N85 - October 9 2008 CO N T E N T S

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Published every two weeks / International Edition

Politics & Government

FINANCIAL CRISIS c The game of massacre in Moscow ARMY c Serdyukov draws the lessons from the war in Georgia ALERT c Russia-Iceland : the underside of a loan with interest FOCUS c Anti- corruption campaign, national cause or lost cause BEHIND THE SCENE c The Union of rightist forces scuttles itself

FINANCIAL CRISIS c The game of massacre

in Moscow

The financial crisis has turned into a game of massacre in Moscow. October 6, 7 and 8, the Russian stock market had to suspend operations several times, which did not prevent some shares from plunging by unimaginable proportions. Gazprom lost close to a quarter of its value in one session, Norilsk Nickel close to 40%, these two firms being probably the worst hit because they are the industrial standard-bearers of the Moscow marketplace and are especially the most liquid assets. The entirity of the listed Russian oil sector (including Transneft and Novatek) is worth today a bit less than 130 billion dollars, or the equivalent of the value of the Brazilian company Petrobras according to simulations by Russian analysts, which gives an idea of the price that Russia is paying in the current financial crisis. Even if the collapse of the Russian markets is totally exaggerated, investors consider that Russia combines three major risks : a liquidity crisis in the banking sector despite massive support by the public authorities, a heavy indebtedness by the major industrial and energy companies and the drop in oil prices and most of the primary commodities, on which the economic activity is based. In the storm of the last few days, a certain number of facts are particularly significant :
1/ Hardly anyone knows fully what is going on in the inner workings of the banking sector. The data revealed by the Central bank for the first eight months of the year in fact demonstrate the complete surprise that the crisis has provoked in recent weeks. At the end of August, corporate and private deposits were on the increase by 60% over the same period in 2007 (974 billion dollars). On the credit side, it was, for the same period, on the rise by 52% for companies and 38% for individuals, figures indicating a record progression. Since the start of the crisis, the Kudrin package for the banking sector could be estimated at 200 billion dollars by the end of September, or 11% of the estimated GDP for 2008, which is not negligable. But on October 7, the authorities announced supplementary measures : 36 billion dollars in loans accorded to banks, for a period of five years, of which 19 billion for the Sberbank, 8 billion for the Vneshtorgbank, 1 billion for the Rosselkhozbank and 9 billion for the other banks. Nevertheless, the greatest secrecy reigns over the way these funds will be spread into the entire financial sector and toward companies and the greatest anxiety reigns over the number of banks and companies that risk being left on the floor for technical or political reasons. 2/The major players in the energy, metal and mining sectors are beginning to be extremely weakened by both the very significant drop in prices and by liquidity problems. Oleg Deripaska, considered

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Business & Networks

FOCUS c Transhmashholding : a boulevard for Alstom ENERGY c Asia : Moscow explores the Korean option
c Gazprom consolidates its

alliances in Germany and Italy LATIN AMERICA c La Paz, new extension of Moscow/Caracas axis

P. 7-8

Regions & CIS

CHECHNYA c Interview with Mairbek VACHAGAEV MOLDOVA/TRANSDNISTRIA c Russia and the West struggle for the initiative
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up until now as the most powerful oligarch in Russia, even if this type of classificaton hardly has any sense, has been struck in a very concrete fashion. His group announced October 3 that the 20% of the Canadian auto component manufacturer Magna, acquired in 2007 at a cost of 1.54 billion dollars, through a loan of 1.2 billion from BNP Paribas, had left the perimeter of the group to the profit of the French bank, which held a guarantee on these shares. Accordiing to persistent rumours in Moscow, the 30% of the Base Element group in the public works firm Strabag and the 10% in Hochtief, purchased in 2007, were also in a position of being transferred to creditor banks. Strabag, involved in very important property projects in Moscow and Saint Petersburg (last year its turnover in Russia amounted to 1.6 billion euros in a total figure of 9.8 billion), has in fact announced a freeze of certain sites, for a volume of 200 million dollars. Another important subsidiary of Base Element is in difficulty, the automobile manufacturer GAZ (Gorki Avtozavod), which announced October 7 the stoppage of all its activities because of the lack of liquidity to pay its suppliers. Suddenly, questions arise as well on the fate of the 25% interest by Rusal in Norilsk Nickel, bought from Mikhail Prokhorov for a total of 7.5 billion dollars, and 14% of the capital of Rusal. The operation was conducted by borrowing 4.5 billion dollars, guaranteed by the Norilsk shares. Financial analysts have already calculated that in view of the collapse of the Norilsk shares (which have gone from 285 in April 2008 to less than 100 recently), Rusal must have spent at least 1.5 billion dollars in margin calls and if the value of Norilsk continues to drop, this amount might even reach 3 billion. ddd

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ARMY c Anatoly

Po l i t i c s & G ov e r n m e n t

Serdyukov draws the lessons from the war in Georgia

A bit more is starting to be known about the measures that the Russian authorities intend to take to remedy the weaknesses brought to light by the five-day war against Georgia (Russia Intelligence n82 of August 28 2008). If information circulating in Moscow can be believed information judiciously distilled by the media just after Dmitry Medvedev, on September 30, noted the compelling need to improve the leadership structure the central administration of the Defence ministry and the General staff should experience important personnel reductions. The directorate general for operations and the one in charge of the organisation and mobilisation are especially concerned since a streamlining on the order of 50% of the officer staff has been suggested. It must be said that the number of posts in the general staff had not been significantly reduced since 1990, although the overall manpower of the army went from 4.5 million to 1.3 million. In addition, since it is not able to provide its higher-grade officers coming from the provinces accommodations worthy of the name in the capital, the Defence ministry had gradually abandoned any turnover within the general staff and had been recruiting Moscovites above all, leading to the appearance of a special caste of colonels and generals with no unit command experience for more than a decade. More surprising, military intelligence (GRU), at the spearhead of the Caucasus conflicts, had not been spared. According to sources close to Anatoly Serdyukov contacted by Russia Intelligence, these decisions had been taken as earlier as the summer. The war in Georgia only served to provide a pretext to accelerate their implementation. It is a good bet that this series of measures, which have not been officially announced but whose pilosophy are not in doubt, will not contribute to an improvement in the already tense relations between the Defence ministry and the top military echelons. The latter has not accepted the reforms initiated by Anatoly Serdyukov, in which the uniformed services still see a former furniture dealer or, at best, a former tax agent. Conducted in the name of rationalisation and efficiency, these reforms truly upset their habits and affect numerous priviledges (sometimes financial in fact). The departure of General Yuri Baluevsky from the general staff last June, brought into the open light the scale of the unease and contributed to the call to order of the higher military hierarchy. (Russia Intelligence n79 of June 29 2008). Whether by coincidence or not, the reductions in personnel foreseen in defence by chance come at the same time as important works in the buildings of the general staff on the Novy Arbat, construction which led to several hundreds of officers being forced to relocate into the offices of the former Warsaw Pact on Leningradsky prospekt where some have no office or telephone (certain Russia Intelligence sources in Moscow have drawn our attention to the disorganisation borne from this relocation in the early hours of the war against Georgia in August). The other consequences awaited from the conflict in Georgia are on the budget. The Defence commission of the State Duma has just presented a series of amendments to the triannual budget that must be examined in second lecture on October 17. These amendments foresee an additional increase in the allocation for the Defence ministry of 68 billion roubles (a bit more than 2 billion dollars) next year. Which, added to the increase originally adopted, will lead to a growth in military expenditures of 25% in 2009 (1277 billion roubles, or around 36 billion euros in exchange rate parity). It is a bit less than announced by Vladimir Putin in September (he had spoken of 80 billion roubles). More than anything, these additional expenses are to go for constuction of new iunfrastructure and not for the procurment of materiel, which seems in contradiction to the announcements of the Russian Prime minister and President on the spot after the war in Georgia. As a result, it cannot be excluded that the corrected budget proposed by the Defence commission and the extension announced by Vladimir Putin lead to different things, and that another distinct budget line for the acquisition of additional arms will soon appear. If the five-day war has the effect of drawing attention of the Kremlin to the need to renew materiel and to invest in high-technology projects such as drones or the Glonass navigation system, it is impossible to also say that we are witnessing the militarisation of the Russian budget. Expenses allocated to national defence in fact represent a bit less than 2.5% of GDP, and the increases expected in 2010 and 2011 (8.86% and 6.45%) are below current inflation. d

ALERT
3 Russia-Iceland : the underside of a loan with interest
First denied by the vice Finance minister Dmitry Pankin, then by the vice Prime minister Alexandre Zhukov, who were obviously not in on the secret, the information was then confirmed Tuesday October 8 in the afternoon by the vice Prime minister in charge of Finance, Alexey Kudrin. Russia had indeed received a request for credit amounting to 4 billion dollars on the part of the Icelandic government and was studying the question. Or rather, the boss of the Icelandic central bank, David Oddson had declared that discussions were engaged and being looked on with optimism for a conclusion.In a critical economic and financial situation, Reykjavik, first sought assistance from the European union. In vain, which obliged Iceland, according to its Prime minister Geir Haarde, to look for new friends. Although itself confronted with a complex situation; Russia should, in a most unusual event, save a Western country from bankruptcy (the loan of 4 billion dollars represents about 30% of the GDP of Iceland). The matter should be watched closely since it risks having sensitive political consequences. If it does not have an army, Iceland is nevertheless a full member of NATO. We can easily imagine what reciprocity Moscow could ask on the eve of a meeting of Foreign affairs ministers of the Alliance that should decide on Ukraine and Georgia in December. While the battle of the Arctic has just begun (Russia Intelligence n84 of September 25 2008), the Kremlin also quickly grasped the unique opportunity that was opening to recruit an ally in the region. d

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c cFOCUS

Po l i t i c s & G ov e r n m e n t
BEHIND THE SCENE The Union of rightist forces scuttles itself
The salvation of democracy passes through the Kremlin. That is, by hardly stretching credulity, the message sent in early October by the Union of rightist forces (SPS), the liberal party which included in its ranks certain emblematic and controversial figures such as Anatoly Chubais (who was for a long time its principal source of financing through the national electricity company RAO EES), Irina Khakamada , or else the former vice Prime minister Boris Nemtsov. Marginalised, deprived of a parliamentary presence, struggling between an intransigent wing in its opposition to the Kremlin and a group ready for a number of concessions to find a parcel of power, the party decided on October 2 to dissolve itself in order to join a new group on the right being constituted by political consultants from the Kremlin, who seem to feel the need for a facade that is more or less credible to dilute the awkward impression of a single party born out of the domination of United Russia.Opposed to this option, Nikita Belykh, has decided to throw in the towel. It is therefore Leonid Gozman, a faithful of Anatoly Chubais who will manage day-to-day affairs and will guide the process. According to information filtering in Moscow, the new right-wing group will be spearheaded by Boris Titov, the head of the employers association Delovaya Rossia, as well as by the journalist Georgy Bovt. The democratic and liberal movement appears therefore more fragmented than ever.Yabloko, which has always refused to align itself with SPS because of its proximity with the Kremlin, should continue to lead an independent and more and more confidential existence after the departure of its historical leader Grigory Yavlinsky (Russia Intelligence n80 of July 30 2008). The SPS rebels, such as Nikita Belykh or Maria Gaydar, the daughter of the former Prime minister, should find themselves joining the marginal opposition around Vladimir Ryzhkov (Republican party), Garry Kasparov (United civic front) or Mikhail Kasyanov (United patriotic democratic). In order to clarify the situation, the former Soviet President Mikhail Gorbachev and deputy Alexandre Lebedev also announced in all seriousness the creation of another group, the Independent democratic party of Russia. Controlled democracy, as can be seen, has bright days ahead. d

Medvedevs anti-corruption campaign, national cause or lost cause ?

It is well-known that the issue is particularly dear to the heart of trained lawyer Dmitry Medvedev. Even before his election to the presidency, during a visit to NizhnyNovgorod February 27, he had announced the preparation of a national anti-corruption plan. Then, barely installed in the Kremlin, he had, on May 19, signed a decree in that direction and created a national committee with himself as the leader. Since then, the teams from the Presidential administration, the Justice ministry and the Prosecutors office, under the direction Sergey Naryshkin, have been working on the drafting new legal texts. They were finally presented during a plenary session of the national anti-corruption committee on September 30, even before being officially transmitted October 6 to the State Duma for a first reading in November. If everything proceeds as expected, the anti-corruption package will enter into law next January 1. This package contains no less than four legal texts. Several elements or absences have drawn the attention of observers. In the first instance, even the notion of corruption does not give rise to a precise definition (we note in passing that this was already the case for extremism, without preventing the adoption in 2002 of a law to fight against this phenomenon). On the other hand, the notion of conflict of interest appears for the first time in Russian law. The texts transmitted to the Duma introduce a period of quarantine, according to the Russian terminology, of a period of two years during which a civil servant leaving the public service and his new employer are bound to inform the administration of previous employment of the person concerned about the signature of a work contract. An ad hoc commission will then have to give its approval. The objective is obviously to avoid cozy relations and other scandals of self-serving abuses between former public officials and the private sector with which these agents concerned had previous contacts during their careers. It should elsewhere be noted that Dmitry Medvedevs anti-corruption package includes a certain number of amendments of the law on the status of judges. One of them stipulates that it is forbidden for judges to exercise personally or through other persons any commercial activity whatsoever. More generally, it is provided to strengthen the inspection of income and property statelents by public officials and especially of members of their families, often used as proxies. In case of refusal or false declarations, the public official risks dismissal. At a more political level, the proposals made by the President aim, according to an explanatory note accompanying them, to create within the society an intolerance to corrupt behaviour, including through the assistance of anti-corruption propaganda. Pious wishes or a first stage in winning crusade against one of the endemic scourges of Russia ? The future will tell, but it can already be noted that the drafts proposed to the parliament have aroused some worrisome signals which, in any case, give rise to feelings that, to paraphrase the Count of Lampadussa, everything must change so that nothing changes. The famous quarantine could wind up being the most theoretical, since the contracts signed by ex-officials are considered as valid unless they are annuled. But the annulment procedures are not defined. Georgy Satarov, the president of the Indem foundation, which regularly publishes developments on corruption in Russia, goes even further and considers that this proposal risks to increase the abuse, since authorisations and other exemptions represent in fact one of the traditional bread-winners of the Russian bureaucracy. Dmitry Medvedev in any case has made this matter a personal one, which, in passing, can become for the Russian President a means of affirming his authority among the population, while the powerful shadow of Vladimir Putin continues to weigh heavily. Yuri Chaika, the Prosecutor general is at this stage charged with the interministerial coordination, but it is currently said in Moscow that the Justice minister, Alexandre Konovalov the only close associate of Dmitry Medvedev in the government is also equally active in this process. d Russia Intelligence N84 j October 9 2008

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RAILWAYS c

Business & Networks

Transhmashholding : a boulevard for Alstom

The basic elements of a Franco-Rissian industrial operation of a first order are being put into place. October 6, Alstom Transport and the construction firm Transmashholding (TMH) signed an accord to establish a strategic partnership.The document foresees a technical cooperation between the two companies and could lead, following an audit and dependent on a final accord, in a stakehholding by Alstom in TMH of 25% plus one share. We recall that Transmashholding is the leading manufacturer of railway materiel in Russia. The group notably produces electric and diesel locomotives, converters, freight cars and passenger wagons, cars for suburban trains and metros, as well as motors for locomotives. Employng more than 65000 salaried personnel, TMH last year registered a turnover of 1.9 billion euros, essentially with the Russian railways, RZhD, for which it is the leading supplier of materiel. The firm was put together and until now has been controlled by Iskander Makhmudov, the oligarch of Uzbek origin who is also present in the copper sector via UGMK (Russia Intelligence n51 of March 16 2007), and his partners Andrey Bokarev and Maksim Liksutov (Transgroup). In November 2007, they created The Breakers Investment B.V., an entity under Dutch law which bought 100% of the shares of TMH. In the wake, the Russian national railway company entered into the cpital for 25% + 1 share for 370 million dollars. The president of RZhD, Vladimir Yakunin, wanted in this way to have a voice in the restructuring of TMH, and notably on the choice of its industrial alliances. On November 30 2007, he announced he was holding discussions with Bombardier in view of an entry by the Canadian group into the capital of TMH. The stake was collosal when it is considered that the Strategic development plan for railway transport until 2030 adopted by the Russian government on September 6 2007 included some 85 billion euros to be allocated for the acquisition of new materiel. All during the first half of 2008, the teams assigned by Vladimir Yakunin conducted negotiations with Bombardier on the details of the operation. Considered during a first phase, an exchange of shares was rapidly discarded because of the difference in value between TMH and the Canadian group (the case being that the Russians would have had to disburse more than one billion euros, and in addition the sale of 25% of their company, to obtain an equivalent share in their partner). The second scenario, involving the acquisition of 25% of the Breakers Investment B.V. by Bombardier, was the preferred option. But it stumbled in September apparently because of the high price sought by the Russian side. This is what the CEO of the Canadian group, Pierre Baudoin, officially announced to Vladimir Yakunin on September 25 in Berlin in the margins of the InnoTrans exhibition. The scenarios confirm the indications made in early September to Russia Intelligence by certain French sources close to the matter, who were convinced, discretely but with assurance on the failure of the TMH-Bombardier deal. As a result, Alstom who was also very interested in creating a strategic partnership with Transmashholding and who feared having lost the Russian market came back into contention. The speed with which the French signed a strategic partnership accord with TMH after the withdrawal by Bombardier surprised most Moscow observers. It must nevertheless be understood that, according to information gathered by Russia Intelligence, the teams headed by Philippe Mellier, the boss of the Alstom transport division, continued to be in constant contact with Iskander Makhmudov, who was personnally in favour of the French option, as opposed to Vladimir Yakunin, an English-speaker with an avowed weakness for the Canadians. According to our sources, the boss of TMH would have been so inclined toward the French offer because it included an accord on technical management that allowed him to step back and devote more time to his mining activities. As can be seen, it was therefore a good operation prepared by Alstom in Russia, after having already scored points in 2006 and 2007 in the energy sector (contracts for the construction of power stations in partnership agreements with Atomenergomash in the nuclear field). In view of the priviledged relations between the CEO of the French group, Patrick Kron, and President Nicolas Sarkozy, it is hoped in addition in the Kremlin that the deal if it is concluded will have just as positive an impact on the bilateral environment as the contract by Total on Shtokman in July 2007. d

ALERT

3 Ukraine : Metallurgical Industry in

the Red
Ukraine Intelligence in its previous edition warned readers of the impact of the world financial crisis in Ukraine and on the potential risks for the metallurgical industry. The pessimistic assessments for this key sector of the national economy appear to have been confirmed. The daily production of several front-ranking companies such as the Illyich Iron and Steel Works of Mariupol (Vladimir Boyko), the Alchevsk Metallurgical Combine (the ISD of Segey Taruta) and ArcelorMittal Krivoy Rog (formerly Krivorozhstal) is half the amount anticipated by the economic indicators in July. The minister of Industry was expected to convene a crisis meeting with the main industry players for 6 October. For the record, the metallurgical industry represents 40% of Ukraines exports, 12% of the States tax revenues and employs almost 500,000 people. According to Illyich Iron and Steel Works Number Two Sergey Matvienkov, Ukraines steel now is 25% more expensive than its Russian and Chinese competitors, which does not augur well on the eve of a further rise in the price of gas. According to Ukraine Intelligence sources in Kiev, it would appear that Industrial Union of Donbass head Sergey Taruta has informed Yulia Timoshenko that she should not expect financing from him in the event of a campaign for new legislative elections. d

Russia Intelligence N84 j October 9 2008

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ASIA c Moscow

Business & Networks

explores the Korean option

that the Koreans will continue exploring the reserves located west of Kamchatka. Another issue was not raised during the Russo-Korean summit but which nevertheless has been the subject of regular discussions since several months, that is the construction in parallel to the planned gas pipeline of an oil pipeline. According to our information, the boss of Transneft, Nikolay Tokarev, may have received on two occasions this summer representatives of KNOC (the last time on September 12). This plan is to develop discussions between Moscow and Pyongyang on construction by Gazprom neft, of a refinery in North Korea (Russia Intelligence n52 of March 30 2007). This country, could according to a South Korean minister, draw close to 100 million dollars in transit rights, which could mitigate the dogmatic isolationism up to now in practice in Pyongyang. The entry into service of an interkorean oil pipeline originating in Russia is nevertheless dependent of the completion of the eastern Siberian -Pacific ocean pipeline (VSTO), which has posted delays and cost overruns (Russia Intelligence n71 of February 14 2008). We also call attention to the fact that the linking of the transkorean railway system to the transiberian, an ambitious geo-economic project promoted by the boss of RZhD, Vladimir Yakunin (present during the plenary discussions), as well as the participation of Korean companies in the construction of infrastructure in Vladivostok in preparation for an APEC summit in 2012 and in Sochi for the Winter Olympics of 2014, were also discussed. d

While relations with China have become more and more complex despite their strategic partnership on display (Russia Intelligence n78 of May 29 2008) and the fragile option of unfreezing the Kuerile island dispute with Japan has still not materialised (Russia Intelligence n71 of February 14 2008), Russia is looking to diversify its policy in northeast Asia by drawing closer to South Korea. From this viewpoint; the visit of President Lee Myung-bak to Moscow in late September undoubtedly marks a turning point in the young history of bilateral relations (we remind that it was only in 1990 that Mikhail Gorbachev opened an embassy in Seoul). Logically, it was around energy that discussions between the Russian and South Korean President focused. Important progress was registered on two deals. In the first case, Gazprom and Kogas signed a preliminary accord covering the annual delivery of 10 billion cubic metres for a period of 30 years beginning in 2015. The two sides also give themselves until 2010 to complete technical and financial studies, but the favoured option is the construction of a gas pipeline from Vladivostok to Seoul via North Korea (a cost of 3 billion dollars is being spoken of). The Sakhalin deposits would play the role of supplying the required amounts. In addition, President Medvedev gave guarantees to his South Korean counterpart concerning the participation of KNOC (Korean National Oil Corporation) in the development of the continental shelf off Kamchatka. The Korean state group hs been present in the zone since 2003 and even financed up to 50 million dollars the drilling works, but certain worries had emerged in Seoul after Rosneft, KNOCs partner on the project, lost the exploration license in August. It is in all likelihood beside Gazprom

La Paz, a new extension of the Moscow-Caracas axis

As early as the spring of 2007, we drew the attention of our readers on the scenario of a possible collaboration between Russia and Bolivia (Russia Intelligence n57 of May 31 2007). The abrupt deterioration of relations between La Paz and Washington punctuated by the expulsion in mid-September of the US ambassador Philip Goldberg as well as the desire of Moscow to illustrate its presence in Latin America as a symbolic reply to the policy of the United States in the Caucasus have accelerated the process. September 18, Alexandre Medvedev, the n2 of Gazprom in charge of international relations, signed with Santos Ramirez, the president of the Bolivian national company YPFB, an accord worth 4.5 billion dollars to explore its deposits and build refineries. This project will be carried out in partnership with Total, already well established in that country. The RussoBolivian cooperation should also experience additional developments in the near future. 5 Mi-17 transport helicopters should be delivered to La Paz, according to the new Russian ambassador to Bolivia, Leonid Golubev. The proximity between Moscow and La Paz benefits from the full support of Hugo Chavez, who conducted a lightning visit to Russia in late September (he had already visited Dimitry Medvedev in the Kremlin in July). If he didnt recognise the independence of Abkazia and South Ossetia a position that can be explained by the difficulties of his friend Evo Morales with the governors of the regions of Santa-Cruz, Tarija and Pando the Venezuelan president nevertheless announced new fields of cooperation with Moscow. In the hydrocarbon sector, Gazprom signed an understanding with PDVSA covering participation of the Russian group, for 15%, in the third phase of the Delta Caribe Oriental project (exploration and development of the offshore gas deposits at Blanqilla and Tortuga in partnership with ENI, Petronas and Energias de Portugal). Gazprom will invest 850 million between 2009 and 2016. Moscow and Caracas also decided to cooperate in a new and particularly senstive domain, civil nuclear power. Receiving Hugo Chavez in Novo-Ogarevo, Vladimir Poutine confirmed that Moscow was ready to consider such an option. A joint working group including experts from Atomstroyexport, was even created . The project has already been designated as Busher-2 by Moscow observers because of the hostility it will undoubtedly arouse in Washington. Russians and Venezuelans have nontheless not lost sight of more traditional cooperation. Despite the uncertainty linked to the world financial crisis, the Russian government did not hesitate to grant a credit of a billion dollar to Caracas in view of new arms acquisitions. It is recalled that Rosoboronexport signed, as early as the spring of 2005, 12 contracts for an amount totalling 4.4 billion dollars with the Venezuelan Defence ministry. d

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In the mining and metals industries,spotlight should be cast on the the significant increase in the stocks of coal of 3.7 million tonnes for Mechel, or 12% of its estimated production in 2008, 3.2 million tonnes for Kuzbassrazrezugol, or 7% of its production. The stocks in the region of Kuzbass, the most important coal producer, was estimated at 17.3 million tonnes on September 1, a significantly higher level than normal (in the neighbourhood of 5 million tonnes). Producers are putting the responsibility for this situation on RZhD, but it is highly probable that it is due to a reduction in purchases by steelmakers. The MMK group (the steel complex of Magnitogorsk) has just announced an immediate reduction of 15% in its production and reduction of 10% of its personnel (or aboout 3000 jobs), due to a fall of 40% in orders. The demand in semifinished products sharply declined in September, especially in Europe and the United States, and it is probable that groups such as Severstal and Evraz will have to also adjust their production in the weeks to come.
ddd

Business & Networks

3/ As much as the outflows of capital are significant, they are not yet alarming. According to the Russian Central Bank, the net

outflows of capital in the private sector reached 16.7 billion dollars during the third quarter of 2008, or 15.9 billion attributed to the banking sector which provokes a slight deterioration of the balance of services and payments while the trade balance remained stable at 153.3 billion dollars for the first nine months of the year, essentially because of an increase of 36% in exports whose cause can probably be found in the price of the barrel registered last summer (147 dollars in July). The difference with that in August 1998, the current crisis does not involve public finances, which alone, are capable of limiting the damage and should require that a statue be erected to Alexey Kudrin, the Finance minister, for having preserved against winds and tides, the financial reserves without which Russia today would on the edge of the precipice. In all likelihood, this crisis will very probably provoke profound doubts about the financial management of companies and in the regulation and control of financial markets. It is also virtually certain that in view of the collapse of the price of industrial assets, some more or less voluntary redistributions should occur in the coming months. There is little doubt that the first to be targeted will be the very fragile and currently very shaken complex constituted by Norilsk Nickel, Polyus, Rusal and the group belonging to Alisher Usmanov. d

With the oil companies, the worries are of another order. The drop in the price of the barrel (to about 80 dollars for Urals crude on October 7) put them under intense pressure to the point where Lukoil, Rosneft, TNK-BP and Gazprom have official requested aid from the State to face their most urgent obligations vis vis foreign banks of about 80 billion dollars.

ENERGY c Gazprom

consolidates its alliances in Germany and Italy

As a result, after this operation, E.ON will retain only 3.5% of the capital of Gazprom (the Russian States share increases therefore automatically by about 1.5%) The October 2 accord between Gazprom and E.ON is important in itself, but also because it re-enforces the credibility of the Nord Stream project and solidifies the Russo-German couple. A few days earlier, Gazprom had tightened its links with its other major European partner ENI. September 29, Alexey Miller and his Italian counterpart agreed to conclude before the end of October an accord concerning, on the one hand, the sale by ENI to Gazprom of half of its holding in the Libyan Elephant deposit (33% evaluated at close to 2 billion dollars) and, on the other hand, on the details of management of Arktikgaz, the former Yukos subsidiary acquired in the spring of 2007 by ENI and ENEL. The Italians should notably hold the authorisations necessary to proceed with the first wells and have a framework allowing them to see more clearly the conditions for development and transport of the gas that they would extract. In other terms, Russians and Italians complete the twin operation that should allow the ENI/ENEL tandem to have access to the Yamal deposits in exchange for a ticket offered to Gazprom to enter into a country, Libya, whose increasing importance for Moscow is well known (Russia Intelligence n46-47 of January 19 2007, n76 of April 24 2008). The first days of October also brought some light on the implementation of another project conducted by Gazprom and ENI, the South Stream gas pipeline. If we can believe certain leaks filtering in Moscow, the primary plan of the Russian gas industry for the period 2009-2030 prepared by the Russian group foresees that the entry into service of the pipeline will take place only in 2014 or even 2015 and that its capacity will be of 31 billion m/yr. Last January, Alexey Miller had confirmed publicly that the opening of South Stream was expected for 2013, a date that at the time was based on that of its competitor Nabucco. d www.russia-intelligence.fr

The visit of Angela Merkel to Sochi on August 15 is remembered for having left a bitter taste with Russian leaders, who did not appreciate the harshness of her declarations about Georgia and who thought they could discern a shift in Berlins position on the question of NATO enlargement. It was in a completely different tone that the discussions between the German Chancellor and Russian President Dmitry Medvedev took place in Saint Petersburg. All the differences on Caucasia obvously did not disappear, but the impression that emerged was of a return to the traditional paradigm of Russo-German relations. Business as usual, one would be tempted to say, or the exact opposite message that most Europeans Angela Merkel included said they wanted to send in August. The most telling illustration of this normalisation was the signature, in the presence of the leaders of both countries, of an accord between Gazprom and E.ON on the Yuzhno-russkoye deposit. It should be recalled that this operation whose development began in late 2007 and which contains more than 800 billion cubic metres destined to supply, beginning in 2011, the first section of the future Nord Stream gas pipeline (about 27 billion m/yr). For more than four years, Gazprom and E.ON had discussed the details of the entry of the German group into the project. Finally, the plan adopted is the following : E.ON obtains 25% less one share of Severneftegazprom, owner of the development license of Yuzhno-russkoye. In exchange, Gazprom takes total control of Gerosgaz, a joint venture created in 1999 with E.ON and which holds 2.9% of the Russian gas giant. In view of the share price of Gazprom on October 2, the transaction amounts to 5.13 billion dollars. It concerns, first of all, an excellent deal for the Russian gas giant since in December 2007, it had sold a stake of more than 25% plus one preferred share of Yuzhno-russkoye to its other German partner, BASF, for about 2 billion euros (this preferred share will allow BASF to receive 35% and not 25% of the projects revenues, a clause explained by the investments accepted by the German group during the first phase of the development of the deposit). Russia Intelligence N84 j October 9 2008

RUSSIA INTELLIGENCE
CHECHNYA

Regions & CIS

c MAIRBEK VACHAGAEV* : Putin is the only person to whom

Kadyrov feels he must justify himself

How do you interpret the assassination of Ruslan Yamadayev in the centre of Moscow on September 24 ?

Since 1991 and the proclamation of independence by Dzokhar Dudayev, the life expectancy in Chechnya is quite short. Ruslan Yamadayev became a public figure in the fall of 1999, at the time of the outbreak of the second Chechen campaign, when he delivered the city of Gudermes to Russian troops before entering the service of the federal forces. His brother Sulim for his part became well-known in the summer of 1998 when he militarily crushed the radical salafist Islamists in Gudermes. Since then, the Yamadayev brothers had divided their roles : Ruslan had entered the political arena (he was elected deputy to the State Duma in 2003), while Sulim fought against the independentists at the head of the Vostok battalion, attached to the GRU, Russian military intelligence. The assassination of Ruslan was not a mistake, in the sense where he could have been mistaken for Sulim, whose car he was driving at the time of the events. Since it was impossible to physically strike at Sulim, the designated attackers decided to hit his older brother, which in passing is contrary to the Caucasian vendetta custom. You cannot avenge a blood debt on a member of the family of the guilty party as long as the latter is still alive, which leads me to believe that in this case, it was not a matter of a classic vendetta but a settling of political scores. By killing Ruslan, the killers knew they also affected the reputation of Sulim, and especially cut him off from the political networks of his brother in the Russian capital.
How do qualify the relations between Ramzan Kadyrov and the federal authorities ?

The Chechen authorities endlessly affirm that stability has been established in the republic and that the hour is for reconstruction. Whats the reality ?

The truth requires acknowledging that, at least in Grozny, we have gone from a cosmetic cleaning of facades, to a real reconstruction, thanks to the collosal funds allocated by Moscow. Although Chechnya traditionally has a high rate of unemployment, Kadyrov has hired virtually all the male population for the construction sites. An important detail : the funds spent by the Russian government transit through the Akhmad Kadyrov Foundation, which means that most of the people in Chechnya feel they are personnally indebted to the Chechen President for the improvement of their material conditions. Thats the second element of the pact between Kadyrov and the Kremlin : the grant of massive financial aid in exchange for the declared loyalty of the population toward Moscow. On the whole, it must be said that the population is rather favourable toward the recent developments, since it did not expect such changes to take place for decades to come. People want to believe that soon, all the republic will look like the broad avenues of Grozny which have been rebuilt.
Certain Western observers have noted with surprise that Ramzan Kadyrov seems to accord a growing place to religion ? What does this mean, in your estimation ?

Today, relations between Chechnya and Russia (that is between Kadyrov and the Putin-Medvedev tandem) rest on the pacification of the republic. No-one else could have done what was achieved by the Chechen President. Remember that the Centre had, before Kadyrov, relied on other local political figures, such as Beslan Gantamirov, Alu Alkhanov, Malik Saidulayev, but none could go beyond their own family or clan horizon. Ramzan Kadyrov, anxious to avenge the death of his father (Akhmad Kadyrov, killed during a bomb attack in Grozny May 9 2004, editors note), intransigent toward independentist fighters, presented an ideal profile for Moscow. He is linked to the n2 of the Russian Presidential administation, Vladislav Surkov (born Aslanbek Dudayev, but raised by his mother in Russia). It was Surkov who opened all the doors for Ramzan Kadyrov in Moscow, including Vladimir Putins, the only person to whom the Chechen President feels he must justify himself. In his new role, the Russian Prime minister continues to cover his protg without looking at expenses (construction of a 5 star hotel in Grozny and of a mosque for 1000 persons, the largest in Europe, without speaking of a local Disneyland or of the largest hippodrome in southern Russia). The only problem with Kadyrov is his persistent conflict with the military. If ever the links with Putin and Kadyrov deteriorated, the army could play a more active role against the Chcechen President.

This should not be surprising, since Ramzan Kadyrov is the son of a former mufti of Chechnya and as a result was raised in a very religious environment. It should also be membered that it was Akhmad Kadyrov who raised Islam to the rank of a quasiState religion between 2000 and 2004. For the older Kadyrov, the sufi tradition was an ideological form capable of rallying the hearts of Chechens, who by and large hold the salafists as responsible for the encroachment into Dagestan in August 1999 and therefore of the unleashing of the second war. As gradually as Ramzan Kadyrov has introduced certain elements of the Islamic tradition into the local administration, his support levels have naturally increased with the population. That being done, Ramzan Kadyrov pulls the rug out from under the salafists. Moscow has given a free hand to the Chechen President in this domain, which can also prove to be a dangerous ploy.
Can we say today that Ingushetia or Dagestan are, from the Kremlins viewpoint, more problematic than Chechnya ?

No, we cant see things this way. It is undoubtedly true that the attacks against representatives of the authorities federal as well as local are more frequent than in Chechnya. But the fundamental difference is that separatist ideas are marginal in Ingushetia and Dagestan, while they remain popular in Chechnya. The last remains the catalyser of all separatist movements in the region. This explains the indulgance granted by Moscow to Ramzan Kadyrov, who can in reality permit himself everything. d *Chechen historian, refugee in Paris, analyst for the Jamestown Foundation, Mairbek Vachagayev has published numerous works and articles on the Caucasus and sufism, including "The Eagle and the Wolf", Paris, Bouchet & Castel, 2008.

Russia Intelligence N84 j October 9 2008

www.russia-intelligence.fr

RUSSIA INTELLIGENCE
MOLDOVA/TRANSDNISTRIA c Russia and the West

Regions & CIS

struggle for the initiative

dimir Voronin in Dubosary and Novye Aneny, under the pretext that his security was not assured (whereupon the Moldovan President declared he was ready to meet in Tiraspol, but Igor Smirnov has still not replied to this proposal). Another complication for Moscow, the Western attitude, and especially that of the Americans, who are not really enchanted to see a Pax Russica established on the shores of the Dnistr only a few weeks after the crushing of Mikheil Saakashvili. The US amabassador to Chisinau, Asif Chaudhry (a native of Pakistan specialised in agriculture, who is a Russian speaker following posting in Moscow in the late 1990s) devoted considerable energy in late September to convince Vladimir Voronin to renounce the traditional 2+1 format (Moldova, Transdnistria, Russia) and to chose the traditional 5+2 negotiating format (Russia, Ukraine, OSCE, USA, EU). The head of the OSCE mission in Moldova, Philip Remler, a French-speaking American diplomat who was also political counsellor at the US embassy in Moscow, has also been heavily engaged in the same sense and felt he held the prospect of uniting all the protagonists in Vienna on October 8. This 5+2 meeting will not, however, take place, it was learned on October 5. According to information gathered by Russia Intelligence, Valery Nesterushkin, a former ambassador to Mauritius who has been responsible for Moldovan issues since 2004 at the Russian MID Foreign affairs ministry, clearly let it be known to Vladimir Voronin and Igor Smirnov that Moscow was not in favour of their presence in Vienna. Five years after having failed in extremis to have the famous Kozak Plan signed, Russia seems decided not to let itself be outflanked by the West over Transdnistria. d

Major manoeuvres are underway in the wings between Russians and Westerners in the case of the frozen conflict in Transdnistria. It has been obvious that for several weeks, the Kremlin has been very actively trying to persuade Chisinau and Tiraspol to conclude a peace accord under its auspices, preferably before the annual meeting of the Foreign affairs ministers of NATO scheduled for early December. The goal is to demonstrate to the other members of the CIS, but especially to Westerners, that Moscow retains the initiative in the region following the Georgian incidents (Russia Intelligence n82 of August 28 2008). From this standpoint, the end of the summer had brought some encouraging signals for Russia. The Moldovan President, Vladimir Voronin, had been particularly conciliatory during his meeting with Dmitry Medvedev in late August, insisting at length on a point that he knew to be crucial to Moscow, the future neutral status of his country (which means rejection of NATO membership). A meeting between the Moldovan President and the strongman of Tiraspol should even have taken place around September 25. The subject is nevertheless a bit more complicated than foreseen for Russian authorities. First of all because Igor Smirnov hardly appreciates having his hand forced to sign an accord that will consecrate the return, in even purely symbolic form, of Transdnistria into the Moldovan fold, although he holds the proof in the Abkhazian and South Ossetian models that Moscow can cross the line and recognise the independence of secessionist entities in the ex-USSR. The President of Transdnistria therefore refused to meet Vla-

Alexandre Lukashenko returns home

Our friendship with the Russians is not for sale. Receiving Vladimir Putin in Minsk October 6 on the occasion of the meeting of the governments of the Russia-Belarus union, Alexandre Lukashenko sought to dispel the misunderstandings born in Moscow in the face of what was perceived as an attempt to strike a distance (Russia Intelligence n82 of August 28 2008). It can be remembered in fact that the Belarus President had delayed to display his support even discreet for Moscow over the Georgian episode and that the Westerners, Americans in the lead, satisfied by the release of dissident Alexandre Kozulin, had extended a few gestures on the eve of the legislative elections on September 28. Since these latter nevertheless were conducted in conditions similar to the previous votes (no representative of the opposition gained access to the parliament), the thaw between Belarus and the West did not last long and Alexandre Lukashenko has minimised the scope of his overtures toward the West. The meetings by Vladimir Putin with Alexandre Lukashenko and the Belarus Prime minister Sergey Sidorsky highlighted the presistence of serious problems between Moscow and Minsk. At the economic level, Russia is late in releasing a credit of 2 billion dollars agreed to in principle several months ago. Belarus sources let leak information according to which nothing would move until Minsk had not officially recognised the independence of Abkhazia and South Ossetia. Neither was an agreement reached on the price of Russian gas in 2009.This question is obviously crucial for Minsk, already quite worried over the size of its trade deficit with Moscow (9.6 billion dollar for the 8 first months of the year, although Belarus only pays 128$/1000m). To retain some leverage in these negotiations with Russia, the Belarus regime has decided not to immediately sign the bilateral accord on the integration of anti-air defences, a measure that Moscow advocates in response to the Polish-American accords on the anti-missile defence. d

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Russia Intelligence j Group Publisher and Managing Editor : Franois Roche j Editor-in-chief : Arnaud Dubien j 115, rue Saint Dominique 75007 PARIS - France j Editorial : info@russia-intelligence.fr / Tel. : 33 1 53 59 35 72 j Subscription : subscriptions@russia-intelligence.fr / Tel. & Fax 33 1 46 45 53 75 j ISSN : 1771-3900 j Commision paritaire : 1206 I 85736 j Imprimerie : Hemmerl, 75002 Paris j Copyright : Eurasian Intelligence 2006 - Copy and dissemination in any form prohibited (including Intranet).
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Russia Intelligence N84 j October 9 2008

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