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Toni Schönfelder
A lifetime of innovation

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Toni Schönfelder
A lifetime of innovation

Wednesday, Jul. 11, 2001. Page 7 Why Does Russia Need Vertical Integration? By Yulia Latynina In 1916, Vladimir Lenin bestowed upon mankind his work "Imperialism, the Highest Stage of Capitalism." In it, he describes imperialism as a capitalist monopoly that arose "when certain of capitalisms fundamental characteristics began to change into their opposites, when the features of the epoch of transition from capitalism to a higher social and economic system had taken shape." In other words, that which Lenin called imperialism is now referred to as "vertical integration." Russia is caught up in a virtual epidemic of vertical integration. Aluminum magnate Oleg Deripaska bought up GAZ. Severstal head Alexei Mordashev took control of UAZ. Metals producers are snapping up raw materials suppliers like hot cakes. All this taken together is hailed as a renaissance of Russian industry. In reality, the more of a free market you have, the less vertical integration. Vertical integration means that a company buying or selling raw materials, equipment or parts wont be aiming to clinch a deal with the most competitive bidder instead, it will do business with its own subdivision - even if it pays less, is poorly managed, etc. And if vertical integration proves to have more benefits than disadvantages, you can be sure the country doesnt have a free market, but something quite different. First of all, companies need vertical integration to conceal profits. Vertically integrated oil companies, for example, evade taxes levied at the site of oil production by selling the parent company cheap "liquid from the well" instead of expensive crude. In other words, this is a sort of fireproof second skin that companies cover themselves with, layer upon layer, to keep their tender internal organs from being fried over the states hellish fire. Second, companies need vertical integration to safeguard themselves against getting eaten alive. Ever since SibAl wiped out TWG by blocking alumina deliveries to KrAZ, and the Urals Ore Mining Co. marched on Nizhny Tagil by way of the Kachkanar mining complex, coal mines and mining enterprises have turned into strategic heights where a company must set up a garrison if it doesnt want OMON troops bursting through its doors at night. Third, vertical integration is tied to an environment where businesses buy whats cheap, not whats needed. As noted by Uralmash head Kakha Bendukidze, there are two types of money in circulation in Russia: rubles and "administrative currency" (or government connections) - and the latter retains its value only as long as it remains close to its place of emission. As a result, instead of buying an expensive aluminum plant somewhere in New Zealand, SibAl buys GAZ on the cheap. Ideally, vertical integration of this sort provides for a merger with the source of the administrative currency. Observers have noticed, for instance, that the Federal Bankruptcy Service gladly undertakes any investigation suggested by Alfa Group, while GAZ got a visit from tax police and an audit é la Russe just before SibAl took control. Of course, vertical integration of this kind results in dismissals like those of former Interior Minister Vladimir Rushailo or ex-Tax Police chief Vyacheslav Soltaganov, the most vertically integrated and valuable assets of all. Such dismissals are tantamount to the instantaneous loss of seniority revenues - that is, revenues from emission of administrative currency. Hence, the epitome of vertical integration in Russia is the governors seat: Take Roman Abramovich in Chukotka or Norilsk Nickel head Alexander Khloponin in Taimyr. The "new" secret service agents in the Kremlin seem to approve. "Let them collect as much as they can," say some members of the administration. "The more water a sponge soaks up, the easier it is to wring out." Heres the paradox. Major Russian companies become quasi-states: They dont pay taxes, they buy state officials and base their investments on military rather than economic logic. They cant survive otherwise. But the more protected a company is from competitors, the more tempted the state becomes to take over. As Lenin wrote, "capitalist monopoly is a transitional epoch leading to a different system." Yulia Latynina is a journalist with ORT.

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