Credit Crisis: The Risk Hits Russia

RUSSIA Take a stroll through central Moscow, and you'd be hard-pressed to find evidence of the global economic turmoil. Shiny new malls are packed with shoppers. The streets are filled with Mercedes, BMWs, and Land Rovers. On the Presnenskaya Embankment, overlooking the Moskva River, a half-dozen skyscrapers are nearing completion at the Moscow International Business Centre, a $12 billion development intended to become the city's new financial hub. The world credit crisis "doesn't affect us at all," says Tatiana Ilyinishna, a pensioner hauling bags of groceries outside a supermarket near the city's Kiev Railway Station. "Everything here is splendid."

But scratch the surface a bit, and things are less splendid than they appear. As the financial crisis spreads, Russians are suddenly discovering that their economy is shakier than many had cared to believe. Credit is increasingly tight, economic growth is slowing, and Russia's fragile financial markets have taken a beating. On Oct. 6 the benchmark RTS index plunged 19%, to its lowest level since August 2005. "The current situation is very serious," says Evgeny Nadorshin, chief economist at Trust Investment Bank in Moscow. "A few months ago we thought that we could look forward to a calm life, but now we've lost our advantage and are in the same boat as everybody else."

"ROGUE STATE" FEARS

Western investors have pulled out en masse in the past few months. Until recently foreigners accounted for up to 70% of investment in Russian equities. They started throttling back earlier this year as they began to worry about increasing risk in emerging markets. Then they got spooked by Russia's invasion of Georgia and began stampeding for the exits. With the collapse of Lehman Brothers in September, the stampede turned into a rout, forcing almost daily halts in trading. The market is down 60% since peaking in May. Falling oil prices, meanwhile, have taken some of the luster off Gazprom, Rosneft, Lukoil, and other stars of Russia's key export sector.

Nor is it just bankers and portfolio investors who are becoming stingier with their cash. Foreign direct investment, crucial to the modernization of Russia's economy, is off sharply. In the first half of this year, government statistics show, long-term investment in factories, real estate, and companies fell by 30%, to $11 billion. And things have only worsened since the war in the Caucasus and the tussle last summer over TNK-BP, a troubled joint venture between oil giant BP (BP) and Russian billionaires that led to the ouster of its CEO, Robert Dudley. "Before Russia invaded Georgia, I was getting 100 to 150 e-mails a day that required a response. I was getting five afterward," says Jamison Firestone, manager of law firm Firestone Duncan in Moscow. "When you talk to investors now there's a general sense that Russia is turning into some kind of rogue state."

WORSE TROUBLES AHEAD?

As the financial crisis intensifies, economists no longer debate whether growth will slow in the Russian economy but by how much. The International Monetary Fund, for instance, on Sept. 26 cut its Russian growth forecast for 2008 from 7.7% to 7.1%, and for next year it's now predicting 6% to 6.5%, down from 7.3%. While 6% growth may sound pretty good, last year Russia's economy expanded by 8.1%. And some are warning of far worse troubles ahead if the financial crisis persists. "I think it's a massive negative. We are going to see a sharp decline in the growth rate," says Anders Aslund, senior fellow at the Peterson Institute for International Economics in Washington. If oil prices plunge to $50 per barrel, Moscow analysts warn that growth could fall below 4%.

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