ROSTOV'S TROUBLED ECONOMY: IS DIVERSIFICATION THE

C O N F I D E N T I A L SECTION 01 OF 03 MOSCOW 000888

SIPDIS

STATE FOR EUR/RUS, EEB/IFD
TREASURY FOR TORGERSON AND WRIGHT
DOC FOR 4231/MAC/EUR/JBROUGHER
NSC FOR ELLISON

E.O. 12958: DECL: 04/07/2019
TAGS: ECON EINV EAGR RS BEXP
SUBJECT: ROSTOV'S TROUBLED ECONOMY: IS DIVERSIFICATION THE
PANACEA?

REF: A. (A) 08 MOSCOW 3687

B. (B) 08 MOSCOW 3678

Classified By: Deputy ECON Minister-Counselor John Stepanchuk for reaso
ns 1.4 (b,d)

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Summary
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1. (C) Rostov-on-Don, a predominantly agricultural region,
has a relatively diversified industrial base dominated by
the Soviet-era combine manufacturer, Rostselmash. The
economic crisis has increased regional unemployment, and many
local government officials long for the days of a more
autarkic and predictable economy. Nonetheless, some foreign
investors such as Coca-Cola and Pepsi-Cola's Lays are
investing in the region and have found the oblast
administration supportive. While some believe the 2014 Sochi
Winter Olympics will have a positive economic effect on the
region, including the possibility of a cargo and passenger
"hub" airport, small- and medium-sized enterprises find
themselves cash-strapped and administratively hamstrung.
Young people tend to migrate to Moscow, Western Europe, and
even the U.S. for employment. End summary.

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A "Diversified" Economy
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2. (SBU) Rostov-on-Don is a primarily rural region with a
small, but relatively diversified industrial base (Reftel A).
It has a few Soviet-era enterprises -- a military helicopter
manufacturer, Russia's only electric diesel engine producer,
and Rostselmash, Russia's primary combine harvester
manufacturer -- all of which have reduced their workforces
significantly over the last decade. In addition, the region
relies on agriculture, metal processing, and is a trade
crossroads with a river port and extensive rail connections.
Nevertheless, 2008 unemployment was 6.6 percent and has risen
over the last few months. Furthermore, unable to go it
alone, Rostselmash persuaded the GOR to raise tariffs on
imported agricultural equipment (Reftel B). But even with
the competitive advantages of ruble-based pricing and the
increased tariffs, Rostselmash still has hundreds of unsold
new combine harvesters sitting on its premises as limited
financing opportunities force local farmers to delay
purchasing new equipment (Septel).

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Back to the USSR
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3. (C) Rostov is governed by firm believers in a strong role
for the state in the economy. Deputy Minister of Economy,
Trade, and Foreign Trade Relations, Valeriy Yevteev, told us
he would "not hide" the fact that the oblast's economy was
facing many challenges. Nonetheless, he expressed confidence
that the region would have a better chance of prospering if
more production took place in the oblast so as to reduce
dependency on foreign imports. For example, he said that the
regional administration was prepared to subsidize pig farms,
so that pork would no longer need to be imported. Projects
such as these, Yevteev argued, would enable the government to
assert greater control over the economy, which would in turn
replicate the "virtues" of the Soviet system and its ability
to "take care" of people, especially pensioners.


4. (C) Aleksandr Kolganov, Assistant Representative of the
Southern Federal District's branch of the Union of
Industrialists (RSPP),made up largely of large corporations
with strong government connections, also approved of strong
government intervention to prevent the collapse of
enterprises. He openly fretted about the growing
unemployment in the region and claimed the federal government
was not doing enough to protect domestic enterprises.

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Many Hopes on Sochi
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5. (C) The Chamber of Commerce and Industry of Rostov Region,
which includes more small- and medium-sized business concerns
in its membership, was optimistic about the benefits the 2014

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Sochi Winter Olympics could bring to regional industry,
particularly SMEs. Enumerating the planned improvements to
the M4 highway that leads from Moscow to Sochi, via Rostov,
Nikolay Prissyazhyk, President of the Chamber, told us that
in addition to the increased employment related to road
construction, there would be myriad opportunities for
roadside small businesses, such as restaurants and filling
stations. Furthermore, plans were afoot to turn a former
military airfield just south of Rostov into a "hub" airport
"that could someday rival Heathrow". Yury Alexeevsky, Chief
of the Chamber's International Relations and Exhibition
Board, suggested that this hub could be financed via a
public-private partnership. Kolganov indicated, however,
that plans were still nascent and that the location had not
yet been decided. He told us that it would be better to put
the planned airport closer to Novocherkassk, so that
redundant workers from that city could have jobs too.


6. (C) Deputy Economic Minister Yevteev was also optimistic
that Sochi would provide a boost to the region's economy. He
foresaw a post-Olympics growth in foreign investment,
particularly in the food processing and services sectors,
following in the footsteps of Coca-Cola and Pepsi-Cola. He
acknowledged, however, that the growth in services would have
to be accompanied by a major investment in "customer service"
training.

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Some Foreign Investors See Rostov's Advantages
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7. (C) Major U.S. investors, Coca-Cola and Pepsi-Cola, are
attracted to Rostov's agricultural base and its proximity to
Sochi and the Black Sea tourist areas. Sergey Shkurin,
Regional General Manager of Coca-Cola HBC Eurasia and Sergey
Glushkov, Director of Government Relations of Pepsi-Cola,
told us the oblast administration, particularly Rostov's
Governor Chub's personal involvement, were instrumental to
their decisions to invest in the region. Coca-Cola is
setting up a bottling plant, due to start production this
June, and wants to be situated near the Black Sea summer
market. Joerg Hartmann, Rostov Project Manager of Coca-Cola
HBC Eurasia, told us that doing business in the region
necessitated initially "courting" the local authorities, but
that once the relationship was established, the oblast
administration had been very supportive and helpful in
resolving problems. Shkurin expected this close cooperation
to be the norm as the project swung into full production over
the next couple of years -- a timetable that had extended in
light of the downturn.


8. (C) Pepsi-Cola is setting up its second Lays potato chip
factory in Russia, located close to where the potatoes are
grown. Glushkov said Rostov oblast won out over the
neighboring oblasts of Krasnodar and Stavropol as the site
for the plant's location because Governor Chub had personally
guaranteed that the oblast would finance and construct all
the necessary infrastructure, including connections for
water, electricity, sewage, etc. The Lays plant is due to
open in the fall.

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Small Business: Soviet Business Climate "Easier"
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9. (C) Small business representatives, however, were less
enthralled by the oblast administration. Yury Yevchenko of
Rostov Club-2015 (a business club) told us that not only was
government corruption pervasive, but the banks had put
insurmountable conditions on lending, leading some small
business owners to conclude that it had actually been easier
to do business in Soviet times. Yevchenko further noted that
getting banks to refinance loans in the current business
climate was futile. Dmitri Larianov, Head of EBRD's Southern
Federal District Russia Business Group, told us that
Center-Invest (Rostov's second largest bank) had reneged on
re-extending a number of loans.


10. (C) Yury Roshkovan, President of Rostov (fertilizer
manufacturer) and OPORA's regional representative, told us
that another obstacle to business development was the lack of
infrastructure. He pointed out that it was impossible to set
up a greenfield site, especially one that might employ more
than a handful of people, when there was no nearby social

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infrastructure, no reasonable means of reliable public
transport, and, most importantly, no utilities. He noted
that the oblast did not offer the same deals to local
enterprises that foreign multi-nationals received.


11. (C) Aleksey Morozov, General Director of Vepoz (sausage
manufacturing concern),who met with us under the watchful
eye of his banker, explained his modest strategy for his
16-year-old company. He had recently bought new sausage
producing equipment (which still required a large number of
workers at each stage of the sausage manufacturing process)
and new lockers for curing his meats. Currently, customer
demand was holding, which would enable him to service his
loan. But, President Medvedev's anti-corruption drive
notwithstanding, Morozov said he had no illusions about an
easing of "mandatory" health and safety inspections or a
reduction in the bureaucratic hurdles preventing his business
from growing or becoming even a regional competitor.

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EBRD: Little Potential in the Southern Federal District
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12. (C) EBRD's Larianov was blunt in his assessment that the
region's prospects were bleak. He emphasized that the Black
Sea coast could never compete with the beaches of Turkey or
Egypt's Sharm El-Sheikh, which meant that efforts to turn the
district into a tourist destination would not be a good
investment. Larianov told us Novorossisk's port (the only
deep port in the region) was rife with corruption and
resolutely refused to modernize and expand, despite more than
a decade of effort on the part of EBRD. The only real
investment opportunities were likely to be found in food
processing, agricultural infrastructure, and, possibly, road
infrastructure.

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Youth Eager Leave Rostov Too
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13. (C) Similarly, university students and young people were
uniformly dismal in their assessments of region's economic
prospects. Decrying the paralyzing corruption at all levels
of society and the lack of regional employment opportunities,
they told us that most youth planned to leave Rostov after
graduation, heading primarily for Moscow, but in many cases
for the U.S. or Europe.

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Comment
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14. (C) As a city with more than one arrow in its economy's
quiver, Rostov-on-Don is a sobering reminder that much
infrastructure reform still needs to be done before Russia
develops a truly diversified economy. In Rostov's case,
corruption and an oppressive bureaucracy are keeping the
drivers of development (educated youth and entrepreneurs)
from changing the parameters of their economic environment.
End Comment.


BEYRLE