The Role of Investment Protection in EU-Russia Relations

October 8, 2010 | 00:00

The Role of Investment Protection in EU-Russia Relations

Russia’s model for investment policy is unsustainable, argue Fredrik Erixon and Iana Dreyer in a new paper. It has for long been clear that Russia arbitrary and Kremlinbased approach to investment protection has been damaging the prospects for Russia’s industrial sector to attract foreign investments. But now it is increasingly clear that the old model does not deliver gains to the Kremlin and oligarchs in the way it did in the past. Russia now needs to reform its investment policy, and the European Union should be a key partner in this task, e.g. through a new investment treaty.

This new paper concerns Russia’s investment policy and why Europe should put greater emphasis on its policy for improving investment protection in Russia. Russia still represents Europe’s greatest geopolitical challenge. One of Europe’s most important strategic tasks is to tie Russia to a world economy based on rule of law and the market economy. This is a longterm task – and it cannot be achieved by piecemeal concessions to Russia’s demand for special treatments and respect for its authoritarian style of capitalism. The EU should show “visionary generosity” – but one of the greatest contributions it could make to Russia is to pressure it into obligations to respect core principles of trade and investment.

It simply is not possible for Russia to return to its pre-crisis model for investment protection issues, at home and abroad. The Kremlin conglomerate, or Kremlin Inc., does not have the necessary resources for it. Russia also needs to gear up its inward investment and overall raise the level of investment in the economy. It also faces a post-Lisbon Treaty European Union, with new powers to address investment protection issues. Russia’s old strategy to divide Europe by cutting sweet deals with some governments had diminishing returns in the first place. At a time when Russia is short on cash for lavish investment projects in Europe, and when Europe is building up a collective approach for addressing investment concerns in Russia, the strategy will hit the buffers of political reality.

If the Russian leadership is clever, it will soon ratify the Energy Charter Treaty. It has already been ruled by a tribunal that Russia is bound by the treaty’s obligations on investment protection – hence it does not matter now whether Russia is in or out of the agreement. Russia will no doubt have to live up to its obligations, and hopefully there will soon be new cases brought against the Russian government that will address past expropriations. It is important to settle these disputes – to clear the deck – because they gum up current relations between Russia and individual countries. Europe cannot, and should not, agree with Russia on a new investment agreement if there are old investment disputes that have not been settled.

It is also in Russia’s interest to negotiate (sooner rather than later) an investment treaty with the EU. Investment policy will get more complicated in the EU. Investment policy, like trade policy, will get linked to a host of other political ambitions. There might be a new authority to screen inward FDI in the same way as the Committee on Foreign Investment in the United States (CFIUS) reviews, and occasionally blocks, investment to the US. Such a development would pose problems for Russia – and it would increase the overall political cost for Russia’s outward FDI.

Some voices inside Europe still argue for a “soft” line towards Russia – meaning that the EU should cater to the demands of the Kremlin. These voices will increase in force as Europe moves closer to the point in time when it will seek a new investment agreement with Russia. But not only is this view profoundly wrong – the interests of the Kremlin (as they have been manifested in the past years) are vastly different from the interest of the Russian people – it is also hurting the ability of Europe to tie Russia firmly to the world economy and its basic rules of behaviour.

Changing Russia’s policy will not be easy. Old habits die hard. There are strong vested interests that protect the old order. But it should be clear to the Russian leadership that there are diminishing returns of the old model. It will not deliver in future what it has delivered in the past. Russia will not only need increasing inward investments in the medium-to-long term future to help finance the upgrade of Russia’s industrial sector. It also needs to offer its outward investors good conditions in a world that is changing fast. That the old model cannot do.

Publication details: Vested and Invested Interests: The Role of Investment Protection in EU-Russia Relations. By Fredrik Erixon & Iana Dreyer ECIPE Policy Brief No. 2/2010

Download the full paper here.

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