Russian aid - II

Amid the post-election scramble to see who can cut the most from the federal budget, foreign aid has become a prime target. "We ought not to be funding anything abroad that we would feel uncomfortable funding [in the United States]," said Senator Mitch McConnell last December, echoing the sentiment of many on Capitol Hill. In particular, aid to Russia is being reconsidered in light of the brutal and costly handling of the Chechen crisis, growing strains in relations between the United States and Russia, and uncertainty about the future of Russian political and economic reform.

Such a reconsideration would merely accelerate trends already at work. First, the amount of aid is shrinking, as Charles Flickner noted in the last issue of this magazine. Assistance for the Newly Independent States (NIS) collectively has fallen from $2.5 billion in the 1994 budget to $850 million in 1995.(1) For next year, the figure is expected to be around $800 million.

Second, this shrinking pie is being carved up differently. Responding to criticisms that its policy has focused too much on Russia at the expense of the other states, most notably Ukraine, the Clinton administration has scaled back the amount of aid going to Moscow for this year to $380 million, roughly 45 percent of the total for the NIS. Last year, fully 65 percent of the NIS assistance budget went to Russia. In the past,it would have been pointless to have given substantial aid to Ukraine while the Kravchuk government was failing to implement any reform at all. Since President Leonid Kuchma assumed office last summer, the Ukrainian government has shown a serious determination to launch a reform program, and the United States has responded by increasing aid to Kiev: from less than 10 percent last year, it is projected to receive nearly a quarter of the 1995 NIS assistance package.

Third, in addition to diversifying scarcer aid dollars, the administration is increasing its emphasis on the promotion of trade and investment. Roughly 3 percent of last year's assistance went to the U.S. Trade and Development Agency (TDA) and the Overseas Private Investment Corporation (OPIC). This year, these two agencies account for 9 percent of the total NIS package. In addition, the Export-Import Bank, which helps finance and promote the export of American goods and services around the world, was allocated $300 million$in 1994 from the NIS aid budget to be spent over two years. This comes on top of the several billion dollars that the bank and OHC allocate for activities in Russia from their own budgets. As well, Enterprise Funds, non-profit corporations designed to attract private sector investment in the NIS, receive $90 million from the NIS assistance budget.(2)

Helping Others, Helping Ourselves?

Promotion of trade and investment in Russia, defenders of the policy argue, goes hand-in-hand with technical assistance. Russia's strategic importance, combined with its poor business climate, compel the U.S. government to create incentives for American corporations to explore opportunities in Russia. Moreover, the argument goes, such a policy serves U.S. economic interests by creating more export opportunities and jobs for American workers.

Not surprisingly, promotion of trade and investment is very popular in the House and Senate as a means of funneling assistance to corporations in members' districts. Some congressmen, such as Senator McConnell (since the Republican takeover of Congress, the new chairman of the Senate Appropriations Subcommittee on Foreign Operations) want to devote even more resources to the promotion of trade and investment. He has called for the trade agency to be merged with OPIC, and the budget for the combined organization to be nearly quadrupled. "We can strengthen popular support for foreign aid," McConnell said last December in unveiling his plan for overhauling the U.S. foreign assistance program, "by making it more clearly serve American business interests." The problem with this suggestion is that it does not constitute foreign aid; it is corporate welfare.

Clearly, American trade and investment are crucial to the success of Russia's economic reforms and its integration into the world economy. But first the Russian government and parliament - as well as local legislatures and administrators - must, among other things, continue to pursue privatization of enterprises and land, enact clear foreign investment legislation, pass banking and securities regulations, and reduce the overall barriers to doing business in Russia. Foreign investment in Russia will not materialize to any significant degree unless Russia improves its business environment. Until it does so, U.S. government efforts to promote trade and investment in Russia will be futile.

Do Away With TDA

In its effort to drum up American corporate interest in Russia, the Clinton administration has offered millions of dollars to U.S. businesses since 1992 through TDA, OPIC, and the Export-Import Bank. In the 1995 aid package, TDA gets $17 million and OPIC $60 million. The trade agency, although the smallest of the three, is nevertheless the most egregious waste of taxpayer dollars. A little-known independent government agency, TDA provides funding through non-reimbursable grants to American firms for feasibility studies overseas, including, since late 1991, Russia and the other states of the former Soviet Union. Agency guidelines state that individual projects should have the potential to generate $50 to $100 in exports for each $1 of assistance. According to a 1993 General Accounting Office report, however, most projects supported by TDA have generated fewer exports than expected. In fact, the report concludes with the skeptical observation that "it is difficult to determine if these exports would have occurred without TDA'S assistance."(3)

TDA exemplifies the worst in corporate welfare. Feasibility studies are an important part of the process for getting project funding, but they should not be done at the expense of the American taxpayer. The federal government does not fund corporate feasibility studies for projects in the United States. To paraphrase Senator McConnell, if we don't do it here, we shouldn't be doing it in Russia - or anywhere else for that matter.

Nor are these feasibility studies redeemed by the value of their product. TDA provides grants to small and medium-sized companies and numerous "Beltway Bandits," that is, Washington-area consulting companies. It also awards grants to Fortune 100 companies and corporations with an established business presence in Russia. Examples of highly questionable awards include a $400,000 award to IBM for a study on developing a modern automated banking system in Kazakhstan; a $435,000 grant to Marriott International for a study on the construction of a Marriott hotel to replace an Intourist hotel in downtown Moscow; and a $200,000 grant to Caterpillar (which in January reported record earnings for the fourth quarter), for a study on upgrading diesel engines with Zil, a Russian enterprise that is close to shutting down all twelve of its plants. Other major recipients include General Electric, Raytheon, Owens Corning, McDermott, Westinghouse, and Ernst & Young - all multi-billion dollar companies that should pay for these studies themselves. Even more inexplicable are three grants totaling $940,000 to the World Bank, and five grants totaling more than $1.1 million to the European Bank for Reconstruction and Development.

Finally, the trade agency's rationale for its work is flimsy. "Russia remains a risky place to do business," acknowledges Daniel Stein, TDA's regional director for the NIS. "It is not surprising that even the largest U.S. companies are reluctant to commit the extensive corporate financial and human resources that are needed to pursue a commercial opportunity that may or may not actually exist."(4) Regrettably, TDA is not as reluctant to gamble with U.S. taxpayers' dollars.

Describing the agency's feasibility study funding as "modest" - grants range from $1,000 to $1 million - Stein argues that the "political message sent by TDA involvement at the initial stage of a project is often as important as the financial assistance provided." A strange message indeed for an agency that purports to encourage free enterprise. While Stein tries to inject a "political message" into business investment decisions, shouldn't the U.S. be encouraging Russia to de-politicize its grossly over-politicized economy? Investment flows should be determined by market forces, not by the political whims of TDA bureaucrats.

Competing Against the Private Sector

Given the Russian government's poor track record on debt-payment - both foreign and domestic - it is not surprising that many American private-sector insurers and financial institutions avoid Russia. But those private institutions that are willing to venture into the Russian market find OPIC and the Export-Import Bank - government agencies - competing against them.

Because its grants are non-reimbursable, TDA depends on annual congressional appropriations and allocations from the NIS assistance program for new money to dole out. But it has not cornered the market on taxpayer-financed largesse. OPIC, by comparison, is a self-sustaining government agency and annually turns a profit. The practice of allocating funds to OPIC from the NIS assistance budget, therefore, is unnecessary and a waste of scarce resources. McConnell's proposal for a massive increase in funds for a combined OPIC-TDA is similarly misguided.

OPIC uses its profits to offer new loans and guarantees abroad. Its record of success is likely to be tested, however, in the NIS. In 1994, OPIC approved project financing and political risk insurance of more than $2 billion to support U.S. investments; of that, nearly $1.5 billion is for political risk insurance which covers expropriation and political violence. OPIC also provides investment guarantees to support the debt portion - up to 75 percent - of private equity funds such as the Russia Partners (managed by Paine Webber) and the First NIS Regional Fund (run by Baring Brothers, International.).

The Export-Import Bank has supported $1.5 billion of U.S. exports to the Russian Federation. The program for the NIS, roughly one-tenth of the bank's total export-financing support, essentially insures the American exporter, or its bank, against risks of nonpayment by a foreign buyer or bank For Russia, the bank operates mostly on a sovereign risk basis, typically through the state-owned bank for Foreign Economic Affairs (Vnesheconombank). The 1993 Russian Oil and Gas Framework Agreement, under which hard currency proceeds from Russian energy sales are placed into collateral accounts, provides additional security for Export-Import Bank loans made to energy-sector companies.

If the climate for trade and investment in Russia further deteriorates - and recent events in Russia suggest this is a real possibility - the Export-Import Bank and OPIC could be faced with arrearage problems from frustrated American corporations. With talk by some Russian officials of renationalizing privatized assets, and with political uncertainty in Moscow and the threat of violence spreading beyond Chechnya, concern about the liability of OPIC and the bank is growing.

OPIC and the Export-Import Bank, the defenders argue, promote American foreign policy interests in Russia by providing incentives for American investors and exporters. But, again, the best way to interest American corporations in Russia is for the Russians themselves to improve the business environment. Are we not trying to reduce the role of the state - both U.S. and Russian - in Russia's economy? Don't the growing roles of TDA, OPIC, and the Export-Import Bank contradict that effort?

More Bang for the Ruble

The U.S. AID program for the NIS, and in particular for Russia, is under attack. Recent developments in Russia are not making it easy to argue for continuing finding to Moscow. In light of cutbacks in foreign aid in general, the Clinton administration needs to fashion an effective NIS assistance program that can win congressional support.

Barring a major shift in Moscow's political situation, the U.S. should continue to pursue a low-profile program of support for economic and democratic reform. This program should revolve around two main objectives: support for continued economic restructuring and privatization of Russian enterprises, and promotion of democracy. It should not include promoting trade and investment in Russia. This is not to suggest that American corporations should not explore trade and investment opportunities in Russia, but simply, that they should not do so at the expense of the American taxpayer.

The rewards should be incentive enough: Russia, with its educated labor force and vast natural resources, holds considerable potential for foreign investors. It is also an extremely risky place in which to do business. A sensible set of policies would recognize both realities. In general, five reforms recommend themselves.

First, stop allocations to TDA, the Export-Import Bank, and OPIC from the NIS assistance budget. Also, the administration should limit commitments by OPIC and the bank in Russia in order to lower their potential liability.

Second, concentrate assistance from the Agency for International Development on two main objectives: promoting economic restructuring and democratization. As the principal agency responsible for foreign aid, AID currently manages thirteen projects in the NIS. With less money to allocate than in the past, AID cannot afford to spread itself too thin. One of the first areas to be cut should be the Enterprise Funds, which not only go beyond AID's provenance but overlap with OPIC's activities. AID-assisted privatization has been a success in Russia, though much remains to be done, most notably land reform and overall economic restructuring. On political reform, work by the National Endowment for Democracy, the National Democratic Institute, the Free Trade-Union Institute, and the International Republican Institute deserve continued support.

Third, eliminate the $5 million from the NIS assistance budget for State Title VIII, administered by the Bureau of Intelligence and Research of the State Department. This money goes to American academic institutions that study Russia and the former Soviet Union. This, simply, is not foreign aid.

Fourth, maintain funding for exchanges. This is the best way for Russians of all stripes - bankers, politicians, farmers, etcetera - to learn from us, and us to learn from them.

And finally, continue shifting more support to the non-Russian states with the same focus that should govern aid to Russia; emphasize political pluralism and economic restructuring.

U.S. aid to Russia should promote U.S. foreign policy interests and help the Russians help themselves. The private sector should be drawn to Russia as Russians improve their business climate, politically and economically, not through subsidies from U.S. government agencies.

1 See Charles Flickner, "The Russian Aid Mess," The National Interest (Winter 1994/95). An additional $400 million for Nunn-Lugar legislation to help Russia dismantle its nuclear weapons falls under Pentagon appropriations. Statistics cited in this paper are drawn from the U.S. State Department's NIS assistance budget, as of January, 1995.

2 These funds are coordinated by the Agency for International Development (AID), which itself accounts for two-thirds of the total NIS assistance package.

3 See "U.S. Trade and Development Agency: Limitations Exist in its Ability to Help Generate U.S. Exports," General Accounting Office Report, GAO/GGD-94-9.

4 Letter to the editor, Los Angeles Times, October 15, 1994.

David J. Kramer is executive coordinator of Russian and Eurasian programs at the Carnegie Endowment for International Peace.

COPYRIGHT 1995 The National Interest, Inc.
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