[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



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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

                              ----------                              
                                                                   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



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