Foreign Direct Investment into Russia’s Regions

David Szakonyi George Washington University

July 8, 2019

Overviews of Russia’s investment environment since 2014 have largely spelled doomand gloom. Headlines tend to cluster around a number of common refrains.1 For ex-ample, sanctions have significantly worsened environment for foreign investment. Fewcompanies are interested in sectors outside of natural resources. Russia’s heralded ‘pivotto the East’ has shown only weak signs of life.

This policy memo submits these refrains to empirical testing, leaning less on anecdo-tal impressions about the many difficulties of conducing business in Russia and moreon hard data about money committed, partnerships struck and ground on investmentsbroken. To what extent have investors pulled away from the Russian market? How gen-uinely interested is China (and for that matter any of its Asian neighbors) in developingRussia’s Far East?

Getting good answers to these questions requires reliable figures. Unfortunately, for allits accessibility, official data on foreign direct investment from the Russian State StatisticsAgency (Rosstat) falls short on a number of accounts. Country of origin is usually onlylisted at the national level, shedding little light on which regional characteristics investorsare prioritizing when making their decisions. Crossing that data by sector is also impos-sible, as Rosstat does not make public information on individual investments or muchdetail on methodology.

To overcome these obstacles, this memo draws on unique project-level data from fDiMarkets on foreign direct investment into Russia over the past eight years. Run by theFinancial Times Ltd, fDi Markets monitors primary and secondary sources to collect in-formation on investment announcements, recoding the announcement date, total capi-tal investment, number of jobs created,2 the investing company, sector, and destinationcity/region. Such an approach offers a number of advantages for analysts tracking FDIinto Russia, or for that matter any economy around the world.

Breaking Down the Data

Figure 1 first aggregates the fDI data by year. We see that in 2011, net flows totaled$25.4 billion. But even before the dual crises of 2014 hit, those numbers had droppedprecipitously. The years 2012 and 2013 exemplify the growing stagnation in the Russian

1The word ‘refrain’ has been specifically chosen over ‘myth’ since several of these claims may indeed be supported by the data.2Algorithms are used to estimate this figure if exact numbers are not given.

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Figure 1: FDI into Russia Over Time

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economy: investment dropped roughly 30% year-on-year. That trend accelerated as theruble collapsed in 2014 and investors’ feet froze in the wake of mounting internationalsanctions.

That nadir was somewhat short-lived. Beginning in 2015, there is a noticeable reboundin FDI into Russia, to the point where the figures from 2018 nearly match those in 2013.The first five months of data from 2019 continue the trend: Russia has improved its statusas a destination for investments, though there is still work to be done to return to 2011levels. Where has this investment come from?

Table 1 helps put some of the changes into perspective. The rows show the top tencountries ranked by total volume of investment into Russia over the entire eight year pe-riod of 2011-2018. The left-hand column sums investment in the four years prior to thesanctions and drop in oil price in 2014, while the righthand column sums investment inthe subsequent four years (2015-2018) for an apples-to-apples comparison.3 The right-most column computes the percentage change between the two periods.

Several trends are notable. First, for so-called ‘sanctioning’ countries (those that beganimposing sanctions on Russia starting in 2014), investment in the next period for the mostpart generally fell. This is especially the case for German, American, Japanese, and Italiancompanies. Hesitation among these investors helps explain the decline in overall interestin the Russian market. One exception is France, whose retail giants continue to expandinto Russia’s heartland. Leroy Merlin, which specializes in home reconstruction supplies,

3Note I exclude investments from Cyprus as many of the investors are connected to Russian holding companies and thus qualifyas ‘round-trip’ rather than genuinely foreign investment.

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led the pack with over $1 billion in new projects across at least 12 Russian regions. Inter-estingly, even as relations with the U.S. has worsened, investments from majors such asProcter & Gamble, Nike, Abbott Laboratories, and Mars have continued to flow.

What is especially striking is the continued interest among East Asian companies inRussia. China has maintained its status as the country’s leading foreign investor. Thejust over $9 billion in investment from 2015-2018 just about matched the four years prior,giving the country a more than comfortable lead over other countries. South Koreaninvestors appear not have been completely scared off by the heightened political risk,with investment now approaching nearly $700 million per year recently.

The spike in the Vietnamese presence has come through a partnership between the T.H.Group and the Russian Direct Investment Fund (RDIF) to build several dairy productionfacilities across the country. This series of plants will produce for both domestic andexport markets and stretch across several regions. Whereas the relatively small amountsof investment from Vietnam before had come from state-owned firms, the arrangementwith the T.H. group is unique by including both a private foreign company and the importof high tech agricultural equipment. For all the controversy surrounding the RDIF andthe countries it has courted, such agricultural investments appear be a potential coupgoing forward.

Table 1: FDI into Russia by Country of Origin

Country Total: 2011-2014 Total: 2015-2018 Chg. (%)1 China 9,484.1 9,254.3 -2.42 Germany 9,277.9 5,513.5 -40.63 United States 6,263 5,200.6 -174 France 4,682.9 5,736.3 22.55 Japan 4,033.2 2,773.6 -31.26 Italy 3,810.5 2,307.5 -39.47 Finland 3,530.6 2,003.5 -43.38 United Kingdom 2,669.5 2,616.9 -29 Sweden 2,186.1 2,560.1 17.110 South Korea 2,010 2,790.7 38.8

All figures shown in millions USD.

Case Study: Russia’s Far East

In light of the growing presence of Asian investors, special attention needs to their in-creasing role in Russia’s Far East region. Technically termed the Far Eastern Federal Dis-trict, this broad stretch of territory covers some of Russia’s largest, and least developed,

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regions: Amur, Chukotka, Kamchatka, Khabarovsk, Magadan, Primorya, Yakutia, andSakhalin. Although rich in a variety of natural resources and blessed with prime geo-graphic proximity to many of Asia’s largest economies, these regions have suffered fromcenturies of neglect from the federal center. These places are not just tough places to live,they are tough places to do business.

To remedy the inequality and close the gap with the more prosperous regions in theWest, the federal government in Moscow has placed a renewed priority in attracting bothmigrants and investment (domestic and foreign for both factors) into this strategic dis-trict. Some of the country’s most ambitious development schemes are currently playingout here. One program offers up to one hectare of free land in the Far East to any Rus-sian citizen provided they can put it to productive use for five years. A new Far EastDevelopment Fund now commands nearly $1 billion in federal money to upgrade infras-tructure and improve social services in the seven regions. Several ports have been giventhe status of ‘free ports’, while a plethora of subsidies and tax breaks have been dangledto potential investors. This attention reached a crescendo in September 2018 as PresidentPutin flipped Russian pancakes (blini) with his Chinese counterpart Xi Jinping at the East-ern Economic Forum. Over 1,000 Chinese businesspeople also made the trip to cook upcross-border deals.

Many observers have punched holes in the hopeful narratives sprung by these initia-tives and meetings. Levels of corruption are too high for foreigners to manage. Many ofthe most attractive sectors are still off limits to foreign ownership. Seeing the region holdsonly 4% of Russia’s population yet one-third of its territory, locals are wary of openingthe border completely to Chinese migrants.4 And Russia and Japan still have not resolvedtheir competing claims over the Kuril Islands.

However, the fDi Markets data help paint a somewhat rosier picture about the foreigneconomic activity taking place in this far-flung, sparsely populated region. Let’s beginwith China, which has led the way. Since 2015, 19 different Chinese companies haveinitiated a total of 26 projects across the six of the eight oblasts (regions) in Russia’s FarEast. The projects have covered the industrial gauntlet, from the China Paper Corpora-tion putting $1.5 billion into pulp and paper manufacturing to the China National ElectricEngineering investing various types of energy production. In all, these 26 projects haveadded up to $3.8 billion and created an estimated 7,844 jobs. Figure 2 graphically showsthe spread of Chinese investments across eastern Russia since 2014. Firms are still target-ing western Russia, but there is a clear uptick in money flowing out east.

Although South Korean and Japanese investors have expressed concerns over the qual-ity of institutions and infrastructure in Russia, particularly in the Far East, the money has

4https://www.themoscowtimes.com/2018/01/25/russias-east-struggles-to-lure-investors-op-ed-a60277

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Figure 2: Chinese Investment Across Russia

Figures are shown in millions USD for the 2015-2018 period.

started to trickle in. South Korean firms led nine projects across five different sectors.Hyundai Motor saw promise in an $800 million shipbuilding, while smaller firms havetargeted aquaculture and grains production. The trend line is also leaning upward, asmost of these projects broke ground from late 2017 going forward. Japan has lagged con-siderably behind but still boasts 10 projects totaling $428 million and creating 2,162 jobs.

If before regions such St. Petersburg and Kaluga showed clear leadership by reorient-ing their governments to attract FDI, upstarts such as Primorskiy Krai are now comingto the fore. Table 2 adopts the same structure as above, comparing investment per desti-nation region between the four years before sanctions and drop in oil price and the fouryears after. The top ten regions for the entire period are shown, as well as the change ininvestment between the periods.

First, its clear that investors have found comfort in Moscow and Moscow oblast duringthe times of crisis. Both regions have experienced stability if not, a marked increase, inforeign money, with Moscow oblast more than doubling inflows since the peak of thecrisis. But perhaps more interesting is rise of Primorskiy Kray, which now ranks fourthoverall, potentially at the expense of its cousins out west in Vologda, St. Petersburg, andPerm.

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Table 2: FDI into Russia by Destination Region

Region Total: 2011-2014 Total: 2015-2018 Chg. (%)1 Moscow (federal city) 8,598.5 8,143 -5.32 St Petersburg (federal city) 4,971.4 3,767.9 -24.23 Vologda Oblast 3,988.2 31.2 -99.24 Ulyanovsk Oblast 3,772 1,465.4 -61.25 Perm Oblast 3,184.2 127.8 -966 Primorsky Krai 2,773.3 3,472.2 25.27 Moscow Oblast 2,536 7,258.5 186.28 Tatarstan Republic 2,364.9 2,716.3 14.99 Bashkortostan Republic 2,330.3 536.7 -7710 Kaluga Oblast 2,200 1,861.6 -15.4All figures shown in millions USD.

Outlook and Implications

So what should we make of these trends? First, though the dual shock of sanctions andoil price delivered a clear body blow to FDI inflows into Russia, the pain many be startingto subside. The faint signs of life in the FDI market, however, are not quickly emanatingfrom countries located in countries which imposed sanctions.

But importantly, the pivot to East Asia is starting to take shape. This is particularlyevident in the Far East which has the most to offer to the dynamic Asian economies, andpotentially the most to gain in return. Although it is much too early to give definitivegrades to Russia’s experiments with investor tax breaks, subsidies and special economiczones, some key projects are beginning to bear fruit (and milk, seafood, and wood pulp).

The real question is whether these extractive industries will be able to create enoughjob growth for the local population, as well as incentives for highly skilled workers togravitate to the Far East. Many of the Asian countries, China in particular, have histor-ically brought with them their own labor force to accompany large foreign investments.Given the precarious demographic situation in many of these borderlands, such a sce-nario is possibly in the cards.

Over the past decade, many foreign investors have closed up shop in regions notMoscow or its immediate environs. The dismal political risk and financial returns weretoo much to stomach, even after many governments had made considerably headway im-plementing business-friendly road maps. Asian investors might not get such stage frightif relations with the West worsen again, but Russia will have to roll out its already longred carpet to keep them excited about investing money in the East.

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