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DE RUEHMO #2903/01 3311459
ZNY CCCCC ZZH
R 271459Z NOV 09
FM AMEMBASSY MOSCOW
TO SECSTATE WASHDC 5534

C O N F I D E N T I A L MOSCOW 002903 

SIPDIS 

DEPARTMENT FOR UNDER SECRETARY HORMATS 

E.O. 12958: DECL: 11/27/2019 
TAGS: ECON ETRD EAGR PREL PGOV RS
SUBJECT: SCENESETTER FOR VISIT OF UNDER SECRETARY ROBERT 
HORMATS 

Classified By: Ambassador John Beyrle, Reason 1.4 (b) and (d) 

Summary 
------- 

¶1. (C) Your visit to Moscow provides an opportunity to 
strengthen bilateral economic relations at a time when both 
our economies are beginning to show signs of recovery 
following an extremely difficult year. Because our economic 
relations with Russia were relatively stable even prior to 
the political "reset" we've seen this year, we are 
well-positioned to press for progress on a few key issues, 
including Russia's WTO accession, agricultural trade and 
intellectual property rights, where more work is needed. End 
Summary. 

U.S.-Russian Relations 
---------------------- 

¶2. (C) Four meetings this year between Presidents Obama and 
Medvedev, including the President's July visit to Moscow, and 
Secretary Clinton's numerous discussions with Foreign 
Minister Lavrov have given impetus to real change in our 
bilateral relations. Addressing the ruling United Russia 
party congress November 21, President Medvedev even used the 
phrase "reset" - heretofore reserved for issues involving the 
U.S. and Russia - and called for an "economic reset" as well. 
We want to see this will applied not just to the 
modernization that Medvedev is advocating for Russia itself, 
but to its interaction with foreign investors and integration 
into global financial institutions, all of which force 
reforms deeper into the system. The challenge, as always, is 
to translate rhetoric into specific decisions and joint 
actions. 

¶3. (C) For the first time in years, we have structure in the 
relationship to do this. The Obama-Medvedev Commission has 
four working groups--business development and economic 
relations, energy, nuclear energy, and agriculture--with a 
remit to broaden the economic base of interaction between us. 
The Commission will give us regular, focused interaction 
with influential centers of Russia's business and economic 
decision-making. In early contacts, some Russian 
participants in the working groups have shown a preference 
fro form over substance, though. We need to continue to set a 
higher standard. The Commission needs to produce results, 
not reports, and decisions, not dialogue. 

Global Economic Crisis And Russia's Response 
-------------------------------------------- 

¶4. (C) The global economic crisis hit Russia particularly 
hard, as the economy remains heavily dependent on commodities 
exports (primarily oil and gas) for growth, and on foreign 
capital for investment. The abrupt drop in the price of oil 
combined with a decline in foreign investment strained the 
Russian economy, beginning in mid-2008. Throughout the 
following twelve-month period, Russian industrial production 
plummeted, with double-digit declines in month-on-month 
production occurring on a regular basis. Key sectors such as 
steel and automobiles were hit particularly hard, with 
Russian domestic automobile production declining by over 50% 
in the first half of 2009. The industrial sector, 
particularly the single-company towns, was hard hit, with 
unemployment remaining at an unprecedented high. Predictions 
for 2009 GDP decline grew from 3% early in the year, to the 
current estimates of 7.5%. 

¶5. (C) At the beginning of the crisis, the Russian government 
held the third largest quantity of reserves internationally 
and relatively little sovereign debt. Thus, the GOR was much 
better positioned to react than many other countries. The 
GOR burned through a third of these reserves (an estimated 
$200 billion) to slow the decline of the ruble. The GOR also 
provided large infusions of capital into the domestic 
financial sector in an effort to keep stressed banks afloat. 
In addition, the Russian government instituted a series of 
"temporary crisis measures," including tariff increases and 
other import restrictions, in an effort to protect domestic 
production in key sectors and increase demand. 

¶6. (C) While these measures were successful in staving off a 
complete collapse of the financial sector a la 1998, they 
have come at a price. Official Russian reserves are 
significantly lower than at the start of the crisis and we 
expect the GOR will be required to borrow, including on 
international markets, in order to cover its expected federal 
budget deficit in 2010. Also, while the infusions of cash 
into the financial system prevented a total meltdown, banks 
used much of the funding to make provisions for 
non-performing loans and other distressed assets. The 
infusions of cash did not result in a resumption of lending, 
and domestic financing remains hard to come by, constraining 
efforts to stimulate the real economy. 

¶7. (C) The tariff and other trade barriers did slow imports 
during the first half of 2009, but the reduced competition 
did not appear to do much to help domestic producers. 
Domestic demand, particularly in the automotive and real 
estate sectors, remains extremely weak. The GOR has pushed 
companies to retain workers during the economic downturn, in 
an effort to slow unemployment growth and avoid potential 
social difficulties. As a result, many companies have used 
their limited reserves to continue paying workers and are not 
well placed to take advantage of an economic up-turn when it 
arrives. That said, Russia appears to have muddled through 
the worst of the crisis and, aided by higher oil prices and a 
strengthening ruble, GOR officials are now considering how to 
encourage a return to strong economic growth. 

Key Challenges To Russian Economic Growth 
----------------------------------------- 

¶8. (C) Dmitriy Medvedev has made a central theme of his 
presidency Russia's need to diversify its economy, develop an 
innovation economy based on its strong intellectual 
resources, integrate itself into the global economy and deal 
with the problems created by corruption. While we support 
these objectives, we are concerned that progress has been 
limited, at best. The recent economic crisis dealt yet 
another blow to Russia's limited industrial base. The lack 
of domestic financing limits entrepreneurs' efforts to move 
into new sectors. Weak enforcement of intellectual property 
laws and gaps in key areas, such as protections on encryption 
technologies, restrict growth in IT and other innovative 
sectors. Russia's on-again, off-again approach to WTO 
accession has not only slowed down Russia's own accession 
process, but has also made it difficult for others, such as 
the U.S. and EU, who are interested in supporting Russia's 
accession. Russia's continued tariff and non-tariff 
restrictions on agricultural trade also present challenges to 
increasing bilateral U.S.-Russia trade, as many U.S. 
producers are simply not able to export their products to 
Russia. Finally, corruption and "legal nihilism" continue to 
plague the Russian governance system; the death in custody of 
Russian lawyer Sergey Magnitskiy is only the latest example. 


Domestic Political Context 
-------------------------- 

¶9. (C) After a year and a half of tandem leadership of 
Russia, Medvedev and Putin continue to function based on a 
division of labor. The President plays to his strengths of 
clear public presentation and a long-range focus on a modern 
economy, and underscores his constitutional responsibilities 
for foreign policy. His November 12 annual address to the 
nation again highlighted and expanded on the theme of 
economic modernization, and to a lesser extent political 
reform as well. Putin, meanwhile, has built on his image of 
a domestic problem solver, employing his trademark 
street-wise rhetoric in dressing down oligarchs or critics. 
His November 21 address to the annual congress of the United 
Russia party (which he heads) reaffirmed public perceptions 
of him as the man who is making sure government pays pensions 
and salaries. A just-published poll supports this: though 
their ratings had been declining, they shot up to 74 and 79 
percent, respectively, after their strong performances. 

¶10. (C) Although there is evidence that their closest 
advisors spar over specific policies and personnel matters, 
the two leaders themselves share state-run national media 
coverage (to the near-exclusion of other political figures) 
and project an aura of ease with one another in public. 
Medvedev has yet to make major changes to the senior staff he 
inherited from Putin. Putin's prominence in tackling crises 
- whether conflict with Georgia, gas supply negotiations with 
Ukraine, or localized unrest or frustration due to the 
economic crisis - earns him higher public opinion ratings and 
elite group allegiance than Medvedev. This, combined with 
his suggestions that he might stand for a third presidential 
term, all ensure that major decisions are not made without 
Putin's approval. The complete national dominance of the 
ruling United Russia party under the leadership of Putin, 
reinforced through the party's overwhelming, yet tainted 
victory in October 11 regional elections, has made it 
difficult for opposition parties to function, let alone 
capitalize on economic discontent. 

Conclusion 
---------- 

¶11. (C) In sum, your visit comes at a promising moment--both 
our bilateral relations and our economies are beginning to 
move in a more positive direction, but challenges remain. We 
encourage you to use your meetings with key Russian 
governmental and private interlocutors, as well as with the 
American business community, to push for continued dialogue 
leading to concrete positive action. We want Russia to 
integrate into the global economy, to join the WTO, to 
diversify its productive base and to move forward in the 
fight against corruption and we stand ready to work with 
Russia on these issues. Your meetings with Medvedev's top 
economic adviser Dvorkovich and First Deputy Foreign Minister 
Denisov, in particular, are a chance to move beyond improved 
atmospherics and examine in greater depth how we can support 
the best of Medvedev's modernization goals--e.g., greater 
energy efficiency--in ways that pay dividends to both 
economies and broaden the economic base of the relationship. 

Beyrle