Weekly 28 September 2018

The defeat of Kremlin candidates in 4 governor elections ignites a political crisis

The most important stories on Russia this week

1. The defeat of Kremlin candidates in 4 governor elections ignites a political crisis

The election in Vladimir region. Photo credit: Artem Geodakyan/TASS

What happened

Recent governor elections have created a big headache for the Kremlin and may force it to modify the political system in Russia for the first time since 2012. On Sunday, opposition candidates won in two regions after second round run-off votes. In two other regions, government-backed candidates dropped out of races at the last minute to avoid defeat.

  • Even the full weight of the Kremlin, deployed on President Vladimir Putin’s orders, could not save the governor of Vladimir Region, Svetlana Orlova, or the governor of Khabarovsk Region, Vyacheslav Shport. Though the campaigns were managed directly by officials in Moscow, the elections were won by candidates from the pseudo-opposition LDPR Party. People voted for the LDPR despite the fact that their candidates didn’t even try to win. Vladimir Sipyagin, the LDPR candidate in Vladimir Region, didn’t run any election campaign to speak of ahead of the second round of voting, but he still managed to get 57%. Sergey Furgal, the LDPR candidate in Khabarovsk Region, publicly accepted the post of deputy governor a week before the election, yet he got 69.5% of the vote on election day.
  • It is clear these were protest votes. People didn’t care who they voted for as long as they weren’t the government candidate. There is growing dissatisfaction with the Kremlin’s social policies, most importantly with the increase in the pension age. “Everywhere the Kremlin introduced “new faces”, they were elected with no problem. Those who had difficulties were the incumbents facing re-election,” said political scientist Abbas Galyamov. Another reason for the upsets is the inability of regional officials to work with voters: Moscow does not chose these candidates based on their popularity.
  • This political crisis has demonstrated that the current system of tame opposition parties (the Communists, LDPR, and Just Russia) is becoming ineffective. When the number of candidates is limited, protest voters accrue to these candidates. Kremlin sources have already promised that the LDPR and other parties will be punished for breaking the status quo. Experts believe the Presidential Administration will now build a new system with many more parties, which will split the protest vote. At the same time, Putin has begun to remove the oldest and most unpopular governors. It was announced Wednesday that three governors will be replaced and another 10 may resign next year, including the governor of St. Petersburg. Ksenia Sobchak, the television journalist and daughter of Putin’s former boss, has already expressed her desire to take part in elections in St. Petersburg. Sobchak was used by the Kremlin to spice up the predictable 2018 presidential vote.

Why the world should care

The simultaneous defeat of government-backed governor candidates in four regions is unprecedented. Since the return of governor elections in Russia in 2012, only one candidate from the ruling party has lost. Even though the elections were held in 26 regions in September and 22 government-backed candidates won without any trouble, the Kremlin will have to fix the system, until the election results get even worse.

2. Why is a fallen Russian minister seeking to lead an obscure sports federation?

 What happened

Next week, delegates from 186 countries will meet in Georgia to elect a new head of the World Chess Federation (FIDE) for the first time in 23 years. The leading candidate for the post is former Russian Deputy Prime Minister Arkady Dvorkovich, who lost his government position after the presidential election. His opponents include FIDE Vice President Georgios Makropoulos and British grandmaster Nigel Short. But what is the appeal of this position for Dvorkovich and how is his campaign related to the arrest of a Russian billionaire?

  • For the past six years, liberal economist Arkady Dvorkovich served as Prime Minister Dmitry Medvedev’s deputy. He was believed to be one of a handful of people in Medvedev’s cabinet loyal to the prime minister himself. But in May 2018, after Vladimir Putin’s victory in the presidential election, Dvorkovich lost his job. His acquaintances told The Bell that his ouster was a surprise even for him. But a month earlier, Dvorkovich had heard disturbing news: his college classmate and friend, billionaire Ziyavudin Magomedov, was arrested. Dvorkovich oversaw the transportation sector in government and Magomedov became the owner of Russia’s largest sea ports in the early 2010s.
  • As a consolation prize, Dvorkovich was offered the role of co-chairman of the Skolkovo Fund, which manages ‘Russia’s Silicon Valley’ that was set-up by Medvedev when he was president and has never flourished. The head of Skolkovo since its founding has been billionaire Viktor Vekselberg, who was put under U.S. sanctions in April. Dvorkovich agreed, but it was clear this would not be his primary focus, one of his acquaintances told The Bell. Everything is already up and running and it would be difficult for Dvorkovich to make his mark on Vekselberg’s company. “While there is an election campaign, I, of course, can’t dedicate a lot of time to Skolkovo,” Dvorkovich told The Bell.
  • Right after he left government, Dvorkovich informed Putin of his plans to become president of FIDE and received the president’s support. Industry publication Chessbase reported that Putin even asked Israeli Prime Minister Benjamin Netanyahu to back Dvorkovich in the FIDE elections in exchange for Israel being able to host the next chess championship. Two sources from Dvorkovich’s inner circle told The Bell that this is an exaggeration, but both agreed “Putin might have brought the topic up.”
  • Chess is a traditional Russian calling card. Since 1995, FIDE has been led by Russian politician and businessman Kirsan Ilyumzhinov, the former elected president of Kalmykia Region. Some of Ilyumzhinov’s actions are nothing less than strange: he has said he was kidnapped by aliens, he played chess with Libyan dictator Colonel Gaddafi and has brought Buddha relics to Kalmykia. At the same time he has used his connections to become a wealthy businessman and led FIDE for 23 years. In 2015, the U.S. put Ilyumzhinov under sanctions for money laundering on behalf of Syrian president Bashar Assad.
  • All sources close to Dvorkovich who spoke with The Bell said his candidacy is a personal initiative — not an “order from above”. Dvorkovich is a professional chess player and his father was an international chess judge and a member of Garry Kasparov’s coaching team. However, this might be more than just a love of chess, one acquaintance of Dvorkovich told The Bell. Over the course of six years in government, he might have made influential enemies: Dvorkovich was responsible not just for transport, but also for the energy sector, and he clashed with the influential head of state-owned oil giant Rosneft, Igor Sechin. The arrest of Magomedov cast a serious shadow over Dvorkovich. If he were to become the head of an international federation, he can protect himself from problems at home, a source explained to The Bell. “Do you really believe that?” Dvorkovich responded when this was suggested to him. He repeated that his only motivation in putting his candidacy forward was “to improve FIDE.”

Why the world should care

The battle to lead FIDE is reminiscent of Russia’s bid to host the 2014 Olympics or the 2018 World Cup  — just with a much smaller budget. Moreover, it’s easy to understand Dvorkovich. These days it’s dangerous to be a former official who has lost the protection of a high government position.

3. The woes of retail giant Magnit are a fitting mirror for the state of Russian business

What happened

One of the major stories of the Russian equity market this year has been the drop in the share price of retailer Magnit. Two years ago, Magnit was the largest retailer in the country and the stand-out example of a Russian business built from the ground up. But Western sanctions and declining real incomes hit the company hard. Since Magnit’s founder, iconic self-made billionaire Sergei Galitsky, sold his stake to state-owned bank VTB, strange things have been happening.

  • Until last year, Magnit was the preferred blue chip on Russia’s equity market. At its peak in 2015, the retailer was valued on the LSE at $22 billion and Sergei Galitsky’s net worth was estimated at $10.3 billion. Galitsky was seen as a model Russian entrepreneur. But falling oil prices and sanctions against Russia caused troubles for all Russian retailers. And, as low-income Russians began to get poorer, Magnit’s position as a leader in the low-cost sector began to suffer. At the same time, the crisis showed that a company totally dependent on the decisions of its founder can’t adapt. Magnit’s main competitor, X5 Retail Group, which also has a discounter format, was more flexible. In 2016, Magnit lost its leading position in the Russian market and, in the fall of 2017, when it became clear that the company’s financial results were not improving, its shares began to tumble. Since then, the company has lost 60% of its value and is now worth only $6.2 billion.
  • A disappointed Sergey Galitsky announced in February he was selling 29% of his shares in Magnit to VTB for $2.5 billion. The purchase price wasn’t great and during his announcement he almost broke down. Media reports suggested Galitsky may have been forced to give up the business, but his acquaintances told The Bell that the businessman was tired from repeated crises. Selling out to the state was the only possible exit — at the moment there are simply no private investors in Russia with $2.5 billion to spend.
  • In May, VTB announced it was selling half of its stake to Alexander Vinokurov, a young investment banker with assets in the pharmaceutical industry who happens to be the son-in-law of Foreign Minister Sergey Lavrov. As is often the case in Russia, the loan for the acquisition was provided by VTB itself. Vinokurov’s first step (two weeks after the deal) provoked immediate concern among shareholders: the company announced it was buying Vinokurov’s own loss-making pharmaceutical company with debts of over $1 billion. This transaction was postponed after pressure from minority shareholders. But when Magnit’s new strategy revealed Wednesday, the board of directors also announced approval for the deal. The company’s shares promptly fell 8% to a six year low.

Why the world should care

The story of Magnit shows how U.S, sanctions do not just hit Putin and his cronies: decreasing incomes has made the life of consumer market businesses much harder. But the story also illuminates the fate of private businesses when they face a crisis. In the West, after a company is built by a tough, visionary entrepreneur, it can be passed to professional managers capable of growing both the company and its capitalization. In Russia, the only option for founders has become to sell out to a state-owned bank. And these banks haven’t found a better option than transferring their acquisitions over to investors — who proceed to fix their own business problems at the expense of the very companies they’re supposed to be running.

4. The exposure of a huge Ponzi scheme prompts more comparisons with the 1990s

What happened

It’s not just a run from ruble deposits and profitable dollar accounts that is reminiscent of the 1998 financial crisis. A few days ago, the Central Bank exposed one of the largest financial pyramids of the last three years: Cashbery. Tens of thousands of people from different regions were duped by the Ponzi scheme and the total losses remain unclear.

  • Cashbery gave clients the option of investing in microloans with an interest rate of 2.2% per day (annual returns of up to 600%), allowing investments with rubles, dollars, tenge or cryptocurrencies. The ponzi scheme was built on the classic principles of chain marketing: the more friends you get to join, the higher rate you earn. The flaw, of course, was that 2.2% per day is a crazily high interest rate even for Russian microlenders (their rates are normally no more than 2%), not to mention banks rates.
  • Cashbery said on social media that the Central Bank was not accusing it of being a pyramid scheme (although that’s not true). The company blamed the scandal on its competitors: banks from which clients are allegedly taking money to invest in Cashbery.
  • The avalanche-like influx of depositors to Cashbery occurred at the beginning of 2018: clearly on the back of sanctions and economic uncertainty. A powerful advertising campaign helped build confidence: Cashbery used Olga Buzova for promotion (she is something like the Russian Kim Kardashian and the most popular blogger on Russian Instagram with 13 million followers). The pyramid’s theme tune was sung by famous pop star Nikolai Baskov and another singer popular with older people, Valery Meladze, wished the company happy birthday. Cashbery filled halls with thousands of people in the regions when it talked about making 600% annual returns.
  • Attitudes toward financial pyramid schemes in Russia are like Stockholm Syndrome: in the turbulent 1990s almost every Russian family lost something. In the most notorious scheme, MMM, almost 15 million people lost money. The founders of MMM spent three years in jail and the first thing they did when released was launch a new venture, “MMM 2011” — which was similarly popular. The scheme was called out as a fraud in Russia, but it spread to Nigeria, Ghana, South Africa and China.
  • Cashbery also has international ambitions. The pyramid’s website is available in five languages, including Spanish and Chinese. At the end of August, Cashbery’s CEO, Artur Vardanyan, registered a company in London with founding capital of $1.3 billion.

Why the world should care

Western readers shouldn’t be deceived by over-optimistic articles about Russians successfully turning to the stock market to compensate for their decreasing wages. Good old Ponzi schemes and other financial scams have just as many customers.

5. The first 245 places in a line to buy a new iPhone XS in Moscow were being sold for up to $6,000 each. But hustlers couldn’t find a single buyer.

Perhaps the best indication of economic problems in Russia: hustlers selling places in a line to buy the new iPhone XS in Moscow couldn’t find anyone who was interested. On the first day of iPhone XS sales in Moscow, as in other cities around the world, there was a long line of hundreds of buyers. But it became clear that the first 246 places in line were held by people who wanted to resell their places. The first in line was asking for 400,000 rubles ($6,000) for his place and 24th in line wanted 150,000 rubles ($2,300). But there wasn’t a single buyer. Just two years ago, people were prepared to pay 50,000 rubles (then about $800) to jump to the front of the queue.

6. Other important stories, briefly:

  • Opposition politician Alexei Navalny has become the indirect victim of the Kremlin’s political troubles. Just after he was released Wednesday after serving a 30 day sentence for attending an unsanctioned protest, Navalny was immediately arrested again for another 20 days for a different offense. Now, he could theoretically be sent him to prison for 5 years (Russian law allows for this punishment in the event of multiple violations of the protest law).
  • New details have emerged about the men suspected of poisoning the Skripals, Ruslan Boshirov and Alexander Petrov. What is interesting is not just that investigative outfit Bellingcat found Boshirov’s real identity, but how easy it was for the them to do this, in particular how they mined the national database of Russian passports (which every police officer in the country can access). Even worse, passports differing in number only by one digit turned out to belong to GRU officers and the address of the GRU headquarters was listed as their home address. Theoretically, you could identify every GRU agent in this way. Rival secret service, the FSB, promises an investigation – but is also quietly gloating.

Peter Mironenko

This newsletter is supported by the Investigative Reporting Program at UC Berkeley.

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