[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]
U.S.-RUSSIA ECONOMIC RELATIONSHIP:
IMPLICATIONS OF THE YUKOS AFFAIR
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON
DOMESTIC AND INTERNATIONAL
MONETARY POLICY, TRADE, AND TECHNOLOGY
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED TENTH CONGRESS
FIRST SESSION
__________
OCTOBER 17, 2007
__________
Printed for the use of the Committee on Financial Services
Serial No. 110-71
U.S. GOVERNMENT PRINTING OFFICE
39-909 PDF WASHINGTON DC: 2007
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HOUSE COMMITTEE ON FINANCIAL SERVICES
BARNEY FRANK, Massachusetts, Chairman
PAUL E. KANJORSKI, Pennsylvania SPENCER BACHUS, Alabama
MAXINE WATERS, California RICHARD H. BAKER, Louisiana
CAROLYN B. MALONEY, New York DEBORAH PRYCE, Ohio
LUIS V. GUTIERREZ, Illinois MICHAEL N. CASTLE, Delaware
NYDIA M. VELAZQUEZ, New York PETER T. KING, New York
MELVIN L. WATT, North Carolina EDWARD R. ROYCE, California
GARY L. ACKERMAN, New York FRANK D. LUCAS, Oklahoma
JULIA CARSON, Indiana RON PAUL, Texas
BRAD SHERMAN, California PAUL E. GILLMOR, Ohio
GREGORY W. MEEKS, New York STEVEN C. LaTOURETTE, Ohio
DENNIS MOORE, Kansas DONALD A. MANZULLO, Illinois
MICHAEL E. CAPUANO, Massachusetts WALTER B. JONES, Jr., North
RUBEN HINOJOSA, Texas Carolina
WM. LACY CLAY, Missouri JUDY BIGGERT, Illinois
CAROLYN McCARTHY, New York CHRISTOPHER SHAYS, Connecticut
JOE BACA, California GARY G. MILLER, California
STEPHEN F. LYNCH, Massachusetts SHELLEY MOORE CAPITO, West
BRAD MILLER, North Carolina Virginia
DAVID SCOTT, Georgia TOM FEENEY, Florida
AL GREEN, Texas JEB HENSARLING, Texas
EMANUEL CLEAVER, Missouri SCOTT GARRETT, New Jersey
MELISSA L. BEAN, Illinois GINNY BROWN-WAITE, Florida
GWEN MOORE, Wisconsin, J. GRESHAM BARRETT, South Carolina
LINCOLN DAVIS, Tennessee JIM GERLACH, Pennsylvania
ALBIO SIRES, New Jersey STEVAN PEARCE, New Mexico
PAUL W. HODES, New Hampshire RANDY NEUGEBAUER, Texas
KEITH ELLISON, Minnesota TOM PRICE, Georgia
RON KLEIN, Florida GEOFF DAVIS, Kentucky
TIM MAHONEY, Florida PATRICK T. McHENRY, North Carolina
CHARLES A. WILSON, Ohio JOHN CAMPBELL, California
ED PERLMUTTER, Colorado ADAM PUTNAM, Florida
CHRISTOPHER S. MURPHY, Connecticut MICHELE BACHMANN, Minnesota
JOE DONNELLY, Indiana PETER J. ROSKAM, Illinois
ROBERT WEXLER, Florida KENNY MARCHANT, Texas
JIM MARSHALL, Georgia THADDEUS G. McCOTTER, Michigan
DAN BOREN, Oklahoma
Jeanne M. Roslanowick, Staff Director and Chief Counsel
Subcommittee on Domestic and International Monetary Policy, Trade, and
Technology
LUIS V. GUTIERREZ, Illinois, Chairman
CAROLYN B. MALONEY, New York RON PAUL, Texas
MAXINE WATERS, California MICHAEL N. CASTLE, Delaware
PAUL E. KANJORSKI, Pennsylvania FRANK D. LUCAS, Oklahoma
BRAD SHERMAN, California STEVEN C. LaTOURETTE, Ohio
GWEN MOORE, Wisconsin DONALD A. MANZULLO, Illinois
GREGORY W. MEEKS, New York WALTER B. JONES, Jr., North
DENNIS MOORE, Kansas Carolina
WM. LACY CLAY, Missouri JEB HENSARLING, Texas
KEITH ELLISON, Minnesota TOM PRICE, Georgia
CHARLES A. WILSON, Ohio PATRICK T. McHENRY, North Carolina
ROBERT WEXLER, Florida MICHELE BACHMANN, Minnesota
JIM MARSHALL, Georgia PETER J. ROSKAM, Illinois
DAN BOREN, Oklahoma KENNY MARCHANT, Texas
C O N T E N T S
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Page
Hearing held on:
October 17, 2007............................................. 1
Appendix:
October 17, 2007............................................. 23
WITNESSES
Wednesday, October 17, 2007
Aslund, Anders, Senior Fellow, Peterson Institute for
International Economics........................................ 7
Gaddy, Clifford, Senior Fellow, The Brookings Institution........ 8
Osborne, Tim, Wiggin Osborne Fullerlove, London.................. 5
Satter, David, Research Fellow, Hoover Institution............... 10
APPENDIX
Prepared statements:
Aslund, Anders............................................... 24
Gaddy, Clifford.............................................. 33
Osborne, Tim................................................. 42
Satter, David................................................ 50
Additional Material Submitted for the Record
Roskam, Hon. Peter J.:
Responses to questions submitted to Tim Osborne.............. 53
U.S.-RUSSIA ECONOMIC RELATIONSHIP:
IMPLICATIONS OF THE YUKOS AFFAIR
----------
Wednesday, October 17, 2007
U.S. House of Representatives,
Subcommittee on Domestic and
International Monetary Policy,
Trade, and Technology,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 2 p.m., in
room 2128, Rayburn House Office Building, Hon. Luis V.
Gutierrez [chairman of the subcommittee] presiding.
Present: Representatives Gutierrez, Sherman; Paul, Lucas,
Roskam, and Marchant.
Chairman Gutierrez. The Subcommittee on Domestic and
International Monetary Policy, Trade, and Technology will come
to order. The subject of today's hearing is, ``The U.S.-Russia
Economic Relationship: Implications of the Yukos Affair.''
First, I would say good afternoon and thank you to all of
the witnesses for agreeing to appear before our subcommittee. I
think that we have assembled an excellent panel of experts that
will help the subcommittee get to the heart of this very
complex subject matter.
I yield myself 5 minutes.
The purpose of this hearing is to discuss U.S.-Russian
economic relations with an emphasis on the implications of the
Yukos affair. This hearing will provide the subcommittee with
an opportunity to closely examine the matter, including the
losses suffered by U.S. shareholders, and determine what impact
this incident will have on future U.S. investment in Russia.
Quite simply, U.S. and other would-be foreign investors need to
know whether the rules of law will be upheld in Russia.
The subcommittee won't answer that question today, but
hopefully we can shed some light on this issue, and motivate
the Administration to start asking the Kremlin some tough
questions when it comes to protecting the interests of U.S.
investors. Yukos Oil Company was initially created in 1993 by
decree of the Russian government, but in 1996, Yukos became the
first entirely private Russian oil company. By all accounts,
Yukos was a successful private enterprise, growing
substantially under the leadership of CEO Mikhail Khodorkovsky
who took significant steps to apply Western standards of
accounting and corporate governance to Yukos.
Yukos continued to progress. Yukos continued its
progressive trend in 2001 by becoming the first Russian oil
company to publish quarterly reports in accordance with
international standards. The company also hired several dozen
Western European and American-based accountants. As a result of
these reforms, Yukos was widely recognized as Russia's most
transparent corporation and enjoyed a good reputation in the
West.
With the help of international investors, Yukos continued
to expand, and by April of 2003, as a result of an agreed
merger with Rosneft, Yukos was poised to become Russia's
largest oil company and one of the world's largest, non-state-
owned oil companies. And that's when things started to unravel
for Yukos and its CEO. In October of 2003, Khodorkovsky was
arrested and later charged with tax fraud.
Less than a week after his arrest, the Russian government
froze ownership of 44 percent of Yukos' shares. In July of
2004, Yukos was officially charged with evading payment of over
$7 billion in Russian taxes. Later that same year, the Russian
government sold Yukos' main production unit through a
questionable auction process to recover some of the nearly $30
billion in alleged back taxes and penalties. Our witnesses
today will add significant detail to the questionable Yukos
auction and the entire unwinding of the company. But suffice it
to say that the course of events I just briefly outlined caused
the value of Yukos shares to plummet. And in the end, U.S.
investors were never compensated for their losses.
While we still don't exactly know how many Americans have
suffered financial losses from the Yukos affair, some estimates
put the total of U.S. investor losses as high as $6.7 billion.
Those who lost are not just institutional investors but include
individual investors as well as public and private pension
plans. Instances like the Yukos situation create an uncertainty
among potential investors, which could result in substantial
loss of investment for Russia and impede its integration into
the global economy.
Treatment of American shareholders in the Yukos affair is
the focus here, but there are several other key issues which I
think the witnesses should discuss. Beyond the Yukos affair,
Vladimir Putin's actions in the energy sector represent an
assertion of government control over a primary source of
economic growth in Russia in recent years. For example, in June
2006, Russia's officials announce that no foreign entity would
be allowed to own greater than a 49 percent stake in all but
the country's smallest oil and gas fields, keeping the richest
reserve for Russian state-controlled energy companies. Neither
the United States nor European companies impose such
restriction on Russian companies, and it is something that
should be examined and detailed here today.
The United States and Russia signed the bilateral
investment treaty, BIT, in 1992, but the treaty has not been
ratified by Russia. Ratification of the BIT would provide
protection for U.S. investors against the types of actions
taken by the Russian government in the Yukos case. The failure
of Russia to ratify the BIT has been a key weakness in the
U.S.-Russia economic relationship. Compared to investors from
other nations, U.S. investors are at a disadvantage.
For example, 38 countries including Russia, Germany,
Ireland, Italy, Spain, and the United Kingdom have concluded
bilateral investment treaties with Russia that have also been
ratified. The presence of the treaties allow Yukos investors
from these countries to sue the Russian government, but that
option is not available to U.S. shareholders.
I want to take this opportunity to call on the Bush
Administration to persuade Russia to ratify the BIT. By
ratifying the BIT, President Putin would send a strong message
to U.S. investors that investing in projects in Russia is safe
and that the Yukos situation is the exception, not the rule.
Again, thanks to our panel of witnesses, and I now
recognize Dr. Paul for his opening statement.
Congressman?
Dr. Paul. Thank you, Mr. Chairman.
As you know, I have consistently favored a policy of non-
intervention with regards to foreign affairs and to economic
policy. Where there may well be problems with the Russian
economy in terms of failed privatization and government
expropriation of assets, etc., there's no reason that these
issues should concern the U.S. Government.
Four nations could easily criticize the United States for
its weak dollar policy, which favors our exporting industries
while harming the exporting industries of our trading partners;
for our eminent domain policies, which make a mockery of
property rights; and for Sarbanes-Oxley, which unfairly burdens
companies operating in this country and causes companies to
move to foreign capital markets, we would understandably resent
this intrusion into our affairs.
While I empathize with the investors who have lost money
through the Yukos incident, the fact remains that markets are
fraught with risk. Our loose monetary policy and stimulation of
credit have led to expectations of permanent, positive economic
growth. The technological bubble and the housing bubble have
caused many to believe that markets can only go up. When
bubbles burst, when stocks decline, something must have gone
awry and the government is called upon to right the wrong.
While many innocent investors are lured into the stock
market as a result of our flawed, expansionary government
policies leading to visions of ever increasing wealth and may
not be entirely at fault for their losses, the principle of
caveat emptor seems to have been forgotten. In the case of a
burst asset bubble or a stock's decline in price, some
investors will lose out. It might be painful. It may have come
about through injustice and government meddling, but government
wrongdoing cannot be undone by more government wrongdoing.
Neither at bailout, as in the case of the housing bubble,
nor attempted government pressure on a foreign government, as
in the case of Yukos, are appropriate reactions to the losses
of investors. I wish the investors affected in the Yukos
incident well, but urge my colleagues to resist the temptation
to intervene in Russia's internal affairs.
I yield back the balance of my time.
Chairman Gutierrez. Thank you very much, Congressman.
We will now proceed to the witnesses that we have. Thank
you.
First on our panel is Mr. Timothy Osborne. Mr. Osborne is
director of GML, a private equity fund which is the owner of a
majority stake in Yukos Oil Company. He serves as senior
partner of Wiggin, Osborne & Fullerlove, an international tax
law firm based in the United Kingdom, where he has practiced
since 1978.
Prior to joining his current firm, Mr. Osborne was articled
at Lavelle, White & King. Mr. Osborne's specialty areas of
business and law include company, commercial, and tax work for
clients with international interests. Mr. Osborne received an
LLB in 1972 at University College, London.
Second, we have Mr. Anders Aslund. Mr. Aslund is a senior
fellow at the Peterson Institute for International Economics.
He previously served as the director of the Russian and
Eurasian program at Carnegie Endowment for International Peace
and is co-director of the Carnegie Moscow Centers Project on
Economics of the post-Soviet states.
Mr. Aslund is also an adjunct professor at Georgetown
University. Mr. Aslund has served as an economic advisor to the
government of Russia, the Ukraine, and to the President of
Kyrgyzstan. He was a professor at Stockholm School of Economics
and director of Stockholm Institute of East European Economics.
Mr. Aslund has worked as a Swedish diplomat in Kuwait,
Poland, Geneva and Moscow. He is a member of the Russian
Academy of Natural Sciences and co-chairman of the Economics,
Education, and Research Consortium, and chairman of the
Advisory Council of the Center for Social and Economic Research
in Warsaw.
Mr. Aslund is the author of several books on Russia,
including: ``Building Capitalism: The Transformation of the
Former Soviet Bloc''; ``How Russia Became a Market Economy'';
``Gorbachev's Struggle for Economic Reform''; and ``Russia's
Capitalist Revolution: Why Market Reform Succeeded and
Democracy Failed.''
Third, we have Mr. Clifford G. Gaddy. Mr. Gaddy was born in
1946 in Winston-Salem, North Carolina. He earned his Ph.D. in
economics from Duke University in 1991. He has held various
teaching and research positions at Duke, Georgetown, and Johns
Hopkins University, and at the Brookings Institution in
Washington, D.C., where he is currently a senior fellow and
senior in foreign policy and global economy and development
programs. He has published several books and a large number of
articles on the Russian economy.
And finally, we have Mr. David Satter. Mr. Satter is a
research fellow at the Hoover Institution, and a former Moscow
correspondent for the Financial Times of London. He has written
on Russia and the former Soviet Union for 3 decades. He is also
a senior fellow at the Hudson Institute and a visiting scholar
at the Johns Hopkins University School of Advanced
International Studies.
Satter has written two books about Russia, ``Age Of
Delirium: The Decline and Fall of the Soviet Union,'' and
``Darkness At Dawn: The Rise Of the Russian Criminal State.''
``Age'' is also being made into a documentary film by the
Russian director, Andrei Nekrasov.
I mispronounced that name.
Mr. Satter began his career as a police reporter for the
Chicago Tribune. In 1976 he was named Moscow correspondent for
the Financial Times where he worked for 6 years before becoming
a special correspondent on Soviet Affairs for the Wall Street
Journal. He graduated from the University of Chicago and Oxford
University where he was a Rhodes Scholar and earned a B.Litt
degree in political philosophy. Welcome to you all.
Mr. Osborne, you may proceed.
STATEMENT OF TIM OSBORNE, WIGGIN OSBORNE FULLERLOVE, LONDON
Mr. Osborne. I would like to thank Chairman Gutierrez for
convening this hearing today and I respectfully request that my
full written statement be entered as part of the record.
Chairman Gutierrez. Without objection, so ordered.
Mr. Osborne. My name is Tim Osborne. I'm a director of GML
Limited, formerly known as Group Menatep, Ltd., the majority
shareholder in Yukos Oil Company.
Yukos was, before its demise, the largest oil company in
Russia and the fourth-largest oil company in the world. The
past 4 years have seen a veritable onslaught against Yukos by
the authorities in Russia and American investors as all Yukos
investors worldwide have suffered. We should be alarmed at the
lack of investor protection and willingness to ignore
shareholder rights in Russia.
The Yukos case was about the illegal seizure of legitimate
private assets using trumped-up charges all for the political
and financial benefit of the Russian state. I call our
attention to four principles of free market capitalism that are
being undermined in Russia today: transparency in capital
markets; maximizing shareholder value; protecting investors;
and adherence to the rule of law.
Free, open, and transparent markets are an essential
element if buyers and sellers in any marketplace are to trade
with confidence. Public and accurate disclosure of all material
information is a basic ingredient of a more efficient market.
Accurate information is what separates investing from roulette,
and if Russia restricts the flow of information about publicly
owned companies, American investors will be paying Russian
roulette with their financial future.
If all that investors can buy is a minority share in a
state-owned enterprise and if critical information about the
controlling shareholder, an ultimate parent is restricted by
that very government, there is neither transparency nor
investor protection. Yukos was the first Russian company to
adopt Western standards of corporate governments with its
American depositor receipts trading over the counter in the
U.S. market since 2001.
By 2003, U.S. investors including state pension funds and
individuals held approximately 15 percent of the shares in
Yukos, worth in excess of $6 billion. In 2003, Yukos was
preparing to go fully public in the United States, preliminary
submissions have been made to the SEC, and under Mr.
Khodorkovsky's leadership, Yukos and GML were willing
voluntarily to accept the stringent reporting, transparency,
disclosure and internal control requirements of Sarbanes-Oxley,
a distinguished product of this committee.
The Russian government's effort to investigate and
dismantle Yukos in my view was in part directly related to
Yukos efforts to integrate with the West. In the United States
and other Western markets, corporate managers act with a
rational business purpose to maximize value for all
shareholders. American securities laws contained a set of
rights for shareholders in order to protect their financial
interests. In Russia today, state-owned enterprises often
acting further into the Kremlin's political and strategic
objectives rather than in the interest of shareholders.
Rosneft, the Russian state-owned oil giant and the
recipient of most of Yukos' major assets, in its July 2006
prospectus said: ``The Russian government, whose interest may
not coincide with those of other shareholders, controls
Rosneft, and may cause Rosneft to engage in business practices
that do not maximize shareholder value.'' The issue of
protecting the interests of investors, particularly individual
investors, is an important principle of the American free-
market economic system, regardless of whether the protection is
for investments in the United States or overseas markets.
U.S. shareholders, investors, institutional investors,
consumers, and others should be protected. Russia is an
emerging market where U.S. investment will and should occur
more and more often. It's therefore increasingly important to
minimize the risk to U.S. citizens of non-market factors.
Russia is a growing segment of the U.S. economy and there
should be laws to protect U.S. investor rights.
There's a very important role for government in ensuring
free, open, and efficient markets. The application of the rule
of law, a share in a company is a property right, and it must
be enforceable in law. So we need honest, independent courts
and tough independent regulators. The role for government is as
a neutral policeman, not as a player and referee at the same
time. In Russia, the courts are responsive to political
pressure and the regulator and the regulated are one and the
same.
Respect for the rule of law in Russia appears to be a
principle in jeopardy. The courts outside Russia are reaching
this conclusion. Each time the Russian authorities' allegations
regarding Yukos, its founders and employees, have come before
an independent court outside Russia, the court has found the
allegations to be unsubstantiated, invalid, and politically
motivated. On this basis, the Swiss Supreme Court has rejected
mutual assistance requests and the courts in England have
refused extradition requests. All of these events beg the
crucial question: From an American investor perspective, how
can you have confidence in your ability to enforce in Russia
your property right in a Russian publicly owned company without
an independent judiciary applying the rule of law to serve as
arbiter of your claim?
In conclusion, Mr. Chairman and members of the committee,
the Yukos affair is a dark cloud having over American investors
and their ability to invest in Russia with confidence. I
believe there must be a change of course in Russia with
significant economic and political reforms to protect investors
and free-market principles. American investors should be wary
until they can be confident that their rights and interests
will be protected according to internationally recognized
standards of corporate governance, business transparency, and
the rule of law.
At the moment, Russia appears to be heading in the wrong
direction. It must abide by its international commitments and
aspire internally to internationally recognized standards.
Thank you again for convening this important hearing, and I
welcome your questions.
[The prepared statement of Mr. Osborne can be found on page
42 of the appendix.]
Chairman Gutierrez. Thank you.
Mr. Aslund, please?
STATEMENT OF ANDERS ASLUND, SENIOR FELLOW, PETERSON INSTITUTE
FOR INTERNATIONAL ECONOMICS
Mr. Aslund. Thank you very much, Mr. Chairman.
I would like to thank you for this opportunity to speak on
an important topic, the implications of the Yukos affair for
the U.S.-Russia economic relationship, and I want to focus on
three topics: the U.S. Government's reaction; possible legal
recourse; and plausible future remedies. As we have heard,
Yukos was essentially subject to lawless confiscation through
aberration of Russian tax laws.
At its peak, Yukos market capitalization was $45 billion in
October 2003, and since 15 percent of Yukos shares were traded
in New York, but was $6.7 billion at the peak. The best
approximation of the total losses of American investors is
exactly that. Throughout this process, President Putin has
denied any involvement, but he has also repeatedly, somewhat in
contradiction, denied that Yukos would be bankrupted,
confiscated, or nationalized.
In fact, President Putin has hardly uttered a true word
throughout this process. His central motive was to enhance his
political control by jailing the most politically active
businessmen while the state company Rosneft seized Yukos'
assets. Many foreign investors, including at least three major
American fund management companies, naively believed President
Putin's words, and they lost billions of dollars because of his
Russian miscarriage of justice. Even so, remarkably, the U.S.
Government has not tried to defend American shareholders. Three
months after the arrest of Yukos executive Lebedev, President
Bush said, ``I respect President Putin's vision for Russia: a
country of peace within its borders with its neighbors and with
the world; a country in which democracy and freedom and rule of
law thrive.''
Reassured, Putin went ahead and had Khodorkovsky arrested 4
weeks later. Before the fire sale of Yugansk, Yukos' main oil
field, U.S. Secretary of State Colin Powell stated in October
2004, ``The Russian people came out of the post-Soviet Union
era in a state of total chaos--a great deal of freedom, but it
was freedom to steal from the state--and President Putin took
over and restored a sense of order in the country and moved in
a democratic way.'' Last summer, President Bush revealed, ``But
one thing I found out about Vladimir Putin is that he is
consistent, transparent, and honest. I know he's always telling
me the truth.''
International law offers various safeguards against the
confiscation of private property abroad; and, as you mentioned,
Mr. Chairman, the most direct remedy is a bilateral investment
treaty, and indeed the United States and Russia signed such a
treaty in 1992. The U.S. Senate ratified it, but unlike most
European countries, the United States has failed to convince
Russia to ratify it so that it assumes legal force. And
European shareholders have also two other legal options: one is
a 1994 multilateral treaty, the Energy Charter Treaty; and the
European Court of Human Rights in Strasbourg, and the United
States, unfortunately, is not a party to either of these
options.
Thus, European citizens have three international options to
sue Russia, while American citizens in this case have none. To
conclude, first, American shareholders probably lost $6 to $7
billion in the confiscation of Yukos. Second, the U.S.
President and Secretary of State have in no way protested
against this confiscation. Third, because of U.S. Government
neglect, American shareholders of Russian companies have
considerably weaker legal protection than European
shareholders. This absence of legal safeguards harms U.S.-
Russian economic relations and U.S. investments in Russia,
which are both remarkably low in any comparison.
The first remedy must be that U.S. top officials speak up
in defense of its citizens. Second, the United States should
persuade Russia to ratify the bilateral investment treaty of
1992, as you suggested, Mr. Chairman. In the longer term, the
United States needs a bilateral free trade agreement with
Russia which would include investment guarantees, but that
presupposes that Russia first becomes a member of a World Trade
Organization.
Thank you, Mr. Chairman, and I would happy to respond to
any questions.
[The prepared statement of Mr. Aslund can be found on page
24 of the appendix.]
Chairman Gutierrez. Mr. Gaddy?
STATEMENT OF CLIFFORD GADDY, SENIOR FELLOW, THE BROOKINGS
INSTITUTION
Mr. Gaddy. Thank you very much, Mr. Chairman, Thank you for
your introductory comments, and I thank also Congressman Paul
for his comments.
My own comments here will focus on the business climate
inside Russia, which exhibits some specific features that are
important to understand. First, however, I think it's important
for us to be realistic about what is at stake when we talk
about U.S.-Russian economic relations in general. The direct
U.S. stake in Russia's economy is quite small.
For most of the past decade-and-a-half, since the fall of
the Soviet Union, our direct investment in Russia has been less
than one-tenth of one percent of total U.S. direct investment
abroad. Now, with Russia's recent oil windfall, this investment
has grown, but it still remains small. And even with the
windfall, we still sell less of our products to Russia than we
do to the Dominican Republic, less than half of 1 percent of
total U.S. exports.
Having said that, our economic interaction with Russia
should be much bigger. Russia is sound, macro-economically and
physically. It has 140 million consumers still with unmet,
pent-up demand from decades of living with consumer goods
shortages under communism, which should be a potential bonanza
for U.S. and other Western companies. When expected returns are
this high but investment and trade remains small, one can
suspect perceived high risk on the market. Specifically, it is
what is usually referred to as political risk, or risk to the
investors property rights. The investor wants to know, will the
money I commit and the earnings I make be secure from
appropriation by other parties, whether they be criminals or
the state?
And there is indeed a perception of high risk of this kind
in Russia, but I'll argue that this risk stems from the lack of
knowledge about the rules that prevail in Russia, and really,
the key is to understand those rules. There are three elements
of these rules that I would like to emphasize: First, it's the
formal tax system; second, the informal tax system; and, third,
what I call the phenomenon of relational capital, the formal
tax system.
One early priority for Mr. Putin when he came in was a
thorough overhaul of a dysfunctional tax system. His motive was
to collect the wealth he needed to realize a stated goal of
building a so-called strong state. The resulting Russian tax
system has mostly clear and transparent tax rules. The rates
are basically reasonable. Administration is strict, but the
problem is it's not always fair, and I'll get to that point in
a second, because it relates to my third factor of relational
capital. But let me turn to informal taxes. What am I talking
about.
There are two main types of informal taxes in Russia. First
of all, companies in Russia are ``asked'' to make ``voluntary''
contributions to off-budget infrastructure funds, social funds,
road funds, and the like. The second form of informal taxes is
excess cost of productions. Large and successful companies are
expected to order equipment and other inputs from local
manufacturing enterprises, even if the products are not
competitive. These informal taxes are not prescribed by formal
laws, but they are mandatory and failure to pay them exposes
the owner to serious risk.
The difficulty is to know exactly what is expected. The
informal taxes are therefore like part of the iceberg that lies
beneath the surface, hidden but dangerous; it's the part that
can cause shipwrecks. One victim of the hidden iceberg was
Yukos. Mr. Khodorkovsky refused to pay the excess costs. He
tried to be, economically speaking, a cost minimizer, that is a
profit maximizer, in a system that dictated that he be a cost
maximizer.
Now, the key characteristic of both formal and informal
taxes is that the administration can be highly discretionary.
Whether or not you are deemed to have paid your taxes depends
on the judgment of individual political officials. In my
written testimony I refer to this as a ``protection racket.''
This means that success on the Russian market depends not just
on the machines and equipment you have, the management you
have, but also your connections to the right people and that's
what I term ``relational capital,'' because you can invest in
it. However, this is bad, because it diverts effort and money
away from investment and other factors, production. But if you
don't do it, you will be at a competitive disadvantage.
Now, economically, as an economist, I think this system is
bad for Russia. But the real question for us here is what are
the implications for U.S. businesses, and is there any need for
U.S. government action? Surely, this system imposes extra cost
on businesses. U.S. businesses would like to have lower costs.
More important, I think they want the competition to be fair. I
think they want a level playing field. It's not clear that this
system disadvantages American, U.S., or other foreign
investors. It may be possibly more difficult for outsiders than
Russians to acquire adequate information.
But I think that ultimately the burden rests on the
businesses. The costs are calculable and the rules are
knowable. They can make the business decision. It is up to them
to make these decisions on their own. The question of whether
or not the outside world, especially governments, can influence
this system, is not at all clear to me. There's certainly no
magic bullet, and in my written testimony, I especially warn
against what might seem to be a straightforward answer to this
of an anti-corruption campaign. The Russian situation is not so
simple, and an anti-corruption crusade might not be as
desirable as it might seem.
Thank you very much.
[The prepared statement of Mr. Gaddy can be found on page
33 of the appendix.]
Chairman Gutierrez. All of the written testimony will be
entered into the official record without objection.
And, Mr. Satter, please continue.
STATEMENT OF DAVID SATTER, RESEARCH FELLOW, HOOVER INSTITUTION
Mr. Satter. The Yukos affair represented a turning point
for post-Soviet Russia. Ever since succeeding to the
Presidency, Putin has worked to concentrate power in his hands,
eliminated federalism in violation of the Russian constitution,
subordinated the legislature, controlled the press, and
subordinated the courts.
With the arrest of Mikhail Khodorkovsky, however, he also
acted to ensure that the nation's oligarchs would serve only
political candidates backed by the regime. His goal was to
place the nation's wealth in the service of his own political
faction, choking off political opposition, and completing the
transformation of Russia into a controlled society with a
permanent political leadership.
Khodorkovsky would hardly qualify as an international cause
celebre if his arrest were an isolated incident unrelated to
the political struggles within Russia. There's no better
example of the corrupt way in which property was divided up
under Yeltsin than the way in which Khodorkovsky obtained
control of the Yukos Oil Company. It was as a result of an
auction in which his bank, the Menatep bank, was both the
manager and the principal beneficiary. Unlike the other
oligarchs, however, Khodorkovsky understood that the Russian
rules of bandit capitalism were unacceptable internationally
and he took steps to transform Yukos, introducing Western
standards of accounting and corporate governance. He also began
to exercise his rights as an honest businessman, as he saw fit,
including the right to finance opposition political parties. In
the end, I believe it was this that sealed his fate. The
Russian bureaucracy depends on businessmen's violations of the
law and in particular tax avoidance in order to facilitate a
steady flow of bribes, and to ensure that businessmen live in
fear and so are amenable to political control.
Khodorkovsky broke with that system and his example had to
be suppressed in order for the system itself to survive. The
Yukos affair casts a long shadow over Russian economic and
political life. In the post-Yukos system, no individual doing
business is completely secure in Russia. Khodorkovsky was not
only Russia's richest citizen, he was also the head of its most
enlightened company. It was a measure of Yukos' success that on
the eve of Khodorkovksy's arrest, the company was on the brink
of attracting as much as $25 billion in foreign investment from
Exxon-Mobil.
Given the rise in oil prices, Yukos could not have gone
bankrupt for purely economic reasons. Yukos proposed various
restructuring schemes for paying back the alleged tax debt, all
of which were rejected. The purpose was to break up the Yukos
Oil Company and distribute its assets to state-run energy
concerns that were run by Putin's closest cronies. The
aftermath of the Yukos affair makes it highly unlikely that
Putin and his cronies will ever give up power. Yugansk-
Neftegaz, which was the principal production unit of Yukos, was
sold to a previously unknown company called the Baikal Finance
Group at about half of its real value.
The state oil company, Rosneft, then purchased Baikal
Finance. Yukos had filed for bankruptcy in Texas and wanted an
American injunction barring Gazprom and its Western financiers
from participating in the auction. It was apparently out of a
desire to avoid legal complications that the Baikal Finance
Group, an obvious shell company, emerged to bid for Yugansk-
Neftegaz. The sale duplicated the tactics used by Yeltsin era
oligarchs during privatization. It was also illegal, because in
tax settlement cases, non-core assets must be disposed of
first.
Ugansk-Neftegaz was the core of Yukos. Under these
circumstances, it is very risky for the Putin regime and the
people connected with it to give up power, because the same
tactics that they used against Yukos can easily be used against
them. The Yukos affair, therefore, contributed significantly to
the downfall of democracy in Russia. And it was with a certain
moral stupidity that Western companies reacted favorably to
Rosneft's London IPO, suggesting that for many of them the
ethical and legal questions involved in the destruction of
Yukos are simply not relevant.
Finally, the Yukos case has emboldened the Russian
leadership to use coercive tactics against foreigners. The best
examples of this are the pressure which was brought to bear on
Royal Dutch Shell to hand over its control of the Sakhalin-2
oil project to the state-run concern Gazprom in light of
supposed environmental violations, which were forgotten the
moment the company was handed over. Under these circumstances,
there are certain steps that the United States needs to take.
In the first place, we need to bear in mind that we gain
nothing from giving undeserved grants of legitimacy to the
Russian government in economic matters or in political matters.
Such grants include membership in the G8, which is
restricted to industrial democracies. Russia is not an
industrial democracy. They also include membership in the WTO
and the rescinding of the Jackson-Vanik amendment. We need to
create the conditions for Russia to understand that it will be
held to the same rules of legal and moral behavior as the
Western countries, whose society it seeks to join. And we
should be wary of attempts by Russian companies to acquire U.S.
assets with strategic significance, both in light of the fact
that Russia is determined to prevent such acquisition when it
comes to its own strategic assets and because in the aftermath
of the Yukos case no Russian company can be regarded as truly
independent of the Russian state.
[The prepared statement of Mr. Satter can be found on page
50 of the appendix.]
Chairman Gutierrez. Thank you all very much.
I just have some general questions of the panel.
Mr. Osborne, Mr. Aslund, Mr. Gaddy, who owns what was once
Yukos today? Who owns it?
Mr. Osborne. The majority of the assets have now gone to
Rosneft, the Ugansk-Neftegaz went through the original option
process via Viscount Finance. The other production facilities
and major assets have gone to Rosneft through the current
bankruptcy auctions at generally lower prices.
Chairman Gutierrez. And who is this?
Mr. Osborne. Rosneft--it's a state-controlled company--
shares are available on the London market.
Chairman Gutierrez. So you can buy shares to the state-
owned company?
Mr. Osborne. Yes.
Chairman Gutierrez. Okay. And that's who owns what was once
Yukos? They own it?
Mr. Osborne. Yes, Rosneft currently has market
capitalization of $91 billion. Yukos, if it were alive, would
probably have $100 billion or plus. But Rosneft, partly because
it's more indebted, partly because it's not as transparent and
less well-managed; it's worthless.
Rosneft has taken over about 95 percent of the former Yukos
assets and the means, as Mr. Osborne mentioned, has been
through many of these bankruptcy auctions which took place this
last summer. But they were by and large exclusive in the sense
that other companies understood that it would be seen as a
hostile act to the Russian government to try to be against
Rosneft.
Chairman Gutierrez. Okay. Mr. Gaddy, as you look at the
rules in play in Russia, post-Soviet Union, and you look at the
Yukos affair specifically, who benefitted other than the
Russian state? Did anyone in particular in your examination
benefit from the demise of Yukos and its demise, particularly
any particular person?
Mr. Gaddy. Yes, to be frank, as I sort of suggested there,
Mr. Khodorkovsky was in the process of making Yukos into a very
Western-style company that would focus on the bottom line,
reduce costs as much as possible in order to increase profits
as much as possible, a laudable, normal goal for a Western
market-oriented company. In doing so, however, he reexamined
some of the contracts that the company's subsidiaries in the
Yukos empire had with various supplier enterprises, some big
manufacturing plants throughout Russia, and was going to cancel
those contracts and seek low-cost suppliers--again, a normal
thing to do if you're a businessman.
But the fact of the matter was that what was at stake were
thousands, probably tens of thousands of jobs, and there are
some interesting cases that the people in question reacted,
especially the politicians who depended on them. It's like
losing a plant in one of your districts, and so, I mean, it's a
complicated matter. There are certainly more beneficiaries--not
just sitting in the Kremlin. There were beneficiaries in many
local cities, towns, plants, and factories around Russia--to
me, partly explains, I think.
Mr. Satter gave a very nice description of the political
threat that Mr. Khodorkovsky may have represented to the
Kremlin, but the fact of the matter is whatever brought him
down initially there were a lot of people who were willing to
jump into the fray and give an extra kick. He had a lot of
enemies.
Chairman Gutierrez. Mr. Aslund, who do you think
benefitted? Anybody other than the Russian state?
Mr. Aslund. Normally in Russian state companies you have
substantial kickbacks by various means, which are normally very
firmly concentrated to the top management and to the chairman
of the company.
Chairman Gutierrez. Mr. Satter, any comment?
Mr. Satter. Well, the people around Putin benefitted.
Rosneft is staffed by and directed by people with close
connections to Putin. What we have seen is a transfer of the
country's wealth from the Yeltsin era oligarchs to the KGB
cronies of Putin who now not only monopolize power but also
wealth and property.
Chairman Gutierrez. Well, maybe we could examine who might
have benefitted in terms of whether it is those close to the
president, those in political positions and governmental
positions, that may have benefitted personally. I understand
that we kind of have this general rule of thumb that was
transferred back to the Russian state through this corporation,
but it seems to be an awful lot of money, something that was
worth nearly $50 billion on an open market was sold for $9
billion, and there have been estimates given by the panel today
that if it were transparent, it could be worth $100 billion
today. It's an awful lot of money somewhere put either directly
today or potentially the money that is there.
Mr. Paul?
Dr. Paul. Thank you, Mr. Chairman.
I have no doubts about the apparent political chicanery
surrounding the Yukos affair, but I have some questions about
dealing with responsibility and jurisdiction in trying to sort
this all out. I have a couple of questions, and they can be for
anybody on the panel. Investors in the United States,
basically, receive a full regime of protective self-regulatory
protections coupled with SEC oversight. Foreign companies that
list their shares or their ADRs on the NASDAQ or the New York
Stock Exchange or the American Stock Exchange must meet and
maintain financial corporate governance standards.
Companies that are quoted in the pink sheet, like Yukos, do
not need to fulfill any such requirements, and for these
reasons the SEC has used companies listed on the pink sheet as
``among the most risky investments,'' and advises potential
investors to heavily research the companies in which they
planned to invest.
I have two questions: Did investors, our investors
basically, American investors, fail to do their homework and
conduct their own due diligence about Yukos and the overall
regulatory oversight of the Russian financial markets; and,
number two, why shouldn't shareholders of investment funds
demand full disclosure if their money is being invested in this
manner if they are uncomfortable with such an investment?
If they don't get satisfactory answers, then they can just
forget about the investment. Does anybody care to comment?
Mr. Aslund. If I may start, first, I think we should
clarify here that Yukos books were quite clear. No plausible
complaint has been made by them. The tax case that has been
made against them in Russia has been because they used
loopholes in the tax system as it existed; and, retroactively,
this has been considered a crime to utilize these loopholes.
PricewaterhouseCoopers has withdrawn its audit from Yukos
for 10 years, but this can only be understood as a matter of
Russian pressure on PricewaterhouseCoopers. I don't think it
discredits the books. Yukos, if anything, seems to have a very
good standing. At least no plausible complaints have been made
about them as far as I understand. There is essentially one
problem here, and that is confiscation. And the way to handle
confiscation is normally an investment for bilateral investment
protection agreement, which as we have discussed is not
enforced with regard to Russia.
And the failure, I mean, there were of three major
investment funds well known here in the United States, which
are not publicizing how much money the lost on Yukos. I am not
going to give their names, but the reason was that they
believed in President Putin's words. President Putin stated
about half a dozen times in the course of one year that Yukos
would not be bankrupted, etc.; and these foolhardy investors
believed in President Putin's word. That was a mistake. It's
not a problem of their financial analysis as we have seen Yukos
has later on succeeded very well in terms of assets. That is
Rosneft today. So the problem is one of political analysis and
investment protection. Nothing else.
Dr. Paul. But wouldn't an investor recognize that there was
a lot of political risk in investing in Russia at that time?
Mr. Aslund. As David Satter emphasized here, Yukos turned
everything around. As late as 2002, oil companies were still
privatized in Russia. Yukos was the first in a trend and it
started a trend of re-nationalization that investors still are
very hesitant to believe in. Russia stock market value is still
about 100 percent of GDP, the normal level for Western Europe.
So there's still a big belief in the property rights in Russia,
if you look up on the stock market.
Dr. Paul. Mr. Satter, you wanted to add something?
Mr. Satter. I just wanted to say that the investors, in
order to have made a wise decision, would have had to
understand the nature of Russian society. They would have had
to understand the lawlessness of the society, the lawlessness
of the regime, because they were looking at a company which was
transparent, well-organized, well-run, and obviously
prospering. But is it fair to expect the investors to have had
a more profound understanding than our own government had and
to have achieved that understanding in the face of all the
misleading things that were said by our government, whose
responsibility it was to understand the political situation.
Chairman Gutierrez. Mr. Gaddy, do you want to wrap up with
the response to Mr. Paul?
Mr. Gaddy. Yes, I think the question is it's very easy in
hindsight to see that the investors made the wrong decision.
They made a gamble. But it was really Mr. Khodorkovsky making a
gigantic gamble himself by the very act of making his company
so transparent, so Western-like, and in an environment, as I
described, which simply could not tolerate such an entity. He
was actually counting--I mean, he's not naive--on the system
moving in that direction.
In fact, if you look at Mr. Khodorkovsky's entire career
from the time he was a kid, you know, in the Komsumol, a young
Communist league trying to play the new system, he was always
one step ahead of where things were going. He always gambled.
He always gambled correctly. This, of course, was the biggest
gamble of his life, and it was with maybe his life at stake.
But he made a mistake. Investors followed him, but the
conclusion I think is in the expression that Professor Aslund
used. They were foolhardy in that sense. In hindsight we say
yes, but at the time it seemed like a nice gamble to make.
Were you an investor?
Chairman Gutierrez. No. I wasn't an investor, but I heard
President Bush say he looked him in the eyes--looked--saw
Putin's. Well, the investors probably took that into account.
Sure, it was somewhere written. He looked him in the eyes and
saw his heart, saw a good man. Sounds like a place to invest to
me, but anyway--
[Laughter]
Chairman Gutierrez. So, next we're going to have
Congressman Lucas, please, for 5 minutes.
Mr. Lucas. Thank you, Mr. Chairman.
Isn't it fair to say, gentlemen, that Yukos is the most
high-profile example of the changes that have gone on under the
present Administration?
I read accounts in the popular media that the successor to
the old KGB--what do we call it now, the FSB--that it seems to
have evolved down to a network that has present or past players
in that particular organization at every level of relevance
throughout the economy of Russia. It would seem, and you can
comment on this if you care to, but it would seem that if the
accounts in the popular press are correct, it just simply
reflects the reality of the environment in Russia. And if
you're going to be an investor, if you're going to be a
participant in any way, you have to accept that much as the old
Soviet army had Commissars at every level to assist the
generals and the commanders, so you'll have the people to
assist you in your decision-making process.
Is that a fair observation in the popular press of the
realities as they exist now in the economy in Russia?
Mr. Osborne. I think it's fair to see that happening. I
think Yukos was certainly the first example and perhaps the
most flagrant example of the people in the Kremlin who are
clearly from the FSB taking control of all, particularly the
energy companies. But Yukos, I think, was singled out for
special attention because of the animosity felt to Mr.
Khodorkovsky by President Putin because of the perceived
political ambition.
Mr. Gaddy. I think it's also important to realize that this
phenomenon that you describe of oversight and control of the
FSB people is predominantly in the strategic sectors of oil and
gas, maybe some of the metals. I think that's important to
point out, because most American businesses that are active in
Russia now are looking at Russia are not in those strategic
sectors. They will encounter as they will describe to you
problems with corruption at a more petty level, including
sometimes officials of these institutions, these law
enforcement institutions. But they in my opinion are at very
low risk of being expropriated in the way that Mr. Khodorkovsky
was or in the case of Royal Dutch Shell or some of the other
big oil companies. It's a more ``normal'' sort of environment
in an emerging market.
Mr. Satter. I think that it's important though for an
investor to understand that although not every company and not
every investor is going to be treated the way Yukos was
treated, nonetheless, there are no guarantees. For Yukos to
have been dismantled the way it was, it was necessary to ignore
completely the rule of law. Comparable lawlessness prevails
throughout the Russian economy. It may not affect a given
investor in a given situation, but under certain circumstances,
it may well.
Mr. Aslund. Yes, I would say that we see a clear pattern
now of re-nationalization where Yukos was the first case we
have seen the Gazprom gas company picking out quite a few
assets cheaply and not very legally. We are seeing anything
that is close to the military being picked off by state
companies. You should not be in the sensitive sectors Dr. Gaddy
emphasized, and, you should not be too big and you should not
be too close to the state.
So if you are a small, retail shop or a small producer,
then you enjoy a lot of satisfaction and you can see a lot of
Western companies that are doing very well in that area. So I
don't object to your picture, but it's partial. You have
another part of Russia, which is actually flourishing in a good
sense.
Mr. Lucas. So depending on how big the porcupine is and how
hard you hug it, it depends the result that will come from it.
But as investors we have to bear that in mind when decisions
are being made and understand that this is the reality
depending on the sector and the part of the economy. It is just
the reality of place and not be naive about it.
Mr. Satter. In Russia, the law does not protect you.
Circumstances may protect you. You may be protected by the fact
that no one has any interest in causing trouble for you, but
you are not protected by the law.
Mr. Lucas. Thank you. Mr. Chairman?
Chairman Gutierrez. Mr. Roskam, you are recognized for 5
minutes.
Mr. Roskam. Thank you, Mr. Chairman.
Mr. Aslund, I think in your testimony you said that in your
opinion European investors were in a stronger position compared
to American investors. I would assume you mean European
investors in Russia compared to American investors in Russia.
First of all, is my assumption correct?
And could you elaborate on that a little bit?
Mr. Aslund. I elaborate on that more in my written
testimony. First, bilateral investment treatments are by and
large in force, and these are particularly designed to defend
foreign investors against confiscation, goes back to the issue.
And they offer arbitration in third country in those cases,
exactly what you want to have. So that's the straightforward
remedy.
In addition, you have the Energy Charter Treaty, which was
concluded by 51 countries and 46 have ratified it, the United
States left out. It came into force in 1997. Russia has said
that it's not ratifying it, but it abides by its rulings, and,
therefore, this seems to be the favorite of the shareholders in
Europe now to sue Russia for Yukos confiscations through the
Energy Charter Treaty.
The third venue, which is less popular, is the European
Court of Human Rights in Strasbourg, which is attached to the
Council of Europe. Although it's focusing on human rights, it
also deals with commercial conflicts. The most high-profile
Russian commercial case that has been there is Vladimir
Gusinsky, who accused the Russian state of having lost his
media empire, and he won a judgment with substantial damages to
Gusinsky. The Russian state acknowledges the Council of Europe,
and Russia even chairs the Council of Europe this year. So this
is the third possibility of suing Russia.
The Yukos shareholders in this country are now trying to
sue the Russian state or senior Russian officials for concrete
crimes they have committed, usually on the territory of the
United States, for example, insider trading or other securities
violations.
Mr. Roskam. Are there dissimilarly situated plaintiffs in
this case? In other words are American plaintiff-investors in
the Yukos affair, are they at a different situation
procedurally or a different posture than European plaintiff
investors?
Mr. Aslund. Yes, European investors have three different
legal venues to utilize that are not open to American
investors.
Mr. Roskam. And is it ripe yet? Have the European
investors, has there been any settlement yet or any attempt?
Or, is it still very much in the beginning stages procedurally
in those three venues?
Mr. Aslund. I can't answer that question, since I deal with
this, I'm approached by various investors from time to time in
confidence.
Mr. Roskam. I understand.
Mr. Aslund. I don't deal with them. I mean, I am not
involved in their affairs, but of course I receive information.
Almost all of them are extremely quiet about it, because they
think that we have a greater chance of winning damages from the
Russian government if they keep it as a private arbitration
issue, which is not publicized. So therefore we can't know.
Mr. Roskam. I understand.
Mr. Osborne?
Mr. Osborne. Yes, I represent the majority shareholder in
Yukos, and we have brought a claim under the Energy Charter
Treaty against the Russian government, which is I think the
great advantage that European and each of the Charter Treaty's
signatories have over the U.S. investors, because they have a
direct route to the Russian federation.
As Mr. Aslund said, the Russian federation signed the
treaty. It hasn't been ratified but there's a provision in the
treaty that binds them on the basis that they haven't opted
out. It's a slow process. It's a minimum $30 billion claim.
It's likely to be more like $50 billion by the time we do the
math.
The tribunal was constituted and decided to bifurcate the
hearing, firstly to hear issues of jurisdiction admissibility,
and then if we survive that, they'll go on to the substance.
Unfortunately, one of the arbitrators--and the one
appointed by us, so we couldn't complain--had to retire,
because he was given a job by Mr. Bush. And we just
reconstituted the committee so that we had a procedural hearing
before the end of the year and the 2-week hearing on
jurisdiction admissibility will be sometime in the first 6
months of 2008. Then there will probably be another 2 or 3
years before we get a final decision.
Chairman Gutierrez. We do things a little bit alike. You're
from Illinois. I gave you extra time.
[Laughter]
Chairman Gutierrez. Mr. Sherman, from California.
Mr. Sherman. Yes, Mr. Chairman, thank you for holding these
hearings.
We need to focus not only on what happened in Russia and
the Russian government's actions, but whether American
investors are adequately warned of the difficulties that they
can experience investing in Russian companies or investing in
Russia or investing in American companies that have exposure to
Russia.
To put our current situation in context, relations between
the United States and Russia are at an all-time low since the
end of communism. Both sides have done everything they can to
destroy what should be a natural alliance between the American
people and the Russian people. Today or yesterday, Putin was in
Tehran embracing the idea of a nuclear Iran. This is not in the
interest of Russia.
The Iranians help the Chechen terrorists. It has never been
in the interest of Russia to see Iran become nuclear, and yet
perhaps just out of spite for the United States, Putin takes
this stance. Then you contrast that with the Vice President's
speech in the Baltic states through our relatively inane idea
of putting missile defense in the Czech Republic in Poland, and
I'm not at all surprised to see poisonous relationships between
our two countries when both sides are adding one helping of
poison onto the other.
I would hope that Russia would establish an image in the
world as being in a place where the rule of law applies, where
investors can make investments without political risk. That is
in the interest of not only Russia but the entire world,
especially as we become more concerned with energy resources in
this world. Now, looking at the particularities of the Yukos
situation, I want to ask each of the panelists a question.
Who is Stephen Patrick Lynch? Dozens of stories identify
him as an American who bought at action some $1.5 billion worth
of Yukos assets for a discount price of $300 million. As far as
I know, no one has made an effort to find out who he is and
what his history is. I'd like to know if any of the panels
think he or the American financiers of that deal might have any
liability under U.S. law for participating in a process that
has damaged Yukos and its U.S. shareholders.
Let's hear each panelist in turn.
Mr. Osborne. I met Mr. Lynch. I know no more about him than
you just described.
I think it's not quite correct to say that he bought $1.5
billion worth of assets for $300 million because out of that is
also a liability of $800 million to GML for the loan that is
involved with those assets, which are the assets currently in
the Netherlands, and there are other liabilities to Rosneft.
Over and above that, I have no further comments.
Mr. Sherman. Okay. And I wasn't stating as a fact that he
got an incredible deal, just that that's what limited amount
I've been able to see in the press, which was why I have four
experts in front of me who can tell me what really happened.
Mr. Aslund?
Mr. Osborne. Well, I think that it's true as far as I'm
aware that he did bid $300 million for the company, but I think
it's equally possible to perceive that as a huge risk, because
there is no guarantee that the Dutch courts will acknowledge
the validity of the Russian bankruptcy. They may well not.
There are plenty of people out there arguing that the assets in
the Netherlands should go first to legitimate creditors, IGML,
and then to the shareholders that have been badly treated in
the West.
Mr. Sherman. Thanks for embellishing on your comments and
let's move on to Mr. Aslund.
Anything to add, Mr. Gaddy?
Mr. Gaddy. I can't help you. I never heard of him.
Mr. Sherman. Mr. Satter?
Mr. Satter. I've heard of him, but I can't add anything.
Mr. Sherman. How important is it to Russia to be viewed by
the World Business Community as a place where the rule of law
applies, and are there those in Russia who say, ``We don't
really want foreigners doing business within our borders. We
would just as soon have Russian companies do all the business
within our borders and so if foreigners fear to come within the
jurisdiction of our courts, that's a good thing.''
Perhaps Mr. Satter has a comment?
Mr. Satter. I think they do want foreign investment, but
you're right. There's a mood in Russia now which is really very
retrograde and it consists of the idea that they have their
values, we have our values; in fact, their notions of human
rights and legality that they try to foist on us are just their
way of defying us. A lot of this comes from the Russian
Orthodox Church. But it has the effect of reinforcing and
rationalizing the atmosphere of lawlessness in the country.
Mr. Sherman. So you're saying that in Russia you don't
always have rule of law and fairness to business linked with
human rights and democracy. If I add a business dispute heard
in the Austro-Hungarian Empire or the German Empire before
World War I, I think I would get a relatively fair verdict. And
yet at the same time you wouldn't want to describe either of
those countries as a democracy.
Are you saying that there is an attitude that treating
businesses fairly is just part and parcel of this larger
concept, which some in Russia reject?
Mr. Satter. We're talking about objective decisions that
are handed down by courts in which people who may be very
unequal in terms of the power they wield, nonetheless count on
a fair decision. Well, that's contrary to what exists in Russia
today. In Russia today, those who have power can count on a
decision in their interest rather than a decision based on the
law.
The political system in the country is also very much
related to the lawlessness. Under present circumstances, the
laws are so poorly written and so arbitrarily interpreted that
anybody can find himself in violation under certain
circumstances, and that makes people very, very cautions.
Mr. Sherman. Thank you, very, very much.
I'm going to let Mr. Aslund finish up. We're well over 5
minutes.
Mr. Aslund, please?
Mr. Aslund. Thank you very much.
I would like to pick up on this question. Mr. Putin himself
stated one year ago that foreigners should not be allowed to
participate in market trade, and that should be reserved for
the indigenous population; market stalls should be reserved for
Russian citizens, and this has been implemented in law quite
fiercely.
A week ago, President Putin said that there were far too
many foreign managers in Russian companies and that this was
unacceptable. Russian television state television pursues the
hard-core nationalist propaganda, so we should not blame
anybody but Mr. Putin. This comes straight from him. Let me
give you two numbers: in 1999, Russia's GDP in dollar terms was
$200 billion. This year it will be more than $1.2 trillion. It
has increased 6 times in 8 years. So therefore Mr. Putin and
others have a sense that they are walking on water. Why should
they be nice, when they as well can be nasty, so they prefer to
do that.
Chairman Gutierrez. Thank you, Mr. Aslund.
Let me, first of all, thank all of the panelists. We have
been greatly enriched by your testimony, your written testimony
and by your verbal testimony here. We're going to proceed as a
subcommittee to write to the Administration to find out what
the Administration is or isn't going to do based on the
testimony here today about the Yukos investors here in the
United States and see if we can't get some answers either from
Treasury or from the White House on this issue about how
they're going to pursue this.
And secondly, I think it's very important that we look to
the future. I mean Russia does have a sovereign wealth fund of
over $130 billion, and at some point you can only invest so
much in your own country. You're going to have to invest
elsewhere, and it seems interesting to me that both Russia--and
China has even more: billions of dollars that they wish to
invest. That means they're going to buy things with it and
obviously they may be coming our way to which to buy things. I
think it's important that we settle old disputes before we
enter into new negotiations with the former Soviet Union today,
Russia. And so your testimony has been wonderfully enlightening
to all of us, and I thank you so much.
I want to note that some members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 30 days for members to submit written question to these
witnesses and to replace their responses in the record.
This hearing is adjourned. Thank you.
[Whereupon, at 3:15 p.m., the hearing was adjourned.]
A P P E N D I X
October 17, 2007
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