at which it could not grow under
the constraints of the then existing socio-political system, a virtually non
existent financial system and service sector (that in itself represented a
huge constraint on growth) and a huge uncalculable mass of grey capital
(primarily kept in USD under the pillow) which was produced by so-called
"unlawful enterprenerial activities" (i.e. a buch of enthusiastic people
making extra shirts from the same amount of raw allocated to the factory and
selling them either through a well developed chain of so called farcovschiki
(illegal traders) or through the same chain of state shops with the proceeds
going into private pockets). That mass of capital reached a critical
proportion and simply had to be legalised. 
The reforms which were drafted soon after Brezhenev's death were aimed
primarily at changing the public perception of free enterprise and allowing
this home grown capital to be legalised. In this the USSR was trying to
adapt the Chinese model to its own rather unique circumstances. It was
envisaged that it would be a long and difficult process relying on own
As in China the initial goal (completely lost in the late Gorby era -
beleive me I was on so many commissions and in so many think tanks that I
can state that with some authority) was to let private initiative help
develop (as was hoped in Russia - or sustain - as is happening in China) a
political regime of a completely different nature.
Should these events were let to develop naturally we would probably have
some kind of a "Russian miracle" at the moment. But that would have created
a very strong economic centre potentially able to compete with the US,
Western Europe and Japan. That would not be acceptable to the US, which
adopted (consiously or uncounsiously) a policy of "what I can't destroy -
I'll buy". 
The rest is very well desribed by Mr. Kagarlitsky. By simply flooding the
country with money which were used for speculation rather than development
the US(IMF/WB, etc) has ruined the fragile balance and assisted the chaos
which broke lose on 17 August. 
Concluding my background remarks which I'm sure will go straight into the
editors' "deleted files" directory I would only like to add that the US is
probably slowly awakeining to the fact that even they do not have the money
to buy Russia (or keep it as a source of cheap raw materials and a market
for thei goods for ever - whichever you prefer) and they are at a loss
simply because their quite simplistic (to a point - they are geniuses when
it comes to making money out of literally thin air - but hepless when it
comes to understand anyone else) minds cannot comprehend that a fair
cooperation works best and and playing rich uncle may have a reverse effect.
On the other hand I have to support IMF's requirement to know where the
loans will go - everyone who tried to raise funds commercially knows that it
is a prudent commercial practice to disclose anticipated application of the
funds raised. However IMF must abandon its mentor approach and admit that
each country has the right to develop its own system and not to clone US and
disburse the funds freely as long as the country needs its help and it has a
clear indication that these funds (i) will be repaid on time and in full and
(ii) will not be used for purposes incompatible with the ten commandments of
the UN Charter.
Apologies for dragging on for so long.


Date: Wed, 28 Oct 1998
From: "Barry W. Ickes" <> 
Subject: Reply to Peter Clateman/2446

A few remarks in reply to Peter Clateman's note.
Clateman points out that value destruction must be viewed in context. I
agree. If an economy chooses, for example, to erect tariff barriers then
production which might otherwise be value destroying will cease to be so.
This is how I interpret his point that some decisions must be made as to
what part of the world is given and what is not. This is correct
Similarly, if flight from the currency causes the real exchange rate to
appreciate significantly, industry might receive temporary protection from
foreign competition. One would not want to judge comparative advantage
based on temporary fluctuations in exchange rates. But Russia's problems
are not due to transitory exchange rate fluctuations but longer-term trends. 
More fundamentally, Clateman argues that investment decisions can render
comparative advantage. But you have to be very careful here. With enough
investment any value destroying enterprise can be made a value producer. At
the extreme you just tear down the old structure and build a plant
identical to those elsewhere. The proper question is whether that is
economical. There may be much better uses for these funds. This point seems
to me to be often neglected.
As to the meaning of value destruction, we have discussed this more fully
in a more elaborated version of the virtual economy paper that is
forthcoming in Post-Soviet Geography and Economics. We have also discussed
the role of corruption and tax evasion more fully in our paper on Russian
Restructuring. These are available on my website, at:
I have to disagree strongly with Clateman when he argues that in-kind
payment of taxes is prominent mainly in the energy sector. This is simply
not the case. To note an obvious counter-example: GAZ in Nizhniy Novgorod
paid all of its taxes in kind for the period from the second half of 1996
thru the first half of 1997. Every kopek of taxes were paid, and every
kopek was paid in goods. This is incredibly common, more so in the largest
tax delinquent enterprises studied by the Karpov Commission. But you really
find about this when you talk to medium enterprises that produce carpets or
tires or drilling equipment; they offer endless accounts of this,
especially for local taxes. 


Date: Wed, 28 Oct 1998
From: "Wallace Kaufman" <> 
Subject: Hough on Polish and Russian paths

Economic successes and failures are never the results of simple causes, but
apropos of Jerry Hough's notes about Poland's success, I want to emphasize
one key ingredient that continues to be absent in the Russian economy. In
1991 I carried out dozens of in-depth interviews with new, private,
manufacturers in Poland and helped compile the data from other teams doing
similar interviews. We were looking at success and failure, obstacles and
advantages. Time after time I saw new businesses using the privatized
assets of state companies to produce new wealth--sewing machines, farm
implements, tool and dye equipment, and factory buildings. By means both
honest and devious manufacturing assets found their way into the hands of
real entrepreneurs. Some of this happens in the former Soviet Union, but as
Anne Williamson wrote recently, the Russians have been much better and more
focused on stealing wealth, cannabalizing their physical assets, or selling
them at salvage value than on getting those assets into the hands of people
who will produce new wealth.
Siberian oil has been sold and profits hidden abroad while oilfield
equipment deteriorates. Entrepreneurs who open kiosks and small stores are
milked dry by racketeers because government cannot or will not protect their
property. Would-be farmers are limited in the size of land holdings and
forbidden outright ownership of parcels large enough to be a going business.
Absent from both earlier reform proposals and Primakov's draft are any
measures to quickly put production assets in the hands of real producers.


Los Angeles Times 
October 28, 1998 
[for personal use only]
Its Banks Put Russia in the Hole 
The country's financial system is moribund, done in by
speculation, lack of oversight and Kremlin missteps. Given political
wrangling and gun-shy Western capital, prospects for recovery are bleak. 
By MICHAEL A. HILTZIK, Times Staff Writer (

MOSCOW--To find an illustration of the chimera that is the
Russian economy, one need look no further than the fortress-like building
where the offices of Bank Menatep rise above one of this capital's busiest
From the outside, the building still resembles the headquarters of
what was once Russia's sixth-largest bank, with more than $3 billion in
assets and a work force of 3,700 spreading from here to the timberlands of
But figuratively speaking, the building is a gutted shell. Like most
of Russia's more than 1,500 banks, Menatep is functionally dead. 
Its capital base, once valued at more than $300 million, is now at
least tens of millions of dollars in the red. The work force has shrunk to
less than 1,000. And though the parking lot is packed and the corridors
echo with the misleading buzz of activity, virtually no business is being
"The only thing going on in this building," said the chairman of the
bank's executive committee, Alexander Y. Zurabov, "is negotiations with our
Menatep's life cycle is a microcosm of the rise and fall of Russia's
banking system. Today, the entire sector is effectively bankrupt. Billions
of dollars in debts to foreigners are pending or have been written off by
angry creditors; the confidence of depositors, never strong, has vanished. 
Government officials have proposed a program to revive the system by
closing some banks and nationalizing others, but the measures depend on two
uncertain events: the swift passage of enabling laws by parliament, which
is unlikely given Russia's fractious political climate, and infusions of
capital from foreign lenders and international bodies such as the World
Bank and International Monetary Fund on a scale that observers say is
"Restructuring a banking system is quite a phenomenal exercise,"
remarked Nick Page, Russian banking analyst for Banque Paribas in London.
"It requires enormous political willpower, which isn't in evidence" in
That's a serious drag on any efforts to revive the Russian economy.
The country's gross domestic product in September was 9.9% lower than a
year earlier, according to government statistics that are widely assumed to
understate the drop. As long as no system is operating to facilitate
financial transfers, extend credit and provide a place for depositors and
enterprises to park their money safely, Russia's economic situation is
almost certain to become bleaker in coming months. 
"I have every confidence that there will be a new banking system,"
said William F. Browder, a longtime observer of the Russian economy from
his perch as managing director of Hermitage Capital Management, an offshore
investment firm with significant interests in this country. "But every day
it doesn't happen, you're losing a significant portion of your GDP." 
Of course, the roots of the banks' problems are much deeper. They
extend back to 1988, when private commercial banking was legalized here,
but without the creation of a strong regulatory system. In the intervening
decade, Russia's banks assumed many of the trappings of their Western
counterparts. They were regularly audited by such outside accounting firms
as Arthur Anderson & Co. (which reviewed Menatep's books), issued annual
financial statements, floated shares on European and U.S. stock exchanges
and published glossy brochures to attract investors. 
But most of this was only a veneer, banking analysts say. 
"I personally wouldn't want to try to audit a Russian bank, not with a
management team that might not be telling you everything you want to know,"
said Steven Shevoley, a securities analyst for Thomson BankWatch in Cyprus,
where many Russian banks maintain offshore branches. In any event, he said,
the banks reported their financial results only once a year, "and those
might be five months old by the time you saw them. A lot can change in five
months in Russia." 
Most important, the Russian institutions did not perform the same role
that commercial or investment banks do in other industrialized countries. 
"Our banks are not real banks," said Oleg T. Bogomolov, director of
the Institute for International Economic and Political Studies at the
Russian Academy of Sciences. "They didn't invest money in production or
provide enterprises with working capital. They were more interested in
speculative deals than investing." 
Nor were they conventional depository institutions. For the most part, the
Russian public gave Menatep and other large banks a wide berth. Only about
25% of Russians have bank accounts, and more than 70% of those were in the
government-owned Sberbank, the only bank in the country that offers a
deposit guarantee (though not one that will protect depositors from
devaluation-related losses). 
"There's never going to be confidence among depositors here, but there
never has been," said a Western economic observer in Moscow. "Two-thirds of
the monetary base of Russia was in the mattress." 

Young Communist Founded Menatep 

Menatep was founded in 1988, the year that private banking was
legalized under former Communist Party chief Mikhail S. Gorbachev. The
organizers were a group of technologists headed by a Young Communist League
activist named Mikhail B. Khodorkovsky, then 24. The bank's name is a
Russian acronym for the organization Inter-Branch Center for Scientific and
Technical Programs. 
Initially the group's profits came from selling used computers and
from currency speculation. By 1991, the bank was strong enough to become
the first Russian enterprise to offer shares to the public since the 1917
Bolshevik Revolution. 
But its entry into the realm of real wealth came in 1995 with the
"loans for shares" scheme. The government, in exchange for loans, offered
the most politically well-connected financiers and industrialists cut-rate
shares in Russia's richest natural resource companies through a series of
fixed auctions. The next year, the government exercised its option not to
repay the loans--leaving the companies in the business leaders' hands. 
Khodorkovsky, whose political connections extended into the Kremlin, was
among the elite. At the auction--where the bidding was so openly rigged
that it even provoked three other powerful banks to complain--Menatep's
prize was Yukos, the second-largest oil company in the country, which it
bought at a price reported to be as little as $168 million. Yukos revenues
at the time were $3 billion a year. 
Eventually, Khodorkovsky assembled an empire of 40 oil, mining,
chemical, publishing and construction companies. Yukos remained the most
That was fine when Yukos shares hit their high of about $3 in trading
on the Moscow stock exchange last year, and oil prices remained high enough
to give the company positive cash flow. But earlier this year, Yukos turned
into something more resembling dead weight. With production costs that are
the highest of all Russian oil firms, Yukos operated at a loss whenever the
price of Ural grade oil fell below $10 a barrel, as it did early this summer. 
That proved a double-barreled disaster for Menatep: Not only was Yukos
pulling capital out of the bank, analysts say, but the bank had pledged
Yukos shares as collateral on loans from several Western banks. As Yukos
shares plummeted in value--they were recently quoted at 89 cents, with no
takers--Menatep's creditors inundated it with margin calls, or demands that
the bank make up the lost collateral in cash. 
"Menatep was a little bank sitting on top of the Yukos elephant," said
one banking analyst here, "which was typical of a bank in a financial and
industrial group." 
Most such large Russian banks, indeed, appeared to exist largely to
speculate in government securities and funnel cheap loans to their sister
companies, rather than to outside enterprises. To Western eyes, this
resembled the insider deals that helped provoke the U.S. savings and loan
crisis of the 1980s. 
"In the U.S., there's a concept of fraud," said Hermitage Capital's
Browder. "Here there's a concept that conflict of interest is a business
opportunity not to be missed." 
But bankers defend the practice as the most prudent commercial lending
they could do in Russia, where the absence of reliable financial reporting
makes dealing with strangers especially perilous. 
"From a pure banking point of view," Menatep's Zurabov said,
"extending credit to related parties was a less risky business, because you
know personally what was going on in those enterprises and could be certain
they weren't going to cheat you. You didn't even need to see audited
statements from them." 
But by last summer, most bankers saw storm clouds ahead. 
"We started to feel something was wrong late in July," Zurabov said.
"The prices of all tradable securities were coming down, irrespective of
actions by the government. This was really a trap for the Russian banks." 
In the first two weeks of August, he said, Menatep paid out more than
$50 million to meet margin calls. Industrywide, such margin calls cost the
banks an estimated $3 billion--a hemorrhage that ceased only when the
Central Bank gave permission for them to stop paying foreign creditors for
90 days. 
Adding to the impending disaster were the banks' positions in so-called
currency forwards, which were speculative bets on the stability of the
ruble against the dollar and other foreign currencies. 
By the end of June, estimated Page, the London banking analyst, this
bet was so large that a mere 10% devaluation would have wiped out a third
of the banking sector's $6.4 billion in capital. At Menatep, executives
watched the situation nervously as the ruble weakened slowly. At the end of
July, they figured they had already lost $70 million on existing currency
forwards--if the ruble remained where it was. 
The crash was much worse. In the week following the government's Aug.
17 actions, the ruble lost about half its value. 
Menatep, like the rest of the banking sector, was irreversibly in the
In the two months since, bankers and financial analysts have waited in
vain--and with rising dismay--for the government and Central Bank to take
steps to revive the all-important sector. 
"When there's a fire in the room, you don't sit down in committee and
ask, 'Who smells smoke?' " remarked a Moscow banking analyst who requested

Plan Would Classify Banks 

A draft of a Central Bank program to classify the failed banks into
four categories of solvency so it can save only the strongest was recently
leaked to the Moscow newspaper Kommersant Daily, but few formal steps in
that direction have been taken. In any event, critics of the program
observed that the very process of classifying banks would probably fall
prey to political interference--the sort of favoritism that allowed
mismanaged banks to grow larger. 
The restructuring plan also is almost certain to require an infusion of
capital from abroad. Where that money will come from is uncertain; although
the Central Bank has suggested that it might allow foreign banks to convert
the unpaid debts owed them by Russian counterparts into ownership shares in
the Russian banks, few foreign institutions are likely to relish investing
further in a bankrupt system that has already cost them hundreds of
millions of dollars. 
On the other hand, some might argue that now is the time to invest,
for the banking system in Russia has nowhere to go but up. 
"Obviously, there's been a general collapse," Zurabov said. "Now,
we'll have to rebuild the entire system from scratch." 
Tomorrow: The downfall of Russia's seven leading tycoons. 


The Guardian (UK)
October 27, 1998
[for personal use only]
Defenceless Hermitage waits for the Great Flood 
By James Meek

When Sergei Burdukov went to work last week, his city looked as if it was
about to sink into the sea. The rock-grey waves of the River Neva were
slapping aggressively against the few feet of stones between them and his
workplace, the Hermitage, one of the world's great museums. 
This time, it was a routine flood. It was not The Flood, the catastrophic
event that strikes St Petersburg once in a century. When it comes, it will
wreak havoc on the lives and cultural treasures of the city unless the
money is found to finish a vast flood barrier begun in Soviet times in the
Gulf of Finland.
Last week's flood was a warning. The water rose by just over 7ft, about 2ft
short of the level that would take it surging through the city centre's
streets to threaten the basement storerooms of the Hermitage, where
thousands of priceless artefacts are stored.
In the worst recorded flood, in 1824, the water rose by nearly twice as much.
"I looked at the water and thought, Thank God, it's changed direction,"
said Mr Burdukov, in charge of the Hermitage's maintenance and upkeep.
"Because, despite all our preparations, we're not prepared."
The Hermitage, the Tsarist Winter Palace before the Russian revolution,
stands on an embankment facing the Neva. Officials are cagey about exactly
what is stored in the cellars - the most valuable items, including
paintings by scores of European masters from Rembrandt to Gaugin, are
supposedly on show upstairs or in safer places. But employees say the
basements are stuffed with artworks.
"We're building a new warehouse to house the exhibits but we've no idea
when it'll be finished," Mr Burdukov said. "The project's suffering from
the same economic problems as the flood barrier."
Work began on the barrier, a 15-mile dike similar to Holland's biggest sea
defences, in 1979. It straddles the Gulf of Finland, linking the island
fortress of Kronstadt to the mainland and forming a barricade between St
Petersburg and the autumn Baltic cyclones which, if the wind speed and
direction are right, hurl a wall of water towards the city.
In the glasnost years of the late 1980s, the barrier fell victim to an
environmental backlash. Critics said it would ruin the waters of the Gulf
of Finland and linked it to the discredited mega-projects of the 1970s,
such as the plan to reverse the flow of Siberian rivers.
In 1991, in one of the first big electoral clashes of the new Russia,
Anatoly Sobchak won the mayorship of St Petersburg, then called Leningrad,
against Yuri Sevenard, designer of the flood barrier, by milking the Green
vote. The environmental vote is more focused today: Mr Sevenard is a
Russian MP, and Mr Sobchak has fled to Paris to avoid a corruption
The final hopes of completing the flood barrier faded when a potential loan
from the European Bank of Reconstruction and Development for hundreds of
millions of pounds was sunk by Russia's financial crisis.
Now, with every storm, the unfinished dike is damaged. Engineers fear a
catastrophic series of waves from the Baltic will send huge concrete blocks
tumbling into the deep-water channel leading to St Petersburg port,
boarding up Peter the Great's Window on the West 300 years after he opened it.
Vladimir Lesogorov, head of St Petersburg's sea defence department, said he
feared terrible consequences for the city of 5 million if a flood
comparable to the inundation of 1824 hits.
"The city's been built as if it was defended from the sea, and it isn't,"
he said. "There are new districts which have been built lower than the
three-metre mark [about 10ft]."
He also doubted that the elaborate system of flood defences designed to
protect the city's extensive underground rail system would work.
"The metro has defensive gates, but you know how it is. Everything opens
and closes perfectly until you actually need it. There are a lot of places
in the metro which have to be sealed and if one of the seals fails who
knows what could happen."
Despite its similarity to Venice, St Petersburg has problems which are
closer to those which required the building of the Thames flood barrier -
occasional devastating floods that strike with only a few hours' warning.
An assessment of the St Petersburg flood barrier carried out by a British
engineering firm, Gibb, said the design was sound and would take 310
million to complete. But Mr Lesogorov said a stripped-down version, which
would allow the occasional flood but protect the city from disaster, could
be carried out for a third of that sum.
Kazimir Kondratovich, a professor at St Petersburg's University of
Meteorology, said there was some evidence that the biggest flood to hit the
area occurred at the end of the 17th century, a few years before work began
on building St Petersburg. Then the water rose to more than 16ft above the
usual level.
But he added that there had been about as many serious floods in this
century as in the previous two put together. He said the risk of a
catastrophic flood in the current generation was high.
"In past years the city became a centre for the defence industries and
scientific research," he said.
"In the era when understanding of such things was limited, all sorts of
radioactive materials and chemicals were buried or dumped in all sorts of
"Everything which is sleeping there in the ground would be woken up by a
flood, turn into compote and go swimming out into the Gulf of Finland."
The flood barrier must be built, he said.
"It all turned into politics. But in reality there is no politics. There is
only nature and man."


Financial Times (UK)
October 28, 1998
[for personal use only]
UKRAINE: Region tempted by reunion with Russia
Charles Clover visits the industrial region of the Donbass, where economic
problems are stirring nostalgia for Soviet times

When the Donetsk Iron and Steel works took out a 1.6m hryvnia ($430,000) line
of credit from a local bank earlier this month, managers were surprised to
find that the factory would receive part of the loan in shoes - 100,000
hryvnia worth.
"If you know anyone who needs shoes, please tell them to call us," joked a
high-level official at the factory.
Barter payments have been common for some time in Ukraine, as in neighbouring
Russia. But as the economy reels from the combined effects of the global
downturn and a 40 per cent devaluation of the hryvnia since August, the
problem has reached epidemic proportions.
Worse, production is plummeting in the Donbass region, Ukraine's industrial
In the city of Mariupol output at the two largest steel plants in Ukraine,
whose combined annual export revenues total over $1bn, fell drastically in the
month of September, according to data gathered by city authorities. Azovstal
and Zavod Illiycha, which together produce roughly one-third of Ukraine's
steel, saw drops in output of 40 per cent and 25 per cent, respectively.
Alexander Fillipov, head of the Donetsk regional administration's department
of industry, said the problem was partly due to the drying up of traditional
markets for the region's steel in Asia and Russia, and partly due to the cash
Whatever the cause, the effects of such a steep economic downturn in the
Donbass could prove severe for Ukraine in only its seventh year of
Donbass accounts for a tenth of Ukraine's population, but a fifth of its gross
domestic product and a third of its exports. Situated on the border with
Russia and populated largely by ethnic Russians, it is possibly also the most
politically sensitive region in the country.
To cure the problem of the chronic lack of finance, factory directors are
recommending radical measures, such as a drastic expansion of credit by the
central bank to finance production.
"A credit emission by the NBU [central bank] is absolutely essential to
prevent the total collapse of our industry," said Vladimir Dyomin, director of
Donetskgormash, a factory which produces heavy excavation equipment.
Many senior officials are thinking even more radically. Last month's collapse,
many say, is a symptom of a much broader problem, a two-thirds decline in GDP
which started with Ukraine's independence from the Soviet Union in 1991.
"When we achieved independence, who thought the economic ties which bound the
Soviet republics together would be so critical?" said Alexander Bulyanda, the
general director of Azovstal, one of the most respected officials in Ukraine's
metals industry. "It turns out that because of the breaking of these ties, we
had a seven-year fall in production that no one has been able to correct."
While Donbass residents voted overwhelmingly for independence from the Soviet
Union in 1991, 73 per cent of them now favour reuniting Ukraine with Belarus
and Russia, according to a poll conducted by the local newspaper Salon Don-i-
Bass, published on October 20.
As the most populous of Ukraine's 27 oblasts, Donbass' support will be
critical for any candidate to win in presidential elections scheduled for
October 1999, still very much up for grabs.
"Union with Belarus and Russia will be the main issue in the presidential
elections here in Donbass," said Nikolai Tokarsky, deputy editor of the
Mariupol newspaper Priazovsky Rabochy. "That means it will be a national


The Times (UK)
October 28, 1998
[for personal use only]
Kurile islanders call for return to Japan control 

LOCAL authorities in the disputed southern Kurile Islands, which were
seized by the Soviet Union from Japan in the closing days of the Second
World War, are so desperate at the lack of economic support from Moscow
that they have launched a petition calling for the islands to be leased
back to Japan. 
Vladimir Zema, head of the South Kurile administration, told the Interfax
news agency yesterday that the local population - consisting of a few
hundred fishermen - had been driven to "the verge of extinction" by the
indifference of the federal Government to their problems. He said the
petition was based on provisions in a presidential decree of 1992, which
gave the islanders the right to lease land to foreign investors for up to
99 years. Eighty islanders signed the appeal. 
The Kuriles dispute has been the main stumbling block in relations between
Russia and Japan and has prevented the signing of a peace treaty between
the two countries formally declaring an end to hostilities after the war.
Both sides are aiming for a treaty before 2000. 
The issue is expected to be raised during next month's visit by Keizo
Obuchi, the Japanese Prime Minister. A declaration at the end of talks with
President Yeltsin - provided that the latter's health allows the visit to
go ahead - will be the first official document to address the dispute. The
enfeebled Mr Yeltsin is hardly likely to reduce his public standing still
further by giving up the islands. 


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