Will corruption finish the Russian economy within three years? Russian economist Evgeniy Arsyukhin thinks it will, in an opinion article for Komsomolskaya Pravda!

It is hardly a secret that my lovely wife Olga comes from Russia; a country that I had the pleasure of visiting on a number of occasions.  

Of course, Russia is very much in the spotlights nowadays, because of the Olympic Winter Games in Sochi and the pomp and circumstance around it.

Currently, the discussion in the West and especially in The Netherlands is very focused upon the Russian ‘anti-gay legislation’ and a number of other issues, which would not be unbecoming in your typical ‘cold war day at the office’ in the eighties of the last century.

The old-fashioned polarization between East and West is 'back en vogue' in the Western world; Vladimir Putin is an ideal Russian president in that respect, as all prejudice about him seems to be true.

One aspect of the Olympic Games has NOT been mentioned very much in the host of Western news about Russia lately: the ubiquitous corruption that has surrounded the building process of the Sochi venue. With €40 - €50 billion in total expenses, the Olympic games in Sochi will be – by far – the most expensive games in history.

At the same time, there have been the wildest guesses with respect to the amount of money, which has been embezzled during the building process. Some people in Russia guess that this is amounting to somewhere between €10 and €20 billion.

In an opinion article in the Russian online newspaper Komsomolskaya Pravda, the Russian economist Evgeniy Arsyukhin sheds some light at how such frauds take place.

Arsyukin is very negative about the chances for survival of the Russian economy: he states that this kind of widespread corruption will bring it down within three years, as all state funds have run out at that time.

I will print here the largest part of this KP article. It has been initially translated by Google Translate and afterwards improved by Olga and me, to get the ‘Double Dutch’ out of it…

Corruption might finish off the Russian economy within three years

Our economic commentator Evgeniy Arsyukhin believes that "the process of decomposition of the ‘state machinery’ has a clearly defined end":

Even the officials admit corruption – which is tragic for our country. 

Money leakage causes a 20% loss within the Russian GDP: these estimates come from government documents, although government officials have deployed smokescreens about this. 

Does this mean that this process of corruption can go on indefinitely? And that in ten or fifty years certain people still will be stealing and people with low wages will still complain about the high prices in Russia?

I don’t think so. In my opinion, the decomposition process of the ‘state machinery’ has a clearly defined end. There is a limit beyond which corruption will simply start to eat the economy. Here's why.

The thesis, that “people in Russia have always been stealing" is incorrect.

The current wave of corruption has emerged quite recently: since about the year 2000. Since then we can recognize the patterns in the statistical data that corruption started to distort the Russian economy

Please take a look at the following paradox. Worldwide, government contracts are a dream for businesses. Businesses battle with their competitors to acquire such contracts. The state always pays its bills, which means guaranteed financing – and that is very good.

However, if you read an official Russian government contract, you will think: ‘What kind of fool will sign such a contract?!’. The terms of the government contract could ruin your business. Nevertheless, in Russia there are hundreds of ‘fools’, who enter into a seemingly very unfavourable contract with the government.

The reason that they do so, is because there is a snag in such contracts: they open the floodgates for stealing. The government official, who makes up such an unfavourable contract, leaves a few loopholes in it, which make it possible for him AND the contractor to steal.

Around 2003 the government seriously wanted to stop the payment of kickbacks in Russia. They did so by making the terms of government contracts so unfavourable, that nobody wanted to sign them anymore.

In a counter movement to this, a new kickbacks system formed around 2004; a time when the oil price increased dramatically. This soaring oil price led to inflation in Russia, as especially building materials quickly rose in price.

State contracts often took a long time to develop. When a contractor for instance subscribed to building a dam for €1 million and he started to build it, it could be that the price of his building materials doubled in the meantime. This would leave him with a loss of say €500,000 at the end of the project.

Then the Rusian state – probably with the best intentions – introduced a system in which the price of the object could go up during the building process. In other words: “if your building costs will rise, the state will pay a higher price for it”.

Barely a few months after this system had been introduced, it had grown into a “business”.  Officials drafted contracts in such a way, that these seemed totally unprofitable in the eyes of unsuspicious contractors. This circumstance scared away all contractors, who were not “in the loop” of the government official.

The people who were in the loop, however, understood the contract and entered into it. During the project, the involved contractors charged construction rates, which were 5-10 times higher than the original budgeted expenses. And in the end, the contractor and the official splitted the difference of the excess margin: everybody happy.

In this way, the country has been robbed for ten years, blowing the public investment resources to smithereens. The investment money of state companies is gone now. In 2009, we took the money from the anti-crisis aid fund and its also gone now. 

The only money that we have left now, are sovereign wealth funds. This money was stashed outside Russia, but this year we will start using this money too. And in a few years it will be gone.

People come up with all kinds of fake projects: ‘bridges to nowhere’. These projects should be paid from the Russian National Welfare Fund. Let’s say that such a project costs €2.5 billion. "We" make a request for the money and we get it. I’m not exaggerating. This is how things happen.

Until now, officials declare that the government-lended money should come back on delivery / sale of the object and that not all the fund money from the National Welfare Fund will be used in the process.

Unfortunately, however, the projects are already reaching the limits of this National Welfare Fund. And what about the repayment of the borrowed money? That is easy. The contractors just point at the current crisis and state that they can’t repay the borrowed money anymore. These debts are often retracted then. This has happened many times already.

It is easy to calculate, that at the current spending rate of the National Welfare Fund's money, the fund will run on empty within three years. And this will be the final frontier, beyond which there is no place to retreat.

When this happens, the Russian economy would be completely sucked dry, and you could even state that the economy of the country would simply cease to exist.

Once ... I talked to one senior public servant, and he told me:

"Do you remember the administrative reforms, which happened in 2004?"  

In that year federal officials had to cut their expenses ferociously. You could say that the Russian government almost stopped working during that year. Is it coincidential, that the Russian GDP grew with the highest rate in a long time, during that year?  

In other words: it is better for the Russian economy when the government doesn’t work. I have been told officially! Should we not do something about this?

This is a shocking story to read for everybody that bears symphathy for Russia and especially the middle-class and lower class Russian people. You see that their money is squandered in this ubiquitous corruption.

Especially in the vast rural areas of Russia with their extremely awkward climate, these state budgets are indispensable for the necessary bureaucracy, education, healthcare and social security for the people living there. 

Circumstances like poverty, unemployment, desperation and alcohol abuse are widespread in those areas. When the state money is gone, the consequences there could be devastating.

You should not forget that the void between Moscow & St-Petersburg and the rest of the country is unbelievable in Russia. The splendour of these two cities is world-famous and attracts the richest people and investors from around the globe. However, non-touristical visitors of the country, who took the time to look beyond these cities, know that there is a different Russia.

You only have to drive 50 kilometers away from the ‘tinseltowns’ Moscow and St-Peterburg, to get into another world: you leave the outrageously luxurious GUM department store on the Red Square and enter towns and villages with wooden houses. The people who live there, must do without supermarkets, running water and even without a gas connection. These are towns where employment and possibilities for growth are scarce and where Czar Vodka already has ruled for decades and will rule for decades more.

Although the thesis, that the Russian economy will run dry of money in three years, is perhaps a little bit too pessimistic, I consider this article nevertheless a warning statement.

I hope – against better knowing – that the Russian government will take it to heart.

‘Crashed and burned’ Chairman of the Euro-group, Jeroen Dijsselbloem, will soon be put out of his misery, according to German newspaper Handelsblatt. Will he be able to stay in charge as Dutch Finance Minister?

The name of chairman of the Euro-group and Dutch Finance Minister Jeroen Dijsselbloem has been mentioned this weekend. And unfortunately not in a way that he wanted to be mentioned: according to the German newspaper Handelsblatt, Jeroen Dijsselbloem is well past his due date as chairman of the Euro-group.

An increasing group of Euro-zone members – most important France – is bearing the opinion that they need a dedicated Euro-group chairman, without further (domestic) obligations.

Here are the pertinent snips of the article in Handelsblatt:

Euro-group will become dedicated Chairman

There will be some important changes in personnel within the European Union, after the European elections – and chairman of the Euro-group Jeroen Dijsselbloem could be one of the biggest victims of it. International diplomats expect that a dedicated chairman of the Euro-group will be appointed soon and that the Dutchman has to move out of the way.

The EU government leaders might already appoint a new chairman of the Euro-group in June. This is stated by Handelsblatt, which states to quote diplomatic circles in Brussels. One of the reasons is the growing discomfort with the current chairman and Dutch finance minister Jeroen Dijsselbloem.

According to ‘Brussels’, the Dutch Finance Minister was more busy with fighting for the interests of The Netherlands, than that he acted as a neutral chairman. In other words: you can safely state that Dijsselbloem’s modus operandi has been rejected by his peers in the Euro-group.

The conclusion of all this should be that the Chairman of the Euro-group must fully focus on this job alone, which makes it simply impossible to combine with being Finance Minister in one of the member-states.

The dedicated chairman of the Euro-group could be part of the staffing issues, on which will be decided by the European Council and Parliament after the European elections of 25 May 2014. At that time, the EU has to appoint a new Chairman of the European Commission, a new Chairman for the European Council and a new High Representative for Foreign Policy. It is very plausible that the Chairman of the Euro-group will be part of this staff change too, according to a EU-diplomat, who is quoted by Handelsblatt.

Resistance against the dedicated chairman of the Euro-group comes from The Netherlands, but according to Brussels, the country is standing quite alone in this matter. The Rutte cabinet wants of course to prevent Jeroen Dijsselbloem from being dismissed early.

Looking at the one-odd year in charge of Jeroen Dijsselbloem, you cannot escape from the conclusion that the function of chairman of the Euro-group is simply too hard to combine with that of a professional Finance Minister. This becomes especially true, when domestic and pan-European priorities collide. The latter happened in the case of last year’s IMF assembly, where Dijsselbloem as chairman of the Euro-group was absent due to political quarreling at home.

Nevertheless, it is an open secret that the behaviour of Jeroen Dijsselbloem also caused irritation in Europe: from a political, as well as personal point of view.

Although I initially felt a considerable sense of pride that the Dutch Finance Minister Jeroen Dijsselbloem had been chosen as a chairman of the Eurogroup, I had to admit fairly quickly that this had not been a sensible decision after all.

In his favour, you can properly state that Dijsselbloem handled the Cyprus case decisively and correctly and that he made the minds ready for a new and necessary paradigm, in case of European bank defaults.

He did so by not automatically charging the costs of the Cypriot bank defaults to the European tax-payers, but instead letting the shareholders, bondholders and large savers of these banks also share in the burden of the bank-rescues.

However, although this was a fully defensible financial strategy by itself, it could not be seen loose from Dijsselbloem’s (and Dutch PM Mark Rutte’s) initial resentment against the Russian ‘rogue savers and money-launderers’, who stashed their money on Cyprus. It made a lasting impression that some (read: Western) savers were indeed treated differently than savers from other countries.

And after this ‘false start’, the list of Dijsselbloem’s national and international blunders became longer and longer. Here are a few snippets from an older article:

• In the same Cyprus case, Dijsselbloem could not take away the impression – set by PM Mark Rutte – that the Cypriot banks had been treated differently than earlier (nearly) defaulting banks, as a consequence of the fact that many Russian people had their money stashed away there. “We don’t want to pay for you, because we don’t like you” does not sound like an objective and thorough decision;
   
• Dijsselbloem also made a bad impression, when he blamed his predecessor Jan Kees de Jager [a political deadly sin in The Netherlands –EL] for the way that the latter had treated the Rabobank-Robeco bonus case. “On top of things” were not the first words that came into mind;

• Another political nosedive of Jeroen Dijsselbloem came in his role as chairman of the Euro-group, when he tried to teach the French a lesson. Irrespective of whether Dijsselbloem was right or not, he made again the impression of being "his Master’s voice" for Germany, heavily irritating France in the process. And to make things even worse, he still seems in favour of the mindless austerity that caused the Euro-zone so much economic harm in the past, just like his ‘boss’ Mark Rutte;

• On top of that, Dijsselbloem is heavily opposing to the further integration of Europe and the European financial industry, through the formation of a European budget and banking union. This, in spite of the fact that such unifications would make the Euro-zone and the European financial industry much more resilient against financial shocks;

• His last blunder [to these eyes - EL] was when Dijsselbloem skipped the annual meeting of the IMF in October – in his role as chairman of the Euro-group – in order to glue the Dutch annual budget together. The fact that the Cabinet succeeded with this budget shortly after, does not change the fact that Dijsselbloem should have been present in New York.

Especially skipping the annual IMF meeting in New York as chairman of the Euro-group – almost the most important official stage in the world for someone in his position – was an unforgivable mistake, as the reason was nothing more than: solving an ordinary, political catfight ‘on shillings and pennies’ within the Dutch parliament at home.

Dijsselbloem’s extenuating words that ‘everybody in the Euro-zone had understood his absence and nobody had blamed him for doing so’ were both untrue, implausible and foolish. Even his biggest endorsers will have seen this as a nearly fatal mistake.

And the very last political blunder of Dijsselbloem – not yet mentioned in these lines – has been that he identified his predecessor Jean-Claude Juncker as a ‘boozer’ and heavy smoker in a Dutch television program. The following snippets come from the Luxemburg (online) newspaper Wort:

(CS/vb) Eurogroup president Jeroen Dijssebloem appears to be holding something of a grudge against his predecessor Jean-Claude Juncker, calling the former Luxembourg PM a “heavy smoker and drinker” on a Dutch talkshow.

On the programme “Knevel & Van den Brink” – broadcast on Monday evening – Dijsselbloem initially avoided talking about Juncker. However, when asked if smoking and drinking are allowed at Eurogroup meetings, Dijsselbloem commented that while this has always been forbidden “the former chairman” did not stick to the rules. Dijsselbloem went on to say that Juncker is a “heavy smoker and drinker.”

Juncker himself on Wednesday said at a New Year's reception at the Chamber of Deputies that he does not have an alcohol problem, while declining further comment on Dijsselbloem's statements.

It is very bad and also foolish to make such remarks about a distinguished and fairly successful predecessor, as Jean-Claude Juncker, even when Juncker did something that Dijsselbloem did not like at all (see the remainder of the aforementioned article in Wort):

• First, Juncker did not deserve to be backstabbed by Dijsselbloem this way;
• And second, what goes around, comes around in this kind of situations…

Besides that, apparently Dijsselbloem has been a ‘serial offender’ in blaming the people in charge before him, as he earlier openly blamed his national predecessor Jan Kees de Jager (see the aforementioned quotes from my earlier article).
 

And now it seems that the powers-that-be have indeed pointed their thumb down on Dijsselbloem in his current position.

Perhaps, the most intriguing question is then, whether Jeroen Dijsselbloem can be maintained as the Dutch Finance Minister?! As things now seem, Dijsselbloem has ‘crashed and burned’ as chairman of the Euro-group. 

Nevertheless, as the Finance Minister and thus highest financial representative of The Netherlands, he should be an important part of this Euro-group: the same group that has apparently rejected him, through leaking these discomforting sounds to a respectable newspaper in Germany.

Dijsselbloem simply cannot send the highest ranking (non-political) official of his Ministry or his state-secretary to the meetings of the Euro-group in order to replace him, as this would mean huge loss of face for him.

On the other hand: he himself also can’t remain visiting the assemblies of the Euro-group, as he would be ‘damaged goods’ there. This 'snag' makes his position as Dutch Finance Minister almost impossible, in my humble opinion.

‘Groundbreaking’ initiative by the Dutch municipality Rijswijk reveals the sheer panic among municipal ground corporations. And they are right to panic!

This week, there were again two very interesting stories with respect to the Dutch Commercial and Residential Real Estate markets. 

Both stories witness about the awkward position of many cities and municipalities, with respect to the financial situation of their municipal ground corporations.

The first news story was printed last Thursday, 30 January 2013, by Het Financieele Dagblad. Here are the pertinent snips:

Almere, Nijmegen and Westland suffer from their excess ground positions

Almere, Nijmegen and Westland are the municipalities in The Netherlands that could lose the highest amount of money, when the building ground prices remain under pressure in the coming years. The three municipalities invested in excess of €1 billion in building ground, in order to build houses and commercial buildings.

When this money will not be earned back in a few years, these municipalities would have to make massive cutbacks on their community budgets. This was disclosed after an analysis of annual reports, from municipalities with large building ground positions.

Almere, Nijmegen and Westland invested much more than other cities and municipalities, as they expected a substantial growth of their population during the next decade. 

However, unlike Amsterdam, they only made rudimentary provisions for expected losses. Hence, these municipalities run a much larger risk, when the prices for building ground don’t recover soon.

In Almere, the invested amount, since the crisis started in 2008, has increased by 50% to €0.5 billion at the end of 2012. Please take into consideration that these municipalities didn’t put together their annual reports for 2013 yet [and that these data presumably will rather be worse than better – EL]. 

In Nijmegen, which had very ambitious expansion plans for the other side of the river ‘De Waal’, the total amount of their building ground positions is €350 million. 

Number three is Westland municipality, which invested more than €200 million, in order to build a new and luxurious ‘estate town’ near the shoreline at The Hague.

The following infographic came with the article:

All municipalities with building ground
positions in excess of €100 million
Data courtesy of: www.fd.nl
Click to enlarge

Unfortunately, the city with the largest ground positions, Almere, is my own home town. This means that the possibly necessary cutbacks and tax-increases within the community, would be my cutbacks and those of my wife and children: think for instance about austerity measures upon education, healthcare and civic services, as these are often the highest expenses for communities.

Alas, Almere has a reputation for daring and even megalomanic investments – like for instance Project Duin and the Almere Icedôme, which passed by on this website – and also a reputation for commercial building projects run awry.

On top of that, Almere had earlier received a‘target’ from the national government, to grow with 50,000 (!) houses: a mindboggling number that would almost double the size of the city. And a number, of which a blind man could see that it was much too optimistic and daring, even when the crisis would not have hit The Netherlands in 2008.

This enormous, 'half a billion euro' ground position is the logical consequence of this failed and risky policy by Almere, as well as the central government. 

And it seems that both other mentioned communities stepped into the same traps of unrealistic expansion plans (Nijmegen) and stupid gambles on the wrong kind of houses (Westland with its ridiculous estate town).

Sadly, it are always the inhabitants of these cities and municipalities, who will ultimately foot the bill. Because nobody else can...

Today, Het Financieele Dagblad printed another article, concerning excess building ground. This one was about the town Rijswijk, which found the ‘ideal’ solution for the dropping ground prices. 

It sold the building ground to a joint venture, consisting of building company Dura Vermeer and… itself. This ‘groundbreaking’ initiative reveals the sheer panic among municipal ground corporations and local government officials.

You have to read it, to believe it…:

Rijswijk sells expensive building ground to itself

Probe project with Dura Vermeer should offer solution for stagnation of new housing construction.

The municipality Rijswijk – near The Hague – will sell a share of its building ground to a development corporation, in which the municipality holds a 50% participation. 

In this way, the community can realize a yield on ground sales, which is high enough to not suffer losses, after deducting the amount that Rijswijk paid for the ground itself. The municipality participates in this development corporation together with construction company Dura Vermeer.

Rijswijk has one of the largest ground positions of The Netherlands. Since 2007, the municipality purchased ground from glass horticulturists at the other side of the A4 highway, in order to develop new housing. The largest project is Rijswijk Buiten, for which 3500 homes will be developed during the next decade. These would be very durable houses, for which the occupants should not have to pay any energy bills at all.

In the remainder of this article, you can read that Rijswijk’s plans should enable a large number of very durable and green, and partially quite affordable houses in a neighbourhood near The Hague. 

By itself, I am quite symphathetic towards such plans, especially when it comes to social and otherwise affordable housing for people who can’t pay top dollar, but still need a decent house.

Unfortunately, however, Rijswijk wants to do so with a financial monstrosity, which looks like, feels like and smells like a Ponzi Scheme. By adding virtual profits upon building ground prices that are probably already way too high, they metaphorically brought Bernard Madoff to The Netherlands.

And the only reason to create this utterly stupid construction, is to cover up future losses on building ground sales for the community. Who are you fooling with this scheme, Rijswijk?! Certainly not me! 

The fact that Dura Vermeer is willing to participate in this almost fraudulent Ponzi Scheme, is a silent witness for the pure desperation within the building and construction industry. 

Just let me be perfectly clear about it: the Dutch residential and commercial real estate markets (RRE/CRE) are still critically ill!

Yes, recently there have been some greenshoots with respect to CRE at absolute A-locations, like the Amsterdam ‘Zuidas (i.e. ‘south axis’). 

And indeed, there have also been some teeny weeny growth figures in the Dutch housing market lately: for housing prices, as well as sales figures.

Still, the real problems on the Dutch CRE and RRE markets are yet far from being solved:

• Numerous mortgages are still underwater, in spite of the fact that many people started to amortize their redemption-free, jumbo mortgages;
   
• Too many people are yet held hostage by their current mortgage: they want to move to another (cheaper) home, but they can’t, as they would get stuck with a massive residual debt!
  
• There is a massive void between the kind of housing that is required by the Dutch citizens and the housing that is currently on offer, due to years and years of flawed municipal building policies;
  
• Too often communities gave priority to building large and lucrative estates and country houses, instead of the good and affordable, but less profitable social housing that was really needed by the Dutch citizens;
  
• When the market for estates definitely collapsed in 2007, communities still for a few years kept building those estates, which nobody wanted anymore. This naive reaction to bad news (denial) increased the aforementioned void;
  
• There is a substantial 16+% (structural) vacancy among commercial real estate and this number is hardly dropping;
  
• Also in this situation, cities and municipalities kept building CRE far into the crisis years, like there was no tomorrow. Alas, they did not build it on A-locations alone, but mostly on B- and Z-locations. Many of these buildings have never been occupied yet;
  
• Besides that, the chances are very dim that much of this vacant CRE will ever be sold, rented or refurbished before being sold, making that the ‘demolition man’ seems the only viable solution for these excess commercial buildings;
  
• There is still considerable and structural overcapacity in the Building and Construction industry and Dutch national politics is very reluctant to do something about that;
  
• The industry itself tries to avoid the inevitable diminishing of building capacity and the accompanying restructuring of building companies, through deploying massive lobby activities;
  
• These lobby activities temper the already small political will-power to take the bull by the horns; then who wants to be the man or woman, who hits the powerful building industry on the nose;
  
• By doing so, however, the industry consequentially diminishes the chances for survival for many individual companies in this industry. As 'you can ignore your problems, but your problems certainly won't ignore you';
  
• Many cities and municipalities keep enormous positions in building ground;
  
• This ground was bought in a time of soaring housing prices and considerable economic growth, under the influence of already extremely low official interest rates; 
  
• Now the excess, speculatively purchased ground is hanging around communities’ necks like millstones.
  
• And last, but not least, there is the fact that all large banks in The Netherlands have substantial positions in overpriced, excess commercial and residential real estate, in combination with hundreds of thousands of underwater mortgages;
  
• Much CRE is still in the banks’ books at the historical purchase/building value or at least at a hardly depreciated value;
  
• The results of an investigation by BlackRock into the book value of CRE, held by the large Dutch banks, were seemingly so precarious that Dutch National Bank DNB didn’t want to disclose the final report of this investigation;
  
• Many mortgages and many houses are also still in the banks’ books against overpriced, historical values, in spite of the fact that both have been underwater for years.
  
• The excellent payment moral of the Dutch, with respect to their mortgage, has saved the banks’ bacon until now. However, in the end something’s got to give, when people can’t pay their mortgage anymore.

Consequently, there is in my opinion no other solution than to swallow the 'bitter pills that truly heal' and to restructure all aspects of the CRE and RRE industry, which have been mentioned in this list. There is no way that the Dutch economic crisis will fade away, when nothing has been done about these aspects.

Unfortunately, however, the Dutch central government rather assumes the ostrich position, than that it makes the really hard, but necessary choices. 

It changes a condition here and takes a measure there, but further the central government kicks the can down the road, under pressure of powerful lobbies from a.o. the cash-strapped municipalities and the Building and Construction Industry. It would simply be too shocking to confess that 'the emperor does not have any clothes on...' 

By doing so, the central government extends the crisis probably well into 2017 or even far beyond, as deflation might land soon in The Netherlands (if it has not already landed here).