Adapting to the WTO

WTO
Москва, 20.08.2012
«Expert: invest in Russia » №2 (2)
Government and businesses should demonstrate their unprecedented ability to agree in order to draw benefits from Russia’s membership in the WTO

Photo by Petrut Calinescu / Panos Pictures / Agency.Photographer.Ru

Government and businesses should demonstrate their unprecedented ability to agree in order to draw benefits from Russia’s membership in the WTO. Only in this way is it possible, without violating the WTO rules, to develop competition and protect interests of national players.

Some time ago, Vladimir Putin, while holding the position of the Prime Minister, actually refused to open Russia’s domestic market for foreign cars after the country joined the WTO. He proposed to charge the “recycling levy” as “compensation” for lowering customs duties on imports Russia agreed to during the negotiations. In this way, the Prime Minister made it clear that he would not give in the national automotive industry. Adaptation to the new conditions of doing business while keeping in mind the WTO rules will be a key innovation for businesses in 2012.

So far, the information agenda with respect to the outlooks for industries and companies has not been very specific; a populist dialogue could be observed between those supporting membership in the global trade club and its fierce opponents. In our opinion, the political rhetoric should be given up: while we were discussing whether to open the door, guests are already in the entrance hall. Now it is high time to see what should be changed at the level of the regional and industry-specific management of the economy as well as in strategies of specific companies.

Cross at the green light

Let us consider several risk groups that are often mentioned when analyzing the consequences of Russia’s membership in the WTO.

The first group: plausible decrease in the volume and changes of formats of government support to certain industries and companies. Due to the protectionist nature of our economy, declining government assistance scares many businessmen. Indeed, under the WTO rules, the members should stick to certain principles. Their objective is to prevent discrimination of some manufacturers as a result of strong pressure made by the government on markets. For this purpose, the WTO agreements have qualification of subsidies according to the traffic lights principle.

The red, prohibited protection measures include direct support to exports and subsidies issued to companies, providing that they will use domestic products instead of imported ones in production. An example of violating this type of rules: requirements for industrial assembly of cars set for foreign concerns in Russia. However, as Anastasia Astakhova, Specialist of the Commercial Negotiation Department at the Ministry of Economic Development, explained to us, there are several nuances:

— Firstly, complaints of other WTO members may concern a group of subsidies only if they result in creation of non-market advantages, which has to be proved yet. Secondly, the government may not directly finance production of goods to be exported. But it can provide preferential conditions for buyers of our products, for example, credits to consumers supporting the national manufacturers in this way.

The process of setting up an agency for insuring export credits is launched in Russia; but it is not clear how fast and efficiently it will work.

The permitted subsidies are divided into those providing grounds for legal action or yellow ones, and those on the basis of which partners may have no complaints or green ones. The yellow ones mean support to certain companies, groups of companies, or certain industrial sectors. There are reservations here as well:

— We will receive complaints from the WTO members only if the country whose company sees violation of its interests submits a statement and, what is important, proves that this mechanism of support caused material damage to its industry, — says Anastasia Astakhova. – Under the WTO rules, it is quite difficult to prove existence of any damage due to subsidies as it is necessary to prove that subsidies and damage are interrelated.

The green corridor includes energy efficient production facilities, environmental protection improvement, R&D, support to small companies, and infrastructure development.

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Regional budgets are not considered to be a factor enhancing discrimination. Anastasia Astakhova: “If funds from the federal budget are used to support a specific industry, they will be attributed to the specific subsidies and, accordingly, measures may be taken with respect to the industry. If such measures will be financed from the regional budget, the WTO partners will not be able to make any complaints”.

The toughest requirements under the WTO agreements are for agriculture. As all the leading agricultural economies subsidize this segment, the WTO members agreed on the maximum support, establishment of a transitional period, and a plan for reducing subsidies. However, it proved to be irrelevant for our country: we have always supported villages to a less degree than developed countries. The agreed support of agricultural players within the “yellow basket” framework (USD 9 billion) for this year is twice as much as our farmers receive. This is why the obligation to reduce support twofold by 2018 is not a problem for Ivan Feklin, Agricultural Minister of Chelyabinsk Region. The problem is that even those sums will not be used. “It would be good to receive what is planned. If our agricultural sector received USD 9 billion, we would make a leap in technologies, reequip, and live in the same competitive environment with producers of other countries”. Elena Stafeyeva, Chairman of the Sverdlovsk Region Stockbreeder Union, agrees with her colleague: “I think that the government support should be enhanced to the maximum extent for the next three to five years; we should build new stockbreeding complexes, purchase equipment, and then our membership in the WTO will not be so bad after all”.

We will be efficient

The next risk factor consists in reducing barriers for entering our market. This is another important matter to be negotiated. Import customs duties are supposed to be reduced for certain groups of products, which may lead to the growing share of imports and possible ousting of national players. This scenario is quite realistic if nothing is done. Therefore, worries of the areas with dominating sectors with respect to which considerable reduction of import duties is expected are quite understandable. Closure or even decline of the output of any large core companies can exacerbate again classical mono-entities and result in unpleasant social consequences. The media regularly publish concrete figures of possible losses, but we would not use them due to weak objectivity of calculations. However, it is important to understand the way our businesses intend to respond to these challenges.

Losses in the agricultural sector may be tangible for industrial Ural and Western Siberia. And there is nothing strange here. For the last few years, interest for investments in this sector was shown by entrepreneurs and investors of both the traditionally agricultural constituent territories only, i.e. Udmurtia, Bashkiria, and Kurgan Region, and industrial Chelyabinsk, Sverdlovsk, and Tyumen Regions. It can be primarily explained by the fact that production of meat, milk, dairy products, and vegetables was well protected by high import duties. But in the course of negotiations relating to joining the WTO, these positions had to be given up. For example, duties for milk, dry and condensed cream, butter will fall from 25% to 20%; meat product duties will be reduced to 15%; cheese duties will drop twofold. The market players are particularly worried by agreements relating to pork trade. Quotas on imports remain at the level of 430 thousand tons and no duties are charged here. But duties on imported live pigs declined from 40% to 5% in Russia, and they are subject to no quota imposition. Undoubtedly, quotas on supplies of beef and poultry to our market will probably remain the same. Duties on imported vegetables and fruits will be reduced to a large extent. We expected an explosion of emotions when starting to interview the agricultural sector representatives. However, their reaction was surprisingly restrained. The agricultural businesses intend to fight for the market instead of becoming outraged. They often use the term “efficiency improvement”. This is partly related to the fact that many investors in villages have been preoccupied with this process since long ago regardless of the WTO. Igor Kartuzov, Director and founder of Kartofel LLC (Sverdlovsk Region), knows today how he can hold the market: “Of course, western producers can boast of lower net costs. Our equipment is weaker and the agricultural sector is supported worse than in Europe: all of these facts affect the net cost of products. However, we do not stay at the same place and have seriously progressed for the last few years as a result of modernizing technologies. Furthermore, we are increasing the added value as a result of deeper processing. We used to sell dirty potatoes, but now we sell washed ones, and we plan to supply peeled potatoes in three years. It is hard to compete with foreigners when it comes to freezing technologies, but we are strong as regards fresh products; therefore, we are going to specialize in local products with a short shelf life”.

Vladimir Rashin, a Perm farmer, breeds quails. His reserves consist in reducing the cost of electricity: “Our products are not competitive as energy resources account for 50% of the net costs. Of course, generally speaking, it is necessary to correct the gas, heat, and electricity tariffs for national farmers. But while waiting for such changes, we decided to use energy efficient technologies: we process manure and dungs in our biogenerator and obtain free heat and electricity. Accordingly, we are able to compete with importers of quail eggs while others cannot do it”.

Poultry breeding, one of the most stable sectors in Ural will be affected by the WTO to the least extent: quotas on supplies of foreign poultry products are not reduced at least for the years to come. However, Russian factories cannot relax as they compete with other national producers. Vladimir Valchuk, General Director of Reftinskiy poultry factory, says: “Due to the market saturation, poultry factories try to reduce their costs: they modernize their equipment, switch to more modern species, and revise the breeding recipes, i.e. they do their best to cheapen the production process”.

In addition, serious poultry breeding projects have appeared in the area for the last few years. Alexey Podoliako, Deputy Marketing Director of Sverdlovskiy Poultry Breeding Factory OJSC, supplying products to Kazakhstan, Ukraine, Tajikistan, and planning to enter the EU market, says: “Unfortunately, we are prohibited to export breeder eggs and chicks to Europe because Germans and Netherlanders are the main suppliers of breeding products there. All the administrative and veterinary barriers have been set there to such an extent that we are unable to overcome them. We will not be able to obtain the right to export our products for many reasons”.

Fear-related measures

The machine engineering sector can see no other way of holding the market than output increase. This is another important sector in the area, which will have to compete with western concerns. Duties on equipment will have been gradually decreased by 2016; for example, from 20% to 15% on steam turbines, from 15% to 7.5% on boiler equipment. Agricultural machinery manufacturers will access our market more easily as well: combine harvester duties will drop from 15% to 5% and tractor duties will decrease to 10%. 

“We can clearly see risks for ourselves, — says Alexander Balandin, Director of machine-tool manufacturer Pumori-SIZ. — At present, the import duties on imported machine-tools and equipment total 10% of their value; however, they will be cancelled after Russia joins the WTO. Naturally, we are not interested in that as the import duties permit to maintain a high price of products of our foreign competitors on the Russian market. But we will find a solution. Competition growth will anyway result in lower prices of many products and their quality improvement”.

Joining the WTO will make the situation of motor vehicle manufacturers more difficult. The truck segment in the area is well represented: trucks and buses are made by Ural truck plant, Kurgan bus plant, Neftekamskiy plant (NefAZ), IVECO-AMT, Amur. They primarily fear the extent to which the second-hand truck market will be liberalized and not the new truck duty decline from the current 20%–25% (depending on models) to 5%–10%. And the second-hand bus duties will fall from 30% to 15%, the second-hand (5 years old) truck duties will be reduced from 44% to 10%. “Therefore, there appears a large gap between the price of new and second-hand trucks. As the amount of second-hand imports grow, the Russian fleet will start to “get older”, which will negatively impact safety of transportation. For this reason, we believe that the Russian Government decision to limit the vehicle operation time to 15 years is an important one. At present, about 50% of buses and heavy trucks and 25% of light commercial vehicles running on Russian roads are over 15 years old. The fleet renovation will lead to almost twofold decline in the vehicle maintenance costs. Actually, one modern truck can replace at least two similar ones over 15 years old in terms of the techno-economic indicators. However, these measures will be efficient in case of a complex approach: creation of financial incentives for consumers when purchasing a new truck instead of an old one; the leasing cost should fall from 12% to 8%”, — this is how the GAZ group specialists assess measures to save the national automotive industry.

Car makers also plan to expand. The GAZ Group specialists say: “We develop new products by taking into account requirements of potential export markets. Euro-4, Euro-5, EEV (Euro-5+) environmental standard buses represent the main portion of the output structure. Last year, the share of bus exports increased by 26%, and the share of trucks made by an Ural unit rose by 70%. So, we hope to expand our export opportunities after Russia joins the WTO”.

Get insured to the maximum extent

In financial segments, insurers fear the new rules to the largest extent. The national market will be opened for operations of direct branches of foreign insurers in nine years, i.e. in 2021. The interest held by foreign players in the authorized capital of insurance companies is to increase from 25% to 50% right now.

However, there are no reasons for panic. Expert RA estimates that no more than 20 foreign insurers will open their branches in Russia in 2021. Firstly, active global players already operate on the national market (except some Japanese and American companies). Secondly, requirements imposed by the Ministry of Economic Development are too severe: eight-year experience in life insurance or five year experience in other cases, five year experience in managing direct branches on foreign markets; total assets of at least USD 5 billion. No more than 150 companies in the world that are primarily specialized in life insurance can meet these requirements.

Furthermore, foreign branches have to be governed by Russian laws. The Government may set up qualification requirements for their managers and employees and the capitalization threshold at any level (AC counterpart).

Joining the WTO will make the situation of some manufacturers in Russia more difficult. But it is our choice exp_august_070-1.jpg Photo by Oliver Mark / Agentur Focus  / Agency.Photographer.Ru
Joining the WTO will make the situation of some manufacturers in Russia more difficult. But it is our choice
Photo by Oliver Mark / Agentur Focus / Agency.Photographer.Ru

The largest market share (both in the capital and regions) is likely to be obtained by foreign players in the segment of insuring risks of foreign companies and life insurance. In the latter, the trend is clear right now: the top ten companies in Ural include Allianz (ROSNO), Generali PPF, Metlife Alico, Sozhecap Strakhovaniye Zhizni.

Of course, the role of foreign companies on the national insurance market will grow. In 2010, the share of foreign subsidiaries reached 43% in terms of total revenues. If Russian insurers get active, foreign players will be able to claim half the market; if they give in their positions, foreigners will take as much as 80%.

Theoretically, Russian insurers may show their muscles as well; however, Expert RA estimates that no more than five companies can go to foreign markets. National companies are inefficient for the developed European markets, while developing countries established very high entry barriers. For example, China imposes the following requirements for insurers wishing to enter its market: assets totaling USD 5 billion, a high reliability rating. At first, a foreign company is authorized to organize its representative office in China and may apply for a license no sooner than two years after that. The compulsory types are reserved for Chinese companies. Life insurance operations may be carried out only by engaging a local partner.

Therefore, if the national insurers fail to cope with new challenges within nine years, profits and reserves will go abroad.

Basic segments are in the black

The risk factor for regional economy consists in consequences of joining the WTO for basic industries forming the budget and creating jobs. It is obvious that joining the WTO will have no impact on oil and gas abundant KMAD and YNAD. But Ural with its mines will respond to the changing competition conditions in different ways.

Exporters will have tangible advantages as they will feel more confident. If in the past they were subject to any antidumping investigations, their arguments were rejected by trade partners, they can protect their positions on equal terms now. However, the regional non-ferrous metal producers, UGMK and RMK, are not likely to experience considerable changes: the market situation is good and there are no trade restrictions. Aluminum is in the same situation: Rusal exports 80% of it without any problems.

However, representatives of other sectors estimate the results of joining the WTO ambiguously. For example, in a recent interview to our magazine, Alexander Deyneko, Director of the pipe industry development fund, stated that opening of global markets is undoubtedly a positive fact, but its effect will be leveled by parallel decline in import duties on pipe products: the market may be filled with cheap Chinese pipes. Similar fears are expressed by the ChTPZ (Chelyabinsk Pipe Plant) specialists: “On the one hand, global markets will open for pipe manufacturers; on the other hand, cancellation of customs borders will enhance pricing competition between Russian and foreign manufacturers and will increase likelihood that the share of national manufactures will decrease on the domestic market. For this reason, they will have to enhance the existing tools and develop new ones to maintain the achieved positions on their own market, including by applying the WTO rules”.

Alexander Romanov, President of the Metal Product Supplier Union, expects an inflow of cheap Asian products as well: “Quotas on Russian supplies should be cancelled in the European Union, one of the largest markets for metallurgical products. It is expected that serious restrictions for supplies to the USA will be left as well. We hope that South-Eastern Asia, North America, Latin America, and Europe will cancel their antidumping duties aimed at Russian companies. But the domestic market may be affected. And many things here will depend on how promptly the Government will respond to problems relating to supplies of foreign products at dumping prices”.

The future of ferrous metal producers (NTMK, ChMK, NLMK-Sort, AMZ) will depend more on their modernization and strengthening of their positions on the domestic market. Alexander Romanov: “In terms of products that are made here (tracks for the RZD, beams, channel iron, rolled products for the construction sector), Ural manufacturers will remain competitive. In addition, it is efficient to supply rolled products within the range of over 1.5 thousand kilometers. For this reason, it is unlikely that China will increase its presence on our market. The same situation can be observed with respect to the foreign market. Ural companies primarily export blanks and will be sufficiently competitive on that market despite the fact that products to be exported must be supplied at first to Far East or to the Baltic Sea or Black Sea ports. In case of MMK, it has performed global modernization for the last few years. This permitted it to produce sheet rolled products with polymer coatings demand for which will grow by about 15% in 2012 inside the country alone. If relations with consumers are appropriately built, MMK will be more competitive than its foreign counterparts. I am emphasizing again: it is important that the Government responds in time to dumping imports by using its lawful membership in the WTO”.

The Government and representatives of the chemical and oil chemical industries call to take an active position. Technical re-equipment is underway in this sector, and, as Rashid Nureyev, Information Policy Management Head of Sibur LLC, believes, additional barriers, in particular those created artificially, will hold them back.

“As far as exports are concerned, we are ready to compete with imports, have been reducing production, logistics, and other costs since long ago. The new facilities built by Sibur, for example, Tobolsk-Polymer, will be efficient on the near foreign markets in terms of the net costs of products.”

First and foremost, companies are worried by the growing gas prices. Under agreements for joining the WTO, Gazprom is now obliged to supply gas to the domestic market at least at its net cost. According to the Russian association of fertilizer manufacturers, the price of one thousand cubic meters of gas may grow from USD 85–100 to USD 150 due to the prepared liberalization of the Russian gas market. At the same time, the global market records appearance of new projects for producing nitrogen fertilizers with the price of about USD 65 per thousand cubic meters. Members of the association have already asked the Russian Federation Government to revise the methods of forming tariffs and offer additional discounts to companies for which gas represents technological raw materials. No positive reply has been given so far.

Learn to snarl

The result of Russia’s participation in the trade club depends on how active businesses will be in similar situations and on the Government response. Victor Ivanter, RAS academician and Director of the National Economic Forecasting Institute, emphasized in an interview to Expert that “wise membership in the WTO will mean that we have to comply with all of the WTO rules that are beneficial for us and not to follow those that are not beneficial for us. And let them initiate action against us and we will initiate lawsuits as well”.

There are legal possibilities for that. The WTO has three tools for responding to inappropriate behavior. The first tool consists in antidumping measures: if it is proved in the course of an investigation that a company sold products in a foreign country at a lower price than on the domestic market, it will be charged an antidumping duty. The WTO members use this method quite often: this sanction has been used more than 2,500 times throughout the organization’s history; on average, two out of three investigations have ended positively, including with respect to Russian exporters. This right is often used by India, the USA, and the EU members. And, while not being a WTO member, Russia used to “swallow” these claims, now it can snarl.

Compensations are another tool. They are ordered in cases where an investigation proves the following: a government subsidy damaged the economy of another country or the manufacturer of similar products. It is not easy to prove such things; therefore, statistical data are more modest here: 160 times. It has been initiated mainly by developed countries.

Special protection measures are the third tool. If a country proves that imports have grown to such an extent that they damaged its national economy, it may introduce an additional duty or reduce the quotas. 101 attempts to apply this tool have been recorded and 30 of them have been challenged.

We started with the fact that if our Government is willing, it may protect national interests. But it was about AvtoVAZ. And what should be done when the interests of a relatively small economic sector are affected? Here is a concrete case that was told to us by Alexander Smilgevich, Incab General Director: “When Russia joined the WTO, an agreement was reached that import duties on the optical cable will have been fallen from 15% to 0% by 2015, while those on the power cable, depending on product types, will have been declined from 20%–15% to 12.5%–5% only. This gives advantages over foreign competitors entering our market. For Russian manufacturers, it is important to have adequate competition conditions; for this reason, duties on imported materials used in production of the optical cable should be reduced to zero at the same time. The appropriate attitude has already been jointly presented by us and other national manufacturers in a collective letter submitted for consideration to the Russian Federation Ministry of Economic Development”.

After the Customs Union was created, powers to conduct investigations have been delegated to the supranational body: Eurasian Economic Commission. According to the rules of this organization, requests and complaints, for example, regarding import growth should be submitted by the industry. “It is true that we as executive authorities will take consistent measures to obtain appropriate information and monitor imports and measures taken by the WTO members to find out whether they conform to the WTO agreements. But we are extremely interested in engaging businesses because companies are able to see such problems better”, — says Anastasia Astakhova. Interests of various industries will often be in conflict. Therefore, if effect is to be reached, businesses and authorities will have to show their unprecedented ability to reach agreements. At present, only large businesses are experienced in that and this experience should be used in other segments as well. How to do it is the topic of our next discussion and we invite representatives of public authorities, science, and businesses to participate in it.

The materials were prepared by Sergey Yermak, Vera Pyzhianova, Daria Aleksandrovich, Alexey Belousov, and Alexey Koriakov.

WTO

The World Trade Organization unites 156 countries controlling 97% of the world’s sales turnover.   

It was created in 1995 as a successor to the General Agreement on Tariffs and Trade (GATT). Unlike the GATT, which regulated goods turnover only, the WTO also controls services (the General Agreement on Trade Services (GATS) is effective) and intellectual property rights (the Agreement on Trade Related Aspects of Intellectual Property Rights (TRIPS) is effective).

Russia applied for joining the GATT in 1993. The first general phase of negotiations was completed in 2000. It was followed by difficult bilateral discussions; finally, in the end of last year, the working group in Geneva approved the final protocol of the Russian Federation joining the WTO.

Now we have to complete internal ratification procedures, i.e. obtain approval of the Federal Assembly by June 15, 2012. Russia will become a full member of the WTO 30 days after notification that the ratification procedures were completed.           

Republic of Bashkortostan
Sverdlovsk Region
Chelyabinsk Region
Kurgan Region
Structure of the economy of the Ural-Western Siberian area by economic activities, 2010
South of Tyumen Region (excluding the KhMAD and the YNAD)

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