Economic Crisis Slams Russia's Custom Broker Market

With freight volumes down between twenty and thirty percent nationwide compared to 2008, the Russian Federation is facing the prospect of serious budget shortfalls for the first time since the collapse of the ruble in 1998. The lost cargo volumes badly hurt Russia’s budget, which depends on customs duties for up to half of its revenues. Customs contributed only six hundred and fifty five billion rubles to the Russian budget for the first quarter of 2009, compared to one point three trillion in the first quarter of 2008, a drop off of thirty three percent.

The Russian government’s response to the shortfall in customs duties is to squeeze the remaining cargo that crosses the border for every available ruble. Everybody feels the pinch – ocean carriers, ports and terminals, warehouses and logistics companies. Perhaps the hardest hit, though, are Russia’s customs brokers (таможенные брокеры). According to a recent article in the newspaper Kommersant, the decline in cargo volumes, together with tough new Customs rules requiring of brokers enormous financial guarantees, may put up to one-third of them out of business.

First, some background. Customs brokers, more commonly known as known as expeditors (экспедиторы) or freight forwarders, play a special role in servicing the Russian freight market. Generally, they are small-to-medium sized companies, rarely more than a hundred staff in total, providing the significant service of guiding cargo through the perils of the Federal Customs Service and getting it into the hands of its legal owners. No Western company would dare to navigate the treacherous reefs and shoals of the ten-thousand page Russian Federation Customs Codex and attempt to clear cargo on its own; many, many companies have suffered huge losses for the attempt.

The expeditors, though, have just the skills to traverse the dangers of Russian Customs, and bring your cargo to you – for a price. The best expeditors work fast, have predictable prices and are honest brokers and representatives for business to Customs. The worst – so-called grey (серые) brokers – are little more than bribe-shops for quasi-legal importers and exporters. A major portion of preparing customs declarations consists of categorizing and assigning values to goods, and the oldest swindle in the book is to pay off a Customs officer to sign off on a lower valuation, save thousands of dollars in duties, and kick back a chunk of the savings to the officer.

Expediting companies flourished during the boom times. When I was with Maersk in St. Petersburg, we counted no fewer than 400 expeditors representing our clients by Power of Attorney. There were a few bad actors, greasy self-styled sharks of capitalism that abused credit agreements, ran up huge debts, then liquidated and appeared again before us, re-constituted and operating under a different name, to ask for yet another credit agreement.

One reason the companies prospered was the relative ease of entering the market. Russian rules on freight forwarding generally allowed a company to operate with a license under easy conditions – leaving a fifty-million ruble (about one point five million dollar) deposit with the Federal Customs Service, presenting a bank guarantee, or a presenting a third party Power of Attorney to Customs.

Third parties were limited to three organizations – a commercial organization called Customs Card (ООО Таможенная карта) a non-commercial structure known as the Customs’ Service Veterans Union (Совет ветеранов таможенной службы), and Rostek (Ростэк, part of the Federal Customs Service). The Federal Customs Service changed the rules at the beginning of 2009. Only Rostek is allowed now to provide a third-party guarantee, and the other two organizations are excluded.

This is a body blow to the smaller expeditors; as Kommersant points out, while a third party Power of Attorney from the Veterans Union cost only thirty-five thousand rubles per year – about one thousand dollars at today’s exchange rate – a bank guarantee can run up to three percent of a company’s annual turnover, plus ten thousand rubles for each shipment, a total of one point five million rubles (close to fifty thousand dollars) The Federal Customs Service therefore nearly is forcing expeditors to deposit fifty million rubles as an entry cost to the brokerage business.

According to Kommersant, the Federal Customs Service is concerned that importers may go bankrupt. Since expeditors guarantee duty payments when the clear goods and larger companies often use the services of multiple brokers, the Customs’ point of view has certain logic. The Russian budget is protected from the consequences of bankruptcy and non-payment of duties and fines.

This protection, however, comes at a price. As Andrei Barinov, the general director of Customs Card points out, “It is clear that taking fifty million rubles out of circulation, both previously and at present, is an option available only to a few companies, and makes little sense when you consider that all of the expenses related to it result in price increases on goods, which are passed along to the consumer.”

Other commentators see an increase in the number of instances of suspicious clearances of goods through customs as expeditors and foreign trade companies try to avoid the new regulation. The expeditor exodus, in any case, has already pushed over two hundred brokers out of business, or about one third of the market. Many closed up shop and brought their portfolios to their former competitors, where they continue to operate under new imprimatur. Kommersant quotes Federal Customs Service general-major Alexander Puchkov, an advisor to the Eurosib group,
“They and their clients are working now behind the seal of larger brokerage companies but doing the same thing as in the previous structure. It is therefore logical to conclude that the cost of brokerage services will only increase for companies involved in foreign trade.”

Less competition equals increased expense? There is worse to come, some operators in logistics companies think. Dmitry Vasilev, the general director of Arivist Logistics Overseas GmbH told Kommersant,
“Customs, encountering the issue of its planned revenue results falling together with the reduced cargo flows, is trying to squeeze the maximum amount of revenue out of the remaining cargo. Because of increased controls and a slowdown of cargo processing at the borders and in the ports, cargo owners and foreign trade companies are finding it increasingly difficult to maintain the delicate balance of business profitability. This situation may have serious and deadly consequences for the economy as a whole. In conditions where credit is either expensive or unavailable, and hard currency rates have grown, when you try to increase normal customs duties with stricter control over the release of goods in ports and at border crossings, the attempt to get more revenue can be a serious blow to the economy.

In other words, although there is much less cargo on the market, companies operating in Russia can expect to pay more for customs brokerage services, while the amount of time their cargo spends dwelling in port and at border crossings will increase. The crisis continues.

Materials cited:
Таможня затягивает пояса на участниках ВЭД
Приложение к газете "Коммерсантъ" № 71(4126) от 21.04.2009
www.kommersant.ru

Shake Up In Baltic Customs

The worldwide economic crisis hit Russia hard. Cargo volumes in the port of St. Petersburg, Russia’s largest port, are down by over forty percent versus 2008, with no end in sight. The shipping slowdown blew a hole in the Russian Federation budget, which depends heavily on Customs duties for its income. With the good times rolled for the Russian economy, the Medvedev Administration is scrambling to find every ruble it can to meet its financial obligations.

In March, according to the Russian newspapers Kommersant and Fontanka, the Chief of the Russian Federal Customs Service ordered an inspection of Baltic Customs. Baltic Customs controls the First Container Terminal, Petrolesport and other cargo complexes in the greater Port of St. Petersburg.

Baltic Customs collects a lion’s share of customs duties for the Russian state. Now it appears that the inspection will cost some of St. Petersburg’s top Customs officers their jobs, including the Chief of Baltic Customs, Oleg Tugolukov.

Federal Customs inspectors put Baltic Customs under scrutiny after noticing differences in valuations between similar types of goods clearing customs in Moscow and in St. Petersburg. The lower the value of the goods, the less duty collected by Customs for the Russian federal budget.

A lower value assigned to goods is a strong indicator of bribery. An importer may offer to kick back a few thousand dollars to a Customs inspector in return for paying less duty on the shipment. Experts estimate that the practice costs the Russian state hundreds of millions of dollars in lost revenue annually.

Over twenty Customs officers from various departments, led by Boris Shurkin, Deputy Chief of the Federal Customs Income Department, inspected shipping documents and financial results at Baltic Customs. The inspection, which began in early March, lasted over two weeks.

The Chief of Baltic Customs, Oleg Tugolukov, and his chief economist, Elena Rumyantseva, have been asked to resign their posts for negligence of duty (упущения в работе). Kommersant and Fontanka did not offer details of the charge.

Tugolukov and Rumyantseva were offered to resign of their own free will. In Russia, resigning by one’s free will – увольнение по собственному желанию – is a commonplace resolution to labor disputes. Resignation entails a contractual buyout, usually generous (but less than mandated by government regulations). It allows the person who resigns to avoid a black mark in his or her Labor Book (Трудовая Книга), a person’s official work record.

Tugolukov apparently asked for a transfer to another position. When a guarantee was not forthcoming, he refused to tender his resignation. Kommersant dubbed the house cleaning in St. Petersburg a “purge.” According to its sources, the Chief of the Federal Customs Service, Andrey Belyaninov prepared orders to fire dozens of highly placed Russian Customs officers in the next few months.

Inspector Shurkin commented to Kommersant:
“It is worth remarking that, considering the crisis and increasing competition, very few participants in foreign trade are prepared to provide useful information about imports. At the same time, the Russian Federal Customs Service, faced with an ambitious objective set by the Russian Federation government, is becoming more and more a financial entity. Naturally, even fewer companies wish to reveal information to a financial entity, particularly considering our friendly relations with the [Russian Federation] Tax Service."

Russian President Dmitry Medvedev has declared corruption one of the biggest threats to the Russian state, and made its elimination one of the goals in his administration. In late 2008 case, the Chief of Kaliningrad Customs and eleven fellow officers were arrested for organizing a criminal group. Kaliningrad is Russia’s second largest Baltic port, is an automobile manufacturing center for BMW and has designs to become a free-trade zone.

According to Fontanka, the Kaliningrad arrests were a lead-up to the move against Baltic Customs. Following the inspection of Baltic Customs, investigators moved on to scrutinize the activities of a number of accredited, bonded warehouses and storage facilities in the St. Petersburg region, as well as St. Petersburg Customs. Upon completion of the inspection, Belyaninov summoned Yuri Prokofiev, the Chief of Northwest Customs, which has regional authority over Baltic and St. Petersburg Customs, to Moscow for discussions on further actions.

The move against Baltic Customs comes as no surprise. The port of St. Petersburg handles a huge percentage of imports into Russia, including almost ninety percent of its meat. The meat importing industry in Russia is riddled with corruption; in 2006, over thirty shipping containers of meat were stolen from the port, and a Customs inspector was gunned down in his office.

In 2008, the Federal Transportation Militia raided the offices of major container shipping firms as part of an international conspiracy to change the country of origin and cargo description for meat. The Militia determined that workers in the container shipping companies colluded with criminal organizations to falsify the information on Bills of Lading.

The endemic corruption, combined with onerous customs clearance procedures, result in an average container dwell time of up to two weeks in the port of St. Petersburg. Baltic Customs rules mandate a full, one hundred percent physical inspection of all shipping container with meat. This means each and every shipping container with meat must be moved to a special area within the terminal and opened for a complete examination of all 20 tons of meat in the container.

The shake up at Baltic Customs is part of two larger trends in the Russian shipping industry. First, the Russian government is simplifying cargo clearance by pushing all customs posts to the Russian border. Under the present system, it is possible to clear cargo either at the Russian border, or at inland customs posts. The practice is called VTT, or internal customs transit (внутренный таможенный транзит). Some perceive VTT as a temptation to corruption, since it lets importers bring cargo to “their” customs post and work with “their” customs officers. Pushing customs clearance to the borders removes this element of temptation.

Second, the number of customs brokers is decreasing in step with the decrease in cargo. Customs brokers handle the difficult and complex tasks required to clear Russian customs on behalf of importers and exporters. Literally hundreds of them service the St. Petersburg market. Generally, they operate in one of three modes – by placing a cargo bond themselves, or using a power of attorney on behalf of the cargo owner, or a bank guarantee. The financial crisis is tying their hands as well. This will be the topic of my next blog.

http://www.fontanka.ru/2009/04/17/127/
Газета «Коммерсантъ» № 63(4118) от 09.04.2009

St. Petersburg Automobile Industry Crashes

Valentina Matvienko, the Governor of the Leningrad Region, long dreamed of turning the city of St. Petersburg into a major production center for the Russian automotive industry. As a result of her administration’s concerted campaign to woo the world’s major automobile manufacturers, the Venice of the North seemed by 2009 well on the way to re-making itself as the Detroit of Russia.

Now the worldwide economic crisis may have driven those dreams off a cliff. And as with all questions of foreign import and export activity, the Russian Federal Customs Service was along for the ride. First, some background.

Russia’s appetite for foreign automobiles has been one of the most stable features of its economy since the fall of the Soviet Union. What Russian doesn’t love a fast ride? – goes the proverb; and throughout wrenching currency reforms, defaults, booms and busts of the past 20 years, Russians have bought and imported foreign cars in vast quantities.

However, importing new and used cars has always been fraught with difficulties – the general inefficiency of the Russian transportation system and its capricious tariff policies add hidden transaction costs, and the Russian government long wanted the prestige of partnerships with the world’s major auto manufacturers. General Motors made a few tentative inroads into opening a plant in Togliatti, on the Volga River, back in the 1990s. The much heralded “Russian-built” Blazers were actually knock-down kits from Brazil, imported in shipping containers and put together on site by Russian workers, or fully-built cars needing only to have the bumpers bolted on and mirrors bolted on to earn the “manufactured in Russia” imprimatur.

The market really began to turn around after Vladimir Putin took over as President in 2000. Rising oil prices stabilized the Russian economy and put spare cash in people’s pockets. Local Russian production became attractive to the world’s auto majors. Ford Motor Corporation was the first to strike; by 2009, Ford, Toyota, Nissan, Honda, Hyundai and General Motors are among the major automobile manufacturers with a significant presence in St. Petersburg. The Ford plant in Shushary is one of the first ‘landmarks’ a visitor sees along the road into the city from Pulkovo Airport.

All foreign automobile manufacturers in Russia operate in the same basic way. They produce certain models in Russia – generally, affordable ones such as the Ford Focus – employing local labor and a certain percentage of Russian-produced parts, in exchange for relief of taxes and customs duties. Ford, for example, set its initial contract for Russian production for a 50% Russian-parts content by 2007. Other manufacturers cut deals allowing them longer holidays.

The manufacturers import other models – generally, more expensive ones – directly into Russia to complement brand selection. Manufacturers ship cars in shipping containers or on roll-on, roll-off vessels to Finland, and then arrange to dray or rail them to dealerships in Russia. Private citizens purchasing automobiles generally do this through a series of middlemen; these cars go either directly into Russian ports or into the Baltics, where the buyer takes care duties and customs clearance.

Overall, the Russian automobile market was, until the beginning of 2009, remarkably vigorous. Experts quoted on the website www.just-auto.com, in June 2008 predicted that Russia would produce 4 million new cars per year by 2012, surpassing even Germany as Europe’s main automobile manufacturer.

Now that prediction is in the ditch. Nationwide, Russian automobile manufacturing now is down almost 70% compared to 2008. At the beginning of the year, the Russian government introduced new tariffs on imported cars and prices rose up to 40% for some models. Anticipating the new tariffs, St. Petersburg auto majors Toyota and General Motors ramped up local production of popular models including the Captiva and Camry, and January and February pumped out 80% more cars than in the same period in 2008.

This number does not, however, reflect increased demand; many 2008 models remain unsold, in stock, and production fell off sharply in March and April. Toyota halted its production lines altogether from March 30 through April 6 to cope with falling demand, although it is now working normal hours. Ford has had a series of labor disputes with the local union over wages and hours as falling demand threatens their plant with layoffs.

Dealerships throughout St. Petersburg are closing as demand wanes, and there seems to be no end in sight. The European Business Association reports that sales of new imported cars in Russia for January and February 2009 fell on average by 36%. The biggest losers were Mitsubishi, at 64%, Hyundai at 49%, Suzuki and Land Rover at 42%, Opel and Renault at 39%, Nissan and Toyota at 37%, and Ford at 22%.

The Russian transportation system is in general so fragile, and so laden with inefficiencies and illogic, that the result of virtually any disruption is congestion to the system. If it is true that when the American economy sneezes, then the world catches a cold, then sclerotic Russia is flat on its back with viral pneumonia about now. Reserve lots in Finland are backed up with unsold cars earmarked for Russian buyers – many analysts say there is at least a six-month inventory at some locations. The crisis affects Finnish ports such as Kotka and Hamina, whose bread and butter servicing transit cargo to Russia, most of it automobiles. They report overall import volumes down by at least 20% since the New Year.

Russia insists on itself as a special case in the automobile industry, with needs to support indigenous automobile manufacturers while encouraging gradual growth in foreign production. Prime Minister Putin’s recently bailed out the Tolyatti Auto Works in Samara, not out of love for the Lada or to support the criminal gangs reputedly infesting the plant, but to ensure social stability. A few billion rubles keep a lot of disgruntled workers off the streets.

At the same time, the recent increase in tariffs on imported automobiles is hard to understand. Some St. Petersburg buyers found themselves faced with a stiff price increase on vehicles they already bought but that had not landed in Russia before the tariff increase. Russians overwhelmingly prefer foreign made vehicles to Russian made ones in any case – and maybe this would be an opportune time to bring in more foreign manufacturing, while the ruble is cheap.

Russia, however, is nothing if not contradictory. It wants the auto majors but is not willing to do what it takes, to make them feel secure about their future in Russia. As www.just-auto.com reported, major automobile manufacturers in Russia are concerned most about lack of infrastructure, customs regulations and low worker productivity. Add in the recent protectionist tariff policy and the economic outlook gets cloudier, not clearer.

As I mentioned earlier, the Federal Customs Service may not have driven the auto market over the cliff in Russia, but it was certainly along for the ride. In 2006, Customs revoked the duty free status on about 10,000 Focus automobiles, claiming that they did not have sufficient local content, and hit Ford with a $25 million dollar bill. Shipments of spare parts get held up in the port of St. Petersburg for long and tedious customs inspections, impacting the supply chain and hurting plant productivity at Shushary.

Even arranging for a green-corridor regime of minimal inspections entailed Ford going to work with a special dedicated Customs broker. This broker gets paid rates of up to $2000 per container shipment – a number, not surprisingly, near the amount that Business Transparency International cites as the average amount of a bribe to clear a shipment through Russian Customs.

St. Petersburg Chinovniki Debate Courchavel Vacations

Nothing is duller – and more dangerous – than pointing out sleaze in the Russian government. Militia officers stop drivers on Russian roads with no other pretense than to collect bribes. Parents bribe the administrators of Russian schools and universities to ensure admission for their children. Doctors and hospital workers take money for elementary health care. Plumbers take bribes to repair sinks, faucets, military officers shake down cadets for part of their salaries, and highly placed businessmen expect percentage kickbacks for commercial deals. Mentioning corruption in general terms gets you a yawn in Russia; actually revealing them about the wrong people, though, gets you a bullet in the head, like Anna Politkovskaya or Paul Khlebnikov.

Russian institutions are so awash in corruption that nobody even seems to get worked up about it; western companies operating there just find good middlemen to pay off the right people. Corruption becomes another line item, a just a Cost of Doing Business. Transparency International estimates that the average cost of additional fees exceeds two thousand dollars per shipping container for every import and export shipment arriving and departing Russia. These additional fees, paid to customs brokers, often go directly into the pockets of dishonest officers in the Federal Customs Service. Corporations would be outraged over such a thing in Rotterdam or Newark (well, maybe less so in Newark). However, foreign shipping companies, in a dog-eat-dog struggle for market share, just shrug, pass along the costs and keep the deniability plausible.

In the good times, corruption may not matter so much – over the past ten years, Russia experienced an average double-digit annual growth, thanks to high energy prices and the relative fiscal discipline of the Putin administration. The rising tide lifted many boats. A nascent middle-class formed, and average citizens could afford many previously unattainable luxuries; automobiles, trips abroad, imported clothes and shoes. The stuff that makes life not merely bearable but enjoyable. Investment in infrastructure increased and, even with endemic theft, many Russian cities became noticeably better places to live.

Now, however, energy prices and demand have sunk, capital is less available and the bottom of the consumer goods market has fallen out. Fontanka.ru, the major St. Petersburg newspaper, daily reports on closing grocery stores and auto dealerships. Governor Valentina Matvienko’s plan to convert the Venice of the North into the Russian Detroit fell afoul of the world economic crisis.

The good times for Russia are over, at least for the near future, and as might be expected, this sets people to wondering exactly where their money went during the good times. Russian President Dmitry Medvedev set the elimination of corruption high on his agenda when he came into office. And, surprisingly, he appears to be doing something about it.

A February decree requires presidential staff to report the destination and duration of all trips overseas, excluding those for official business. At year’s end, the presidential administration will publish the name of each staff member, along with the trip details.

Medvedev hopes to achieve two things with this decree. First, staff members will have to explain just how they can afford to vacation three times a year on the Cote d’Azur, when their official salary might be enough for a couple of weeks at the dacha. Accounting for their expenses, the logic goes, will make Russia’s highly placed civil servants – chinovniki – account for their income. Second, Medvedev hopes to defuse social tensions among regular citizens, who may resent the chinovniki living high off the hog while they are forced to tighten their belts.

According to Fontanka.ru, now the city of St. Petersburg is considering a similar measure, requiring its chinovniki to account for their overseas vacations. While we may never get a glimpse of the inner workings of the Kremlin, thanks to Fontanka.ru, we can read about the debate this type of ruling creates in the lower ranks of the Russian bureaucracy.

The debate between city administrators apparently is quite heated – while promoters of the bill defend its merits, opponents resent the invasion of their privacy. For example, Zoya Zaushnikova, deputy for the Fair Russia faction, voted against the measure, angrily stating,
“Why should I have to justify myself to [St. Petersburg Duma House Speaker] Tyulpanov if I go to Egypt or Turkey on vacation? I don’t want him to know where I vacation, it’s my personal business!”

St. Petersburg Legal Committee Commissioner Viktor Evtukhov, initiator of the legislation, calmed Zaushnikova, saying,
“If you want to go to Egypt, or Turkey, or Courchavel [a French skiing resort popular among the Russian elite] or Miami, that’s your right, not your obligation. We want the affairs of our chinovniki to be open and our voters to know what we spend money on. Nobody really wants to go to Courchavel…”

Then he continued, coyly ignoring the fact that he was speaking with in the presence of the press,
“I won’t tell anybody how you voted. Unlike the leader of your faction, who passes everything along to the mass media, I will prohibit my political apparatus from informing anybody that you voted against the measure. Nobody will ever know about it, Zoya Valentinova…”

According to the article, there are hints that Russia’s chinovniki have an unspoken agreement among themselves not to visit elite European resorts until the disclosure fever subsides. Russian media recently published photographs from Courchavel of important chinovniki and influential figures such as Leonid Tyagechev, Vladimir Kozhin, Evgeni Murov, Krasnodarsk senator Igor Kamenskoi, Russian NATO representative Dmitri Rogozin and Tver governor Dmitri Zelenin. Moscow region financial director Alexei Kuznetsov, under investigation for expropriating $20 billion worth of land in the prestigious Podmoskovye region, was seen vacationing with them as well.

Other important Russian chinovniki are quite open about where they enjoy to spend their vacations. For example, St. Petersburg Governor Valentina Matvienko prefers Greece, where she was an ambassador during the 1990s. Viktor Evtukhov, author of the legislation, enjoys Greece too, especially the island of Tasos.

http://www.fontanka.ru/2009/04/03/072/

Personal Interest and Customs Brokers

Of all the great debates about Russia that have been chewed over in academic circles since time out of mind – Stalin’s death count, Peter the Great’s role as a reformer, who really runs the Kremlin – one of my favorites is the one about national character. Is Russia an Asiatic country? European? Or is there a mysterious, purely Russian, third way, discernable only to true Russophiles?

I never really understood the point of the debate, because to anybody who has spent any time in Russia, Europe and Asia, it is obvious that Russia resembles no other place in the world. It is only itself. Yes, it has despotic bureaucracies like China; but Chinese communists now run one of the most unabashedly capitalist countries in the world. Sure, most of its population lives in Europe, but they live somewhere out in the sticks, way past the Brits and Swedes, weird contrarian neighbors on a woodlot at the end of the paved road.

The real answer to any philosophical debate is in the breach, to my way of thinking. Russia may have a dense oriental bureaucracy, but her bureaucrats never figured out how to make state capitalism work; their imaginations are turned towards the collection, not creation of wealth. Europe looks great to a Customs officer on a shopping tour but all the goods at the Gallery Lafayette in Paris cannot provoke him to advocate changing the business rules at home, and actually make his own country a prime shopping destination. Instead, the Customs officer will return to Russia with his shopping bags full of loot, put on his new TagHeur watch, and go back to work, where he will insist that Russia do business its own way, because of its history, its people, its peculiarities.

Why is this? Most people know the first part of Winston Churchill’s immortal definition of Russia, “It is a riddle, wrapped in a mystery, inside an enigma…” but do not know the second part: “…but perhaps there is a key. That key is Russian national interest.” I would add another key for post-Soviet Russia; the key of personal interest.

Personal interest makes Russia impermeable to change at a certain molecular level; state workers game the rules in their organization to fit their own self-interest and you either play by those rules, or you don’t play at all. Their psychology distorts concepts like the market and free trade beyond all recognition. Any Western company in Russia depends on the good will and pleasure of a very small group of selfish persons, purely economic men acting in the rational interest of their pockets. Strong business models and company structures, good lawyers and competent staff, all count heavily towards business success in Russia. But a business that provokes conflicts with officialdom, fails to negotiate the red tape and neglects to line the pockets of the right people (officially or unofficially), will have a short life in Russia indeed. One of the salient facts of Russian life, is that in all conditions, and no matter what, it grows bureaucracy; and bureaucracy must be fed. Businesses in Russia exist only the extent that they can feed the State; and it is most important to keep the chief bureaucrats fed best.

However, as the Wicked Witch once said, “These things must be done delicately.” A western company risks running afoul of racketeering and foreign corrupt business practice laws by just handing out bribes left and right; beyond that, there are enormous risks to its reputation and brand involved. A good graft system needs carefully laid veneers of professional-quality respectability and deniability applied in thick layers for optimal function. Fortunately for western companies, Russian officials are nothing if not expert in constructing just the type of cover they need to make the whole system work for them, while keeping everyone else in the dark.

For a good example, look no farther than the Russian Federation’s Federal Customs Service. It has devised an entire library of arcane rules and regulations and interprets them within a closed and opaque structure, with access granted to only a very few. Fortunately, for western companies involved in foreign trade, the Russian customs clearance system is designed especially to keep them as far away as possible – importing and exporting to Russia may cost an average of $2000 per container on top of ocean freight charges, but it has the advantage of being RICO-proof.

Recently I trawled up an article entitled, “Russian Customs Brokers Will See No Crisis” from St. Petersburg Times. The article basically states that, current economic situation in the world notwithstanding, import and export brokers in Russia continue to profit. The author writes in a sort of bland Bizarro-world prose that westerners adopt when they talk about Russia -- it all sounds good and wise and market-oriented, while serving as a smokescreen to keep the situation on the ground hidden from prying eyes.

Here are a few choice lines:

“Companies that specialize in customs registration usually have essential contacts, even on a personal level, which ensures successful business. Customs brokers know and understand the law and all its nuances.”
 Essential contacts, even on a personal level, which ensures [sic] successful business; meaning that the flip side is true, without these contacts, you are toast. Please let us have money while you burn. The law is incomprehensible except to brokers with essential contacts, who ken its nuances by consulting with oracles.

“Russian customs are notoriously problematic. Russian business ethics and customs still differ from those in the West, and the customs business has its own specific national character, which for many foreign companies is the decisive factor in choosing a mediator for this sphere of business”
 The specific national character under discussion is an outstretched hand that must receive $2000 per container load to cross the Russian border. A smart company pays a customs broker who ensures that this fee only gets paid once, at the most twice, per shipment. The broker should be related to the Customs officer he bribes.

“The range of services offered by a customs broker is usually standard, but companies should pay attention to the broker’s reputation and experience. Experts advise companies to choose on the basis of recommendation.”
 The broker should be related to the Customs officer he bribes. The officer recommends the broker, and the broker recommends the officer.

“There is currently a problem emerging with so-called “grey brokers.”
“…Grey brokers” are also organizations that have competence in dealing with customs, but they are not officially certified...
“The main obstacle facing potential brokers is the high demands stipulated by the Customs Code. Customs fees of 50 million rubles must be paid; the firm must have an insurance document of civil responsibility at a cost of 20 million rubles…
“There are, however, some brokers who do not even attempt to obtain certification, and without facing any risks are in a better position than even legal brokers.”
 Anybody working in the St. Petersburg shipping market knows that there are literally hundreds of customs brokers running around offering their services. The entry cost for a legal customs broker at the time of the article’s writing is about $2.5 million USD, a good sum, to be sure, but hardly prohibitive in Russia. The real reason that a grey broker does not face any risks is that they are hard to prosecute; they close immediately upon running into trouble, and then the same guys re-open under another name. I have run into a few companies who base their entire business model on this.

“The Russian market is now becoming more transparent, and it is obvious that the future lies in professional companies that cooperate honestly with the state and other trade bodies…
The system of customs brokers is justified and is indeed one of the guarantors of the law’s enforcement.
 The transparency of the Russian market is a debatable and my research shows that if anything, customs brokers do nothing to guarantee the law. They keep western companies in the dark as to the real nature of Russian Customs law, collect fees they use to bribe customs officers and contribute mightily to Russia’s standing as one of the most corrupt nations.

As in all matters economic – if you want the truth, follow the money and find out who benefits. The rest – discussions of national character, personal contacts, et cetera – only hides the real situation.

Customs Updates from St. Petersburg Port

Here are some interesting tidbits about Russian Customs gleaned from the reading the on-line newspaper, Fontanka.ru, found at www.fontanka.ru.

According to a March 3 report, the Federal Customs Service contributed 416 billion rubles into the Russian government budget for the first two months of 2009 – 36% less than for the same period in 2008. The FCS brought in 50.7% of the total Russian state budget in 2008, or 4.7 trillion rubles
www.fontanka.ru/2008/04/23/099/

The Federal Customs Service opens a large number of administrative cases against cargo for various suspected contraband activities, as I have written about in previous blogs. But just how high is the arrest rate? A Northwest Customs report from 2008 states that 2644 cases were opened in 3 months, which works out to about 10,500 cases per year. Most cases, the report states, are opened regarding wood products, computer technology, meat, and fish, items with cultural value and clothes and shoes imported from East Asia.

During the same period, Northwest Customs opened up 255 criminal cases, or about 85 per month, and confiscated 38 kilograms of narcotics.
www.fontanka.ru/2009/03/02/154/

For those of you wondering just exactly why the Russian Federal Customs Service arrests cargo, here is an insightful little piece. Baltic Customs in the First Container Terminal in St. Petersburg arrested 80 tons of contraband Chinese towels and bedspreads during the week of March 19. The towels and bedspreads were listed in the customs declaration as textiles and textile materials. Customs is deciding whether to press criminal charges.

Like a good investigator, I looked at the Harmonized Code for the towels and bedspreads. They fall under Section XI Textiles and textile articles, but not under Chapter 54, “Man-made filaments.” In fact, the proper category would have been Chapter 63, “Other made-up textile articles; sets; worn clothing and worn textile articles; rags.” I had to dig into the chapter 63, though, down to item 6302. “Bed linen, table linen, toilet linen and kitchen linen” to find the right classification.

It is easy to see why an importer would not want to list his cargo as worn clothing or rags, and not at all obvious to find the distinction. What is obvious is that the importer will pay a fine to Customs – about $3000 – and demurrage charges to the container carrier for the 6 shipping containers that will sit months in port while the case is resolved.
http:// www.fontanka.ru/2009/03/19/071/

One fact the Federal Customs Service may be proud of is its low rating among Russian Federation officials caught taking bribes for 2008. First place honors go to officers of the Militia, Russia’s version of the police. Out of a total 1300 prosecutions for taking bribes in 2008 (a record for Russia), the Militia accounted for thirty one percent. The World Economic Growth Competiveness Index 2007-2008 ranked Russia 111th out of 131 countries in the reliability of law enforcement.

Russian Customs accounted for only two percent, which no doubt accounts for its high World Bank Doing Business 2008 ranking of 158 out of 178 countries in regards to the ease of trading across borders.

Eighty one per cent of the prosecutions, the article notes, were for bribes of less than 30 thousand rubles, or about one thousand dollars US at average exchange rates. This is another sure sign that democracy and reform are on the march in millennial Russia.

www.fontanka.ru/2009/01/28/128/

Property Rights, Russian Customs and Monopolies

I can still recall the Soviet Union of the late 1980s and early 1990s, when the majority of Russians regarded goods produced in their own country with mostly mixed but almost entirely negative feelings, covering an entire range between silently suffering tolerance and outraged disgust. We forget about it now, but the Soviet Union was responsible for offering its citizens Bizarro-world consumer wonders, such as exploding color television sets, five-gallon glass jars of pickled squash and tins of inedible mystery meat (the dreaded tushonka). Staples like meat, cheese and cooking oil were parceled out to families by redeemable coupons (taloni). Defesit (shortage) was the biggest word in the Soviet lexicon, and people didn’t ask each other where they bought something, they asked ‘gde dostali?’ (Where did you get a hold of it?). Back then, street gangs made a fortune trading in anything and everything imported – blue jeans, baseball caps, chewing gum, shampoo, deodorant, music and VCR tapes. They fueled a booming underground economy that equaled the official Soviet GNP and gave rise to a deep and abiding respect among Russian consumers for all things imported. It is no wonder that Russian consumers in 2009 are the most brand-conscious in the world.

Russia in the modern world is a country of avid consumers; the social compact between the Putin and Medvedev administrations gives citizens the freedom to travel and consume, and a measure of security and stability, in exchange for Kremlin and oligarch control over resources and profits. The bargain extends into the world of foreign trade, where the Russian Federal Customs Service brings in over 40% of the annual state budget through the collection of duties and taxes on imports and exports. Russia’s appetite for foreign goods has slowed down in step with global economic distress but it is a sure bet that once the economy turns around (and fuel prices rise to their mid-2008 levels), Russia will begin to import western consumer goods with the same enthusiasm as they have for the past decade.

Western brand name goods are among the most popular imports to Russia, and western companies – together with the Russian government – are going to great lengths to protect the trademarks and copyrights of major corporations. The promulgation of the Customs regulation, “The Regulation on protection of intellectual property rights by customs authorities” pushes a large share of enforcement squarely onto the Federal Customs Service and gives them broad authority to halt shipments of suspected contraband, unlicensed, or unsanctioned goods at the Russian border. A tough law, and tough enforcement, the logic goes, forces counterfeiters out of the market by forcing them to either go legitimate, or get apprehended.

This may very well be the long-term effect, but the short-term effects may be entirely different; this being Russia, the only surety is improbability and logic has its own set of special rules. Consider this comment by the Russian newspaper Noviye Izvestiya:

“Businessman-importers help Russia integrate into the worldwide system of consumerism, make connections, and tie the economic elements of the market to business methodologies little-known to those brought up in a planned economy.

“But only for a certain period of time. A desired-for equilibrium cannot exist for long in Russia’s wobbling, difficult balance. The market for brands is an example. It is not a matter of shoot-outs with machine guns or single-shot snipers delineating the parameters of profitable territory – this is my territory, and this is my territory, too. Thank God, the players are on a different level. That said the arsenal of measures and actions available to destroy the competition are not insubstantial.

“Episodes from this brutal struggle began to appear when new players began to show up in the Russian brand-name import market alongside the large, powerful companies created 6-8 years ago. The new ones entered the market, one after the other. Young, ambitious wolves who wanted to exercise their legal right to work at importing brand names. But at the time all of this began, the big companies (which started up the piquant business of flooding the nation with alcohol and other well-renowned addictive substances), strengthened not only economically, but also socially. The gained a well-deserved authority among brand-name producers and wholesalers in the West. They secured for themselves certain exclusive rights that, it is true, are completely inexplicable for even the most progressive advocates of the market. Finally, they cultivated well-placed connections and associates inside of the country, which for Russia was, is, and will always be the most important thing.

“Waking up one fine day to find all sorts of competitors in small companies and cooperatives, which following the enactment of laws on competition, spread throughout the country like mushrooms after spring rain, this group of persons, buddies of the brand market, didn’t wait long to take action. And they didn’t have to invent ways to crush the competition: the immortal telephone rules, intertwined state and commercial structures, legal traps and other well-honed tricks, were arts not lost to them.

“Inspection agencies of all different kinds were set loose on an inconvenient company. It is a well-known fact that the number of inspection agencies in Russia long ago surpassed the number of actual persons. Inspection agencies paralyzed a company’s work, upset delivery schedules for goods, and turned the pockets of any who resisted inside out. Men in black masks descended on warehouses in sudden raids. This happened with a company importing Nescafe brand products. Its goods were illegally removed from all of its warehouses all at once, and held without explanation for over a month in conditions that destroyed the product. The whole time the company lost business with stores where the coffee was sold in accordance with absolutely legal documents. But the empty shelves didn’t sit bare for long; they were filled with deliveries of coffee provided from the same people, who ordered the raids. Examples from Moscow of this sort are unbelievable – once, over a six-month period, the Federal Customs Service opened and closed for an inconvenient company many times. They closed for a month. Then opened a month later. Then closed again. Then opened again. Then closed…the goods shelf life expired, they were spoiled, contracts among partners lost all meaning, and the company closed. While another one prospered.”

While protecting western trademarks and brand names is important, the article suggests strongly that this is done in Russia at the expense of fair competition among businesses, to the benefit of only the well connected. And from my previous blog, it is clear that the FCS needs very little justification to stop, arrest and confiscate a shipment of goods under the pretext that they are counterfeit, or imported without permission of the trademark holder.

How should western brand-name companies respond? They spend billions on researching, developing and bringing their brands to market, and have the right to protect them. At the same time, does a brand name business do the right thing, if by protecting its intellectual property, it deprives a small businessman of his livelihood, and promotes market monopolization in Russia?