What’s Wrong with Russia – Part I – Infrastructure

[Note: this the first in a series of posts covering what are, in my opinion, the most significant examples of ‘what is wrong with Russia].

I’m not starting with the subject of infrastructure because it is necessarily the most significant problem for Russia.  Instead, I would argue that it is theoretically the easiest weakness Russia can address, in that it only requires an adequate expenditure of federal and regional funds.  Nevertheless, Russia’s deficient infrastructure is rarely noted as a top concern by investors.

In this way, I think it is a ‘stealth’ problem with which most observers are not familiar, mainly for two reasons: (1) Russia’s infrastructure overall is arguably better than the other BRICs, except for China; and (2) Russia’s infrastructure deficiencies have just started to appear over the past few years.  People often forget about that Russia’s exceptional economic growth over 2004-08 came on the heels of a massive economic contraction caused by the end of the Soviet Union and the 1998 crisis.  Thus, Russia’s ‘growth’ in real terms has mostly consisted of playing catch up for the lost 1990s, and output is only now beginning to reach full capacity (or at least it was before the current crisis).  This explains why the strains on Russia’s economic capacity are a recent phenomenon.

The anecdotal evidence of Russia’s aging ‘Soviet-era’ infrastructure is persuasive.  Recently, the failure of two substations near St. Petersburg caused a blackout in the city for over an hour, bringing buses and subway and commuter trains to a standstill during rush hour.  A similar blackout happened this year after the Leninskaya substation in Tatarstan – generally considered a more developed region by Russian standards – collapsed and cut off power to 80,000 people.  Perhaps the most dramatic recent infrastructure failure happened in 2009, when a turbine at the Sayano-Shushenskaya dam, which accounts for 15 percent of Russia’s hydroelectric power and 2 percent of its overall power, exploded, causing 75 deaths and leading to a total loss of output.

In addition to not ensuring the safety of – much less upgrading – existing infrastructure, Russia has also repeatedly delayed the construction of new infrastructure,  including air and seaports and road and railways.  For example, in 1995-2008, Russia only constructed 5,000 km of new roads (to 755k total – a .07% increase) and the total railways actually dropped by 1,000 km (to 86k total).  Over a similar period (1989-2005), Brazil increased its total road network by 65%.  From 2005-09, China constructed 480,000 km of new roads and 19,000 km of new railways.  What is worse, the average cost of 1km worth of road in Russia is $12.9 million, versus $3.6 million in Brazil and $2.9 million.  There are several particularly disgusting examples, such as the $7.34 billion, 48 km Olympic road from Adler to Krasnaya Polyana (that’s $153 million per km), the Western High-Speed Diameter in St. Petersburg ($142 million per km), and the Fourth Ring Road in Moscow, which rang up to $400 million per km.  Quality is also an issue – for example, 65 percent of roads in Germany and 38 percent of roads in China are reinforced with steel beams, while none are in Russia.  And forget about seaports – the sleepiest Chinese seaport handles more freight than all Russian ports combined.  To cite another example from the Olympic preparations, the lack of a logistics port in or near Sochi appears to be a growing problem that may require the use of Turkish ports instead.

This is another one of those problems that Russia’s leaders are aware of, yet seem incapable of solving.  Just yesterday PM Putin promised 14,000 km of new roads in the next five years (i.e., nearly 3x the amount constructed from 1995-2008).  This is to make up for a 70 percent drop in road construction last year due to budget shortfalls.  The unprecedented construction pace will be supported by the use of a new financing mechanism – so-called “road funds” (дорожные фонды).  Still, it is hard to see how this is not simply ‘old wine in new bottles’ – i.e., Russia’s leaders are reverting to their textbook approach of throwing money at the problem.

Many of the problems in the infrastructure sector of course stem from other failings – most notably corruption – that I will address in later posts.  Assuming, however, the corruption in Russia will not be eradicated by next year, how can Russia begin to solve its infrastructure problems without expending obscene amounts of money for poor or non-existent results?  A recent white paper commissioned by the U.S.-Russia Business Council (USRBC), and written by CG/LA Infrastructure LLC, made a series of recommendations for how Russia can reach its potential to be a “leading market for infrastructure.”  The main points include:

  • Infrastructure Vision – a broad strategy similar to the Eisenhower Interstate Highway System that comes from the federal level.
  • Discard Reliance on Public-Private Partnership (PPP) Model – a lot of Russian infrastructure projects – including some of the most expensive roads cited above – are done in the form of PPPs.  The white paper recommends that Russia move away from this model for at least 90 percent of its projects because “financial institutions’ lending practices are cyclical while infrastructure development cannot be if it is to be sustained and successful.”
  • Leading Role for Vneshekonombank – the white paper recommends that Vneshekonombank become the leading financier of Russian infrastructure projects, modeled after the Brazilian development bank.
  • Build Up Local Industry – the white paper suggests that Russia identify and support Russian engineering, procurement, and construction (EPC) firms capable of implementing large infrastructure projects, citing Spain as a model to follow.

Clearly, Russia has the money and high-level political will to tackle its infrastructure problems.  The challenge is to discard the existing models of infrastructure development and root out and eliminate inefficient and devious practices that turn legitimate projects into black holes for budget funds.

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9 Responses to What’s Wrong with Russia – Part I – Infrastructure

  1. Dave says:

    What is your evidence that “high-level political will” exists in Russia? Talk is cheap.
    It is a popular saying in Russia that Russians absolutely love big projects because there is so much to steal. All of the scandalous Sochi expenses are simply the result of high-level political will to hand out lucrative projects to whomever pays the most.
    That
    is where the political will is.
    As far as money goes – Russians like to say that anything can be solved with money. And anything that can’t, can be solved with lots of money. And whatever is left can be solved with lots and lots of money.
    Now, when you put these two thoughts together (scandalous expenses and solving problems with money) it just may become apparent that the political will is to throw lots and lots of money not necessarily to solve a problem, but to ensure that a big chunk of it lands in certain pockets.

    Forgive me for being blunt, but when will Westerners stop being so dense when it comes to Russia?

    • jesseheath says:

      Dave, my evidence of high-level political will is, as you go on to discuss and as I indicate in my post, the willingness to throw gobs of money at infrastructure projects. The problem indeed is in how they money is spent – namely that most of it is lost due to corruption and other inefficiencies. Thus, Russia’s leaders need to change HOW they spend all this money. Indeed, they can change how the money is spent that will minimize opportunities for corrupt deals. I think you are suggesting that high-level, federal officials are themselves involved in this corruption – maybe, but I would argue it is more likely mid-level federal and all levels of regional and local officials doing this, considering that the plunderable sums for each project are relatively small once divided into all the different tasks involved (i.e., there are many, small corrupt deals, not one big one). Maybe you have a point that the federal authorities have an interest in maintaining loyalty of local officials by throwing good money after bad into projects that they know will be exploited. Finally, in response to your allegation that ‘Westerners’ – including me presumably – are ‘dense’ on Russia, I don’t think you’ve done your homework. In fact, a large portion of my posts relate to the very corruption you reference and this is my professional background as well. Did I suggest that corruption is not a problem or will go away? No. Do roads, bridges, etc. still need to be built? Yes. There’s nothing dense about looking for an optimal approach to an admittedly challenging environment like Russia. Meanwhile, throwing stones and condemning the whole system may have some factual basis, but it won’t create anything positive or improve anyone’s life.

  2. Dave says:

    Putting your thoughts together, I get this: Evidence of high-level political will to tackle infrastructure problems is the willingness to throw gobs of money at them.

    Now, if you do not want to say that high-ranking, federal government officials are not corrupt, then it follows that you must say they are either extremely stupid or that they in fact do not have the political will to straighten things out. Perhaps some individual top-level officials really want to fix things, but it seems to me that all the evidence says that – collectively – they do not.

    Now, what do I mean about the West being dense on Russia? I could write at length, but will try to be to the point:

    1. Russians do not compare themselves to the West. They just don’t. They prefer to say they are poor but have generous hearts. Россия – щедрая душа. They are of course inferring that Europeans are cold-hearted, and it’s okay for Russia to be poor because “well, we have generous hearts”. I mean, there’s an entire industry built on that principle, it even shows up in advertising campaigns. But often Westerners think Russians dream of living like people in the West do. I do not think that is true on the subconscious level.

    2. Russians do compare themselves to people in other former Soviet Republics and somewhat to the Chinese. The biggest offence to a Russian (I mean citizen of Russia, not ethnic Russian) would be to see Kazakhs or Ukrainians living better than they. In fact the Russian news is full of how bad life is in Ukraine, especially over the past five years when they were trying to prove a point about how colour revolutions do not bring happiness or security.

    If the West had been more supportive of Ukraine in deed and not in word only (though the words were scant, too), Ukraine could make great strides forwards. For example, if the EU had understood that the Ukrainian gas transport system is of vital importance to Europe and been more forthcoming with the Tymoshenko government to buy gas at the Russian/Ukrainian border and invest in modernising the pipelines, or if the West had been more direct with Yushchenko and told him to concentrate on the economy rather than pet folklore projects, then the foundations for quality life in Ukraine would have been laid and Ukraine would have a chance to achieve the lifestyle Poles now enjoy. And that would have caught ordinary Russians’ attention and they would demand the same of their leaders. But they will never demand of their leaders to live like people in Brussels, London, Paris or Washington. It is when people in Minsk and Kiev are obviously living better than people in Yekaterinburg and Samara that grassroots change will sweep across Russia.

    And until that happens, there is no-one to stop $12.9bn per kilometer roads from being built.

    Put another way, if the West truly wants Russia to succeed in a framework built on European principles of law, then far more attention should be paid to the Russian mindset rather than to simply pointing out that you can build roads cheaper. And by that I mean that I think the best way to prompt the Russians to want better lives is to prove it is possible in places like Ukraine and Belarus.

    • jesseheath says:

      I’m not sure the high-level officials are so much as stupid as they are not interested in the relatively small potatoes involved in infrastructure projects.

      I understand your argument re: how Russians judge themselves and I generally agree. Anyone who has spent any time there has run across the это по-русский or это россия response when observations are made about the country’s backwardness. I do plan on addressing culture in a later post, but my point here was that this isn’t about culture, but rather roads, rails, ports, etc. Russia has built such things in the past without obscene markups. The recommendations I cite at the end are more technical in nature than cultural – e.g., using VEB as primary financier. Yes, Russia will always be at a disadvantage due to corruption and the culture that supports it. But my point here was that they have the money to burn for infrastructure and there are ways to structure these projects more efficiently, short of changing 1k years of historical and cultural experience.

      • Dave says:

        I understand where you are coming from, but I’m not sure I understand your point.
        So, let me ask you a question – in your opinion, what exactly does the West want from Russia or what kind of a relationship does the West want and with what kind of Russia do they want it? My follow-up question: what is the West willing to do to see that come to pass (whatever that is).

  3. jesseheath says:

    @Dave – it seems we’ve exhausted the number of replies permitted by the WordPress gods. Re: your questions. I don’t know what the West wants because this involves multiple interest groups, some of whom I consider illegitimate (e.g., Russophobes) and others with disingenuous gripes that are based on strategic goals (e.g., neocons who want to build a missile shield on Russia’s border, have Ukraine join NATO).

    To borrow a horribly overused term from the business world, I see the most ‘synergies’ between Western businesses, who want to take advantage of the Russian market and the Russian government and people, who want access to Western technology, business practices, and goods.

    As you can see, my focus – for these posts at least – is relatively narrow. I’m grew tired a long time ago of the overly-emotional debates about relations between Russia and the West. I guess in terms of what Western businesses should be willing to do to succeed in Russia, they need to adapt to local conditions and culture, and Russia in turn needs to provide an environment where these businesses can legally do profitable business.

    • marknesop says:

      Hi, Jesse; you can modify the comment string yourself, in “settings”. It’s in “discussion”, and “other comment settings”. Just choose “Enable threaded (nested) comments ( ) levels deep” (I have mine set on 8).

      Interesting and authoritative post; you’re right that infrastructure is seldom a complaint from investors, because at least some and perhaps many of those investors are working on infrastructure-related projects. However, it IS a frequent complaint by western media, for many of whom “infrastructure” is just a hot-button buzzword while they have only the haziest idea of its meaning. It’s enough just to bang on the simpleton gong that Russia’s infrastructure is old and creaky. Yes, it is, but I doubt many understand it from the viewpoint you’ve expressed.

      The roadworks might be a good place to start with the anti-corruption policies. Fighting corruption really isn’t that hard in concept as long as the people employed in oversight are honest, committed and have sufficient autonomous authority to reject materials, contractors and plan overruns for cause. It’s in practice that it becomes difficult, because those people have to have that much clout while being immune to bribery and threat. Still, I’m confident such potential mid-level management types exist. The workers at the sharp end are typically not the problem, asking only that they be paid on time and in full. It’s the contractors, the managers and the executive that are the problem, and mid-level management is in an ideal position to curb excesses by both. A mid-level manager who sees corruption encouraged from above can simply quit and report the incident to central authority, or threaten to and force the executive to straighten up. Admittedly, he or she would be in a very dangerous position, but that’s where it has to start; if it was scrupulously enforced and enjoyed the visible backing of government, the old way of doing business could be history in a generation.

      • jesseheath says:

        Thanks Mark! Settings changed.

        You are right that the Western media loves the ‘aging Soviet infrastructure’ narrative. I don’t know whether investors are that involved in these projects. My guess is that most foreign investment is instead concentrated in sectors with comparatively good infrastructure (e.g., oil and gas) and geographically (i.e., don’t rely on efficient movements in and out of major population centers). Also, as I alluded to in my post, it’s an area where in fact Russia is better than many other emerging markets because of the Soviet (vs. colonial) legacy. Still, to the extent Russia’s other problems weigh so heavily on the negative side, improving infrastructure seems like ‘low hanging fruit’ to me.

  4. marknesop says:

    Yes, I guess I should have said “suppliers” rather than “investors”, such as the Japanese supplying steel rails for the new high-speed rail project. You’re probably correct that the bulk of actual FDI is in the energy sector, and they’d like to have much more – extending to a controlling interest, if they could get it.

    Infrastructure is always a good investment; “low-hanging fruit”, as you suggested, because a proportionally large return (in the form of voter appreciation) can be realized for a relatively low outlay. Similarly, almost every infrastructure project has the best-case replacement date designed in – it can’t last forever, and even if it could in its present form, it’ll likely have ever-greater loads to bear in future (particularly in the areas of the road grid, public transit and power generation).

    As a stark example, Vladivostok still has a lot of coal-fired power plants; each winter, Governor Nazdratenko (since fired and replaced by Sergey Darkin) would pretend to be dismayed that Vladivostok actually received snow and cold temperatures, even though it had done so for every year he was alive, and wonder why Vladivostok had not stockpiled enough coal to get the city through the winter. There’s no need of anything like that happening. Perhaps Darkin is an improvement, I couldn’t say, I haven’t been back there since 2005, and he was relatively new then. The Far East uses a lot of foreign labour (mostly Chinese) for its infrastructure projects when it should be developing and staffing infrastructure industry itself. I guess the bottom line is that nobody wants to work in those jobs because it’s hard work for low pay. It’d be more arttractive if it paid better, and that could be easily financed by cutting corruption. Wheels within wheels.

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