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Cablegate: Scenesetter for Visit of Under Secretary Robert

VZCZCXYZ0000
RR RUEHWEB

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

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