By Jason Bush The arrest of Mikhail Khodorkovsky, CEO and major shareholder of leading Russian oil outfit Yukos (YUKOY), is the biggest shock for the country's investors since the financial crisis of 1998. Ever since President Vladimir V. Putin was elected in 2000, everything seemed to be turning up roses for Russia's economy and business climate.
That has given people the confidence to pump money into the country: Overall investment this year in Russia is on course to grow by 14%. BP (BP) had made the first multibillion dollar investment in Russia (see BW European Cover Story, 10/27/03, "The Oil Lord"), and other Western energy players such as Exxon-Mobil (XOM) and Chevron-Texaco (CVX) were rumored to be on the point of massive investments in Yukos.
POLITICAL FEAR. Khodorkovsky's arrest on charges ofr fraud, tax evasion, and forgery has brought all that into question. Many believe the campaign against him is politically motivated because he has been a sharp critic of Putin's policies. If Khodorkovsky is the target today, then who might be next, the thinking goes. Many other Russian corporations are also owned by "oligarchs" like Khodorkovsky, who made fortunes overnight in sweeping privatizations of state assets in the 1990s. This means they also face the risk that they could unexpectedly become targets of similar actions by the authorities.
That makes them risky partners for foreign investors, too. However, President Putin seems keen to reassure investors publicly. The case against Khodorkovsky is an isolated one, he says, and he probably believes this. The problem is that Russian businesspeople are still very uncertain about how strictly rules will be enforced. Many of them are inevitably involved in political lobbying, and, like Khodorkovsky, they also have lots of skeletons in the cupboard that could be used against them.
Plenty of signs have emerged that investment in Russia has taken a hit with the Yukos affair, which began with the arrest of one of Khodorkovsky's key associates in July. An Exxon-Mobil investment in Yukos, which many believed was imminent in mid-October, has now been postponed as a direct result of Khodorkovsky's arrest. The Russian stock market tumbled by 11% after the news on Oct. 27, though it recovered about half its losses in the following day's trading.
QUICKLY FORGOTTEN? Capital flight, which had been falling in the first half of 2003, picked up again in the third quarter -- a sign that Russians feel safer parking their cash abroad rather than investing it at home. "Clearly, the risk for the Russian economy is capital flight and Russia not continuing with the very healthy investment growth needed to sustain economic growth," says Christopher Granville, chief strategist at Russian investment bank United Financial Group.
It may be premature to assume that the arrest represents a fundamental turning point. Russia's macroeconomic fundamentals remain strong. The transition to a market economy is well advanced and isn't likely to be reversed. And most people still believe that at least one Western oil major will make a big investment in Russia in the months ahead, drawn by cheap reserves and the country's improving economy. That kind of positive news could make people quickly forget about Khodorkovsky.
"The main point is that Russia is still a growing economy," says Roland Nash, chief strategist at Moscow investment bank Renaissance Capital. Yet the arrest rocked Russian markets and hurt global oil company stocks abroad, which sold off on concerns about how big the problem in the former Soviet Union is. Bush is a correspondent in BusinessWeek's Moscow bureau