world growth

world growth

Saturday, September 6, 2014

Russia's Business With China Poised To Grow As Politics Strain Ties With The West

China and Russia officials last month celebrated an oil pipeline agreement that will boost trade between the two sides by billions of dollars in the coming years.  Against a backdrop of political tension between Russia and the West, what’s ahead for business ties between the two in the future? I exchanged this week with  Marlen Kruzhkov,  a Russian-speaking partner with New York-based Gusrae Kaplan Nusbaum.  Kruzhkov advises Russian and other ex-Soviet Union clients on international law.  In today’s unsteady world, it seems certain that business between China and Russia is poised to rise. Kruzhkov holds degrees from Boston University and Northwestern.  Excerpts follow.

Q. How is tension between Russia and the West affecting Russian capital flows into Asia?  In particular, are there signs of growing business partnership between Russia and China?

A. Russia and China have had a very substantial trading partnership for many years, and the next few years will see even more expansion. Since 2010, China has been Russia’s largest trading partner, surpassing Germany but not the EU.  This relationship is for the most part the same as all of China’s trade relationships, namely, China imports raw materials and oil from Russia and exports manufactured products to Russia.

Given political overtones elsewhere, there is no question that Russia is seeking to increase its trade relationship with China.  Just last month Russia and China finally reached agreement on a price for oil exports to China after nearly a decade of fruitless negotiations, and last month Russia broke ground on a new Siberian oil pipeline to China.

Russia continues to expand financially with China, and if it cannot go to the West, it will stay in the East.  We work with many Russian and Ukrainians who are also moving assets into Asia as they seek to further diversify their portfolios – expect that trend to continue.

Q. Who are some of the key Russian companies and individuals involved?

A. For the most part, this attempt to strengthen Russia-China trade is led by government sectors.  Almost all of the increased trade is in the oil sector which is heavily under Kremlin influence.  Thus, the biggest companies tend to be large oil companies: Rosneft, Lukoil, Surgutneftegaz, Gazprom Neft and Tatneft. As much of the oil is planned to go to China via pipeline, the state-owned monopoly for pipelines, Transneft and its subsidiary, Transnefteproduct, are also involved.  All the individuals who are in charge of these companies (along with the Kremlin) are involved.

One of the few things that Russians and Ukrainians can agree on right now is that China – and Asia as a whole – offer great financial opportunities at this time. When President Putin makes a public proclamation as he did on May 20, 2014 in Shanghai — “A Russian-Chinese Investment Committee has been set up to continue efforts to expand mutual investment,” one must believe that Russian money will follow Mr. Putin to China.  Notably, too, the Russian Minister of Economic Development Alexei Ulyukaev recently prepared a list of 57 state-affiliated businesses seeking to attract Chinese investments. The ministry is trying to attract more than $7 billion of Chinese investments in a wide range of industries.  Russian state bank Vnesheconombank (VEB) recently launched a Hong Kong subsidiary to encourage cross-border investments, and encourage more Russian exports into China. Russian aluminum company Rusal (in 2010) became the first Russian company to trade in Hong Kong, and it shouldn’t be a surprise if more Russian companies are soon listed on the Hong Kong Stock Exchange.

Q. Is there any sort of U.S. role as a conduit for Russia-Asia financial and business flows?

A. The U.S. is probably the largest conduit for Russia-China financial flows because all petro transactions must be made in dollars.  It is therefore impossible for Russia-China to trade oil without U.S. participation. Approximately 75% of Russia-China oil transactions are denominated in U.S. dollars.  Just this month, in order to lessen this need for the U.S. involvement (and the potential leverage such A need offers the U.S.), Russia and China signed a currency swap agreement in order to allow for greater trade between them of their domestic currencies.

That being said, both the Chinese and Russian sides have great interest in ensuring that portions of their respective profits are squared away in the U.S. as neither side really fully believes in a rosy future for their respective countries and economies.  The stability and rule of law of the U.S. is hard to ignore.

Q.  What’s the outlook for Russia-China business cooperation in the next 3-5 years?

A. The outlook is good in that China has a voracious appetite for raw materials and oil while Russia is rich in these products.  From China’s standpoint, dealing with Russia has the added benefit of dealing with a geographically closer and more stable region than the Middle East.  From Russia’s standpoint, China offers a large customer that is not only less judgmental of Russia but provides a nice counterbalance to the West.

Ultimately, though, there is a real cap on this trade in that China wants nothing but raw materials from Russia and cannot really provide the things that Russia needs which are currently provided by the West, such as sophisticated oil refining equipment or luxury goods amongst others.  Ultimately, for the average person, there is no question that trade with China is less beneficial than trade with the EU and U.S.