Print Friendly and PDF
only search openDemocracy.net

Russia’s crony capitalism: the swing of the pendulum

Cronyism has always played a significant part in Russian political and economic life, so the arrival on the scene 20 years ago of crony capitalism was no surprise. It has been through various stages over that period, ending up with the ‘predatory state’ that exists in Russia today. Vladimir Gelman wonders if it can move on or is the pendulum stuck?

In their assessments of the Russian political and economic system over the past few years, analysts have highlighted the significance of crony capitalism, where success in business depends first and foremost on informal links between interest groups and government officials, and resources and privileges are distributed according to the whim of those in power. While this is on the whole a fair description of the situation, it allows for no analysis of the dynamics of change in Russia over the last 20 years.

David Kang has made a considerable contribution to understanding the special features of crony capitalism in various countries. His theory is that the nature of the interaction between officialdom on the one hand and Big Business on the other depends on the degree of internal consolidation of each of the players. Are they united and organised as a group or sub-divided into a multiplicity of cliques in competition with each other?

'Over the last 20 years that Russia has been in transition from state socialism to crony capitalism, the trajectory of the shifts between the state and Big Business in the oil and gas sector has been very tortuous and much like the swing of a pendulum.'

Kang uses these criteria to identify the following situations: 

  1. rent seeking and state capture – Big Business is united and controls a weak and disjointed state apparatus;
  2. the predatory state - Business is divided into competing groups and a united state apparatus effects business capture;
  3. mutual hostages - civil servants and businessmen are united and organised in such a way that they balance out each other’s influence in politics and economics.

Over the last 20 years that Russia has been in transition from state socialism to crony capitalism, the trajectory of the shifts between the state and Big Business in the oil and gas sector has been very tortuous and much like the swing of a pendulum.

Big Oil and the growth of Big Business

The Soviet model for the relationship between the state and Big Business in the raw materials sector was the ‘point of departure’ for the establishment of crony capitalism in Russia and remains to this day the ideal standard for a significant section of Russian politicians and civil servants.

Lukoil_Kogalym

Russian oil giant Lukoil mini-refineries in Kogalym, western Siberia. Russia produces 12% of total world output. Under Putin the 'predatory state' has strengthened its control of the energy sector. Businessmen and civil servants with the right connections have been the biggest beneficiaries.

The ruling elites treat the sector, and the economy as a whole, in many ways very much as they did in the Soviet period. The Soviet government invested significant resources in developing the oil and gas industries and ran its enterprises through the sectoral ministries, but those working in the industries had considerable opportunities for lobbying their interests. During the 1970s oil boom period the Soviet economy was increasingly compelled to use revenues from oil and gas exports to provide for the country’s consumer needs, which meant the government had to meet the interests of the oil sector half way. Alexei Kosygin even had to make a personal appeal to the industry managers to increase oil production and exports so that the necessary quantities of grain could be purchased and imported. During this period the relationship between the state and the oil and gas sector fell into the ‘mutual hostages’ category: the political leadership relaxed its centralised control and the Soviet economy deteriorated.

The huge economic crisis at the end of the 1980s, which finally brought the system down, resulted in the collapse of the system for managing the various sectors of the economy.  The spontaneous development of the market changed the balance of power between the state and Big Business, which was left to its own devices and given almost unlimited opportunities for ‘rent seeking’: the ‘mutual hostages’ model collapsed and the industry’s enterprises came under the control of the managers. The formal preservation of state property at the beginning of the 1990s was only a façade: the managers of many of the enterprises belonging to the state were interested in seizing and stripping their assets and the state was in no condition to even levy taxes from them, much less provide them with any kind of effective management. For a long time Gazprom was a state within a state, paying taxes only after informal negotiations between the top managers and the leadership of the country. Given this situation, changes in the relationship between the state and Big Business were inevitable.

The waxing and waning of the oligarchs

In essence the Russian government of the 1990s was faced with the choice between supporting the oil and gas sector’s previous default ‘rent seeking’ position or transferring part of its assets into private ownership. The economy was in free fall, there was a high level of political instability, a bitter struggle for power and an acute fiscal crisis so the Russian government used privatisation to gain the support of Russian business. 

The 1995 loans for shares auctions saw the government pledging its controlling stake in the largest oil, metals and other enterprises to the Russian banks in exchange for money to be used as the government saw fit. What actually happened was that the authorities transferred control over various assets (including oil) to arbitrarily selected representatives of Russian business with whom they had close links, who in their turn guaranteed the government their political support in the run up to the presidential election scheduled for the summer of 1996. In this way the Tyumen Oil Company (TNK) passed into the hands of Alfa Bank headed by Mikhail Fridman; the YUKOS oil company became the property of Menatep Bank, headed by Mikhail Khodorkovsky and Sibneft was transferred to a holding company controlled by Boris Berezovsky.

'This 'state capture' period in Russia was quite short. After the 1998 financial crisis, Big Business influence on government decision taking was sapped, while the strengthening of the state's coercive capacity and Vladimir Putin coming to power dealt the oligarchs a crippling blow.'

Once the government had granted big business such significant privileges in the privatisation process, it found that it was very dependent politically on the big businessmen (the 'oligarchs'). This state of dependency became even more marked after the 1996 elections, when the spoils granted to various 'oligarchs' and their henchmen came in the form of high-up government posts which opened up new opportunities for further rent seeking. Several members of the Russian government attempted to place obstacles in their way, but these attempts were none too successful: by the end of 1997 they had lost the battle with the 'oligarchs.' These developments resulted in 'state capture' by Russian big business, which started to exercise crucial influence on significant political and economic decisions.

This 'state capture' period in Russia was quite short. After the 1998 financial crisis, Big Business influence on government decision taking was sapped, while the strengthening of the state's coercive capacity and Vladimir Putin coming to power dealt the oligarchs a crippling blow. In the summer of 2000, at a meeting with the oligarchs, Putin made Big Business an informal offer it couldn't refuse, which subsequently came to be called the 'barbecue agreement.' Essentially, the state would not revisit the question of property rights and would maintain an equal distance from the oligarchs, while Big Business would have to remain loyal to the authorities and not interfere in the most important political decisions. Those few oligarchs who didn't agree with the conditions of this informal agreement soon lost their assets and/or had to leave Russia. The remaining representatives of Big Business simply had no choice.

Putin_Khodor_Fridman

President Putin with Mikhail Fridman and Mikhail Khodorkovsky at the 2000 Kremlin meeting. He promised not to review the results of the Yeltsin privatisation if they would stay clear of politics. 3 years later Khodorkovsky was arrested and his oil empire, Yukos, dismantled, reinforcing state control of the energy sector.

The 'barbecue agreement' comes quite close to the 'mutual hostage' model. On the one hand the Russian government took a step towards the oligarchs by creating favourable conditions for the development of their business: in the course of tax reforms the government agreed rates and payment procedures with the oil company representatives, including the mineral production tax. In its turn Big Business gave its active support to the policy of re-centralising the state, which removed the barriers to business development and was aimed at creating a single all-Russian market. The authorities appeared to recognise the largest associations of Russian businessmen as their official junior partners. This balance of power between the state and Big Business had a beneficial effect on the direction of the economic reforms too, and on preserving political pluralism in Russia.

But the conditions of the 'barbecue agreement' could easily be reviewed unlaterally if the political or economic climate were to change. In the 00s world oil prices increased, as did the revenue from exports, and the Russian government became considerably stronger, which encouraged the authorities to reconsider the formal and informal rules of the game in their relationship with Big Business (especially in the oil and gas sector). This period saw Russia turning towards authoritarian government, restrictions on political competition and the strengthening of the Kremlin monopoly, so the extension of these tendencies to the economic sphere was the authorities' logical next step. 

In October 2003 Mikhail Khordorkovsky, chief owner and head of the largest private Russian oil company Yukos, was arrested on charges of tax evasion. Later he was given a lengthy prison sentence. His arrest brought the company down very soon: its main assets were sold to pay for its debts at a price considerably below its market value. In addition the Russian authorities, employing non-transparent methods and acting through dummy third companies, ensured the transfer of the companies belonging to Yukos to the state oil company Rosneft.

The return of the predatory state

The Yukos affair was a turning point in relations between the Russian government and Big Business: it marked the transition from a situation of 'mutual hostages' to a policy of 'business capture' and to the eventual establishment of the 'predatory state' in Russia.  This event opened up the way to a large-scale revision of property rights in the oil industry. Following on the effective nationalisation of Yukos, the Russian government began attacking other assets belonging to private Russian capital, or to foreign businesses. Essentially it was a move towards expropriating property in the oil industry and the transfer of assets to the control of state companies or private business connected to the authorities. This was 'business capture' by the 'predatory state'.

At the same time non-transparent management in the oil and gas sector became ever more entrenched, facilitating the growth of corruption and increasingly non-cost effective expenditure.  In the middle of the 00s a previously unknown company called Gunvor, headed up by Gennadii Timchenko, a former colleague of Putin's, suddenly appeared among the ranks of the world's largest oil traders. Up to 40% of the oil exported from Russia, mainly by state companies, was supplied to the world market by this company, but the activities of the company itself and its ownership structure remained opaque. 

'The Yukos affair was a turning point in relations between the Russian government and Big Business: it marked the transition from a situation of 'mutual hostages' to a policy of 'business capture' and to the eventual establishment of the 'predatory state' in Russia.'

During this period the performance of the Russian gas monopoly Gazprom deteriorated sharply: its operating costs increased rapidly and its debts even more rapidly, while gas production and deliveries to the domestic market remained virtually unchanged. The outcome of this large-scale increase in the presence of the Russian 'predatory state' in the oil and gas industry was a reduction in the efficiency of Big Business, turning it into a cash cow for the businessmen and civil servants with connections in the government.

All in all the relationship between the Russian state and Big Business during the last 20 years has been very like the swing of a pendulum. At the end of the 80s-early 90s (the end of the Soviet period), the pendulum started its swing from the 'mutual hostages' situation towards 'rent seeking', completing the swing at the extreme limit of  'state capture' in 1996-8. 

In the 00s the pendulum started swinging back towards strengthening government positions. It passed the equilibrium point ('mutual hostages') and in 2003-4 (after the Yukos affair) started moving fast in the direction of the 'predatory state'. Where it remains to this day. The pendulum can today be described as in a state of ineffectual equilibrium. The longer it remains in this state, the more jerky and painful will be its movements in the future.

About the author

Professor of political science at the European University in St. Petersburg, Russia. He is the author of 17 books and more than 120 articles on Russian and post Soviet politics.

Read On

Political Consequences of Crony Capitalism Inside Russia (Contemporary European Politics and Society), by Gulnaz Sharafutdinova, University of Notre Dame Press, 2011, 312 pages

Conversations on Russia: Reform from Yeltsin to Putin, by Padma Desai , Oxford University Press, 2006, 398 pages

Petrostate: Putin, Power, and the New Russia, by Marshall Goldman, Oxford University Press USA, 2008, 256 pages

Putin's Oil: The Yukos Affair and the Struggle for Russia, by Martin Sixsmisth, Continuum Pub Group, 2010, 288 pages

Putin: Russia's Choice, by Richard Sakwa, Routledge, 2004, 32o pages

The Crisis of Russian Democracy: The Dual State, Factionalism and the Medvedev Succession, by Richard Sakwa, Cambridge University Press, 2010, 418 pages

More On

Dmitri Travin: Introduction

In the autumn of 1991, a group of young economists headed by Yegor Gaidar started working on a series of economic reforms for Russia.  In celebration of this 20th anniversary, we are this week publishing a series of 5 articles. They are written from various standpoints and consider the successes and the failures of these reforms.

On the one hand, it is clear that there have been qualitative changes in Russia, which have led to it becoming more or less a market economy. 

On the other hand, the authors’ assessment of the rate of change, the results of privatisation, the influence of the politics on the economy, the scale of corruption and the development of the banking system has led them to conclude that Russia today is in a very difficult place because the changes have ground to a halt.

These 5 articles are the fruit of cooperation between Open Democracy Russia and 2 of St Petersburg’s academic institutions: the M-Centre [Centre for the Study of Modernisation] at the European University of St Petersburg, and the Friedrich von Hayek Institute. The authors are:

  • Dmitry Travin, Head of Research, M-Centre and Professor, European University of St Petersburg
  • Vladimir Gelman, Executive Director, M-Centre and Professor, European University of St Petersburg
  • Andrey Zaostrovtsev, Lecturer, M-Centre and Professor, Higher School of Economics
  • Pavel Usanov, Director, Hayek Institute and Reader, Higher School of Economics
  • Pyotr Filippov, well-known politician, Duma Deputy 1990-93, Head of the Social and Economic Policy Analytical Centre, Presidential Administration

  • We encourage anyone to comment, please consult the
    oD commenting guidelines if you have any questions.