The Next Asian Tiger? Promoting Prosperity in the Russian Far East
(Archived document, may contain errors) 997 August 18,1994 THENEXCASIANTIGER PROMOTING PROSPERITY IN THE RUSSIAN FAR EAST INTRODUCTION As the nuclear belligerence of North Korea threatens to engulf…

(Archived document, may contain errors) 997 August 18,1994 THENEXCASIANTIGER PROMOTING PROSPERITY IN THE
RUSSIAN FAR EAST INTRODUCTION As the nuclear belligerence of North
Korea threatens to engulf the Korean peninsula in military
conflict, the Russian Far East, long the preserve of Stalin's co
ncentration camps, brown bears, and Siberian tigers, may be on the
verge of sharing in the growing prosperity of Asia and the Pacific
Rim. The Russian Far East comprises lands stretching from Lake Baikal
in Siberia to the shores of the Sea of Japan and the Sea of Okhotsk
at the edge of the Pacific Ocean. Ma- jor cities include Chita in
Eastern Siberia, the industrial center of Khabarovsk, and the port
city of Vladivostok on the Sea of Japan. Some of its administrative
territories are larger than European s t ates and populated almost
exclusively by Russians and Ukraini Since the collapse of the
Soviet Union in 1991, the Russian Far East has improved its 1 anS
economic ties with Japan, South Korea, and China. Since 1990 the
percentage of ex ports attributed to Russian Far Eastern joint
ventures with foreign firms in such indus tries as lumber, oil and
gas, and seafood harvesting has grown from 2 percent to over 30
percent. Moreover, while producing only 5 percent of Russia's Gross
National Product the Far East a ccounts for 20 percent of its joint
venture partnerships between Russian private companies and foreign
investors vestors from Asia and elsewhere around the world, drawing
hundreds of thousands, if 2 Such growth in foreign trade could
transform Russia's ba ckyard into a magnet for in 1 2 Vladimir
Ivanov Federation on the Pacific: Does the Crisis Lead to Collapse
Eurasian Repom, Winter 1993. p. 68. George Rose and Igor Korbatov Doing Business in the Russian Far
East ern Europem Reponer, Vol. 4, January 31,199 4, p. 106. not
millions, of unemployed Russians from the rust belts in the Ural
Mountains and Si beria to a region that may develop closer economic
ties with Vancouver Tokyo, and Se attle than with Moscow and St.
Petersburg An economic take-off in the Rus s ian Far East would
help to integrate Russia and the Newly Independent States (NIS)
into the economy of the Pacific Rim, where annual economic growth
below 8 percent is considered sluggish. Strong trade with the
United States, Canada, Japan, South Korea, a nd China would provide
export outlets for Rus sian products and offer access by foreign
investors to the untapped natural resources of Siberia. However this potential cannot be unleashed so long as the region
is handicapped by the contradictory and ineffec tive economic
policies of the central government in Mos cow. The best way to
unleash the forces of entrepreneurship in the Russian Far East is
to grant the region more autonomy. If Moscow were to do so, the
region could become a catalyst for economic grow th throughout
Russia. To realize the economic potential of the Russian Far East,
Russia should consider d Declaring the Russian Far East a free
economic zone, opening coastal ter d Abolishing tariffs, import and
export taxes, and customs duties for trade i n the area. This would
attract foreign investment from all over the world while
facilitating Russias bid to join the General Agreement on Tariffs
and Trade (CAW and the Asia-Pacific Economic Cooperation forum, a
17-mem ber multilateral trade organization f ormed in 1989 ritories
to the free flow of foreign investment and trade. d lifting
cumbersome restrictions on the movement of hard currency in and out
of the area. Russian banks and enterprises are bound by the un
wieldy regulations of the Central Bank in Moscow. Foreign banks
operating in Russia likewise are severely restricted in their
ability to serve Russian clients. These arbitrary regulations hamper the foreign economic
relations of Russian businesses and stem the development of the
region and of the country as a whole d Eliminating regulations on
the export of socalled strategic commodities such as sugar, timber,
fertilizers, and plastics. The Russian government has declared that
over three hundred commodities are strategic goods requir ing
export l i censing by Moscow bureaucrats This licensing process not
only encourages official corruption, but also stifles economic
growth d Cancelling regulations requiring Russian companies to sell
50 percent of their hard currency earnings to the state This measur
e would reduce the cost of doing business in the area and eliminate
the unfair competitive edge now enjoyed by the foreign-owned
enterprises and joint ventures that are exempt from these
regulations d Providing a ten-year tax holiday for foreign and
domest i c investment abolishing the most burdensome taxes, and
introducing a 10 percent consumption tax instead. This would
simplify what is today one of the most 2 THE I punitive, arbitrary,
and complicated tax systems in the world. Lower taxes would
stimulate e m ployment, investment, and economic growth d
Establishing economic missions in Japan, Korea, China, Taiwan, the
U.S and Canada to promote investment in the Russian Far East d
Setting up a privately administered bank for regional development.
Capi tal could be provided by multilateral lending agencies such as
the World Bank and private international investors d Protecting the
environment by developing tourism and running an effi cient
national park system. The potential for tourism in the Russian Far
East is enormous. Tourism could generate billions of dollars in
revenue that could be used to clean up the polluted Pacific
landscape and save the Siberian tiger and other endangered species
d Privatizing major infrastructure projects and opening them to
Western a nd Far Eastern investors d Devising laws and regulations
that allow for the negotiation and en forcement of contractual
obligations between parties, regardless of their nationality d
Boosting law enforcement against organized crime and corruption.
This co u ld be done by creating a professional, highly paid
special police force, per haps with the help of the U.S. and other
Western countries. In addition, deregu lation of the economy would
decriminalize many of the activities, such as im port and export
licen s ing, that breed corruption d Resolving the Northern
Territories problem with Japan. This would re move a major
disincentive for increased Japanese investment IMPERIAL PAST The
Russian Czars brought the Far East under their control during the
17th to 19th c enturies. For most of Russias history, Moscow was
interested in the region because of its abundance of such natural
resources as furs, fish, and gold. In the 17th century fur pelts
accounted for more than half of the Russian empires hard currency
revenue, and the desire to gain access to the furs in the Siberian
forests was a strong incentive for eastward expansion. In addition,
gaining access to the Pacific Ocean through such naval bases as
Vladivostok and Port Arthur was seen as a vital strategic goal. A fter the czarist empire collapsed in 1917, the city of
Vladivostok and the surround ing Maritime Province declared itself
an independent republic. The Russian Far East then became one of
the most important battlegrounds of the Russian Civil War. In 1919
a small expeditionary force of U.S. and Japanese troops landed at
Vladivostok to assist the White Army against the Bolsheviks. By
1922, however, the Russian Far East was completely under communist
rule 3 During and after World War 11, the Soviet government d
eveloped a vast military-in dustrial complex in the region, and
Vladivostok became a huge base for the Soviet Navys Pacific Fleet.
The town of Komsomolsk-na-Amure on the Amur river became a nuclear
submarine construction center while military aircaft were built in
the city of Khabarovsk, the old Russian government center in the
region 4 Terrible environmental damage was done when decommissioned
nuclear reactor cores were dumped into the Sea of Okhotsk in the
1980s, polluting the water and Kam chatka Penins u la's pristine
beaches. The fish became contaminated but were sold to an
unsuspecting Soviet population. Throughout the Soviet period,
Moscow extracted enor mous valuable resources from the region while
the government remained its major em ployer and suppl ier of
investment capital. It is no surprise that after centuries of such abuse, Far
Easterners jumped at the first opportunity presented by Mikhail
Gorbachev's perestroika to gain more freedom. The Russian
Federation Supreme Soviet established in 1989 the Nakhodka Free
Economic Zone near Vladivostok. Located only a couple of hours
drive from Vladivostok Nak hodka is a huge port capable of
servicing 33 cargo ships simultaneously. Last year alone, it
handled nine million tons of logs, ores, fertilizer, and o ther raw
materials This zone was seen by many Far Easterners as a means to
gain some measure of free dom from Moscow But the zone experienced
many of the same problems seen through out Russia today, including
the absence of a workable commercial code and a lack of re spect
for the rule of law and property rights. The Russian Supreme Soviet
delayed pass ing a Free Economic Zone law, thus stalling
legislation that would have encouraged eco nomic development in the
Far East and other areas of the Russian Fede r ation As the
Nakhodka experiment has shown, the existing approach, with the
parliament and bureaucracy in Moscow deciding every case, is not
working. During 1990 and 1991, the Russian Supreme Soviet
authorized the establishment of thirteen Free Eco nomic Zones. They
were not very successful. Local governments were denied the power
to grant tax exemptions or legislate pro-business customs and
foreign exchange re gimes. The failure of the free economic zones can be attributed mainly
to the contradictory and ineffective economic policies of the
central government In May 1994, the Russian government announced
export tariff exemptions for foreign enterprises and joint ven
tures! Unfortunately, the May 1994 decision covered only businesses
registered before Janu ary 1,1992, and after January 1,19 94. Ventures created in 1992-1993 period were not covered by the
legislation. President Yeltsin issued another decree in May 1994 reducing the
corporate income tax to 30 percent, simplifying the tax structure,
and abolis hing some of the numerous ar bitrary and punitive taxes.
Unfortunately this was accompanied by a decision to raise taxes on
individual incomes of over 1,0oO a month to 50 percent and to
increase prop erty taxes. With social security and other payments,
Ru ssian workers are paying over 80 percent of their income in
taxes. The Russian Duma, like its predecessor, the Supreme Soviet, is
stalling important amendments to laws on foreign investment and
natural resources. This precludes greater Western participatio n in
the development of Siberian oil, gas, coal, and diamond depos 3 3 4
Vladimir Ranenko he FEZs' Economic Prospects International Affairs,
Nos. 11-12, 1993, p. 32. According to the decision, only joint VenNreS With at least
thirty percent of Western par ticipation, or at least ten million
dollars of investment, are exempt from the tariff and tax 5 its
that would benefit Russian Far Easterners. In the absence of a
special Free Trade Zone law and a strong legal infrastructure,
foreign investment in the Nak hodka Free Economic Zone has been
poor, totalling only $1 18 million. Industrial production by joint
ventures in 1993 was only $54 million. The Moscow bureaucracy continues to resist the decentralization
that is needed if the Far East regi on is to reach its full
potential. Through stifling regulation of economic ac tivity,
bureaucrats are choking economic growth and breeding corruption,
inefficiency and misery. Far Eastern businessmen and their Western
counterparts often spend more time de a ling with government ofices
in Moscow than tending to their businesses back home. Even simple
business transactions, such as opening a factory or obtaining a min
ing license, involve a frustrating permit approval process through
ministries in Moscow often accompanied by bribes at every level of
the bureaucracy 5 Rich in Resources, Poor in Infrastructure The
Russian Far East is a cornucopia of natural resources and, under
the right circum stances, could become a magnet for foreign
investment. Oil extraction off the shores of Sakhalin Island would
spur economic growth throughout the entire region. Japans Min istry
for International Trade and Industry (MITI) is drawing up plans to
turn the port of Niigata on the Western coast of Japan into a major
import facil i ty for Russian gas; the Western Japanese Aomori
prefecture also is interested in Russian gas; and there are plans
to build a huge 5,OOO-kilometer pipeline to import Sakhalin gas to
South Korea and Japan including Mitsubishi, Mitsui, Nissan, Honda,
Gold St a r, Daewoo, and Hyundai among others-already have
established a presence in the area. Numerous Chinese companies
trading in consumer goods and foodstuffs are grossing over $900
million a year. Indeed, a separate FEZ recently was created on both
sides of th e Russian-Chinese border adjacent to the cities of
Blagoveshchensk and Heihe? The Russian Far East is important also because it links the
Pacific Rim with the Eur asian continent. The Russian Far East is
adjacent not only to China, Korea, and Japan but als o to Eastern
Siberia, which is rich in such minerals as diamonds, gold, platinum
oil, and gas. Ports at Vladivostok, Nakhodka, and Vostochny serve
as tenninals for the tramSiberian railway and as eastern gateways
to Russia, the Commonwealth of Inde penden t States, and
Europe. Because of its prime location, and despite the often hostile
business and investment climate, the region has begun to attract
some Western investors. For example, the US. Overseas Private Investment Corporation (OPIC) and the Europea n
Bank for Recon struction and Development (EBRD) in May 1994
announced a gold mining project in the Russian Far East. The
project is being conducted by a joint venture called Omolon which
includes U.S. Cyprus Amax Minerals and five regional Russian compa
nies 6 Owing to the appearance of the Sakhalin and Nakhodka FEZs,
Asian industrial giants 5 Personal interviews, January-May 1994 6 7
Intercons Daily, March 21,1994, p. 2, and Ivanov, Federation on the
Pacific. p. 76. Russia to Build Cross-border FreeTrade Zone. Zinhua Geneml
Overseas News Service, January 4,1994 6 Omolon will develop the
Kubaka gold and silver deposits near the city of Ma gadan. OPIC
will provide 150 million for insurance and 55 million in invest
ment guarantees,8 and the EBRD will pro vi d e 55 million in
fmancing. A feasibil ity study by Vancouver-based Kilborn En
gineering Pacific Corporation concluded that the Kubaka deposit has
2.2 million ounces of proven recoverable gold re serves and 1.7
million ounces of silver re serves. The seven- year project calls
for the deposits to yield 326,000 ounces of gold and 255,000 ounces
of silver annu ally? Increasing the number of such projects however, is hindered by a
lack of infra structure. The region lacks transportation and
communication links, d ata process ing services, hotels and
adequate hous ing for foreign businessmen and their families. For
example, the price of real estate in the two major cities
Khabarovsk and Vladivostok, is skyrock eting because of a lack of
.dequate hous ing and office space. In 1992, a standard Russian
one-bedroom apartment sold in Vladivostok for 15,000; it is now
twice as expensive, and land in or near the port facil ity has
tripled or quadrupled in price. The railroads and highways of the Russian Far East are in dis
repair. The Soviet-era Baikal-Amur railroad, which runs north of
the czarist-built trans-Siberian, is often closed for repairs. For
long stretches it consists of a single track. There are no links be
tween the Baikal-Amur railroad and the old trans-Siberi a n railway
and no links with railways in European Russia, Korea, or China.
Roads throughout the region are poor and traffic from the Far East
into Siberia and European Russia is hampered by the ab sence of
bridges over the Amur and Lena rivers Similar prob l ems afflict
the regions telecommunications system. Western business men
accustomed to faxing information from their computer screens and
conducting 8 Inrercons Daily, June 9,1994, p 2. As a part of its
plans to boost insurance and investment guarantees to American
corporations doing business in the former Soviet Union area, OPIC
announced in May 1994 that it will increase its commitment from $1
billion to $2.5 billion 9 Infercons Daily, June 9. 1994, p. 2 10
Rose and Korbatov, Doing Business in the Russian Far East, p. 106 7
business via cellular telephones in their cars soon learn that
telephone service in the Russian Far East is worse even than in the
Western parts of Russia around Moscow. Some of these problems are being corrected slowly. In
Khabatovsk, the Marriott Cor poration is building a five-star
hotel; Japanese companies are developing commercial real estate;
and the French Thomson electronics conglomerate is overhauling the
air traf fic control system at the local airport. Contracts have
been awa r ded to foreign compa nies for expansion of the airport
at Vladivostok, and planning for a much larger interna tional
airport has begun Feasibility studies also are being conducted for
the conversion of some military air fields to commercial use. For
examp l e, a military airfield in Yelizovo, Kamchatka which is
halfway by air between Hong Kong and the West coast of North
America, is being used as a refueling stop by a California-based
company. It finds the Kamchatka airport to be cheaper and more
convenient than the nearby Narita airport in Japan. Here American
ingenuity and Russian defense conversion have combined to create a
lucra tive business venture. Some modest progress also is being made in satellite
communications, digital ex change networks, and micr owave
transmission facilities. Joint ventures with American and Japanese
telecommunications firms such as AT&T, MCI, and U.S. West are
provid- ing satellite telephone connections from hotels,
long-distance calling, and E-mail sew ice 12 NATURAL SPLENDOR A N D
THE POTENTIAL FOR TOURISM Throughout the Russian Far East are large
and virgin forests, majestic rivers, crystal clear lakes, and
unspoiled mountain ridges. The Kamchatka peninsula, which protrudes
into the Sea of Okhotsk, is as pristine as the American West of the
1860s. With fewer than half-a-million people, and with its geysers,
bears, and rivers that run red with salmon, this is an area that
could beckon to Japanese, Chinese, and American tourists. Despite this potential, the absence of effective lan d
management and game preserve techniques are threatening the
ecological balance of the region. For example, poachers have nearly
killed off the Siberian tiger, which is valued for its fur and
bones, and used for traditional Chinese medicines. Even the ma l e
tigers reproductive glands are prized by wealthy Chinese for use in
aphrodisiac soups. Once the kings of the Siberian jungle only some
150 of these magnificent cats are left in the forests around
Khabarovsk, the administrative center located in the hear t of the
region. However, there are signs of hope. In the Kronotsky and South
Kamchatka nature re serves on the Kamchatka peninsula, specialized
Russian and joint venture companies bring in wealthy Japanese and
American clients for safari expeditions and t ourism. In some
areas, the only transportation for adventurous travellers is by
helicopters which are provided by Russian and Russo-Japanese joint
venture companies. Westerners are 11 Yelizovo is located near
Pmpavlovsk-Kamchatsky, capital of the Kamchatk a peninsula 12 Rose
and Korbatov, Doing Business in the Russian Far East, p. 108 8
flocking to the largest geyser natural park in the world, and
salmon fishermen pay hand somely to spend a week or two on the
banks of some of the clearest streams on Earth R ussian experts
estimate that the region could generate $1 billion in tourist
revenue by the year 2005 THE DISPUTE OVER THE KURILE ISLANDS An
economic boom in the Russian Far East would require the
participation of Japan. Technically; however;Russia and Jap an have never ended the
Second World War. The sources of this conflict are well-known.
Promising to invade Japan after the victory in Europe, Stalin in
July 1945 broke his 1941 nonaggression pact withTokyo and occu pied
the southern half of Sakhalin and t h e Southern Kurile islands
(see map).13 Despite Japans willingness to recognize Russias claims
to Sakhalin Island after World War 11 in exchange for the return of
the Kuriles, Stalin persisted in occupying the Northern Ter
ritories. As a result, Russo-Japa nese relations have been poisoned
for the past four dec ades. Tokyo has never recognized the Russian
occupation of these islands. There have been attempts to resolve the dispute. In 1956, the
Soviet government pro visionally recognized Japans claims to the
two southernmost Kurile Islands, Shikotan and the Habomais, while
Japan promised to give up its rights to Sakhalin. However, the
drawn-out peace talks failed because Moscow refused to vacate the
Southern Kuriles. From 1989 to 19 92, the Soviet and later Russian governments
were close to restoring Japanese sovereignty to the islands in
return for economic assistance from Tokyo, but Russian nationalists
repeatedly derailed these efforts, arguing that these territories
are forever R u ssian and should never be returned Kurile Islands.
In March 1994, apparently mindful of the strong showing of
hard-line communists and nationalists in the December 1993
elections, Russian Prime Minister Victor Chernomyrdin told Japanese
Foreign Minister T s utomu Hata that the dispute would not be
resolved soon ilt is not the kind of problem that can be solved in
one leap.14 In the same meeting, however, Chernomyrdin also called
for negotiations to resolve the territorial dispute in Japan and to
conclude a R usso-Japanese peace treaty as soon as possible. Japanese economic assistance to Russia, and especially to the
Russian Far East, is de pendent on a resolution of the Kuriles
Islands dispute. Without the nod fromTokyo, vi tal Japanese
investment in the regio n will not materialize Over the last year,
the Russian government has sent out mixed signals concerning the 15
13 Ihe Southern Kuriles, referred to as Northern territories by the
Japanese, include the islands of Kunashiri, the Habomais (a chain
of small i slands Etorfu (Irurup in Russian and Shikotan 14
Intercons Daily, March 21,1994, p. 1 15 RFE-RL. Daily Report, March
22,1993, p. 2 9 WHAT ISTO BE DONE The Russian Far East could become
the engine of economic growth for all of Russia. The Russian government should be looking to the example of
China, where the intro duction of liberal economic policies tripled
the living standard of the people in ten years. Pulled along by the
southern economic engine, the Chinese economy grew at an average
rate of 1 1.2 per c ent from 1991-1993, and the forecast for the
years 1994-2003 is for an annual growth rate of at least 8.6
percent. l6 Prime Minister Chernornyrdin was so impressed
with-these bustlingzones during-his May 1994 visit to China that he
declared his full suppo r t for the Chinese experiment and he
promised to implement such reforms in Russia If Russia waits to
achieve similar results, the Russian Far East, with its vast
resources and geographic proximity to the successful Chinese model
is a logic$ place to start T hus, the Russian government should
consider r/ Declaring the Russian Far East a Free Economic Zone
(FEZ The Soviet legislature created the first FEZs in 1989 as a
capitalist experiment. One of the first was the FEZ of Nakhodka.
Another major FEZ, operatio n al since 1992, is on Sakhalin Island.
In the spring of 1994, a huge oil development project off the
shores of Sakhalin, known as Sakhalin-2, with estimated resources
of over 8.5 billion barrels, was moved one step closer to
implementation. The signing of a protocol between a Russian
state-owned oil company, Rosneft, and an in ternational consortium
known as 4MS will bring Western investments total ling over $10
billion to the venture during the next ten years. Non-Russian in
vestors include Marathon Oil Co McDermott International Inc Mitsui,
Mit subishi, and the Royal Dutch Shell Group. The deal was finally
signed by Prime Minister Chernomyrdin during his visit to
Washington, D.C on June 22,1994 To sustain the momentum of economic
development, the Russian F a r East needs foreign investment and
free trade zone laws that allow local authorities and the business
community freedom of action. Both Russian and foreign observers
have called for the passage of such laws to end the climate of
economic and investment u n certainty in the area. If Russias
lawmakers continue to stall the needed com prehensive legal reform
as they have been doing since 1990, the legislatures of the Russian
Far East administrative regions should agree among themselves on a
com mon free trade z one law and pass it simultaneously, thus
taking responsibility into their own hands. The future law should
incorporate the ideas of economic freedom and practical experience
with Free Economic Zones found in China, Hong Kong Singapore, and
Dubai where gov e rnments have reduced taxes and regulation dra
matically, allowing the free movement of capital, goods, and
people. These actions have fostered some of the most impressive
economic growth in this century 16 World Bank economic forecast,
June 1994 17 Nakl~o d ka as a Model for Russian Free Economic
Zones. an international conference, Inremarionuf Affuirs. Moscow
1993 10 The proposed law should also prevent government bureaucrats
from turning the Free Trade Zone into a cash cow for themselves
through the overre g ulation of for eign and domestic business,
preferential sales of licenses, and other means of cor ruption
practiced elsewhere in Russia. Specifically, the Russian law should
privat ize port facilities and abolish the current requirements for
governmental p ermis sion to export goods, with the exception of
weapons and military technology items d Abolishing tariffs, import
and export taxes, and customs duties for fop eign trade To
stimulate trade and investment, most government duties which today
are prohibit i vely high and punitive, should be abolished. Taxes
to abolish: a 26 percent oil export tax, a 130 percent automobile
import tax, and an 80 percent tax on foreigners incomes over $l,OOO
a month. Such tariffs and taxes impede international commerce and
indu s trial output. They also lead to corruption, as customs and
tax officials use their positions sonal enrichment. The only
function that should be left to the customs officials should be to
prevent unauthorized trade in regulated materials and substances
suc h as drugs and arms a source of per Getting rid of export
tariffs will facilitate Russias joining the General Agree ment
onTariffs and Trade (GATT) and becoming a full member of the World
Trade Organization WTO which will issue regulations dealing with
tra d e in commodities and raw materials. It is in Russias
interests to expose its large but in efficient industry to
international competition to increase productivity In addition
Russian consumers will benefit from an abundance of goods from
various foreign s o urces. Harmonizing Russian export