RUSSIA: BARRIERS TO BUSINESS: CREDIT, TAXES, AND

UNCLAS MOSCOW 012591

SIPDIS

SENSITIVE
SIPDIS

STATE FOR EUR/RUS WARLICK AND HOLMAN
NSC FOR GRAHAM, KLECHESKI, AND MCKIBBEN
USDOC FOR 4231/IEP/EUR/JBROUGHER AND MEDWARDS

E.O. 12958: N/A
TAGS: ECON EINT RS
SUBJECT: RUSSIA: BARRIERS TO BUSINESS: CREDIT, TAXES, AND
BUREACRACY


THE MESSAGE IS SENSITIVE BUT UNCLASSIFIED -- NOT FOR INTERNET
DISTRIBUTION.


1. (SBU) Summary. A recently-released survey of 3,000
business shows a surprising convergence of opinion between
small, medium, and large enterprises about what stands in the
way of commercial success in Russia. Respondents uniformly
identified the high cost of credit, high tax rates, and
ineffective government as their top concerns. These results
seem generally consistent with what entrepreneurs have told
us during interviews for the Economic Weekly "SME Success"
series: credit is expensive and access is somewhat limited;
taxes are too high and the tax code is incomprehensible; the
bureaucracy is too slow and property rights are murky; energy
prices are escalating. While corruption remains a concern,
the survey confirms our anecdotal evidence that it has become
more routine and predictable, and thus almost a part of the
business planning process, and therefore registered
surprisingly low among barriers to business identified by
survey participants. End Summary.

INDEM SURVEY: BARRIERS TO BUSINESS IN RUSSIA


2. (SBU) INDEM, a well-known non-governmental organization in
Russia, regularly conducts research on topics such as
corruption and economic development. In its most recent
report, "Business and Corruption: Prevention 2006," INDEM
staff surveyed approximately 3,000 small, medium, and large
businesses in the Moscow Region, Smolensk, and Volgograd.
Participants were asked to rank order the seriousness of 33
obstacles to doing business in Russia. A full copy of the
report is available (in Russian) at INDEM's website at
www.indem.ru.

CREDIT EXPENSIVE BUT EASY TO GET


3. (SBU) Survey participants indicated that while banks were
more willing to consider loans based purely on business plans
(with no collateral) the cost of borrowing is still
prohibitively high in Russia. SME entrepreneurs we have
talked to agree that commercial credit is much easier to
obtain now, but still expensive. Banks consider business
loans (especially those with less fluid collateral)
inherently more risky and, therefore, charge higher interest
rates -- on average 10.7%, depending on the region.

TAXES TOO HIGH AND TAX CODE TOO COMPLEX


4. (SBU) After the high cost of credit, businesses uniformly
cited a high tax burden as a significant impediment to
growth. No less irritating to business is the tax code
itself, which made into the top five barriers. SMEs are
notorious for hiding their income -- most tell us that they
keep up to 80% of their earnings under the table. They
complain to us that they cannot compete with firms that cheat
on their taxes if they do not cheat themselves. The
bookkeeping alone necessary to register employees and comply
with tax regulations is too cumbersome and the chance of
getting caught is negligible. A downside for firms that
conceal so much of their earnings is that they (and their
employees with falsified pay stubs) can borrow only a
fraction of what they ought to be able to with their real
income, given that banks will only accept official income for
credit applications. More and more firms see access to more
substantial credit worth the heartache of leaving the comfort
of the shadow economy.

BUREAUCRACY INEFFICIENT


5. (SBU) Bureaucratic hurdles continue to annoy (a top three
concern). Entrepreneurs tell us the paperwork required to
run a business is cumbersome and hurts their bottom line. In
this rapidly growing economy, businesspeople do not have time
to waste waiting for bureaucratic permissions while their
competitors race ahead. Entrepreneurs pay well known amounts
to an array of people to facilitate their paperwork. They
see it as a expediting fee-for-service and a widely accepted
practice. In fact, were the bureaucracy to formalize these
expediting fees and pay staff overtime for clearing those
papers more quickly, the market result would likely be nearly
the same.

PROPERTY RIGHTS WEAK


6. (SBU) Lack of legal protection for property also ranked
high among business concerns. Protecting your real estate is

an ongoing headache for business. As hard as finding new
space to lease or buy may be, entrepreneurs we have talked to
are equally concerned about holding on to their space. As
real estate prices sky rocket in many Russian cities,
landlords often forcibly evict tenants from buildings even if
the lease is still in force. In a November 15 meeting, INDEM
President Georgiy Satarov cited the Federal Law on the
Privatization of State and Municipal Property (which states
that all municipal property ought to be auctioned off by
2009) as a particular hurdle for SMEs. The concern is that
SMEs currently leasing such property may lose it when a new
owner takes control. Satarov believes the law should be
amended to give SMEs preferential rights to purchase the
property they are leasing before it gets opened up to others.


ENERGY PRICES TOO HIGH


7. (SBU) Rising energy prices have hurt Russian businesses,
as elsewhere. According to the study, the high cost of
energy was of particular concern to large companies (number
4),but also ranked in SMEs' top ten. Businesspeople say
that recent increases in energy costs have seriously hurt
their bottom line. Not stated in the study is another
serious problem facing entrepreneurs -- the difficulty of
hooking up new developments to existing utility services. We
have met businesspeople who are eager to build greenfield
facilities but who are forced to stay in their current
dilapidated structures simply because of a lack available
electricity.

CORRUPTION A PROBLEM, BUT MORE ROUTINE NOW


8. (SBU) INDEM,s survey asked a variety of questions about
corruption, focusing on court decisions, lack of
predictability, and the efficacy of the undertaking. All of
these scored lower on the list than one might have expected.
We enjoyed the fact that the survey clearly assumed that
corruption was present, and merely sought to clarify its
pervasiveness and whether it is an impediment to business.
The answers seemed clear: corruption exists, but it is a
manageable cost of doing business. Our "SME Success"
interviewees say that everyone knows exactly what to pay to
whom for what. And, like other "fee-for-services," they
usually get what they pay for. For most small and medium
entrepreneurs, at least, bribe-paying in Russia appears to
have hit its supply-demand equilibrium.
BURNS