bne October War Games by Ben Aris

Inside this issue: Speeding after Russia's online consumer How to spend it in Poland Turkey's ruling control freaks

October 2011 www.businessneweurope.eu

Gulnara Karimova falls out of fashion Special Report: A Turkish star in the dark night sky

War Games Defence firms battle for lucrative tenders in CEE

bne October 2011 Editor-in-chief: Ben Aris (Moscow) editor@businessneweurope.eu

Contents

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Managing editor: Nicholas Watson (Prague) +42 0731582719 watson@businessneweurope.eu Eastern European editor: Tim Gosling (Moscow) +7 9031927966 gosling@businessneweurope.eu Eastern Europe: Graham Stack (Kyiv) stack@businessneweurope.eu

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Central Europe: Robert Smyth (Budapest) +36 19995200 rsmyth_hu@yahoo.com Jan Cienski (Warsaw) +48 604994850 jancienski@ft.pl Mike Collier (Riga) +37 129473192 editor@balticfeatures.com Matthew Day (Warsaw) +48 607291187 mattday@businessneweurope.eu Tom Nicholson (Bratislava) +42 1907732736 tom.nicholson@sme.sk Kester Eddy (Budapest) +36 308665550 kester.eddy@gmail.com Steven Roman (Tallinn) +372 56665911 steven@online.ee Southeast Europe: Justin Vela (Istanbul) justinvela@bne.eu David O'Byrne (Istanbul) davidob@ttnet.net.tr Bernard Kennedy (Ankara) bkennedy@superonline.com Ian Bancroft (Belgrade) ian.bancroft@transconflict.com Bogdan Preda (Bucharest) bpreda@gmail.com Branimir Kondov (Sofia) br_kondov@yahoo.co.uk Guy Norton (Sofia) norton@bne.eu

22 COVER STORY 6

The Insiders

War games

In defence of Russia

KIT Finance back from the dead

Russia's antigraft campaign opens Pandora's box

A shake-up in Russia's financial markets

Perspective CENTRAL EUROPE

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EASTERN EUROPE 24

Perils of Poland's predictable politics

The Tymoshenko conundrum

How to spend it in Poland

"Mutin" for president

PKN Orlen's shale makeover

Speeding after Russia's online consumer

Plan B from the outer coal face

Back to the bubble

Latvia's airBaltic to Fly Another Day?

A Front for progress or an affront to progress?

Wikileaks reveals double standard in Bratislava

Hard graft in the Czech Republic

Gas row heats up

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bne October 2011

Contents

Feeling at home in Central and Eastern Europe starts right here.

SOUTHEAST EUROPE

EURASIA

Eastern promise

Kazakhstan simmers as striking oil workers sacked

Turkey's star waxes as Europe's wanes

Turkey's ruling control freaks

Enemy of the internet

Alarko's forward-thinking chief

Cash-strapped in Slovenia

Gulnara Karimova falls out of fashion

Bulgarians turn against euro

Problems with distributing the spoils

Russians smoking in Bulgaria

Georgia moves to IPO state assets

Turkey gets creative

An act of liberty in Georgia

Serbia eager to please the EU dietician

Turkey's real estate boom begins

Storing up problems 64

Expat in Istanbul

CLASSIFIED

UPCOMING EVENTS

15 million customers have selected us as their bank of choice. Raiffeisen Bank International represents more than 20 years of experience in Central and Eastern Europe, covering 17 markets in the region with subsidiary banks, leasing companies and other financial service providers. International companies, local businesses of all sizes and private individuals rely on our network of around 3,000 branches. Over 100 international banking awards validate the groupâ&#x20AC;&#x2DC;s service quality. www.rbinternational.com

SPECIAL REPORT

I The Insiders

bne October 2011

Rosneft and Exxon â&#x20AC;&#x201C; a big deal

Roland Nash of Verno Capital

he partnership between Rosneft and ExxonMobil to explore and develop Russia's Arctic Basin has been met with some scepticism â&#x20AC;&#x201C; understandably given some of the experience of western oil majors in Russia. But the deal is potentially of major significance for the Russian investment environment.

announced by Prime Minister Vladimir Putin is for headlines, not for the economy.

Exxon has a deserved reputation for doing a lot of due diligence and then making big commitments. They are the most globalised of all the oil majors with large-scale investments across the Middle East, Africa, and South America. The company tends to negotiate hard and is not afraid to fight its corner. They are suing Venezuela for $7bn rather than rolling over to Hugo Chavez as Chevron or BP have done.

First, it shows that the Russian oil sector is still open to international majors. Exxon had been amongst the most sceptical towards Russia since the Yukos case. This deal indicates that they are convinced that there is opportunity in Russia.

They also have plenty of experience in Russia. Exxon was one of the first western oil companies in Russia after the fall of the Soviet Union. They helped pioneer the highly controversial Production Sharing Agreements (PSAs), and signed one of the biggest in 1996 alongside the Russian government to exploit the gasfields in the Sakhalin-I consortium. In the 15 years it has taken to bring the field online, Exxon has faced as many of the idiosyncratic risks of doing business in Russia's oil sector as any foreign company except, perhaps, BP. Most significantly in 2003, Exxon was heavily rumoured to be close to buying 40% of Yukos-Sibneft from then-CEO and owner Mikhail Khodorkovsky. Some say that it was the potential sale of one of Russia's biggest oil assets by Russia's richest tycoon to an American company that catalyzed the process that ended with Yukos' oil assets in the hands of Rosneft. Exxon is unlikely to have gone into the Arctic deal with Rosneft with its eyes closed. Looking long term Clearly in terms of oil out of the ground, the deal is unlikely to produce anything concrete for many years. If it took 15 years to get hydrocarbons from Sakhalin, it is likely to take at least as long from the Arctic Basin. The multi-hundred-billion barrels of reserves bandied about by officials should be heavily discounted. Equally, the $500bn of potential investment

But in terms of what it means for the Russian investment environment and, potentially for Rosneft, it could prove very significant, for four reasons:

Second, it shows that American companies are welcome, and are choosing to invest in Russia. While President Barack Obama's "reset button" seems sometimes to be a bit sticky, private sector companies in the US are stepping into Russia post-crisis. Earlier this year, PepsiCo paid $3.8bn for a 60% stake in Russian juice-maker Wimm-Bill-Dann. Microsoft and Intel have been active in the Skolkovo high-tech park. Boeing is increasing its investment into titanium producers. While it sometimes seems that European companies, particularly

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announcement and Putin's personal involvement is surely not coincidental. Putin wants to build a big, powerful economy, and he recognises the need for foreign investment to do that. Fourth, and perhaps most interestingly, it is the latest example of Russia's national champions going international. The headlines are all about Exxon's investment into Russia. But just as significant is Rosneft being invited into the international arena alongside Exxon. It has proven difficult

"This is the latest example of Russia's national champions going international" for emerging market oil companies to make an impact outside of their own countries. It has also proven difficult for Russian companies to grow outside of their borders. By utilising its comparative advantage in reserves, Rosneft is being given the opportunity to shift from being a national oil company into an international oil company. Western majors (and many Russian oil companies) have often had a torrid time investing into Russia's oil sector. But precisely because of those difficulties, the Exxon deal with Rosneft may prove to be a key milestone. Exxon, as much as any company, understands the risks, and Russia wants foreign investment. With all of their global and Russian experience, Exxon have chosen to enter into a partnership with a Russian state-owned oil company which contains the legacy Yukos assets and is closely associated with some of Russia's most powerful politicians. The deal's size and timing seems to say a lot about how Russia's investment environment is changing. Roland Nash is Chief Investment Strategist of Verno Capital

"Putin wants to build a big, powerful economy, and he recognises the need for foreign investment to do that" German, are more comfortable investing in Russia, and that Russia has been looking increasingly towards Asia for investment, the Exxon deal proves that, at least commercially, ties with the US remain important. Third, it should be seen as a big signal of Russia's intentions post-next year's presidential elections. The timing of the

www.rosneft.com

I Cover story

bne October 2011

Ironically, the consequent deal signed in 2004 to lease 14 Gripen fighters for 10 years for CZK19.6bn proved to be an ideal solution. The jets were delivered in 11 months, unheard of in an industry that normally takes two to three years to start supplying product, and were operational within a year. "At the time it was a good solution," the commander of the Czech Air Force, General Jiri Verner, tells bne. "We've had no serious problems, the pilots love this plane and as an air force we are very satisfied – so far, so good."

War Games Nicholas Watson in Prague

dam Smith once wrote, "Defence… is of much more importance than opulence". Sadly, all too often in the past the first has led to the other for certain individuals involved in defence deals. But with the global crisis squeezing defence budgets and greater public scrutiny over procurement, there are hopes that a series of tenders for supersonic fighter jets in Emerging Europe will this time prove more transparent and less costly. The defence industry estimates that the global market for supersonic aircraft (excluding the US and China) over the next decade is around 800 planes, with India the biggest prospective buyer for between 126 and 200 of them. Emerging Europe combined, though, is in the market for anywhere between 168 and 261 jets, making the upcoming eight or so tenders crucial business for an industry that is suffering from the deep military budget cuts that western countries are having to make because of the global economic crisis. "There is a shift towards looking at the bottom line, especially since the crisis, because defence budgets

are being cut across the board," Daniel Boestad, vice president for Central and Eastern Europe for Saab, which makes the Gripen fighter jet that the Czech Air Force currently uses, tells bne. Indeed, this point was hammered home by Nato Secretary General Anders Fogh Rasmussen in September, who told a gathering in London that at a time of declining defence spending, the cost of military equipment is rising faster than GDP and faster than the inflation, and that needs to change. "Defence officials and defence industry often present an over-optimistic picture of the capability, the cost, and the time-scale of procurement. And then they push the politicians for a quick decision. But this over-optimism quickly gets you into problems," Rasmussen said. The solution, he said, is what he calls "smart defence" – to prioritise, to specialise, and to seek multinational solutions. And as part of Nato's reform efforts, the new Procurement Agency will have a "Smart Defence" focus to provide support to industry and the allied nations.

Get smart, not dirty No country needs such "smart defence" more than the Czech Republic, which has over the years been rocked by a series of defence-related corruptions. The latest batch of cables released by Wikileaks in September contained some sent from the American Embassy in Prague that highlighted "significant challenges in the defense procurement arena," primarily due to a unique law in Europe that required any foreign defence contractor selling to the Czech government to work through an intermediary – an open invitation to corruption and one that hasn't disappointed. Case in point was the 2002 tender to replace the Czech Air Force's aged Russian MIG-21s, which ended with a proposed CZK60bn (then worth about €1.7bn) deal to buy 24 Gripens from the Anglo-Swedish consortium formed by the UK's BAE Systems and Sweden's Saab. However, this deal struck by the Social Democrat (CSSD) government of the time fell through when the Czech parliament voted it down amid a welter of corruption allegations, the reverberations of which are still being felt today.

Cover Story I 9

bne October 2011

And Saab wants to take that farther. The current Gripen lease ends in 2015, so the Czech government is looking to hold a new tender for a similar number of aircraft. According to a top-ranking government source, the cabinet is waiting for a report from the Ministry of Defence (MoD) that will propose the tender parameters and the various options on how to proceed with the tender, which is expected to be ready "in several weeks." The government is expected to officially launch the tender by the end of March and while it's too soon to say when a bidder will be chosen, "it could happen quite fast," says the source. The requests for information sent out last year were addressed to four companies: Saab, of course; the Eurofighter consortium (made up of EADS Deutschland, Spain's EADS Casa, BAE Systems and Italy's Alenia Aeronautica), which makes the Typhoon; the US' Lockheed Martin, which makes the F-16 and F-35; and France's Dassault, which makes the Rafale fighter. Flight leader Unsurprisingly, Saab is odds-on favourite, because for several reasons its Gripen fighter is the most economic choice, which will be the paramount parameter. All the logistics, support and training are already in place, and the plane itself fits the operational role the country has for its supersonic capability. "The Czechs need the capability to protect their own sovereignty and the capability to deploy with Nato when required, like in another Libya, and the most cost-effective plane for that is the Gripen," says Paul Beaver, a defence analyst.

In defence of Russia

bne Russian Prime Minister Vladimir Putin loves a macho photo-op, so on a recent trip to a Russian weapons exhibition in Nizhny Nagil he barely hesitated when being shown the new T90C full battle tank before whipping off his jacket and jumping down inside to take the controls. He emerged a few minutes later and promised the director of the tank's maker, state-owned Uralvagonzavod, the country's largest producer of railcars and armoured vehicles, an extra RUB10bn to bring the government’s commitment to the plant up to RUB64bn ($2.2bn). Putting bravado aside (it is election season after all), the Kremlin’s investment in its burgeoning weapons sector is not a bad punt. Arms production and exports is actually one of Russia’s more profitable industries and growing fast. Uralvagonzavod earned RUB6.2bn last year and says its order book is full for the next three years. The same story is repeated at several other military facilities like Sukhoi Jet and Kazakh Helicopter. A legacy of the Cold War means Russian arms are still top quality – and thanks to the collapse of the Soviet Union they are cheap. It is a winning combination. The state-owned military export agency says: “Rosoboronexport's portfolio is about $38.5bn; this is the target we hope to meet in three years." And leading military think-tank CAST predicts that Russian arms exports are expected to stay at record levels of about $10bn a year until at least 2014 as top customer India continues to beef up its armaments. Defence is also one of few places where Russian technology remains world class. The cash-strapped US cancelled the production of its Raptor super jet, a so-called fifth generation fighter, leaving Russia’s T50 fighter the only game in town. These are the badass next generation of superfighter that are supposed to give their owners dominance of the sky. Investing in the defence industry is not only good business, but also an important political and social priority, as the military-defence sector was never really dismantled and entire towns and regions remain dependent on the production of arms. In the new 2012-2014 budget, spending on defence was hiked to 1.3% of GDP, or some $650bn, that is a whole heap of money – about the same amount as Russia is planning to spend on upgrading its crumbling infrastructure. That’s the plan anyway. And the government has been making a lot of spending promises lately. However, Deputy Prime Minister and Finance Minister Alexei Kudrin embarrassingly pointed out in the middle of September that this massive spending was unfunded and would probably have to be scrapped or at least scaled down after the elections slated in December and March are passed.

I Cover story

In addition, the Swedes have proved very innovative with their financing and "offset" agreements – those lucrative industrial and commercial benefits, such as technology transfers, that are legally attached to defence and aerospace procurements. As of December 2010, Saab says the cumulative value of offsets to the Czech Republic had reached almost €1bn. Sources say the tender parameters will have as many options as possible to encourage bidders to be creative with pricing and the spreading out of the pricing. Analysts describe the Eurofighter Typhoon as probably the best fighter jet on the market today, but simply too big, both in terms of operational ability and price, for the Czechs. Eurofighter spokesman Marco Valerio Bonelli counters that by pointing to its 2003 deal with the Austrian Air force, a country of comparable size to the Czech Republic, to supply 15 Typhoons for €1.6bn. He says savings for

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Ostrava, the Czech Republic in September, with sources saying they prefer to wait until the tender parameters are issued before committing money to what is, after all, a small deal of only 14 planes. The Americans worry that the tender parameters will be weighted toward the Gripen. The F-16 currently on offer from Lockheed – "yesterday's plane", say competitors, who spend an inordinate amount of time disparaging the products of others in this cutthroat business – is regarded as a long shot. It's expensive to maintain and operate, so while the cost of acquisition might be low, the cost of support is high, as Poland, which bought 48 of the F16s in 2003 for €3.1bn has found. However, some industry insiders say there is a US plan to mount a regional push for placing used F-16s in the Czech Republic, Croatia, Bulgaria and Romania, with Poland being touted as the training

"The Czechs may be persuaded by heavy breathing down the telephone from the US president" the Czechs are possible by the sharing of training and other items with neighbours Austria or Germany, while all the money spent will go toward supporting EU industry, including Czech companies. Even so, the Czech government source says the MoD knows exactly how much the cost of one flying hour is over the 10-year lease of the Gripens, "and we will be looking for much less." The flight hour rate is a notoriously unreliable measure of cost, since it varies widely depending on what items are included. Even so, the difference between the Swedish Air Force's €4,000/hour rate with its Gripens and the €50,000/hour rate provided in July by Brigadier General Rupert Stadlhofer, commander of the Austrian Air Defence Forces, for the Typhoon makes it unlikely Eurofighter can meet the Czech government's "much less" requirement. The Americans' position over the tender is less clear. They were conspicuously absent from Nato's annual two-day airshow in

and maintenance base. Through this, the US is looking to lock in customers to sell them further down the line the new F-35 Lightning II – a fifth generation multi-role fighter under development by Lockheed that has stealth capability. Unfortunately, the Czech tender comes several years too soon to sell this plane to them, as it won't be until 2017-18 that its price and availability will be feasible for the Czechs (the US and Israel are the main advance procurers so far). Perhaps an extension of the current lease on the Gripens will be suggested in the US bid, followed by an offer to buy a limited number of the F-35. What the Americans have going for them is something none of the others can match – political leverage. "My view is that it'll be a straight fight between the Gripen and the F-16, and the Gripen is more affordable than the F-16. But at the end of day, the Czechs may be persuaded by heavy breathing down the telephone from the US president," says Beaver.

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Perspective I 11

Both Prime Minister Petr Necas and Defence Minister Alexandr Vondra are known to be pro-American in their political outlook. A bad smell that won't go away So it would seem that this tender is probably Saab's to lose. Unfortunately for the Swedes, while corruption may not be an issue with this tender – the law on using intermediaries was amended in September to make using such middlemen no longer an obligation and an international consultancy may be included to oversee the process – its prevalence in the last one still casts a long shadow. The current coalition government, led by the centre-right Civic Democrats (ODS), appears determined to get to the bottom of the scandal – probably to gain political leverage over politicians suspected of involvement – and in August said it had received documents from the UK's Serious Fraud Office (SFO) relating to the British investigation into international corruption cases centring on BAE Systems. Those documents are now with the Supreme State Prosecutor and there is no official word yet on what they contain, but the SFO focused on the infamous £40bn Al Yamamah arms contract to Saudi Arabia that's political sensitivity forced the Labour government of Tony Blair to drop the probe, as well as the alleged use of middlemen in Central Europe who paid bribes to win contracts for Gripen. Saab sticks to the line that several investigations have cleared the Swedes of wrongdoing and any alleged corruption occurred at the marketing subsidiary created with BAE Systems to sell the planes. However, given the subsidiary was jointly owned by the two sides, many in the government, media and industry find it scarcely credible that the Swedes did not have some inkling of what was happening. To force the Swedes to reveal everything they know about the affair, sources say this latest tender could contain anticorruption provisions that will need to met in order to qualify to take part. Defence tenders in Europe may be getting cleaner, but they certainly won't be free of grubby politics and dirty tactics.

The length of string bne "Many forms of Government have been tried and will be tried in this world of sin and woe. No one pretends that democracy is perfect or all-wise. Indeed, it has been said that democracy is the worst form of government except all those other forms." Winston Churchill

to choose now to have a showdown over the debt ceiling was highly irresponsible. German Chancellor Angel Merkel’s dithering over what role Germany should play in resolving the European sovereign debt crisis weighs heavily on investor confidence.

But are Merkel and US House Speaker John Boehner’s obstinacy out of order? Not really given the framework they have to work in. Historian Francis Fukuyama says in his new book, "The Origins of Political Order", that: “without taking human behaviour into account, you misunderstand the nature of political institutions.”

Leverage, financial innovation, deficits and debt all go into the toxic mix that causes crises, but the root of them is a failure of confidence. Banks are built on trust and anything that undermines that trust is dangerous. In these times of “sin and woe”, bipartisan politics should be put aside and leaders of all parties must act in unison to restore confidence, which is the fastest route out of any downturn irrespective of the particular policy adopted.

In good times a four-year electoral cycle is fine, as the aberrations from the norm are minimal and vibrant debate over policy details is clearly a good thing because it keeps everyone on their toes. The problem is the system breaks down in times of crisis when the aberrations are large and the policies needed extend beyond the four-year political timeframe.

his crisis is of the western world’s own making. A breakdown of financial oversight got us into this mess, but the lack of political leadership is preventing us from getting out again. The consensus politics of mature democracy is failing us in our time of need.

There is a huge mismatch between the length of the political cycle and the longer cycle needed to deal with economic problems that in this case could last for decades. However, our leaders are trapped by the four-year election cycle. Politicians have a natural tendency to bicker, as the next election is always just around the corner. The US' decision

Take the debate over Germany’s bailout of Europe, for example. The economics of Germany’s situation are pretty clear. Bailing out Greece, Ireland and Portugal entirely after a default would cost each German taxpayer €1,000 in a one-off hit. But the cost of corporate default, re-capitalisation of the banking system and collapse of international trade if Germany were to leave the euro would cost €6,000 to €8,000 per taxpayer in the first year, and then another €3,500 to €4,500 per year for several years thereafter.

I Perspective

No one disagrees that reintroducing the deutschemark would be a disaster for Germany, which would result in inflation and appreciation of the re-minted currency. From an economic perspective, bailing out the rest of Europe should be a no-brainer for Merkel. But she is unwilling to do it, as it means spending “our” hard-earned money to pay for “their” profligacy – a point driven home with a vengeance by the crushing defeat her party, the CDU, suffered in the Mecklenburg-Western Pomerania local elections on September 4. The politicians who are brave enough to think beyond the limits of the election cycle are called “statesmen”. Turkey’s Kemal Ataturk was one, FDR another. A statesman is someone who puts the health of the country ahead of their personal political fortunes. Churchill was one of Britain’s greatest politicians, but ended up being ousted from office shortly before the end of the war he helped win, which only confirms his “statesman” status. These people are by definition the exception to the rule. And that is the flaw with democracy: the very best men and women emerge despite, rather than because of, the system. Even worse, statesmen tend to emerge when things are going well, not badly. It is easy to name strong leaders in the relatively prosperous 1950s and 1960s such as US President John F Kennedy and German Chancellor Konrad Adenauer. The same

"A statesman is someone who puts the health of the country ahead of their personal political fortunes" is true during the booming 1980s: UK Prime Minister Margaret Thatcher, US President Ronald Reagan, German Chancellor Helmut Kohl and French President Francois Mitterrand. But how many names can you recall from the Great Depression or in the decade that followed – a time of global misery? When global challenges are as big as they are now, political weakness is the norm. The “weak democracies” of the emerging world don’t suffer from these problems. Their leaders don’t have to muddle through. They can act decisively and demand – and get – sacrifice with impunity, as they are not very accountable. Rather than focusing on the next election, these leaders are thinking about their legacy (or at least the good ones are) and focus on the long term. They can ask for, and get, sacrifices from their populations, as they are not particularly accountable. Clearly this issue is not clear-cut, as the personality of leaders plays an important role. Merkel has been criticised for weak leadership, while Kim Jong-il is probably insane. On the flipside, the UK government under Prime Minister David Cameron

bne October 2011

has bitten the austerity bullet and the prudence of the Canadian government has been exemplary throughout. And we are not arguing that authoritarianism is better at managing an economy than democracy, which will win out in the long run. But getting out of crises or recessions is all about what you do in the short term. Founder of the Eurasia Group Ian Bremmer argues in his book The J Curve that democracy does outproduce authoritarian regimes over the longer term, but dictators run more stable, if less productive, societies for a time. But here is the rub: in the short term during crises, stability trumps the innovation and creativity of democracies. Merkel and Boehner are thinking two years down the road, whereas Russian Prime Minister Vladimir Putin has an economic development plan that he launched in 2000 and will run for two decades to 2020. But more to the point, western democracies got themselves into this mess by allowing banks to chase ever bigger short-term profits, whereas Russian Deputy PM and Finance Minister Alexei Kudrin siphoned off excess oil revenues into a rainy day fund: Russia is supposed to be one of the most corrupt countries in the world, yet Kudrin ring-fenced $600bn in revenues from Duma deputies – about eight times more than the UK or US hold in reserves. Fukuyama calls democracy a “weird accident of history”, and it doesn’t have a monopoly over political systems. Clearly short-termism is a major flaw in the democratic model and in times of crisis the developed nations are forced to rely on leaders acting in a statesman-like way. And the problem is made even more complex by the transformation caused after the fall of the Berlin Wall. Democracies work best in an economic steady state where the perturbations from the normal are small. The end of the socialist experiment doubled the number of consumers in the world to 6bn, which has created huge imbalances – evidenced by the avalanche of capital that has flowed from west to east in the last decade. Democracies are not only bad at dealing with crises, they are also bad at dealing with this sort of unprecedented change as well. The emerging markets are experimenting with dual systems ("sovereign democracy" and "one country, two systems" respectively) and trying to find a model that enjoys the best of both worlds. It is unlikely that the election cycle will be extended in the western democracies, but this is exactly what Russia has done for the upcoming parliamentary and presidential elections slated in December and March respectively, but at the same time talking about encouraging more pluralism further down the road (all talk so far, of course, but there is a logic behind the rhetoric.) As Churchill pointed out, development of political ideology is an evolutionary process and presciently he saw that new variants will be tried. We at are one of those points now: the “weak democracies” of the emerging world actually have the upper hand at the moment, as their vertical control over the economy leaves them better equipped to impose stability when it is most needed.

Eastern Europe I 13

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Gas row heats up Tim Gosling in Moscow

kraine's year-long bid to get Russia to renegotiate the pricing formula for its natural gas supplies has been stepped up in the last few weeks, leading to an undignified series of threats and insults. However, the spat is unlikely to explode into another full-scale "gas war", as both Kyiv and Moscow have too much to lose. While tensions are high, neither side can afford to upset Europe by causing yet another cut-off of Russian gas exports as was seen in 2006 and 2008-09. Europe depends on Russia for about a quarter of its total gas supplies, some 80% of which transits Ukraine. Brussels has offered its services to audit the contract between the pair â&#x20AC;&#x201C; an attempt to derail the spiralling tension around Kyiv's threat to take the issue to international

arbitration â&#x20AC;&#x201C; but it's a half-hearted offer, signalling Brussels is trying to stay out of the latest spat as it looks to diversify its gas supplies by sourcing more from Central Asia. Merge or pay Kyiv has been pressing for a year or more to renegotiate the pricing formula

Moscow has staunchly refused to discuss the matter unless Ukraine either agrees to a merger between its Gazprom and the Ukrainian energy firm Naftogaz, which would effectively hand the Russian company control of the Ukrainian gas transport system (GTS), or the country joins the Moscow-led Customs Union, which also includes Belarus and

"Ukraine's gas import price is the highest in Europe" in the current gas contract, which was signed by former prime minister Yulia Tymoshenko in January 2009. However,

Kazakhstan. Kyiv has flatly refused; the first would lose it an asset seen as a guarantor of sovereignty, and the latter

I Eastern Europe

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The Tymoshenko conundrum

The trial of Tymoshenko parcels all the issues facing Ukraine into one notso-neat package. The idea is that if the former prime minister is found guilty of abusing her office in signing the 2009 gas deal, it will lay the ground for taking the issue to international arbitration. At the same time, the case seeks to ease domestic political pressure on the Ukrainian government, as a conviction would rule out Tymoshenko – the only opposition figure with the potential to challenge President Viktor Yanukovych – from future elections. Meanwhile, the EU – happy to swallow the superior PR skills of the Tymoshenko camp for years now – has sent mixed messages to Kyiv. On the one hand, it suggests that Ukraine's progress towards a Stabilization and Association Agreement (SAA) – the initial step towards full membership in the European club – could be scuppered by the shift towards authoritarianism, selective justice and abuse of human rights. On the other hand, more senior figures have suggested Brussels should step up the pace on cementing closer relations with Kyiv – apparently aware of the pressure being applied from Moscow.

would halt its progress towards the EU (as is clearly the intention). Since then, much of the mudslinging has surrounded the actual price of gas in the contract. Kyiv claims it's paying the highest prices in Europe, despite the fact it costs Gazprom little to transport it there. Moscow claims Kyiv is paying less than many European countries. As Maryan Zablotskyy at Erste points out, "the gas market in Europe is far from transparent, which makes presenting elegant arguments to the broader public difficult." Tymoshenko signed a deal that set a price of $450 per 1,000 cubic metres (cm), multiplied by a factor dependent on oil prices, according to Slawomir Matuszak at the Centre for Eastern Studies. In April 2010, the Black Sea Accords (BSA) saw Moscow grant a 30% discount in return for a low-cost and long-term lease on the Russian naval base in Sevastopol. But with the oil price rising, the gas price that Ukraine pays (including the $100 BSA discount) has risen from $236 in the second quarter of 2010 when the BSA was signed, to $354 currently. European

prices average around $340 analysts say, although many contracts are discounted due to Gazprom's part ownership in transit infrastructure in various countries. Gazprom has been fighting off demands to renegotiate contracts with several major European customers over the past two years, with German utility operators E.On and RWE currently working on bringing their deals to international arbitration. "If one deducts the transit cost through Ukrainian territory and adds the discount for the military fleet base," points out Zablotskyy, "Ukraine's gas import price would be the highest in Europe." Meanwhile, Ron Smith at Citigroup points out that Ukraine is "Gazprom's most profitable export market," but that the current contract is simply unsustainable for Kyiv. That's not least because it also obliges Ukraine to take a minimum of 33bn cm per year – a challenge for a country struggling to recover from the battering it took from the global crisis – while also prohibiting re-exporting any unneeded gas. At the same time, volumes transported

through Ukraine's pipelines to the EU have no similar guarantee. While Gazprom has made concessions to some customers – such as Italy's Edison – it's playing a waiting game with Kyiv as pressures mount on the government. It's a similar tactic to the one Moscow has used with Minsk. As the Belarusian economy heads into meltdown, Gazprom looks to have landed control over its neighbour's gas transportation system in return for a discount on gas. In Ukraine, President Viktor Yanukovych is playing off macro-economic pressure against domestic politics. On the one hand, the International Monetary Fund (IMF) has suspended its $15bn standby programme until Kyiv reduces the hole in the state budget caused by Naftogaz's parlous finances. However, without lowering the cost of gas imports, the only option to achieve that is to raise domestic gas tariffs significantly. With parliamentary elections set for October 2012 and the government facing rapidly falling approval ratings following the austerity measures already implemented, it is trying – and failing – to talk the IMF round. Upping the ante Ukraine has committed to honour the gas contract until it can secure a new one, and can do so for the meantime thanks to a current account in unusually rude health thanks to borrowing. However, it's hard, in an increasingly precarious global environment, to predict if it will continue to enjoy such access to debt markets. Hence, after a year or so of failing to persuade Moscow to renegotiate, it has upped the ante in the last couple of months with a cascade of badgering and threats clearly designed to get Russia to think again. One option is to take the issue to international arbitration on the basis that the market has significantly changed since the contract was signed. Analysts are split on whether such a move would succeed or not, but it's clear Moscow would regard it as a hostile move. Therefore, a stream of alternative ploys have flowed in recent weeks, with Kyiv

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suggesting it could void the contract by breaking up Naftogaz, announcing plans to slash gas imports by 75% by 2015, sending high-profile delegations to potential alternative suppliers such as Azerbaijan and Turkmenistan, and even suggesting it could scrap its GTS if Russia drops transit volumes significantly. Moscow has responded with disdain and jibes. It played a trump card in early September when it began pumping gas through the new Nord Stream pipeline that bypasses Ukraine altogether by running beneath the Baltic Sea direct to Germany. While the 27bn cm/year first phase of Nord Stream should only take 20% off European export volumes running through Ukraine, there will follow a second phase of the pipeline to take its capacity up to 55bn cm/y, as well as the potential 63bn cm/y South Stream pipeline that will bypass Ukraine to the south, the final agreement on which was just signed on September 16. In short, Kyiv is running out of leverage, and appears to have few options. Either it will have to find a convincing case to take to Stockholm's arbitration court, or find a compromise that will persuade Moscow to renegotiate while at the same time keeping the electorate at home and the EU happy. Has Europe had enough? Even though Brussels has been trying to keep out of the whole mess, it holds significant sway. It's likely only the potential fallout in Europe that's preventing the situation descending into an all-out gas war, with both Moscow and Kyiv aware that the EU is obsessed with energy security. Yanukovych has extra incentive to keep Brussels sweet, having stated that joining the 27-member bloc is his top priority. However, Moscow and Kyiv may have already pushed it too far. In early September, EU Energy Commissioner Gunther Oettinger proposed legislation giving the commission the power to block bilateral energy deals – a clear attempt to disrupt Gazprom's success in dividing Europe by striking up such individual agreements with EU states.

Eastern Europe

Then on September 12, the European Commission secured a mandate from the 27 EU governments giving it – for the first time – the power to negotiate energy supplies on behalf of the whole bloc. It will now negotiate an agreement with Azerbaijan and Turkmenistan to build a gas pipeline across the Caspian Sea, with the ultimate aim of bringing direct to Europe Turkmen gas, which is currently only available via Russia. Should the deal with the former Soviet states go through, it would be a fillip for the struggling Nabucco pipeline project – which is proposed to carry Central Asian gas to Europe bypassing both Russia and Ukraine, but has been plagued by questions of where it would find the gas to fill it. That has seen progress slow significantly since the furore over the last gas war in 2008-09 died down. Should that link to Turkmenistan kickstart Nabucco, it would send up a serious red flag in both Moscow and Kyiv. That, presumably, is the half the point. It clearly rattled Moscow, with the Russian Foreign Ministry responding immediately to condemn the plan for ignoring what it regards as an agreement between the five littoral states of the Caspian – Russia, Kazakhstan, Turkmenistan, Azerbaijan and Iran – not to build such infrastructure until "the current international, legal and geopolitical situation in the Caspian basin" has been resolved. A day later, a newly combative Oettinger responded to the news of the South Stream signing by threatening Gazprom with problems on European contracts if it continues to expand its network connecting to Europe.

"The gas market in Europe is far from transparent, which makes presenting elegant arguments to the broader public difficult"

I 15

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"Mutin" for president bne

n September 24, Russian Prime Minister Vladimir Putin announced that he would swap jobs with President Dmitry Medvedev in the upcoming parliamentary and presidential elections. Putin's decision to take back his old job (as no one doubts that both men will walk into their declared posts) is a sore disappointment, because it will condemn Russia to an ossified political regime, making all the reforms that Putin is proposing much more difficult to implement.

trial run for the presidential vote offers the party the best chance of retaining its current share of Duma seats." Business friendly Weafer believes that the new Putin administration will likely take a very pro-business stance and should push the reform agenda hard, as it is clear that the current model isn't working. "I expect Putin will establish a very pro-business and pro-reform cabinet. Membership of the [World Trade Organization] is a priority," said Weafer.

The "Mutin" tandem is now not only locked into power, but apparently interchangeable. The political theatre at the United Russia party convention in Moscow began with Medvedev, who said he would step aside and was ready to take over from Putin as prime minister if the party were to win in the December polls. Putin took the floor shortly afterwards and said: "I want to thank you for the positive reaction to the proposal for me to run for Russian president," Putin said. "For me this is a great honour," before effectively confirming Medvedev in the PM's job.

so early is to shift the focus in the Duma election from United Russia to a plebiscite on Putin. Given United Russia's failing popularity and the real risk of a very low voter turnout, making the election a

By opting to retake the presidency, Putin has shown once again that administrative power supersedes all else in Russia. Giving Medvedev the PM's job instead of appointing Deputy Prime Minister and Finance Minister Alexei Kudrin (as many had speculated would happen in

To underline the point, most of Putin's acceptance speech was focused on economics, where he called for higher taxes on the rich, a complete reequip for the army and reforms that will sustain 6-7% growth – much higher than the 4% Russia is currently expected to put in for the next few years – which Putin called an "absolutely realistic task." However, continuing the "Mutin" tandem will make these reforms harder to implement, because by taking back his old job Putin only reinforces the patronage networks that have built up around him and his staff. It is these networks that determine the direction of big

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I 17

Speeding after Russia's online consumer INTERVIEW:

Tim Gosling in Moscow

"I have not spoken to a single Russian recently who believes in the future of his country, never mind in Putin's development plan" this scenario) only reinforces the point. Still, Kudrin is by far the most powerful liberal in the government and although he would have been very well received by foreign investors, he would be hard to control. After all, what has Medvedev actually achieved in his four years as president? His only real contribution was to launch an anti-corruption campaign and even this is going slowly.

Chris Weafer, chief strategist at Troika Dialog, said in an emailed summary: "The reason for making the announcement

"I want to thank you for the positive reaction to the proposal for me to run for Russian president"

business, so Putin's physical presence in office, irrespective of his policies, is now probably the biggest obstacle to reform in Russia.

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But worst of all, the same old "Mutin" faces will only further undermine the confidence of Russia's business elite and will frustrate the growing section of ordinary Russians who want to see some more political freedoms. Keeping the new blood locked outside the managed democracy ring fence is probably the surest way to the very stagnation that Medvedev warned of in his speeches earlier this year. One very senior Russian banker said over the weekend: "The Moscow elite, who almost without exception as far as I can see, have been busy over the past few years creating safe havens for themselves and their families in the western democracies. I have not spoken to a single Russian recently who believes in the future of his country, never mind in Putin's development plan."

n September 8, Russian internet retailer Ozon announced the biggest investment to date in the country's e-commerce segment with a $100m in private equity financing, in a deal which illustrates the huge potential of the sector. Russia's Fast Lane Ventures (FLV), whose KupiVIP online retailer previously held the investment record with a $55m capital injection in April, is another of those firms chasing the rapidly rising number of Russia's internet shoppers. FLV aims to set up one new e-commerce site per month by taking models triedand-tested in western markets and introducing them to the under-served Russian sector. "Russian consumers are the same as those found all over the world, as our dating site Teamo shows," says Marina Treshchova, CEO of FLV. "70% of visitors to the site are men, but 80% of paying customers are women," she laughs. Since its inception in June 2010, the company has partnered entrepreneurs in establishing 12 sites, and hopes to have another five or so up and running by the end of the year. "It's what we call the Fast 50," explains Treshchova. "We give ourselves a 50-day cycle from approval to launch." That need for speed is driven by FLV's target to grow the portfolio of companies in time to grab as big a slice as possible of a Russian e-commerce market worth a potential $80bn, according to Treshchova. "The internet will not wait," she warns, "speed is the key." Rewarding patience Providing seed capital of €0.3m-0.5m,

management and operational support, and access to external financing via investment partners, FLV plans to build each of its project companies into a $100m business by the time it looks to exit them, she says. Each business should be profitable within two years, by which time they could be ready to be offloaded, but Treshchova says FLV will wait for up to four years in order to maximize value. "We've already had approaches for some of our companies, but it's too early right now." It makes sense to be patient, because Russia's e-commerce sector offers huge opportunities to any investor that can unlock the potential of "60m internet users, which is set to expand to as high as 80m in 2012," according to Treshchova. BP Bullhound, a UK-based technology sector investment bank, estimated in a recent report that Russia's e-commerce turnover in 2010 reached no higher than $8bn, or just 1.6% of total retail in the country. The project models that FLV is replicating have helped push that figure to 11% in the UK, 8% in Germany and 6% in the US. This potential saw investors jump at a recent IPO by Russian search engine Yandex, which in turn helped FLV by raising the sector's profile among US investors. "Most of our investors are European – and from the UK and Ger-

many especially," explains Treshchova, who, though she accepts the level of risk is relatively high, claims that FLV does not work with bubbles. "We only build real businesses, with conservative valuations. Attracting investors depends on your reputation and relationships. We have several repeat investors into the projects," she says, before suggesting: "Maybe offline retail is more risky now given the growth opportunities for the internet." The innovation conundrum However, the growth of e-commerce has been extremely sluggish in Russia until very recently – but on the supply side. Treshchova says the original spark for the idea of FLV came after company founder Oskar Hartmann casually discussed six "obvious projects," only to turn around after two years to find that still none of them had been launched in Russia. She notes with incredulity that, "the 10 largest e-commerce players in Russia have remained the same for the past decade." At the same time, FLV exposes the Achilles heel of innovation in Russia. Although there's no question the country is still turning out skilled technicians, Russian innovators continue to disappoint investors when it comes to the business side of the equation. Of the company's 12 sites already established, only two evolved out of projects that had no previous con-

"The internet will not wait, speed is the key"

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Back to the bubble

Ben Aris in Moscow For many cash-strapped Russians, the global downturn seemed to offer a chance to scrape together enough money to get a mortgage and move house. But those hopes have been dashed as the market has recovered more quickly than expected and prices are already back to pre-crisis levels. At 80%, Russia has the second highest level of home ownership in Europe after Ireland, but unlike the Irish (or indeed any other Europeans) almost no one has a mortgage. The state simply gave people the public housing they occupied after the collapse of the Soviet Union in what must be one of the biggest transfers of wealth in history. Russians had an average of 16.8 square meters of space per person in 1990, worth nearly $3,000bn today – about twice the value of GDP. However, estimating property values is pretty arbitrary. While eight out of 10 Russians say they want to move house, very few are able to do so. There are only about 300,000 mortgage contracts in the whole country: less than half of 1% of the population has borrowed from a bank to buy their home. "During the worst of the crisis, the top end of the market was not affected at all. No one wanted to sell. They didn't want the cash as they had nowhere to put it," says Ekaterina Thain, founder of Chesterton Russia, a real estate agency in Moscow. "In business class, prices came down by 30% and in economy class they were down by 50%. However, prices already began to recover in 2009 and now they are almost back to pre-crisis levels." The reanimation of the market was clearly seen when Rosstat, the government statistics agency, reported a jump in July construction volumes, up 17.8% on year after being moribund for most of the previous 18 months. Developers who had borrowed heavily to finance projects have largely restructured their loans – or lost their assets to banks – and are now able to raise fresh money to finish half-completed buildings that were abandoned during the crisis. Sergei Sobyanin, the new mayor of Moscow, has suspended construction permits issued by his predecessor Yuri Luzhkov so there will be no new office space on the market until 2013, which will also support prices, Stanaford predicts. At prime locations prices have already passed their pre-bubble peaks, while office vacancy rates in Moscow have fallen to 12.5% from 25% at the end of 2009. Vacancy rates are only around 1% and 3% in the prime retail and logistics sectors, respectively, according to Renaissance Capital. "Before the crisis there were no vacancies and the trick to was to do the deal fast before prices went up further – if you could get the building at all," says Stanaford. "Now there is supply but the gap between supply and demand is closing fast." Moscow's new administration is working on a suburban development plan for the capital to double the size of the city. But this will take several years and redevelopment of the centre of Moscow is still badly needed. "A city is like an ocean liner. It takes time to change direction and it is best to do it slowly and get it right," says Stanaford."

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Russia of 1991, and to deny this progress is wrong," he says. "I belong to the constructive opposition – while I understand and agree with many government policies, I have my own defined point of view on ways to implement the reforms. If I criticise, I always offer an alternative."

nection with the FLV team, whilst fully eight are the babies of members of the FLV innovation committee. Treshchova says it's reviewed around 300 projects so far this year, but found that the vast majority suffer from poor business models and investment horizons. "FLV wants tried-and-tested models – 60% of our portfolio has global prototypes which have been running for over a decade – and clear vision," she says, admitting that many entrepreneurs are put off by FLV's "aggressive execution." However, it's not only the different world views of techies and investors that hold back Russia's e-commerce. The logistics conundrum across Russia's huge landmass also plays its part. No shock then that Ozon CEO Maelle Gavet told Vedomosti that the bulk of the $100m raised will be used to improve the company's dispatching and delivery, pointing out that two-thirds of its 1,100 employees are engaged in fulfillment.

A Front for progress or an affront to progress?

However, outsourced logistics struggle to offer full coverage of the country. "No one can challenge the delivery capability of Russia Post of course," she admits, "but it costs $15 to send a small package, and that makes it unviable." Yet that's not about to slow down FLV, says the CEO, who says the company should hit its capacity of 20 start-ups in the stable in 2012, which should then in turn prompt the first exits. The opportunity is simply too big to stand still. "In the European market there are five groups doing what we're doing," Treshchova announces, "but there's zero competition in Russia."

This, of course, is the very definition of "managed democracy." The alternatives that Babakov talks about are real, viable and could become policy, but the point is that these ideas are coming from a party that is lodged firmly under the Kremlin roof. So while this system offers the variety of ideas that a true democracy would engender, the debate remains very much within a fence the Kremlin has built around the process.

RUSSIA VOTES:

Nicholas Watson in Prague "There are only three players in the market that offer outsourced logistics services," Treshchova says. "We use one for our first site [shoe retailing site Sapato], because the $30m investment needed to build our own operation is too large – for the moment at least."

I 19

t's election time again in Russia and, according to much of the western press, the Kremlin is up to its old tricks of locking up protestors, stifling opposition and co-opting any credible alternative figures. But one of those figures that outsiders cite as an example of the latter, Deputy Speaker of the Duma Alexander Babakov, claims the new movement he has joined is not a Kremlin stooge, but a group of like-minded progressives determined to see the reform process in Russia speeded up. The All-Russia People's Front is an informal alliance of trade unions, women's groups, social groups and other semipolitical organisations that was created in May by Prime Minister Vladimir Putin to give them broader representation in the next legislature. However, critics say that by allowing the People's Front at the next parliamentary elections in December to take up a quarter of the seats on the United Russia list, the main proKremlin party in the Duma, it is merely a ploy by Putin to draw off votes from the growing number of Russians who see United Russia as "the party of crooks and thieves" and who are in danger of voting for opposition parties. Another example

of Russia's "managed democracy" in action. Not so, says Babakov, who deserted the ruling party's main rival, A Just Russia, which he had helped set up, to join the People's Front. In an interview with bne, Babakov insists he decided to leave A Just Russia because like other opposition parties it was spiralling into radical-

Innovation, renovation and modernisation The People's Front is not a legal entity, Babakov says (something a local Russian journalist discovered when he tried to join up and found he couldn't), but a movement that brings together progressive thinkers regardless of their political persuasion, and definitely does not mean he has joined United Russia. "I see the People's Front as a sort of incubator for political thought for the social democrat type that I am." Mironov – a vocal critic of the People's Front, claiming it's merely "an attempt to camouflage United Russia… with people

"The radical opposition just deny everything that is currently in place – the Russia of 2011 is not the Russia of 1991, and to deny this progress is wrong" ism, trying to turn back the clock on what has been achieved in Russia over the past two decades, and his relationship with the head of the party, Sergei Mironov, had grown very difficult. "We look very differently at the programme of reform and the way it has continued," Babakov says. "The radical opposition just deny everything that is currently in place – the Russia of 2011 is not the

loyal to the ruling establishment" – is certainly not what you’d call progressive, pushing as he does for the setting up of special agricultural exchanges for state purchases of agricultural goods and for more state intervention in regulating prices of basic foodstuffs. Babakov, on the other hand, may resemble a rather mild-mannered regional bank manager squinting in the glare of unwanted

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KIT Finance back from the dead

Ben Aris in Moscow It was a close call. Two days after Lehman Brothers filed for Chapter 11 on September 15, 2008, the financial tsunami broke on Russian shores and the up-and-coming commercial bank KIT Finance collapsed. Bankers held their breath waiting to see if the bankruptcy would spark a repeat of 1998, when the entire top tier of the Russian banking sector was wiped out in a few days. It didn’t happen. Within hours, asset management company Leader, owned by Gazfond, the pension fund of Gazprom, stepped in and said it would acquire a controlling stake in KIT. Leader’s offer to bail out KIT stopped the fear spreading at the crucial juncture, but eventually it was the state-owned Russian Railways (RZD) that bailed the bank out with loans backed by the Russian Deposit Insurance Agency (DIA). Fast forward to 2011. While Europe is again facing calls to recapitalise its banks in anticipation of a Greek sovereign default, KIT back on its feet. Andrey Degtyarev, the bank’s new CEO, says that by the end of the year it will have paid back all its bailout loans – three years ahead of schedule. The bank ran up a total of RUB60bn in bailout loans, but it went into the crisis with a significant stakes in state-owned diamond monopolist Alrosa and VTB Bank's retail arm VTB24, part of which it sold in August for about RUB20bn. Degtyarev says the plan is to sell the remaining stakes, which should clear its debts completely. "The plan is to pay off our debts by the end of the year, as the debt terms prevent us from doing some types of business," says Degtyarev, sitting in the bank's modest but modern offices on Bolshoi Nikitskaya in the heart of Moscow. "Then we have a growth strategy to 2014 after which, who knows? Maybe we will sell the bank. After we pay off our loans then the bank will be a more interesting prospect." Today’s KIT looks very different. It has been shorn of all its businesses except the private and corporate banking functions, and sold off its large St Petersburg branch network to concentrate on servicing the needs of small and medium-sized enterprises. "We don’t plan to go back to the retail business. Now we concentrate on complicated deals for mediumsized companies: things like project finance, M&A deals and loans. If we are involved in a management or leveraged buyout, then sometimes we take a stake in the most interesting deals," says Degtyarev. "KIT is now somewhere between a corporate and an investment bank." The niche is an obvious one, says Degtyarev, because after state-owned retail giant Sberbank bought investment bank Troika Dialog, Russia’s investment bank business is dominated by a dwindling number of giants. As such, Russia’s legions of fast growing middleweight companies are struggling to find investment banking services.

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publicity, but he has amassed a fortune from business interests ranging from banking to energy and hotels, which some critics claim rather undermines his "social democrat" credentials. Even so, his reformist zeal and belief that Russia can, and will, become a more open and pluralistic democracy seem genuine and, to his mind, inevitable, which would certainly put him at odds with Mironov's A Just Russia. For Babakov, that he now finds himself on ideologically on the same side of the fence as the Kremlin is not really much of a surprise given there is little appetite among the population at large for a radical opposition and the Kremlin's push for "innovation, renovation and modernisa-

"I see the People's Front as a sort of incubator for political thought for the social democrat type that I am" tion" is simply what most Russians want these days (though the arrests on August 31 of more democracy activists as they tried to hold a sit-in in central Moscow after they unfurled anti-Kremlin banners suggests the right to peacefully protest is also high on people's lists). It's this fact that leads Babakov to argue the Kremlin could move even faster with reforms, something he believes most of the government also wants to see. "I agree that there is a need to make these [reform] processes to go a lot faster, but that's what the government is also saying. One of the ways to do this is to invest in the real economy, not just sell oil and gas, as this way you provide guarantees of social development," he says. "The people are ready for reforms and the People's Front is ready to be part of this, but whoever is elected needs to pursue faster movement in reforms."

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I 21

Russia's antigraft campaign opens Pandora's box INTERVIEW:

Ben Aris in Moscow

ussian President Dmitry Medvedev has opened Pandora's box by launching his anti-corruption drive, says Elena Panfilova, head of corruption watchdog Transparency International. But precisely because the Kremlin is losing control of the process, she is optimistic the government's efforts to stamp out graft will actually succeed. Arrests and sackings of prominent officials have become mundane; every branch of government is being targeted and examples are made of the most egregious abusers. The most recent apparatchik to be hung out to dry was former Tula governor Vyzcheslav Dudka, who was charged with corruption on September 5 for accepting a $1.3m bribe and placed under house arrest. More chilling is the rising number of reports of police officers committing suicide, which some have linked to the increased pressure that officers are under. A week before Dudka's arrest, Alexander Peshekhonov, a village police chief in the Krasnodar region, shot himself and accused his superiors in a suicide note. No information is available on the trend and the Interior Ministry is refusing to comment. Panfilova, who has been at the forefront of researching and condemning corruption in Russia, says the police force have had the rugged pulled out from under them. "For 10 years, [then president Vladimir] Putin left the police to do what they wanted. The power vertical was designed to take out the bandits and the oligarchs and so Putin needed a

Elena Panfilova

loyal law enforcement," says Panfilova, sitting in her small office that stands in the shadow of one of Moscow's seven Stalin-era skyscrapers. "The police were an army for stabilisation. They fought against street crime, terrorists and oligarchs, but the government turned a blind eye to everything beyond this. There was a culture that they were entitled to the money they took. Then Medvedev came along and changed the rules – he said all corruption was a crime." Presidential policy When Medvedev took over as president in 2009, he was looking for issues to make his own. Putin had mentioned corruption in nearly every one of his "State of the Nation" speeches during his two terms in the office, but little, if anything, was actually done about it. It was an easy issue to pursue, as many of the tools needed to crack down on graft were already in place; as part of Russia's membership to many of the

wanted to be part of the G8 and therefore had to join the international conventions like the Council of Europe, which have anti-corruption rules. They were reluctant, but [the Kremlin] had to do it if it wanted to join these international organisations," says Panfilova. However, the biggest change was Medvedev's broadening of the definition of "bribe." Putin was referring to petty corruption in his speeches, the RUB1000 note paid to a traffic cop if you ran a light or the brown envelopes paid to a teacher to get a place in a good school. What Medvedev began to talk about about was the $10m kickbacks that state employees were taking when awarding state procurement contracts. Many commentators have written off Medvedev's "clean hands" campaign as window dressing, but Panfilova says the Kremlin could find that the policy may end up being more successful than it bargained for.

"The Kremlin has opened a Pandora's box, but now they have to deal with it"

European and global institutions it aspired to join, the Duma had already put things like western style anti-corruption laws on the books – just no one had bothered to implement them. "Russia

In order to make the campaign work, Medvedev has been forced to break several taboos surrounding official corruption – the main one being it has become permissible to talk about corruption in

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public. Newspapers and TV shows had avoided the topic before, as it was bound to get them into trouble; now they are obliged to report with fanfare any and all high-profile arrests. The result is that if the Kremlin wanted to stop the campaign – or even limit it – now it can't. "eMedia is allowed to write about the issue, people discuss it and civil society has quickly moved beyond the political definition of corruption. You have to look to trends like the appearance of [outspoken critic of the Kremlin] blogger Alexei Navalny, which was unexpected and inevitable," says Panfilova. "The Kremlin has opened a Pandora's box, but now they have to deal with it." Onwards and upwards The difficulty is where to go from here. Russia is far too large to follow tiny Georgia's example of simply sacking the

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entire police force. Georgian President Mikheil Saakashvili appointed two of his staff to oversee the transition, whereas Russia's police force consists of hundreds of thousands of officers scattered over 10 time zones. And the Kremlin dare not launch a systematic campaign of arrests either, as everyone in government is tainted; bureaucrats would stop doing their jobs and spend their entire efforts protecting themselves. Government would collapse. Panfilova sees the story unfolding in four stages. First is a growing sense of frustration as the people continue to suffer from corruption due to the limits of the campaign. In the next stage, Russians will go online and look for like-minded people, and this is already happening. It is a short step from chat-room outrage to membership of a pressure group, and

that will lastly lead to questioning the political status quo. The Kremlin controls the political process, but it has a adopted a system of "managed democracy", which means it still needs to persuade a large proportion of the population to vote for the party of power. It doesn't have to listen to the popular will as hard as countries in the West, but it does need to pay some attention and if those voices grow louder… "The corruption campaign will inevitably lead to a political force for change," says Panfilova. "Medvedev is going to leave a legacy of good laws – mandatory income disclosure, a freedom of information act and others. In the right hands these good laws could make an enormous difference. But he is only a lawyer fighting corruption and not a leader – and that makes a big difference."

A shake-up in Russia's financial markets

uben Aganbegyan, head of the Moscow Interbank Currency Exchange (Micex), believes he is "surfing the wave" of reform of Russia's financial markets. If the momentum can be maintained, he believes the dream of an international financial centre (IFC) based in Moscow is attainable. Less than a year after being appointed president of Micex, Aganbegyan brought about the long-sought after merger with the RTS to finally create a unified stock exchange in Moscow. "There are many economists in the Russian administration, but nobody from the financial world. The financial markets were stagnating. My appointment was a first and

Ruben Aganbegyan

it shook up the market," he tells bne. "I am an insider, I know the shareholders of RTS and I knew they were thinking about a merger. It was like a coup d’etat to appoint someone from the financial markets, an outsider, into an organisation like Micex, which is dominated by the central bank. That appointment reset the agenda."

– no easy task in a country where the system is permission-based rather than the western model, where the regulators say what you can’t do and let you

decisive factor. "It wasn’t cheap, but we did not overpay for RTS," he says of the merger worth $4.8bn. "I think it also helped that the transaction was done at market price, rather than the merger being forced."

"You have to understand there is now a new generation pushing for achievements, to go into history," explains the 39-year-old with a law degree and 15 years experience in investment banking

Changing attitudes Aganbegyan – though everyone seems to call him Ruben rather than Mr Aganbegyan – is ambitious. He really believes that this merger is the first step towards revolutionising the Russian financial market, towards creating the dreamed of IFC.

The key, he says, "was persuasion plus money," with the latter being the

Aganbegyan recognises that this also means changing the investment climate

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traders and investors," which would provide the opportunity to develop new products and services such as interestrate derivatives.

"It was like a coup d’etat to appoint someone from the financial markets, an outsider, into an organisation like Micex" get on with your business. "We cannot change this attitude overnight. Russia has always lived that way. People need to get comfortable with letting go of the micro-management mentality." At the same time, he recognises that the Russian system has its plusses and is not always a brake on progress. "For example, RTS managed to create derivatives without any problems." Aganbegyan doesn't flinch from questions about investors’ concern over Russia’s reputation for insider trading, corruption and political interference. "It’s a big exercise to improve the investment climate. Everything in Russia is unique in itself. We need to bring it into line with world standards. We need clear laws. People need to have trust in the legal framework."

INTERVIEW:

David Lennon in London

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Avoiding specifics, he quickly says it is not just a question of changing or implementing new laws and regulations. "There is also the technical implementation side, having the right people with the right skills and motivation to believe that they can achieve change and development." To the region and beyond Aganbegyan is quite reserved about the idea of forming an alliance or association with one of the big global bourses. "I need to understand why we need to do it. The impetus for such mergers is generally to save costs, but I think we have a huge opportunity on the revenue side. So we should concentrate on this first." He talks confidently about unifying the infrastructure of the two exchanges, "creating a single platform for issuers,

More importantly he expresses his belief that a central securities depository (CSD), under discussion for more than a decade, will become a reality in 2012, and that compliance with US overseas investment regulation will follow, opening the way for US institutional investors. But he does not rest his vision on the narrow achievement of creating a unified exchange, but rather is thinking beyond Russia's borders and into the region. "I see Russia as part of the global system. Remember we are the 10th largest by GDP, we have a strong currency. We will also have a presence in the Ukraine and Kazakhstan, and Moscow will be a place people will go to invest in these markets as well. We will be a big player." This is one of the reasons that he is being cautious about the name of the new entity; the combined exchange is currently studying the rebranding question. "Calling it the Russian exchange is limiting if we hope to operate in Ukraine and Kazakhstan as well. A Moscow Stock Exchange already exists, though it is hardly functioning. Perhaps we will buy it," he says with a mischievous smile. And the future? "The international financial centre project has been moving okay so far, but we need to look at the movement and make sure it is in a positive direction. If we fail to follow through, if we stop at this point, then nothing will happen."

"It wasn’t cheap, but we did not overpay for RTS"

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have steadily shrunk throughout the year – from 630 basis points or so in January to around 550 bps in early September – a brutal sell-off in the zloty during September has made the Polish currency among the worst performing currencies and caused yields

The opposition Law and Justice (PiS) party, offering a mix of right-wing nationalistic rhetoric and a protectionist economic programme, is a dead cert to finish as runner-up, with polls suggesting it will garner around 20% of the vote. First choice to help Civic Platform

"I know that things aren't going as fast as you'd like, but we're headed in the right direction"

to start rising again. On September 9, the zloty hit 4.3483 against the euro, the weakest intraday level since July 2009. Mrowiec also points at credit default swap (CDS) rates as evidence for concern. "I think investors might be getting just a little bit more cautious these days; the appetite for sovereign debt has slowed, while CDS rates are increasing," he says.

Perils of Poland's predictable politics Wojciech Kosc in Warsaw

he ruling centre-right party Civic Platform (PO) looks certain to become the first party in Poland's post-communist history to win consecutive elections on October 9. While the government appears to be getting the credit for Poland's relatively strong economic performance through the crisis, analysts worry the weakness of the opposition risks complacency setting in. "I know that things aren't going as fast as you'd like, but we're headed in the right direction," Donald Tusk cajoles Poles in PO's latest TV ads. The prime minister is referring to the achievements of his government, such as expanding the country's transport infrastructure programme to

an unprecedented scope. "There are currently more motorways under construction than any time before in Poland," the government keeps saying – an achievement which inspired the ruling party to launch its electioneering with the slogan: "Poland under construction". However, constructing a more sustainable economy will demand immediate attention following the elections, says Marcin Mrowiec from Bank Pekao, who worries that the electioneering has Civic Platform believing its own hype. "The government plans to reduce the budget deficit to 2.9% in 2012, but that could prove difficult with economic growth forecast at no more than 3.1% this year

– well below the government's forecast of 4.0%," says Mrowiec. "It's time for the government to get real about the deficit and come to terms with the fact that it's likely to be closer to 3.6%." Mrowiec says that the "loans of trust" that financial markets have granted Poland via €35.5bn of sovereign debt issues this year won't last, unless the government deals with the imbalance of the state budget. "If the deficit isn't reduced and the public debt isn't capped at a maximum 55% of GDP, negative reaction could build," he says. Investors look increasingly worried. Although yields on sovereign bonds

He's backed up by Deputy Finance Minister Dominik Radziwiłł, who told Bloomberg in early September that "the level of [Polish] CDS is probably quite absurd right now." The insurance on Polish sovereign debt widened last month to 236 bps, the highest level since April 2009. Little choice Despite the mounting evidence for concern, analysts complain these issues are hardly present in either the election campaign or the media. This strategy appears to be working for the government; in early September, polls showed that Civic Platform is in line to head the next government with 33-36% of the vote. Support for Civic Platform remains strong within business circles, says Jeremi Mordasewicz, an expert on economic policy at employers' organisation Lewiatan. "We believe that the government will pursue a policy of less welfare and more jobs," he says, "although whether coalition partners of the new government will allow that, is a different matter."

form a government will be current coalition partner the Polish Peasants (PSL) party, which polls predict should pull in up to 5%. However, Civic Platform might also need to include the Democratic Left Alliance (SLD) should it gain the 8% or so of votes predicted. That the "Polish opposition is simply weak and unconvincing" is one of the problems holding back real debate over economic issues, reckons Bartlomiej Biskup from Warsaw University, an expert in political marketing and election campaigns. Tusk declared just before the global crisis hit a couple years ago that "Poland is a green island of growth." His words

more than 1.8% in July compared with the same month in 2010 versus expectations of 3.5%. It also shed 6% compared with June. The lack of public debate is even more surprising given that the weakening zloty is hitting Polish homeowners hard on their mortgages. Like many currencies, the zloty has weakened considerably against the Swiss franc, and this is directly affecting the 700,000 homeowners who took out mortgages denominated in Swiss francs when the zloty appeard to be inexorably rising against developed market currencies before the crisis. These people are facing higher mortgage payments, even as they watch the market value of their property drop. On top of all this, the government is also facing the question of how to continue financing investment in the face of falling EU funding from next year, with the level of funds from Brussels yet to be decided in the EU next budget. "How is the government going to finance investment without having to rely on EU funds so much and in the context of the health of public finances, is a key question," says Mrowiec. In theory, all of this provides plenty of ammunition for populists like PiS chairman Jarosław Kaczynski, or SLD leader Grzegorz Napieralski to attack the

"The government hasn't worn out its popularity yet because people just don't believe that parties like PiS or SLD can do anything better" were mercilessly ridiculed by the opposition of course, but have stirred little serious discussion. But it's not as if there aren't enough issues to talk about. Apart from the budget deficit, the level of public debt and weakening dynamics of economic growth, analysts are asking questions about industrial production as weakening global growth stalks an economy that thrives on exports. Industrial production growth managed no

government on inflation or rising taxes and mortgage payments. But as Biskup points out, people see little choice apart from Civic Platform. "The government hasn't worn out its popularity yet because people just don't believe that parties like PiS or SLD can do anything better."

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However, some analysts warn that the Polish market may not be ready yet for such heavyweight players, as most Poles still prefer to shop at malls that are generally avoided by premium brands, and the country has few luxury shopping streets. "Most luxury brands are not interested in opening their stores at shopping centres," says Anna Bartoszewicz-Wnuk, director of market research and public relations department at Jones Lang LaSalle Poland. "The fact that Poland's shopping landscape is dominated by malls is a major handicap to the development of the luxury goods market."

How to spend it in Poland Jaroslaw Adamowski in Warsaw

ith Polish consumers developing a taste for luxury goods, a growing number of premium brands are eyeing an expansion into this rapidly growing market. Between 2005 and 2010, Poland's luxury goods market grew by 50% to PLN3.5bn (€833m), exceeding the growth rate not only of all the major EU member states, but also of Russia, Turkey and the US, according to a recent report from Euromonitor International. And the nation's appetite for luxury is only set to grow; Citibank forecasts Poland's GDP will rise by 3.8% in 2011, far higher than the desultory growth expected in Western Europe and the US. Presently, there are about 620,000 potential luxury brands customers in Poland. This category includes individuals whose monthly income averaged €3,750 in 2010, according to data from KPMG consultancy. "Poland's luxury goods market is expanding at a steady pace," says Tomasz Wisniewski, a partner at KPMG Poland. "It's an important

indicator of the improving quality of life of Poles who often begin to enjoy their life to the fullest and taste luxury after... years of hard work." And there is an increasing number of tastes to choose from. Last year, 61% of world-renowned luxury brands were available to Polish consumers, a rise

Compared to other regional capitals, such as Prague or Budapest, Warsaw's luxury retail offer is still quite meagre, Bartoszewicz-Wnuk notes. LVMH's main competitor on the global luxury goods scene, Pinault-PrintempsRedoute, has decided to take the plunge though, announcing plans to launch Warsaw's version of London's Harrod's department store, Wolf Bracka, which will open this year. The group is the world's second-largest player in the luxury market, owning Gucci, Alexander McQueen and Yves Saint Laurent in its brand portfolio. Poland's Paradise Group, which franchises Burberry, Emporio Armani, Hugo Boss, Ermenegildo Zegna and Church's stores, is also continuing its expansion in the luxury goods market and plans

"The fact that Poland's shopping landscape is dominated by malls is a major handicap to the development of the luxury goods market"

of eight points over 2009, as shown by figures from KPMG. But there is still room for growth, as many major players are still absent from the local market. This includes LVMH, the global leader in luxury goods, which is rumoured to be planning to open up a flagship Louis Vuitton store in Warsaw.

to open new stores. The group's owner Jerzy Mazgaj is also a major player in the gourmet food market. Along with the country's growing appetite for Parma ham and creamy Camembert cheese, his Alma delicatessen chain dominates Poland's food sales. In 2010, Alma reported revenues of PLN1.245bn

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(€296.5m), up 23.3% over 2009, and a net profit of PLN26.5m (€6.3m), a big turnaround from the PLN49.4m loss posted a year earlier. Driven to luxury Besides fashion and food, cars are the other major luxury item. "Over the past few years, we have been witnessing a steady growth of luxury vehicle sales in Poland," says Dariusz Balcerzyk, an analyst for the automotive market research institute Samar. In 2010, luxury passenger cars represented only 2.7% of the Polish vehicle market, according to data from Samar. This means that only slightly over 9,000 of the total of 333,539 cars sold fell into that category. However, almost every luxury brand managed to improve its sales last year. Jaguar sold 137 vehicles, up 26.9% over 2009, Infinti sales were up 87.2% to 264 units, and Porsche sold 567 cars, up 76.6%. Data from the Polish Automotive Industry Association (PZPM) showed Land Rover growing its sales 38.5%.

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Other established brands, such as Mercedes, BMW and Audi, are eager to grab a share of this growing luxury car market, but they target most of their models to higher middle-class customers, according to Balcerzyk. "There is a sub-segment within the luxury segment, super-luxury car brands, which has been developing even faster. This includes Ferrari, Porsche or Bentley," Balcerzyk says. Ferrari opened its first Polish sales outlet, located in the former headquarters of the communist-era Polish Unified Workers' Party, in October 2010. Granturismo Italia, which represents the brand in Poland, is unwilling to provide exact figures on how many cars have rolled out of its Warsaw store since its opening, but said it sells several units per month – not bad, given that the most affordable model costs €211,000. "Ferrari's rising sales indicate that more and more luxury brands will be expanding to Poland. Their sales will always represent a niche, but a very profitable one," Balcerzyk says.

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"Ferrari's rising sales indicate that more and more luxury brands will be expanding to Poland"

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Further, almost all of Poland's electricity is generated with coal, which may be plentiful, local and cheap, but which will become more and more costly thanks to the EU's clampdown on greenhouse gas emissions. "Extracting shale gas could have a significant impact on the energy potential of our country and for the whole of central and eastern Europe," says Waldemar Pawlak, Poland's economy minister.

PKN Orlen's shale makeover

www.orlen.pl

Jan Cienski in Warsaw

KN Orlen is Poland's largest oil refiner, with a network of petrol stations that spans the country. But the company sees its future as very far removed from the world of petroleum. "Orlen wants to be a leader in gas extraction," Jacek Krawiec, the company's CEO, said at a recent conference dedicated to shale gas, the unconventional fuel that may be present in enormous quantities locked into rock formations deep underground and which has set off a gas rush in Poland. PKN Orlen eventually hopes to become a large gas producer, which it will use in gas-fired electricity plants, a big change from its current reliance on refining. The company is already undertaking seismic testing at two sites in eastern Poland, and plans to begin drilling later this year. Its interest in shale gas was confirmed earlier in September in a report that it was trading some of its

Polish gas concessions for access to US shale deposits with Canada's Encana Corporation. You can be sure of shale PKN Orlen's gas play is just a small part of a much wider shale frenzy that has gripped the country since the US in a matter of years turned from a gas importer to a gas exporter. Earlier this year, the US Energy Information Administration said that Poland may have the largest shale gas deposits in Europe – as much as 5.3 trillion cubic metres (cm). "Thanks to shale gas, Poland has the chance of making itself energy independent," Janusz Steinhoff, a former economy minister, tells the Rzeczpospolita newspaper. The prospect of energy security is enormously attractive for a country that imports two-thirds of the 14bn cm of gas it uses every year, most of it from Russia, which also supplies Poland with the overwhelming majority of its crude.

Poland is seeing enormous interest from the US and Canadian companies that first developed the technology to extract the gas by drilling deep underground and fracturing rock formations with water under very high pressure – a process known as "fracking". Chevron, ExxonMobil and Marathon are active, as are a host of smaller companies which are aggressively competing for more than 100 shale exploration concessions around Poland. Britain's 3Legs Resources, working with Canadian Lane Energy and US ConocoPhilips, has made the most progress, drilling a test well near Lebien, in north-central Poland, and flaring off the resulting gas. "The first impressions indicate that the reserves could be effective," says Pawlak. The true extent of Poland's reserves, and whether extraction is commercially viable, will be known in about five years, but there are still a lot of hurdles before Poland's dreams of becoming another Norway – as Radoslaw Sikorski, the foreign minister, once said – can be achieved. Poo-pooing shale The first are possible regulatory hurdles. France, which also has large potential shale reserves, has imposed a moratorium on exploration, ostensibly for environmental reasons, but Poles darkly mutter that the French are simply protecting their powerful nuclear industry from a potential competitor. Poland is also lobbying hard to prevent the EU from imposing tough environmental rules that could kill off shale production before it starts. Guenther Oettinger, the EU's energy commissioner, is mulling over the introduction of higher environmental standards for shale extraction.

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Then there are cost issues. Shale gas has dramatically cut the price of gas in North America and turned it into a gas exporter. But if world gas prices continue to fall, it may end up being uneconomic to develop new deposits in Poland, which lacks the infrastructure and specialised (and expensive) equipment to quickly ramp up production. Finally, Poland would have to adapt the liquefied natural gas (LNG) terminal currently under construction near the Baltic port of Swinoujscie to handle exports instead of imports, as well as expanding its pipeline network, which mainly ferries Russian gas west, in order to handle a surplus of domestic supply. Those potential complications are not dampening hopes of an energy bonanza, however. And the country's ruling Civic Platform party has even added gas to its pre-election pledges. "By 2013, we will introduce solutions guaranteeing Poland high revenues from shale gas extraction, which will be used for securing future pensions," says an ambitious declaration in the party's electoral programme. There is a saying for that in Polish – "Dividing a bear's skin before it's dead."

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Plan B from the outer coal face

Nicholas Watson in Prague New World Resources says it hasn't seen any evidence of a slowdown in its business and remains optimistic about the longer-term outlook for the region. Nevertheless, the Central European coal miner tells bne it's drawing up contingency strategies in case things do go south, which could include as a last resort delaying projects like Debiensko in Poland. In its second-quarter earnings statement, NWR insisted that while there is a risk of near-term volatility in prices and demand given the recent market turmoil and uncertain economic conditions, the coal producer has seen no physical evidence yet of the economic slowdown weakening demand for its coal. However, Marek Jelinek, chief financial officer of NWR, tells bne in an interview that with the markets clearly pricing in an economic slowdown, reflected particularly in the fall in shares of commodity producers (so far this year, NWR shares have fallen around 45% on the London and Prague bourses where they are listed), the company is developing "a number of 'plan Bs' to be able to mitigate any economic slowdown." When pressed on what those "plan Bs" might include, Jelinek admitted that a delay on Debiensko, a huge project with 190m tonnes of reserves and forecasted production of 2m tonnes per year that only got the go-ahead from the board in June, could be on the cards. He stressed, however, that a delay on such a crucial project to NWR would be "the option of last resort," since the first coal from Debiensko would not come until five years away, so "whatever the shape of the GDP curve is going to be over the next six to 12 months, it's not really relevant for the future of Debiensko." Jelinek says in his opinion NWR should press ahead with Debiensko irrespective of the short-term economic outlook of the region given past experience. "We pressed on with a very significant equipment investment throughout the last crisis even though those large capital projects are typically the first things that people axe and… it was a great decision even though it led to us bleeding cash through the crisis, because as a result we are in a much stronger position today."

"There are still a lot of hurdles before Poland's dreams of becoming another Norway can be achieved"

Indeed, Jan Tomanik of Prague-based brokerage Wood & Company, noted that NWR's slightly better-than-expected earnings in the second quarter of ¤84m, showed its business was reaping productivity gains from that investment in new equipment; in the spring, Tomanik estimated that the Debiensko project was worth around CZK35 per NWR share, which closed at CZK164 on August 30.

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Latvia's airBaltic to Fly Another Day? Mike Collier in Riga

he scriptwriters for the new Bond film need look no further for a plotline than the recent antics at Latvia's airBaltic. All the ingredients of a ripping yarn are there: more than 60 exotic locations across the globe, a mysterious Russian billionaire, a president held against his will and, most important of all, a first-class baddie in the form of a blondhaired, blue-eyed German mastermind controlling an international network from a secret location somewhere near Berlin. That Teutonic terror is none other than Bertolt Flick (he even has a Bond baddy's name in addition to a 47% share of the company), a classic example of a good guy gone rogue. The former poster boy of Baltic business, who has been airBaltic's CEO since 1995, has been issuing a series of blistering attacks on the Latvian government (which controls a 52% stake… or does it?) which in turn has been demanding his head as part of an increasingly bitter battle for control of the airline. Flick has refused to even visit Latvia since June over fears that he will be arrested as part of a corruption investigation as soon as he lands, leading to a bizarre situation in which he runs the Latvian state airline from another country and occasionally offers to fly local journalists to Berlin for press conferences. In one broadside, he claimed the government of Valdis Dombrovskis had turned the airline into a "hostage" to elections, creating "a crisis of confidence in customers and partners alike" and warned – presumably while stroking a white kitten – that unless a planned increase in airBaltic's share capital takes place pronto, the situation "may become fatal to the airline." He followed that up with another blast accusing the government of "meddling" and "hysteria." Missing shares Flick also took the opportunity to refute

revelations on an investigative TV show that there was anything dodgy about an attempt by a mystery investor to acquire nearly 60,000 shares (11.5% of the company) in airBaltic for €9.6m. According to Flick, the attempted purchase was an attempt to tidy up a discrepancy between airBaltic's registered and paid-up share capital dating back as far as 2002, and that the Latvian Transport Ministry had actually asked for the situation to be sorted out before any fresh investment in the company could be made. Attracting an investor willing to pay over the odds for shares was a practical measure to maintain liquidity while the government dithers over making good on a promise to increase the airline's share capital by up to €100m, Flick claimed. But the appearance of the mystery investor looks suspiciously like a gambit by

the "airBaltic" brand in December 2010 for a cool €13m then charged the airline a monthly fee to use its own name. Opposition MP Nikita Nikiforov, whose Harmony Centre party emerged as the largest single party after the September 17 election, summed up the pubic mood well: "The situation with airBaltic is absolutely absurd." Stranded While Dombrovskis did show some initial willingness to get to the bottom of what is actually happening, the government's approach is becoming increasingly like that EU specialty – kicking the can down the road. Following a cabinet meeting on September 6 that seemed to back a joint share capital increase plan, Dombrovskis' office back-pedalled rapidly once newswires reported that a deal had been agreed, talking instead of a "possible government investment." The stakes were upped again on September 13 when Latvian President Andris Berzins was left stranded in Brussels after an EU meeting when his airBaltic flight was mysteriously cancelled. Pen-

"The situation with airBaltic is absolutely absurd" Flick's Bahamas-registered company Baltic Aviation System (BAS) to increase its holding by acquiring what a spokesman for PM Dombrovskis described as "nonexistent" shares (legal battles continue over whether the shares actually exist or not). In fact, the identity of the investor isn't that much of a mystery. BAS is widely believed to be backed by Russian billionaire Vladimir Antonov via offshore companies Taurus Asset Management, West Investment and BAS's major creditor Latvijas Krajbanka – a subsidiary of Lithuania's Snoras bank, owned by Antonov. The sale of the "missing" shares wouldn't be the first time BAS had done deals of questionable propriety while forgetting to mention them to anyone else; for example, it sold itself exclusive rights to

sioner Berzins eventually made it back to Riga in the early hours of the next day, but not before his planned flight from Hamburg also developed "technical problems" and Berzins' press officer had spoken of the president being Flick's "hostage". Far from apologising, Flick upped the ante by promising 700 more flight cancellations per month. "This decrease is directly related to the delayed decision on capital increase," he cackled, referring to government reluctance to hand over the €100m ransom. What seems certain is that the endgame at airBaltic is well underway – it just remains to be seen whether anyone can find a Latvian James Bond to deactivate the doomsday device before Flick disappears into space in his green-liveried escape pod.

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Despite accusations Oscar Wilde wrote that portraits do not depict the sitter so much as the artist, who "reveals himself on the canvas." In the same way, the cache of diplomatic cables from Bratislava offers fascinating insight not just into Slovak politics per se, but also into how the US relates to Slovakia.

Wikileaks reveals double standard in Bratislava Tom Nicholson in Bratislava

ix years ago, diplomats at the US Embassy in Bratislava noticed that "a shadowy financial group" called Penta – "known for its predatory business practices" – was apparently buying votes in parliament to secure the passage of healthcare legislation. Chargé d'affaires Scott Thayer informed his superiors at the State Department that, "a reliable contact with ties to Penta" had told the embassy that the company paid independent MPs 2m Slovak crowns (€66m) in 2005 to approve a bill allowing franchising of pharmacies. Despite the gravity of these claims, Penta's name was seldom mentioned again in the hundreds of cables that streamed from Bratislava to Washington until mid-2010. By contrast, Supreme Court Chief Justice Stefan Harabin was pilloried in dozens of cables during the same period – on one occasion for his "deeply troubling" politicisation of the judicial sector; on another for his "offensive language and bold public lies"; and on still another as a "nefarious" influence with "proven past association with a suspected drug trafficker."

"The damage that Harabin and his supporters are doing will be felt in Slovakia for years to come," wrote chargé d'affaires Keith Eddins in January 2009. At first read, the Wikileaks cables from Bratislava are titillating mainly for their frank accounts of behind-the-scenes

Thayer himself offered a reason why Penta's vote-buying might not have concerned the US: the alleged corruption was seen as serving the greater good – economic reform. "The Slovak healthcare sector is truly being transformed from an inefficient, indebted and corrupt system into one that is closer to sustainability," he noted. "Despite accusations of vote buying for one of the reforms, it is important to remember that all six reforms passed." Current Finance Minister Ivan Miklos was another who could apparently do no wrong. Several cables refer to evidence that the embassy allegedly had of corruption involving the internationally respected architect of Slovakia's economic reforms. According to well-informed sources consulted by the author of this article, Ambassador Ron Weiser had passed this information on to then-opposition leader Robert Fico, with whom he had a close personal relationship, in the run-up to 2002 par-

"The businessmen commented, 'in Germany, we have to buy tickets to see such a circus performance'." venality. But on closer inspection the US embassy's coverage of Slovakia raises intriguing questions. Why, for example, was there so much hand-wringing over Harabin's supposed kidnapping of the judicial branch, and so little over Penta's alleged hijacking of the legislative branch? What made the 2002-2006 Mikulas Dzurinda administration so much more acceptable than the 20062010 Robert Fico government, given that the embassy knew both were guilty of high-level corruption?

liamentary elections. The motive was apparently revenge: Miklos had allowed a block of shares in the VSZ steelmaker to be sold to domestic financial groups rather than to the US Steel Kosice as promised. "Opposition leader Robert Fico publicly claimed the Embassy had told him of Miklos' corrupt activities," wrote Thayer in June 2005. "Fico persisted in his public statements despite being told the Embassy could not and would not support him."

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While this information was presented in a profile of Miklos under the heading "the darker side," most of that cable celebrated Miklos' reform credentials – as if they trumped the "accusations of corruption (that) have dogged Miklos for years." "Much of the credit for Slovakia's rapid progression since 1998 from political outcast to EU member and economic success story belongs to the policies of

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real, the demands and channels of influence are bold, and nearly everyone appears willing to go along," lamented Ambassador Vincent Obsitnik.

feared that the rule of law in the country was under threat on other fronts as well.

"Name this leader," Eddins began. "He consolidated power and popularity during a period of unprecedented economic growth. As a hedge against any current or future challengers, he attacks the opposition and media relentlessly. He accuses NGOs of seeking to undermine the government and has supported legislation aimed at eviscerating them. He's highly suspicious about the intentions of Western energy interests; he conveys the message that their exclusive focus on profits undermines the security and well-being of the country. He subscribes, at least rhetorically, to the idea of 'Slavic solidarity', and thus is unyieldingly opposed to Kosovo's independence. He blames Ukraine for the recent gas crisis. And he rarely has a positive public word to say about the United States. Who is it? No, not Vladimir Putin. It's Slovak Premier Robert Fico."

Now, under Fico, high-level corruption was seen as combining with other gross threats to the rule of law in Slovakia, including official indifference to the international implications of the problem. At the same time, now that Slovakia had already been admitted to the OECD, Nato and the EU, the US "no longer has the carrots and sticks that we possessed as Slovakia worked toward accession to key Euro-Atlantic institutions." The key then was to convince the State Department, through dramatically-worded cables from Bratislava, to warn Fico and his colleagues of the consequences.

The Slovak circus Realpolitik may largely account for the embassy's double standards in reporting corruption under Fico and Dzurinda, and the obvious favouritism it showed the more US-friendly of the two. But in deciphering the underlying messages in the Wikileaks cables, we should also note the personal imprint left by their individual authors. As in other countries, US diplomats featured in Wikileaks went to lengths to "tell a good story" from their foreign postings with humour, homey metaphors, and, occasionally, with exaggeration for good effect.

Russian model Of course, altruistic concern for the health of Slovak democracy was not the only factor driving American criticism. One of the embassy's main preoccupations was how Slovak politicians spoke about the US in public, and whether they could be counted on to honour their commitments to the US and Nato in places like Iraq and Afghanistan.

Ambassador Rodolphe "Skip" Vallee was probably the most given to folksy imagery. A college athlete himself (Vallee was captain of his university ice hockey team), "Skip" used sports jargon extensively to liven up his cables. Robert Fico was – perhaps inevitably – described as "a puck hog" (hockey slang for someone who never passes the puck and always tries to score unaided). ANO party chairman Pavol Rusko was said to be under a "full court press" by his coalition partners (a basketball idiom) over corruption allegations. However, Rusko was not expected to accept his 2005 dismissal from the Dzurinda government lightly, and would likely "go down swinging" (boxing).

It could be argued that the embassy's increasingly dire portrait of corruption under Fico was a faithful portrait of reality. But the cable traffic suggests that other factors were at work as well – principal among them that the US diplomats

"The damage that Harabin and his supporters are doing will be felt in Slovakia for years to come" Ivan Miklos," Thayer wrote. "Regardless (of the corruption allegations), Miklos is well-regarded internationally and his future appears bright." Undermining confidence By contrast, members of the 2006-2010 Fico administration – especially former authoritarian PM Vladimir Meciar and nationalist leader Jan Slota – did not fare so well. Individual corruption cases under the Fico government were singled out for devastating criticism. Machinations with restitution saw lucrative land under the High Tatras mountain resort sold in 2007 for a pittance to the GVM company, which had "financial ties" to Meciar. "The magnitude of corruption in this case is so obvious and so reminiscent of practices during the 1990s (when Meciar was PM) that it places Meciar and his party in an especially bad position," Vallee wrote. The embassy also seemed to regard another domestic financial group, J&T, as a greater threat to Slovak democracy under Fico, than Penta had been under Dzurinda. J&T "presents a disturbing picture of official corruption at the highest levels," said one cable; in particular, the group was singled out as "a major financier of the Prime Minister's political party, Smer." "The much-rumored connections between J&T and the PM's office are

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On this score it is abundantly clear that US diplomats felt entirely more comfortable with Dzurinda administration officials, whom they regarded as natural and sincere partners, than with Fico's crew, whom they regarded with barelyconcealed contempt as unreconstructed Russophiles.

The decision of the Christian Democrats to quit the Dzurinda government in 2006

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was compared to that of a sulking child to quit a street game ("KDH: Taking their ball and going home"). Even popular culture got a look-in, as suspicions that the votes of independent MPs were being bought by Penta led to their "moving in mysterious ways" in parliament (the reference is to a song by Irish rock group U2). This enthusiasm for metaphor and "fun" prose can also be glimpsed in portraits of marginal Slovak politicians, whose very inconsequence perhaps allowed them to be spoofed. Slovakia's political scene was always parochial and lacking in statesmanlike talent, as the cable writers noted: "Emboffs (embassy officials) constantly are reminded how small the leadership elite continues to be as everyone knows each other, either from university days or through family connections. Dzurinda's government, and subsequent prime ministers, will most probably continue to operate within a

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style of cronyism that remains a legacy from communism."

opening. The Ford official sitting next to him was stunned."

However, there were egregious standouts even by Slovakia's low standards. Economy Minister Jiri Malcharek, the embassy noted with barely-concealed contempt, "has no previous experience with economic issues and is better known as the owner of a car racing company."

Rusko later improved even on that performance during a visit of potential German investors to US Steel Kosice in 2006. "Rusko, though uninvited, burst in late, behaved strangely, and looked like Mickey Mouse. The businessmen commented after that, 'in Germany, we have to buy tickets to see such a circus performance'."

Malcharek's predecessor as minister Pavol Rusko, meanwhile, was pure comic fodder. "At a press conference to commemorate the opening of the $500m Ford transmission plant, Rusko ranted about the stupidity of the Cabinet's decision on the Hankook tire investment (in which the government overturned Rusko's generous investment stimulus offer to the Korean company), proclaimed he could 'not be in the same room' as the Prime Minister, and said not a word about the plant

Hard graft in the Czech Republic Jacy Meyer in Prague

umber of corruption accusations in [Czech Republic] doubles in 2010"; "Poll: Czechs consider corruption biggest problem"; "Prague's ad campaign tender investigated for corruption" – headlines like these in the Czech media appear almost on a daily basis. Recently, however, different headlines have begun appearing: "National Economic Council unveils anticorruption plan"; "Regions draft their own anti-corruption strategy"; "New anticorruption fund awards whistle-blowers". The forces ranged against corruption are fighting back, though everyone admits there is a mountain to climb. Corruption has long been entrenched in the business environment here; Transpar-

ency International's Corruption Perceptions Index from 2010 puts the Czech Republic down at 53rd spot out of 178 countries. The index measures the degree to which public sector corruption is perceived to exist in polled countries around the world. Countries are scored on a scale from 10 (very clean) to 0 (highly corrupt). The Czech Republic scored 4.6. That compares with 7.9 for both Germany and Austria, and 5.3 for Poland. And that image is harming investment. "The Czech Republic has become toxic because of the perception of corruption – people won't talk about it openly, not to invest, but we know many companies that won't do business with the public sector because of corruption," says

In the end, we'll never know whether the portrait of Slovak politics found in the Wikileaks cables was driven more by Washington's interests or by the demands of telling an interesting story with a consistent narrative. All we have are the cables themselves – and they are as unreflective as they are self-revealing. Just like any correspondence that was never meant to be read by anyone except the addressee.

Weston Stacey, head of the American Chamber of Commerce and one of the founding members of Platforma pro transparentni verejne zakazky (Platform for Transparent Public Procurement). "When I'm speaking with a potential investor, it is usually question number one – is it [corruption] as bad as I've heard?" The Platform for Transparent Public Procurement is a project made up of business associations, public institutions and political parties that aims to increase transparency and effectiveness in public procurement. This area is a huge source of corruption – the Platform puts the public procurement market in the Czech Republic at about 17% of GDP, more than CZK600bn (€24.5bn) annually. "Many of our companies reported highly non-transparent and suspicious procurement tenders and we recognized this one area was creating such a reputational and performance issue for the government," says Stacey. "It was hurting investment and the government's ability to provide quality public services."

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The group saw a major success this summer when a draft Public Procurement Act survived its first reading in parliament largely intact, with many of the elements the Platform had proposed. 39 action points were put forth by the group, including the need to make the tender public online, openness about the actual owner of a company bidding for a government tender, and ensuring methodology by which the government can enforce "best value for money" and clarification of the concept of "economic benefit." Pavel Zeman, Prosecutor General in the Supreme Public Prosecutor's Office, is cautiously pleased about the Procurement Act. "There are good ideas behind the Act and a very good one is that procurement should be published on the internet; it's also very good that this act leads towards getting applicants with a clear management structure," he says. "I'm pretty sure if it passed it should help." If it passes. Parliament is set to review the legislation, though the positive results from the first reading have left most parties hopeful that it will pass, largely intact. The A-C team Zeman took over as Prosecutor General in January and has some major plans to rework the Prosecutor's Office. One of these is to create an anti-corruption team of prosecutors. "The idea is rather simple, there would be a counterpart at the police level, it would centralise the investigation and prosecution and get better results because of the expertise of prosecutors," he says. "It would be good to cover the crimes of corruption, but also competition rule violations, irregularities in public procurement or auctions and bankruptcies." He believes, however, that criminal justice is not the solver of the problem. "First, corruption must be seen as a phenomenon in society and if nothing else helps, then it's left to the criminal justice system," he says. "I think something must be done with the thinking of the people. It has to be clear to everyone that corruption is not standard, it is illegal, harms society and in the end harms the economy."

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Stacey and the American Chamber of Commerce were initially reluctant to get involved in the issue. "Our aim is to make the [Czech Republic] one of the top-10 business environments in Europe," he says. "When we were debating this, for 10 years prior to this decision we always said we would focus on economic legislation and not speak about corruption, it's a politically sensitive issue and we didn't want to hurt the process by enabling them to make it an us versus them issue." Eventually, he says, it was the Chamber's Czech board members that convinced him. "If it's our goal to be in

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Siemens also has a Compliance Help Desk called "Tell Us" – an anonymous way of reporting possible compliance violations for not only Siemens employees, but also for customers, suppliers and other business partners. These types of activities by the business world are welcomed by both Stacey and Zeman, who cited Siemens specifically when speaking about anti-corruption efforts. "I am very happy that in some companies, especially ones from abroad, they are hiring compliance officers and the companies see that there is a need for a compliance policy," Zeman says. "From everything we do, what our

"The Czech Republic has become toxic because of the perception of corruption" the top 10, we can't get there without addressing corruption and it's our responsibility to speak about it," he says. "If we aren't part of the solution, we're part of the problem."

politicians do, it must be clear that we want to persuade people that corruption is negative and it must be the view of the people. It's not something you can change overnight."

In good company One company working hard to be part of the solution is Siemens, which is also a member of the Platform for Transparent Public Procurement.

Of course, action has to be taken at the local level too, not just top-down reforms. In January, the Czech Association of Regions announced it was preparing its own two-year anti-corruption project at the regional level. They hope to leverage funds from the EU to analyse corruption at the regional level and provide training to both clerks and politicians to help fight corruption.

According to Eduard Palisek, CEO of Siemens Czech Republic, after corruption scandals rocked the company in 2006, the Siemens Compliance System was put into practice at a global level. Organised into three levels – prevent, detect and respond – the structure is a system of activities by which Siemens hopes to ensure their business is in accordance with all laws and regulations. The system "consists of clearly specified guidelines and trainings for all employees to help them prevent any misconduct within and outside the company," Palisek says. "To realise the programme, a worldwide Compliance Department with nearly 600 employees has been set up. Furthermore, an external ombudsman has been appointed in order to give employees a protected reporting channel for possible compliance violations."

It's this type of more micro-level fight that Stacey believes will bring lasting change. "If political and business leaders show the type of leadership necessary to combat corruption, change will come extremely fast," he says. "With corruption there's an easy way and a hard way. The easy way is that the government and business community make the changes, no great disruption. Or we wait until things get so bad that we have a major political and economic crisis. Our job as leaders is to make sure we don't get to that crisis."

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New frontiers History aside, on paper Genel's assets are impressive. The company operates the TaqTaq oilfield with a 44% share in partnership with China's Sinopec (36%) and the Kurdish Regional Government (20%), and holds a 25% stake in the smaller DNO operated Tawke field. Together, the two fields have estimated combined reserves of close on 1bn barrels of oil equivalent and together

a problem he ascribed jointly to political differences between the two administrations and slow moving Baghdadi bureaucracy. When or if a resolution can be found is unclear. But Hawrani's appearance at the conference alongside Turkish Energy Minister Taner Yildiz – the first occasion on which the two have shared a platform – did send an important message.

"The Kurdish region is one of the calmest parts of Iraq and one of the last great oil and gas frontiers"

Eastern promise

www.genelenergy.com

According to Hayward, the Kurdish region is one of the calmest parts of Iraq and one of the last great oil and gas frontiers. But while the region may have a high potential and be relatively unprospected, it also carries a high level of risk.

David O'Byrne in Istanbul

ews in August of the merger of Turkish oil company Genel Enerji with the Vallares investment vehicle set up by ex-BP head Tony Hayward came as little surprise – after all, the two had made no secret of months of talks on the back of Vallares assembling a $2bn war chest for upstream acquisitions. But both the scale of the deal and some of the conditions it involves have raised eyebrows, given both the recent history of Genel and the inherent instability in the Kurdish region of northern Iraq where it operates. The merger itself takes the form of a reverse takeover that values Genel at $2.1bn and gives the two companies' current owners equal stakes in Genel. Once the paperwork is complete, the rejigged Genel will continue to operate

out of the Turkish capital Ankara, but will apply for a listing on the London Stock Exchange under a board which will include CEO Hayward, CFO Julian Metherell, a former Goldman Sachs high flyer who this summer abandoned investment banking for oil prospecting, and Hayward's partner in establishing Vallares, Nathanial Rothschild. A stellar cast that stands in some contrast to the Turkish side – neither of Genel's current majority owners, Mehmet Karamehmet and Mehmet Sepil, will take a seat on the board, instead appointing nominees. Karamehmet's absence is believed to be related to a ban on his leaving Turkey, imposed after he was last year handed an 11-year jail sentence related to the collapse 10 years ago of his Cukurova Group's Pamukbank. He remains free pending the completion of an appeal.

produce around 41,000 barrels a day (b/d) – a figure expected to more than double by 2013. In addition, Genel holds stakes of between 20% and 40% in four undrilled blocks, all of which are thought to have a high chance of holding major reserves.

Sepil's absence is thought to relate to his 2010 keelhauling by the UK's Financial Services Authority having admitted to insider trading in shares of Heritage Oil, which was then involved in merger talks with Genel. Appointed as Genel's new president, Sepil's £967,000 fine remains the highest ever imposed by the FSA. And there's more. As the head of one of Turkey's richest family conglomerates Cukurova Group, Mehmet Karamehmet is no stranger to controversy. Cukurova controls Turkey's biggest mobile phone operator, Turkcell, despite a holding that pans out at less than 15% of Turkcell equity. And for most of the past decade, it has been locked in furiously complex legal battles for control of the company with Turkcell's main shareholders, Sweden's TeliaSonera and Russia's Altimo.

The Kurdistan Regional Government (KRG) has long been at loggerheads with the Baghdad government over its awarding of over 40 production sharing agreements to foreign oil companies, including Genel, in apparent breach of Iraqi law. The two sides did manage to ink a provisional agreement at the start of the year that allows for the KRG to receive payment for oil exported from the region, enabling it to pay operators and to keep the oil flowing. However, speaking at a conference in Istanbul in September, KRG Oil Minister Ashi Hawrami complained that the agreement is not being honoured. "To date, they have only paid us around a third of revenue due," he said, explaining that this has caused operators to slash production from 180,000 b/d to around 100,000 b/d –

Namely, that Turkey, through which oil from Iraq's northern oilfields is piped to global markets, is prepared to work with the KRG to help monetise its reserves. Although that willingness is also assumed to rely on the solving of the long-running problem of the Kurdish separatist group the Kurdistan Workers' Party (PKK), which over the past decade has claimed responsibility for numerous attacks on oil and gas pipelines in Turkey and whose continuing campaign of violence threatens future development of regional assets. "The PKK will use paramilitary means to exact a share of what is in northern Iraq – it has sabotaged pipelines and will do again," says Professor Dogu Ergil of Istanbul's Fatih University, who in 1995 found himself in hot water having authored an official report advocating dialogue with Turkey's Kurdish minority. "If the Kurdish region of Iraq wants to develop its economic relations with Turkey, it needs to get rid of the PKK," he says, warning that without a solution the region's oil and gas wealth will prove difficult to develop.

"Karamehmet's absence is believed to be related to a ban on his leaving Turkey"

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ence the outcome of unrest in the Middle East. Both these issues are distractions from its management of the economy, the success of which won the AKP its mass popularity.

Turkey's ruling control freaks Justin Vela in Istanbul

n August 17, 2010, it was announced in the Turkish state's Official Gazette that, by government decree, some 10 legally independent regulatory and supervisory boards and commissions were being attached to their corresponding government ministries. The move effectively ends the independence of these bodies, which were established to disperse power following the country's 2001 financial crisis. The bodies include: the Banking Regulation and Supervision Agency, the Capital Markets Board, the Energy Market Regulatory Board, the Telecommunications Board, the Saving Deposits and Insurance Fund and the Competition Board, among others. "Their autonomy was secured by the Public Financial Management and Control Law of 2003, a landmark law among Turkey's post2001 crisis reforms targeted at de-politicization of the decision-making process and improvement of broader governance practices in the public sector," writes Murat Ucer and Atilla Yesilada of Global Source Partners in a note. Several of the affected bodies contacted by bne refused to comment; indeed, the whole issue has not been widely

discussed in the Turkish media. Emre Deliveli, an independent Turkish consultant and columnist, says the decision – and the subsequent silence – is very concerning. "We have not seen many criticisms of this in the media… Turkish media is a lot of morons, but no one wants to anger the government," he says. The whole issue smacks of "the government knows best," say analysts – a defining characteristic of Turkey's ruling Justice and Development Party (AKP), which appears to believe in its own

Yet the economy is again in need of reforms. Years of short-term portfolio investment from abroad has overheated the economy even as Turks, basking in their new wealth, overspend, swelling the country's current account deficit and revealing key structural problems. In trying to remedy the problems, the AKP believes it knows best - and the decision to attach the formerly independent bodies to government ministries proves this. The move is rooted in the AKP's desire to have more immediate control over the functions of the economy. For example, about six months ago, the government wanted to curb credit growth. Had they then controlled the Banking Regulatory Board, they could have taken the steps to do so. Now, by attaching the bodies to ministries, "in economic policy they can do whatever they want," Deliveli says. New agenda What the AKP wants for the economy will be revealed in the new mid-term economic plan, which is scheduled for release in September, though it is likely to be postponed until October to coincide with the budget being released. According to analysts and news reports, the plan is likely to be far ranging. First off, a large degree of attention will be focused on the informal sector, which is

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Southeast Europe

hazard of the overcrowding of tables and chairs and signalling they are serious about collecting taxes from outdoor seating. While some look for conspiracy in the move (top members of AKP come from an Islamist background), the collection of taxes from outdoor seating is likely to raise prices throughout Beyoglu, fuelling Istanbul's already strong real estate boom. Another measure focused on Istanbul is increasing the city's stature as a global financial centre. This will take time, as the government has only completed nine of 71 items in the government's Strategy and Action Plan, which was introduced in 2009. According to many analysts, the talk of Istanbul as a global financial centre is also aimed more at raising real estate prices in the already expensive city. There are also less lofty, albeit more complicated, changes expected to be laid out. These include labour reforms

that will stipulate a regional minimum wage and reducing severance pay. Then there is increasing domestic production in such a way that the current account deficit does not widen along with it. This is the most complex economic task. The country must focus on using more

Needless to say, this mentality is dangerous. On a political front, the AKP appears to be going backwards on the country's long-standing Kurdish issue while at the same time trying to influ-

thought to comprise about 50% of the Turkish economy. The recent crackdown on seating in front of bars in restaurants in Istanbul's central Beyoglu district is regarded as part of this. Though a shock to business owners, some of whom are reportedly close to bankruptcy due to the loss in patrons, the local government seems to be trying to deal with the safety

will have to carry out a degree of armtwisting, along with rewarding those who take the necessary steps. However, the government is aware of this. For example, part of the plan is likely to involve the establishment of special industrial zones for qualified individu-

"People are not particularly interested in good legislation as they are in their current salary" of its own raw materials and at the same time begin producing more value-added products. These include military products, pharmaceuticals, tablets and cars, for example. Here, the government will face the most resistance. Currently, businessmen throughout Turkey are making a great deal of money already. In order to change the system, the government

The only magazine covering business, economics, finance and politics in the dynamic new markets of Emerging Europe and the CIS.

"Turkish media is a lot of morons, but no one wants to anger the government" infallibility after ushering in a new era of stability and growth during its eight years in power.

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als, with the only requirement that those involved start production within three years and employ at least 10 people. The plan is indeed far ranging. But distracted by politics, the government is in danger of relying on hubris to sustain Turkey's economic dream, say critics. But, after eight years of success, the AKP believes it knows best.

What you need to know

www.bne.eu

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nian corporates with fresh lending. NLB has already raised €250m in March though a capital increase that boosted its Tier 1 capital ratio to 7.8% from around 6% – just above the minimum 5% level required by the ECB. That fundraising was almost entirely supported by the Slovenian government, which has a 55% stake in the lender that has been struggling with nonperforming loans – running at 16.5% of total lending at end-2010 – which led to a €183.4m loss in 2010. According to Slovenian economist Joze Damijan Slovenian, taxpayers have already supported NLB to the tune of €1.54bn in net terms in the last two decades, but at its current valuation the bank is worth less than €850m. For his part, NLB's chief executive, Bozo Jasovic, drafted into the bank in September 2009 to turn around the bank's faltering financial fortunes, has acknowledged that in addition to the global economic slowdown, part of the blame for the 2010 loss lay with the bank's rapid regional expansion in recent years. This led to poor management oversight over the bank's lending practices and a loss of trust by the general public.

Cash-strapped in Slovenia

www.nlb.si

Guy Norton in Zagreb

lovenia's leading lender Nova Ljubljanska Banka (NLB) faces a challenging few months as it looks to raise fresh capital as part of a restructuring plan designed to repair its crisis-ravaged finances. The bank, which just scraped through the latest financial stress test conducted by the European Central Bank (ECB) in July, is hoping that a shareholder meeting on October 27 will approve a second capital hike of at least €250m demanded by the country's central bank Banka Slovenije.

NLB is also looking to issue new bonds potentially worth €1bn to help refinance existing debt and enable it to boost lending. NLB was recently sharply criticised by Development and EU Affairs Minister Mitja Gaspari for failing to support Slove-

In July, Jasovic claimed that the worst may be over for NLB after it reported a small after-tax profit of €1.2m in the first half of the year on the back of lower bad loan charges, which fell roughly 17% to €91m. Although Jasovic forecast in July that NLB would end 2011 in the black, he admitted: "The positive result will be weak and subject to many uncertainties." The latest predictions from analysts suggest that the bank could actually rack up an €80m loss this year, meaning the bank might need to raise as much as €400m through the capital hike to

"The various parties involved in the capital increase discussions make the process more complicated"

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"The recent syndicated loan showed that NLB still has relationship banking ties it can call on"

enable it to meaningfully boost its lending activities. Friends with benefits With regard to the forthcoming capital increase, which would boost NLB's Tier 1 capital ratio to 9.5% - 0.5% above the level required by Banka Slovenije – the hope is that the bank's other major shareholder Belgian banking and insurance group KBC, which has a 25% plus one share blocking minority stake, will cough up some much-needed cash. Two development agencies – the European Bank for Reconstruction and Development and the International Finance Corporation – are also understood to have been sounded out about helping NLB. Whether these potential investors will be willing to participate in the capital hike will largely centre on a question of price. The March increase was transacted at €116 per share and the Slovenian government is reportedly insisting on a similar valuation this time around. However, given NLB's ongoing struggle with NPLs, would-be investors are reported to be demanding guarantees that €116 would also be the minimum price if they decided to exit the bank. Another possibility for the capital increase is an IPO, although given current turbulent market conditions any potential share offering would likely to have to be completed at a much lower valuation than €116 per share. Although Banka Slovenije Governor Marko Kranjec has said that he wants the capital increase to be completed by

the end of the year, protracted talks over the fundraising may mean it is not carried out until the first quarter of 2012. "The various parties involved in the capital increase discussions make the process more complicated," says Lindsey Liddell, a director at Fitch Ratings in London. NLB is also said to be mulling a €300m-€400m unsecured bond and a pioneering covered bond issue backed by public sector loans of up to €600m, which would be the first ever such bond issued in Slovenia. Proceeds from the two transactions would help NLB to repay an outstanding €1.5bn issue which matures in 2012. The bank has also been active in the international syndicated loan market, securing a €350m two-year credit from a syndicate of 16 banks. "The recent syndicated loan showed that NLB still has relationship banking ties it can call on," says Liddell. Meanwhile, after its latest meeting with NLB, Slovenia's Capital Assets Management Agency (AUKN), which manages the government's corporate shareholdings, has outlined the future steps it wants the bank to take. These include a comprehensive audit of NLB's operations in recent years to identify and prosecute those individuals responsible for questionable lending decisions and to introduce measures to help to prevent any reoccurrence. AUKN also stated that it wants NLB to accelerate and strengthen cost-cutting measures, which it claims have been too slow and too weak so far, in a bid to improve the bank's return on equity to 10% by 2013.

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The Balkans on Park Avenue The states that made up Yugoslavia may have divorced in the 1990s, but only now are they getting rid of one of the marital homes: a $12m Park Avenue apartment in New York. According to AP, the former Yugoslav republics – Serbia, Croatia, Bosnia, Slovenia, Macedonia and Montenegro – finally agreed in September to sell the 14-room, 215-square-metre duplex, whose six bedrooms and four bathrooms were once available for use by the country's diplomats, but which has since fallen into some disrepair with paint peeling off the walls and ragged curtains drooping to the floor. Yugoslavia bought the apartment in 1975 for $100,000 when it was ruled by communist dictator Marshal Josip Broz Tito, but with such a prime New York location it is now reportedly worth around $12m. Serbia, which has been maintaining the flat for the past 19 years, will get 40% of the funds generated from the sale due to its relative size.

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of the Open Society Institute, writes in the latest issue of its publication Politiki. "Poor countries are being made to act as if they are rich ones, and at the same time, in the public perception, the euro turns into a source of obligations from a source of stability."

Bulgarians turn against euro Branimir Kondov in Sofia

ublic support for the adoption of the euro has fallen in Bulgaria, unsurprising given that the bailouts of the Eurozone's most indebted members come at a time when household incomes in this poorest state of the EU are failing to keep pace with spending and unemployment is soaring. While those in favour of abandoning the Bulgarian lev for the euro outnumbered opponents at the outset of the global economic crisis in 2008-2009, by July of this year the number in favour was just 25% of those polled, while 52% were against it and 24% undecided, according to a poll conducted by the Open Society Institute in Sofia, a liberal think-tank, The poll also shows the appeal of a switchover to the euro has rapidly dwindled since February when 34% voiced support for the idea while 45% opposed it. Opposition to entering the Eurozone was even stronger at nearly 57% in July

when people were asked whether they would support the adoption of the euro if Bulgaria should share the burden of bailing out indebted, yet much richer members of the Eurozone. "The setting

Reversal of fortunes EU finance ministers in March agreed to set up a permanent €700bn bailout fund called the European Stability Mechanism (ESM) that is expected to go into force in 2013 and replace the temporary €440bn European Financial Stability Facility. Bulgaria supported the creation of the ESM that foresees considerable financial burdens borne by all members of the Eurozone, with the poorest countries having to pay most because of the ESM calculation formula based on the population and GDP of each country, says Angelov. Bulgaria, which had the second lowest government debt/GDP ratio in the EU after Estonia last year, would have to commit around €3bn to the ESM if it joins the Eurozone, provided all other EU members remain in the bloc at that time, Finance Minister Simeon Dyankov said, making it clear that this potential contribution figure is far from final. Bulgaria's GDP per capita in 2010 expressed in purchasing power standards (PPS) was the lowest in the bloc at 43% of the EU average, according to

"Poor countries are being made to act as if they are rich ones, and in the public perception, the euro turns into a source of obligations from a source of stability" up of a rescue fund into which all Eurozone members will have to contribute considerable amounts of money is a kind of entry fee for new members. Moreover, it is inexplicable why poor countries should contribute for the rescue of rich ones, and at a cost that is disproportionately greater as a percentage of their GDP," Georgi Angelov, chief economist

preliminary estimates by Eurostat. The biggest country in Central and Eastern Europe, Poland, was the fifth from the bottom at 62% of the EU average GDP per capita, while the Czech Republic was somewhat better off at 80% of the EU average in the wealth table. In comparison, indebted Greece's GDP per capita was 89% of the EU average, while in

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Spain and Italy the indicator was around the EU average. Membership of the euro had been a priority for the countries that joined the EU in 2004 and 2007, with the single currency regarded as a strong guarantee against fiscal imprudence and a stable anchor of economic policy. However, wary of the need to pay for someone else's wasteful spending, the centreright government in Sofia, which had declared accession to the Eurozone was one of its top priorities when it took office two years ago, has shelved the idea until after the Eurozone puts its own house in order and resolves the debt crisis. Bulgaria had planned to start negotiations this autumn on entering the ERM-2 mechanism, the Eurozone's waiting room where candidates stay for two years preparing for membership, but will now delay the talks "until the general picture is clearer," Dyankov told Reuters in July. Certainly, the problems in the Eurozone come at a bad time for Bulgaria's population at large. In Bulgaria, the average quarterly total income per household member in the second quarter of 2011 was BGN940 or €480, 3.8% up on the year but just a fraction of the income in rich EU member states, according to official Bulgarian statistics. To make things worse, total expenditure per household member rose faster, increasing by yearly 8.2% to BGN870 in the second quarter of 2011, with spending on food and housing (energy, fuel and water) accounting for 49.5% of total, way above the EU average. In yet another drawback, Bulgaria's unemployment rate rose to 11.5% in the first quarter of 2011, up from 10% a year earlier, the second highest increase in EU27 after Greece, Eurostat said. Unemployment in Bulgaria was 11.4% in June 2011, compared with 10.1% in June 2010. Despite the turmoil in the eurozone, Nadya Yorgova, Director of “Economic Programmes and Projects” in the Economic Policy Institute, a local NGO, said in a research paper that, "in the medium- and long-term perspective the

Southeast Europe

Russians smoking in Bulgaria

Branimir Kondov in Sofia Bulgaria's Privatisation Agency said on September 13 that it had formally sold for ¤100m an 80% stake in tobacco group Bulgartabac to the sole remaining bidder in the tender, Austria-registered BT Invest, which is controlled by Russian state-controlled banking group VTB. The Privatisation Agency said on its website on August 29 that BT Invest had pledged to buy yearly 5,000 tonnes of Bulgarian-grown tobacco in the next five years, a key condition in the tender, which Bulgarian market sources and media have described as a politically motivated decision that discouraged strategic buyers from bidding. The volume equals 13-15% of Bulgaria's annual tobacco output, according to different estimates. BT Invest also offered to invest a total of BGN7m (¤3.6m) in the first two years after the purchase. Pledges to purchase Bulgarian-grown tobacco carried the biggest weight of a combined 60 points out of 100 total in the tender launched earlier this year. The purchase price came second in significance with 35 points, while investment commitments in the first two years after the purchase carried five points. The utmost priority attached to guaranteed purchases of Bulgarian tobacco showed that political considerations were outweighing business criteria in the sale, Bulgarian weekly Capital commented on August 5, shortly after British American Tobacco, which had bought tender documents, withdrew from the race for "commercial and strategic reasons," as the Privatisation Agency put it in a statement. Austrian-registered CB Family Office Service, controlled by Capital Bank Grawe Gruppe, left the tender procedure even earlier. Tobacco growing is the main source of income for many of the traditional supporters of the predominantly ethnic Turk DPS party, which used to hold the balance of power in several Bulgarian coalition cabinets since the fall of communism in 1989. DPS and the Socialists are in opposition to the current government of the centre-right GERB party, which aims to cut the fiscal deficit to close to 2% this year. If the sale goes through, it would contribute nearly half of the privatisation revenue of BGN450m that the government has planned for the current year and will give a considerable boost to its efforts to increase budget revenue. Privatisation proceeds totalled a meagre BGN6.6m through June, the Privatisation Agency said in its half-year report. The requirement for the purchase of Bulgarian-grown tobacco for five years has worked in favour of DPS and its core electorate while keeping strategic investors away, Capital commented.

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positive sides of joining the euro area are definitely outweighing the possible negative ones." Currency risk now associated with Bulgaria, which keeps interest rates on lev credits higher than rates in the eurozone, will drop, which will be beneficial for the real economy and households. Lower lending rates will help attract fresh foreign direct investment and will will boost economic activity. The rise in consumer prices resulting from the switchover to the euro, which took place in almost all the countries that have

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entered the eurozone so far, will be a one-off event but its disadvantages will be considerably more predictable than inflation fuelled by the rise in global oil prices, Yorgova said. Bulgaria, pursuing tight fiscal policies backed by its currency board system that pegs the lev at a fixed exchange rate to the euro, managed to slash its consolidated budget deficit to BGN720.5m, or 1.0% of projected GDP as of end-July, from BGN1.23bn, or 1.7% of GDP a year earlier. It targets fiscal deficit equivalent to 2.5% of GDP

this year, but Dyankov has said the figure could come closer to 2%. Also on the bright side was a rise in half-year exports that increased by 40.3% on the year to BGN18.8bn with exports to EU countries rising 43.4% to BGN11.58 bn. The country's GDP grew by 1.9% on the year in the second quarter driven by strong exports, according to a seasonally adjusted flash estimate of the national statistics office. The government expects 3.6% economic growth this year.

candidacy bid in October, the diplomatic battles have intensified.

Serbia eager to please the EU dietician Ian Bancroft in Belgrade

head of general elections in Serbia next spring, the jockeying for votes and possible coalition partners has commenced in earnest. With the current governing coalition having made accession to the EU a key plank of its political platform, securing candidate status this year was seen as critical to their re-election hopes. Prior to the last elections in 2008, the signing of the Stabilization and Association Agreement (SAA) with the EU –

followed almost immediately by Fiat's announcement of sizeable automobile investments – gave the Democratic Party of current Serbian president, Boris Tadic, an important electoral boost. Despite apprehending the last remaining war crimes suspects – Ratko Mladic and Goran Hadzic – Serbia's European path remains beset by obstacles, particularly those related to the now independent Kosovo. With the European Commission set to issue its opinion on Serbia's

As part of this offensive, Bozidar Delic, Serbia's deputy prime minister for European integration, initiated the inaugural Serbia-EU Forum, entitled: "Overcoming the crisis, moving towards the European Union", which was attended by, amongst others, the president of the European Council, Herman van Rompuy, and the leader of the Progressive Alliance of Socialists and Democrats in the European Parliament, Martin Schulz. Aside from reiterating commitments to the European goal, the Forum explored a variety of topics – from smart to inclusive growth, organised crime and corruption. As Ana Babovic, head of the European integration and development department within Delic's office, tells bne, "Serbia-EU Forum comes at a turning point of the process of Serbia's EU integration. It is significant that the first meeting of this kind, at the highest level, is held in Belgrade only a month before the publication of the European Commission opinion on Serbia's candidacy for membership in the EU." Kosovo creeps up Whilst Tadic reiterated his belief that Serbia had fulfilled all the necessary requirements for candidacy and should not face additional conditions not imposed on other countries pursuing membership, van Rompuy stated that relations between Belgrade and

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Pristina would be one of the considerations. The EU – nauseatingly referred to as a "fruit salad" and a "monastery" by certain speakers – is unwilling to incorporate any more conflicts over territory. Kosovo, therefore, remains the biggest stumbling block, particularly in light of recent skirmishes in the north of the newly-declared country that Serbia refuses to recognise. Though the Serbian government has long insisted upon a policy of both Kosovo and the EU, the inherent contradictions of this stance have been laid bare. During a recent visit to Belgrade, the German chancellor, Angela Merkel, called upon Serbia to normalise its relations with Kosovo, allow Eulex – a deployment of EU police and civilian resources to Kosovo – to work throughout Kosovo (its work in the north is currently inhibited) and to abolish parallel structures. According to Jelena Milic, director of the Centre for Euro-Atlantic Studies in Belgrade, whether Serbia can secure candidate status will "depend on developments in the next few weeks". In Milic's view, "If Serbia plays it low key on Eulex, the Kosovo Police Service (KPS) and Kosovo customs officers and customs stamps, than it can help the Democratic Party and other pro-EU voices in the general elections. If not, unfortunately, the EU candidacy cookie will be wasted for nothing, which is bad news for Serbia." Whilst failing to secure candidate status will, in Milic's opinion, "mostly reenergise the Democratic Party's campaign", it will not have much impact on the general public who "hardly connect Serbia's EU progress and their quality of their lives, as they are not particularly interested in good legislation as they are in their current salary." Milic insists that "with a formal process, EU guidance and funds, Serbia cannot reform on its own as some, such as foreign minister, Vuk Jeremic, have recently suggested. A number of challenges remain, including the need to adopt laws on public properties and restitution and complete reform of the

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judiciary, whilst Serbia must also investigate the assistance given to Mladic and others who managed to remain at large for so long." With Serbia's main political parties including the Serbian Progressive Party of Tomislav Nikolic – largely agreed on Serbia's European course, economic issues are likely to dominate the forthcoming election campaign. Serbia – which recently reached an agreement with the IMF on a €1b standby loan – is projecting lower than expected growth for 2011 and 2012 of 2% and 3%, respectively. Unemployment remains a major problem. Whether or not Serbia secures candidate status before the end of 2011, its European course will remain the prime goal of its domestic and foreign policy. As Egemen Bagıs, Turkey's minister for EU affairs and its chief membership negotiator, aptly remarked, though the EU is like a dietician who fails to obey its own prescription, it is still the best prescription available. For Serbia to shed the horror of the 1990s, it must continue to follow what the EU says, if not what the EU does.

"Though the EU is like a dietician who fails to obey its own prescription, it is still the best prescription available"

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Fear of contagion Oil and gas are the backbone of Kazakhstan's economy, and account for the lion's share of the country's exports, so the production losses at Uzen are bad news for the government. KMG EP, which is 58% owned by the state-owned oil and gas firm KazMunaiGas, said it had experienced production losses of around 600,000 tonnes of oil, while Karazhanbasmunai's losses amounted to 17,578 tonnes between May 17 and July 31. So far, the disruptions aren't impacting too hard on the bottom line. On September 5, KMG EP said its firsthalf net profits rose by 14% year on year to KZT114bn ($783m) as high oil prices offset production losses "due to the illegal strike, increase in operating taxes, production costs and selling, general and administrative expenses," it said.

Kazakhstan simmers as striking oil workers sacked Clare Nuttall in Almaty

ngry protestors gather every day in the main square in the Kazakh town of Zhanaozen in a rare display of popular dissent. Many were workers at Uzen, one of Kazakhstan's largest oilfields, but more than 1,000 staff were fired in August by the London-listed subsidiary of state-owned KazMunaiGas in an attempt to stop the four-month strike and they want their jobs back. Labour disputes are not uncommon in this oil-rich Central Asian republic, but this one has got both political and ugly. Efforts to silence the strikers has led to journalists being blocked from reporting the story, Sting cancelling a concert in Astana, and the daughter of one of the strike leaders and a young trade union member were killed by unidentified assailants. While it's unlikely any of these incidents on their own could spark another so-called "coloured revolution"

in Kazakhstan, the protest is symptomatic of an emerging middle class starting to flex its political muscles. KazMunaiGas Exploration Production (KMG EP) announced on August 26 that it had sacked around 900 striking workers, and that production at Uzen

are directly or indirectly dependent on the Uzen field for their livelihoods, so tempers in the remote desert town are running high. What started as a dispute over pay quickly became politicised, with a mixture of clan rivalries and the personal ambitions of regional politicians. Further, KMG EP's London-listing

"Only a small group of journalists from the opposition media has been covering the situation at Uzen" had stabilised. Most of the workers have now been replaced with new recruits from Zhanaozen and nearby settlements. Karazhanbasmunai, a joint venture between KMG EP and China's Citic, also sacked around 500 workers. Most of the 120,000 people in Zhanaozen

has also given the dispute an international dimension, as international shareholders wonder how the strike will affect production and are watching the events closely - far more closely than if the fracas had involved a purely domestically owned company.

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A bigger fear than the industry's losses within ruling circles, however, is that the strike could spark wider anti-government action. While relatively small run-ins have led to revolutions in places like Georgia, Kyrgyzstan and Ukraine, experts don't believe social tensions are high enough in Kazakhstan to spark a major popular uprising. Even so, it's certain the leadership is watching the events closely. Large-scale political action is still rare in Kazakhstan, and at the few demonstrations that have been allowed to take place in recent years protesters are sometimes outnumberd by police. Reasons for the lack of political activism in Kazakhstan include government actions to stifle media freedom and political debate, and a fear of civil unrest. But behind this has been the government's success at improving the general standard of living - especially in comparison to the other 'Stans - which has tempered politics and subdued the people who are largely happy with their leaders. Economically, Kazakhstan has drawn far ahead of its Central Asian neighbours, and at the same time the Kazakh government has cleverly played on the population's fear of political instability. This has helped to ensure that President Nursultan Nazarbayev's 20-year rule

Enemy of the internet

Clare Nuttall in Almaty Kazakh internet users have been angered by a ban on access to 51 international websites that the Prosecutor General's Office claims are promoting terrorism and extremism. The ban, announced on September 2, has drawn a storm of protest, prompting some to wonder whether Kazakhstan should be classed like its authoritarian neighbours Uzbekistan and Turkmenistan as "an enemy of the internet". A statement from the Prosecutor General's Office says it had monitored around 10,000 websites. Based on these findings, an Astana city court "recognised the content of 51 international websites as illegal and ordered them to be blocked to prevent further promotion of religious extremism and terrorism in the Republic," Interfax Kazakhstan quotes the Prosecutor General's Office as saying. A list of the banned websites concerned has not yet been released. The decision follows a ruling from the Saryarka Court of Astana to suspend access to more than 20 websites including Russian blog site LiveJournal for three months from August 19. The court said the decision to ban access to Livejournal and other sites was because they could include terrorist propaganda or information on how to make bombs. Until recently, the threat of terrorism has been low in Kazakhstan. However, the country has seen a series of incidents in the oil-rich western region over the past few months, most recently a shootout between police and members of a suspected militant group in Atyrau on August 29. Kazakhstan's first suicide bombing took place in May. A spokesperson for Livejournal said that the site's administrators had not received any request to remove offensive content before the ban was imposed. The Kazakhstan-based Adil Soz International Foundation for the Protection of Freedom of Speech has spoken out about the ban. "This is no doubt a violation of the constitutional rights of internet users, with no connection to unlawful content, to freely receive and disseminate information," the NGO said in a statement. Adil Soz also cites other recent incidences of online censorship including the blocking of some WordPress blogs and the intimidation of journalists reporting on the strike action in west Kazakhstan. In some ways, Kazakhstan's government has embraced new media. Prime Minister Karim Massimov in particular is an avid tweeter, who has urged government officials to buy iPads so as to be constantly online. But at the same time, the authorities have become increasingly more eager to control access to online information. "Kazakhstan has long been regarded as a regional 'pioneer' in sophisticated control of the internet, but until now the control had been relatively limited," says a report from Reporters Without Borders, which ranks Kazakhstan 162nd out of 178 countries on its press freedom index. The blocking of LiveJournal and Google's pull-out a few months ago represent a turning point, from Reporters Without Borders says, before asking: "Is Kazakhstan beginning to slide down the same slippery slope taken by its neighbours, Uzbekistan and Turkmenistan, classified as enemies of the internet?"

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has continued uninterrupted. The 2011 presidential election, when Nazarbayev was re-elected with an unbelievable 95.5% of the vote in a poll that international observers including the Organisation for Security and Cooperation in Europe (OSCE) said was rigged and fraudulent, failed to result in any popular protest. Still, the strike is significant, as it highlights the awakening of the country's growing middle class, whose lives have improved to the point where they are demanding their share of the country's wealth - as has been apparent in other countries in Emerging Europe. With Kazakhstan's average per-capita income approaching the middle-income bracket, this may happen more often, as governments across North Africa found to their cost this year. So far, some wealth is trickling down from Kazakhstan's fabulously wealthy oligarchy to the middle classes, but the process is slow. Salaries for an operator at the Uzen field average KZT240,000290,000 a month ($1,600-$2,000), according to KMG EP, which is above

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the kind of things Sokolova was accused of doing are no grounds for criminal charges. It is 100% clear that she was simply doing her job," Rachel Denber, deputy director of Human Rights Watch's Europe and Central Asia division, tells bne. Local and international NGOs are supporting the preparations for Sokolova's appeal against the sentence, which is likely to take place in mid-September, and are prepared to take the case to Kazakhstan's High Court if necessary. Kazakh journalists also say they have been pressured into staying away from the oilfield. "Only a small group of journalists from the opposition media has been covering the situation at Uzen," says Vyacheslav Abramov, deputy director of Freedom House in Kazakhstan. "It's really tough for journalists, as they have come under a lot of pressure, and are not able to get a clear and objective picture of the situation in Mangystau." As a result, the strikes and civil unrest in Mangystau have been relatively under-reported within Kazakhstan.

"There have been several violent attacks on the strikers and people connected to them"

the Kazakhstan average. However, conditions at the field, where temperatures soar to to 60° Celsius in summer, are tough, and the costs of living in Zhanaozen are high due to its isolated location. Workers have been angered by attempts to adjust their pay, and this was exacerbated by the disparity between pay for local workers and expatriates, especially Chinese workers. The authorities have cracked down hard on the strikers. On August 8, Natalya Sokolova, the lawyer representing the striking oil workers, was sentenced to six years in prison on charges of inciting social discord, which has outraged human rights groups. "It is clear that

Fears that the unrest could gain momentum and spread across the country haven't been realised, but there have been some small demonstrations outside the Almaty offices of the ruling Nur Otan party. In a more sinister development, there have been several violent attacks on the strikers and people connected to them. On August 24, Zhansaule Karabalayeva, the 18-year-old daughter of one of the strike leaders, was found dead with multiple injuries in the countryside outside Zhanaozen. The cause of her death has not yet been determined. On August 2, Zhaksylyk Turbaev, a trade union member working for an oilfield

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service company in Zhanaozen, was also killed. The previous day, two members of the opposition Popular Front movement said they were attacked in Aktau; both received head injuries, RFE/RL reported. This has become sufficiently serious to attract international attention. Not only did Sting pull out of a gig due to be held in July, but now a string of international politicians are weighing in to condemn the heavy-handed tactics being employed. Irish Socialist MEP Paul Murphy tells bne that he plans to bring up the issue at the next sitting of the European parliament. "I visited Kazakhstan this summer and talked with many of the strikers and workers. I understand the intimidation is severe," he said. "I promised to raise the issue in the parliament."

originally scheduled Karimova's show at the Lincoln Centre on September 15. It was cancelled on September 9 following protests by rights activists, with IMG saying they were "horrified" by human rights abuses in Uzbekistan.

Swedish trade unions have raised around €15,000 for the workers at KMG EP and its JV partner Karazhanbasmunai; trade unions from Ireland, the UK and other European countries are also showing their support. Protests are planned at Esso petrol stations (the Esso brand is owned by ExxonMobil, one of the partners of KMG EP's parent firm, KazMunaiGas, in the TengizChevroil joint venture) across the UK later in September. The decision by the Kazakh authorities and KMG EP to go on the attack - sacking hundreds of workers and attempting to stifle the protests - rather than persevering with early efforts to find a compromise, could have longer-term consequences, warn analysts.

The collection was displayed at an event space owned by Cipriani restaurant, AP reported. Karimova did not attend the event, and is understood to have left New York before the show took place.

Gulnara Karimova falls out of fashion Clare Nuttall in Almaty

Kazakhstan remains a low-income country, but will join the ranks of middleincome countries soon; Nazarbayev's stated aim is to raise average per-capita income to $15,000 by 2016. While the current protest shows little sign of achieving revolutionary momentum, memories of the state's refusal to listen will remain and resentment will fester. In a few years time, the final outcome could be very different.

zbekistan's glamorous first daughter Gulnara Karimova held a private runway show of her latest Guli collection on September 15, after her planned show at the main New York fashion week venue was cancelled over her father's human rights record. Karimova was once tipped as a possible successor to Islam Karimov, who has ruled Uzbekistan for the last two decades. However, since 2008 Kari-

mova has made her life abroad, giving rise to speculation that the family have given up the idea of holding onto power in Uzbekistan after Karimov's regime ends. Recently, 39-year-old Karimova has been cultivating her image as a socially concerned diplomat, designer and singer – an image that has been severely dented by the public cancellation of her show. IMG, the organisers of New York’s Mercedes-Benz Fashion Week, had

Fashion victims Extreme human rights violations, including torture, are widespread in Uzbekistan. Opposition activists face imprisonment on false charges, mysterious deaths, or – at best – exile from Uzbekistan. In the most notorious case, dissident Muzafar Avazov was purportedly boiled alive. Religious activity has been suppressed under the guise of fighting Islamic fundamentalism. "We're glad Fashion Week will not showcase a designer who represents such a repressive government," commented Human Rights Watch (HRW) Uzbekistan researcher Steve Swerdlow. "They're sending the message that abusers shouldn't be allowed to launder their image at the expense of human rights." Child labour is also used every year in the cotton harvest, when up to 2m children are forced to leave school and spend two months picking cotton. Most

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work in difficult and sometimes dangerous conditions for minimal pay. There is no hint of anything of this, however, on Karimova's personal website, which focuses on her social and cultural activities. In addition to her own fashion collection, Karomova

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Karimova also worked with crime boss Salim Abduvaliyev to sell government positions, according to US diplomats. A cable from former US Ambassador to Tashkent Jon Purnell said that, "Abduvaliyev puts bidders for tenders in touch with an Iranian businessman holding British citizenship, who sub-

"Abduvaliyev puts bidders for tenders in touch with an Iranian businessman holding British citizenship, who submits the paperwork to Karimova for approval" designed the Guli for Chopard line in 2009. She also writes poetry and composes under the name GooGoosha, her father's pet name for her, and appeared in a music video under the same name. Her Fund Forum operates under the Unesco umbrella to organise children's events and provide educational grants. Her other social initiatives include five Uzbekistan-based NGOs and a programme for young footballers. But back in her native Uzbekistan, Karimova is better known as a ruthless oligarch who has amassed a fortune of around $570m through tactics that rendered her "the single most hated person in the country", according to a US diplomatic cable released by WikiLeaks. Karimova "bullied her way into gaining a slice of virtually every lucrative business in the country", and "uses her father to crush business people or anyone else who stands in her way", US diplomats say. She is believed to have been the ultimate owner of Zeromax, the Genevaregistered holding company that until recently was the largest foreign investor in Uzbekistan. Karimova has always denied claims that she is the owner of Zeromax. However, after her departure from Tashkent, a series of investigations into the company by the tax authorities and other government agencies resulted in its bankruptcy in October 2010, with estimated debts of over $4.6bn.

mits the paperwork to First Daughter Gulnara Karimova for approval." Succeeding Five years ago, it looked as if Islam Karimov was grooming his elder daughter to succeed him. As one of the country's most powerful oligarchs, Karimova seemed to be an obvious successor. In 2005, she launched an intense campaign to improve her image, leading to an avalanche of positive press coverage – and rumours she was preparing to stand in the December 2007 presidential elections. However, it seemed that Karimova lacked sufficient support within the Uzbek elite to take the presidency. An attempt by Karimov to install his

This being before Roza Otunbayeva's

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presidency in Kyrgyzstan, the belief that a woman couldn't rule in Central Asia's patriarchial society may also have played a part. Since Karimova's acrimonious divorce from businessman Mansur Maqsudi in 2001, there was no longer the option for power to be shared between Karimov's daughter and son-in-law. For the last two decades, Karimov senior has crushed all political opponents. However, he has become increasingly reliant on the army and the security services to preserve his position since the May 2005 Andijan massacre, when troops opened fire on demonstrators killing more than 500 people. It has become clear that it is only the extreme authoritarianism of his rule that has prevented a regime change before now, and a peaceful handover of power is looking increasingly unlikely. Soon after Karimov was re-elected in 2007, Gulnara Karimova was appointed deputy foreign minister for international cooperation, a position that allowed her to travel with diplomatic immunity. In September 2008, she also became Uzbekistan's permanent representative to the UN in Geneva, and in January 2010 added ambassador to spain to her other diplomatic roles. Another US diplomatic cable, dated February 4, 2008, says that the probable explanation for Karimova's international posting was "an attempt to forge

"Karimova bullied her way into gaining a slice of virtually every lucrative business in the country" daughter as president-in-waiting would have been resisted by Prime Minister Shavkat Mirziyayev, who has built up his personal power base in recent years. National Security Service head Rustam Inoyatov and First Deputy Prime Minister Rustam Azimov are also possible candidates for the succession.

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for Gulnara a positive international image and perhaps buy her the political protection she will need when and if the Karimovs decide to exit Uzbekistan's political state – and perhaps Uzbekistan itself." Karimov's second daughter, Lola Karimova-Tillyaeva, has also made a life abroad after being appointed Uzbekistan's permanent representative to Unesco in 2008.

Georgia moves to IPO state assets Molly Corso in Tbilisi

he Georgian parliament is set to vote in September on changes that would allow the government to sell minority shares in strategic assets, like gas pipelines and the electricity grid. The plan – a new twist on Georgia's privatisation drive – would put more money in the coffers and limit the burden of state owned assets, note economists and investment bankers. Opposition parties, however, are concerned the propose sales will open strategic objects to foreign ownership. If the proposal is passed, it would pave the way to sell parts of strategic holdings, like the Georgian Gas and Oil Corporation and the railways. Mikheil Saakashvili's pro-privatisation government has been eager to parcel off parts of both entities for several years, although popular opposition to the idea has stopped the government from selling them in the past. Other entities earmarked for IPOs

include a minority share in the Georgian State Electricity System and the state's minority share in the Tbilisi electricity distribution system. Prime Minister Nika Gilauri initially announced the plan, which would

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is no stranger to the international stock market: in April they listed and successfully issued their second $500m Eurobond. As such, Georgia is a known commodity for investors, notes BG Capital CEO Nick Piazza. "CIS region is known to be a place that investors go to be forgotten and mistreated," he says. "Georgia's red carpet treatment [is an exception]." The former finance minister, Kakha Baindurashvili, tells bne the move to IPO state own assets "reflects a change in our approach to privatisation." Now the chairman of the supervisory council for the Georgian Post, Baindurashvili stresses that privatisation can mean "different things" ranging from minority shares to full-blown sales. The postal service has also been rumoured for a possible IPO; however, no sale is currently planned, Baindurashvili says. Opposition leaders like Irakli Alasania, however, have objected to the new IPO plan. In an open letter to Gilauri in August, Alasania said Georgian "reality" – evidently eluding to the conflict between Tbilisi and Moscow – would make IPO sales potentially "dangerous" for the country. "Because of strategic importance of these facilities only our neighbouring countries can become potential buyers in order to strengthen their political and economic influence over our country," Alasania wrote in the letter, according to an excerpt published on Civil.ge. He also argued that the economic crisis will push down the value of the assets floated on international stock

"Georgia's red carpet treatment for investors is an exception in the CIS" reportedly allow the government to sell between 15-25% of state-owned entities on international stock exchanges, during a government meeting on August 10; the proposed changes were presented to parliament on September 9 and a vote is expected later in the month. Although this amendment will provide the first chance to IPO state assets, Tbilisi

exchanges so Georgia will have to sell shares for less than they are worth. But some economic analysts argue the small size of share offerings will make the sales more secure, and could push the state to provide better corporate governance over the entity. It will also, they stress, bring in valuable revenue for the budget.

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An act of liberty in Georgia

Molly Corso in Tbilisi Georgia's "Act of Economical Liberty" – President Mikheil Saakashvili's plan to limit the power of the government to raise taxes and increase spending – has finally become law. Initially written off by international experts like the International Monetary Fund (IMF) as too radical and inflexible for a developing economy, the essence of the legislation more commonly referred to as the Liberty Act has now spread to countries around the world as governments grapple with the sovereign debt crisis. The Liberty Act, influential Georgian libertarian Kakha Bendukidze tells bne, is a vital part of Georgia's efforts to create innovative, pro-business reforms to attract investment and spur economic growth. With its caps on spending and constitutionally mandated referendum for new taxes, the Act was "unique" when Saakashvili first proposed the initiative in 2009, he says. But by the time the Georgian parliament adopted the legislation into law on July 1, governments ranging from Spain to Germany were also considering similar policies. In August, France and Germany asked governments in the Eurozone to pass constitutional amendments to balance budgets and limit public sector borrowing. A week later, the Spanish government and opposition agreed on such a measure; it is expected to go up for vote in the parliament in November. Inevitable policy The fact that it has now become something of a "trend" in policymaking, Bendukidze notes, is not a surprise. Georgia was seeking a remedy to the same problems troubling Spain, Greece and other countries today: deregulation, fiscal discipline and budget constraints. "I think it was visionary due to very harsh conditions from which we were trying to pull Georgia out from the beginning of 2004. Due to those problems, we do something which are a bit more unusual," he says. "Now it is more clear that [this type of policy] is unavoidable." Bendukidze, a former minister of reforms credited with nurturing the libertarian roots of Georgian economic policy, believes the Act is a vital part of the government's quest to attract investment and encourage growth, describing it as a sign of "stability" for investors, and a measure to offset investor concern over Georgia's ongoing tensions with Russia. With provisions to limit state spending and an amendment to the constitution to obstruct tax hikes, the Liberty Act promises to puncture attempts to unlatch Georgia's libertarian bearings when it goes into force in 2013 – the year the next planned presidential election is scheduled. It sets parameters for spending, tying it to the GDP: spending cannot increase to over 30% of GDP, while the deficit is limited to 3%. Even so, the bundle of laws and provisions that will rein in the state's ability to spend and regulate is actually less radical than originally intended.

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Retail demand Consumer confidence is back in Kazakhstan post-crisis, and the retail sector is booming. Retail turnover was up 12.4% in the first seven months of 2011, and this followed a 17.9% increase in 2010. Demand for warehouse space is an immediate consequence of this growth. "Warehouses are a good predictor for the general economy, because it is the first stage in the supply chain," James Palmer, partner at Veritas Brown Cushman & Wakefield, tells bne.

Paata Sheshelidze, head of the New Economic School in Tbilisi, stressed that "any privatisation is good" and there is not "any problem" with offering up strategic assets, especially for a minority share. "I don't see any problems with this," he says, noting that Tbilisi did not suffer from any electricity blackouts during the 2008 war with Russia – even though 75% of the distribution system is owned by a Russian company. Anders Aslund, senior fellow at the Peterson Institute for International Economics in Washington, adds that IPOs are more secure than seeking a "strategic investor" for sensitive assets, as well as offering a good way to get money to the state coffers. "Of course you can't control who is buying in an IPO… [but] the risk is less than if you sell to a strategic investor," he says. "You can get into a situation that a strategic investor sells and then sells to the least desirable partner."

Palmer points out that Kazakhstan has a modest amount of good quality warehousing considering the population and the size of the country. "Retail turnover fluctuates depending on the season, so it is good to have around 10% spare capacity. The vacancy rate is now falling in Almaty and Astana, and we expect to see prices increase in the short to medium term," he says. BRICKS & MORTAR:

Interest in Georgia is high, Piazza says, and the assets that are potentially up for an IPO, including a minority share in the Georgian Oil and Gas Corporation and the railway, could be attractive for investors. "I think that especially debt investors are very bullish about Georgia," he says. "I think they have probably privatised everything that they could, more or less… There are not a lot of companies looking to expand…this way you can still attract capital." Aslund adds that the time is right for Tbilisi to look at IPOs to increase capital. "Initially, I was against an IPO at the early stages of development because they are too slow if you want to get the maximum revenue to the state and the maximum speed," he says. "[B]ut now the situation is different and I feel it is just right."

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Storing up problems Clare Nuttall in Almaty

ew modern warehouses are being built in Kazakhstan, but the country still has a pressing need for more, especially in the farflung central and western cities where food is still stored in rat-infested Soviet buildings.

results in high levels of losses, which are passed on to the consumer in the form of higher prices. Together with transportation costs, this is one of the main reasons behind the wide variations in prices for consumer goods across Kazakhstan. A bottle of

Most of Kazakhstan's modern warehouse space is in Almaty, where the majority of cargo traffic from China and the AsiaPacific region enters the country, and is then re-distributed to other regions. According to Veritas Brown, there are around 400,000 square metres (sqm) of class-A and class-B warehouse space in Almaty, 30% of the total – the remaining 70% is old Soviet facilities. "There is not yet the required amount of European standard warehouses in Kazakhstan," says Sultan Zhassybay, director general of French logistics company GEFCO's Kazakhstan operations, which were launched in June 2011. "There is still a

Kazakhstan's capital Astana and Almaty, the country's main logistics hub, have existing capacity at international standard warehouses. However, prices are rising and vacancy rates falling. Demand is set to increase further as the consumer market grows and new transport corridors are opened up.

"Georgia's red carpet treatment for investors is an exception in the CIS"

Outside these cities, Kazakhstan has virtually no class-A or class-B warehouse space. Food producers and wholesalers have to rely on Soviet-era warehouses (or disused factories now being used for storage), which are often infested with rats and insects. This

"Asem Ai" mineral water, for example, costs twice as much in the western town of Aktau as in Shymkent where it is produced. Retailers in Zhezkazgan, central Kazakhstan, put boards outside their shops advertising "Groceries at Almaty prices" to attract customers.

lot of work to do and as GEFCO has been involved in bringing class-A warehouses from Europe to Russia, we would like to do the same in Kazakhstan." Kazakhstan's largest warehouse operator, Damu Logistics, currently has

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operations in seven locations across Kazakhstan, including Central Asia's largest logistics park near Almaty, and warehouses in Astana and Temirtau. It has a total of 235,000 sqm of class-A and class-B warehouse space (mostly class-A). Within the next two to three years, Damu plans to build logistics

"Retailers put boards outside their shops advertising 'Groceries at Almaty prices' to attract customers" parks in Astana and Aktobe. Kazakhstan Kagazy, the London-listed company that is Kazakhstan's second-largest warehouse operator, also built a logistics centre near the city in 2007. Kagazy previously announced expansion plans,

has a high demand for storage space since due to the extreme continental climate in north Kazakhstan, foodstuffs need to be brought in from abroad or from the south. Roads to growth The picture will also change as new transport links come into operation. Massive investments in infrastructure are underway in Kazakhstan, with financing from the Kazakh government and international development banks. These are aimed both at improving transport within the country and at establishing Kazakhstan as a transit state between Europe and Asia. "Our decision to set up in Kazakhstan was both because we are expanding geographically and using Kazakhstan as a transit territory, and because Kazakhstan's economic and political situations are improving and the country is

"Warehouses are a good predictor for the general economy, because it is the first stage in the supply chain" but is now in debt restructuring negotiations with creditors including the Development Bank of Kazakhstan and the European Bank for Reconstruction and Development. Astana's warehouse market is now the fastest growing in Kazakhstan. The city's warehouse stock grew by almost 6,000 sqm in the first quarter of this year, and modern warehouse stock now stands at around 28,000 sqm. Astana

attracting a lot of foreign investment," says Zhassybay. Reconstruction of the Western EuropeWestern China highway, 2,787 kilometres of which runs through Kazakhstan, is due to be completed in 2012. The western city of Aktobe, one of the town on the route, is expected to become increasingly important as a distribution point for north and west Kazakhstan. Also being constructed are a new rail link to China to the Almaty suburbs, the Korgos-Zhetigen line, and the Iran-Turkmenistan-Kazakhstan railway, which terminates near the Uzen oilfield in west Kazakhstan will open up another new export route, facilitating Kazakhstan's access to the Persian Gulf. These are all set to increase freight transportation through Kazakhstan, but additional logistics infrastructure will be needed.

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Special Report: A Turkish star in the dark night sky

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sounded alarm bells in a report at the start of September pointing to the large current account deficit, saying it makes Turkey, "susceptible to changes in external borrowing conditions and investor sentiment." Given the global economy is likely to slow down next year, Shearing and Jackson predict that Turkey's economy will "capitulate" to the point where GDP will contract by 1% in 2012. Ash is not quite so pessimistic, pointing out most of the debt is trade financing or loans to the robust bank sector that are relatively easier to restructure. Still, Turkey's total external financing needs are $70bn-80bn more than in the first wave of the crisis in 2008 and the country's hard currency reserves have only risen by $20bn since then.

Turkey's star waxes as Europe's wanes Ben Aris in Istanbul

t looks like the world's economy is going to slow down and that is good news for Turkey. Which other country in the world can say that?" In a world full of long faces, it's always refreshing to meet a finance minister who is chipper and full of optimism, and in many ways Mehmet Simsek embodies the profound change that Turkey is going through at the moment. He is young, eloquent and Kurdish â&#x20AC;&#x201C; something that would have been unthinkable a few years ago. Born to poor and illiterate farmers in the somewhat incongruously named city of Batman in southeastern Turkey, after graduating with a degree in economics Simsek spent many years working at Merrill Lynch in London and UBS in New York, before joining the government in 2007. He was appointed finance minister during the depths of the global economic crisis in May 2009. Turkey has been one of the winners in these desperate times. Thanks to the severe banking crisis that Turkey suffered at the start of this millennium, its banking sector was probably best positioned

to withstand the latest financial storm to hit the global banking industry. The latest piece of good economic news was that, while Europe suffers a series of debilitating credit rating downgrades, in September Standard & Poor's raised its long-term local currency rating on Turkey from 'B+' to an investment-grade 'BBB-'. The economy is barreling along, up 10.2% in the first half of this year, overtaking China to become the fastest growing major economy in the world. But that has also been the source of Simsek's worst headache: fast growth has sent domestic demand soaring by 16% in the first half of this year, sucking in imports. Add to that the recovery of oil prices to over $100, and Turkey's current account deficit has mushroomed to over 9% of GDP, or more than $75bn this year. Big current account deficits are a primary cause of crises and a recurring one for Turkey. Despite having an export-driven economy, Turkey only makes things that are low on the value-added chain and so doesn't earn enough to pay for the imports its emerging middle classes are

increasingly demanding. Not having any oil or gas production only makes the problems worse, hence the plans to go nuclear, the push for renewables and the speculative drilling in the Black Sea. The external financing gap is now about $75bn, but including the short-term debt coming due soon adds another $132bn to its funding needs, calculates Timothy Ash, head of strategy at Royal Bank of Scotland. "With forex reserves standing at only around $90bn, this underlines Turkey's key vulnerability â&#x20AC;&#x201C; a low reserve/external financing ratio of less than 50%," Ash said in a recent note. Indeed, while S&P raised Turkey's local currency rating, it left the foreign currency rating at 'BB' (ie. two notches behind investment grade) because, as Ash argues, the agency simply couldn't move on that one while the country is still running a wide current account deficit and suffers a very wide external financing gap. Analysts at Capital Economics, Neil Shearing and William Jackson, also

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Smiling, happy, shining people In essence, it seems that Turkey has a built-in self-destructive mechanism that always kicks in whenever the economy booms, and the only way to break this cycle is to implement deep structural reforms. But while Simsek appears unfazed by these problems, he stresses he takes them very seriously. Speaking with bne at September's East Capital Turkish investment summit, Simsek says the slowdown in Europe will take the steam out of the country's blistering economic growth, as will a 20% devaluation in the lira. "Analysts call the current account deficit Turkey's soft belly, but it is a problem of the past and the chances are that the external balance will adjust," says Simsek. "The probability of a soft landing is very high." Simsek argues that the path ahead is clear and that because Turkey has been so badly burnt in the past, it has the political will to see the necessary reforms through. "Stabilising your debt/ GDP ratios is easy, as all you need is growth, primate surpluses or a lower cost of borrowing," Simsek says somewhat flippantly. But he has been delivering nonetheless. While most of Western Europe labours in Dante's first circle of purgatory, bowed by massive debts, the government has been running fiscal surpluses

of over 5% for years and brought the debt/GDP ratio down from 80% a decade ago to 40% this year. Indeed, as the 2008 crisis hit, many of these policies were revived and this year the state ran an 8% surplus despite the government having to face a general election. Likewise, the deficit target for this year is 2.1%, but the government is confident that it will come in at much less; over the first eight months of this year, the budget was actually in surplus. "This is beyond fiscal discipline, but we still need to bring the current account to a level that is sustainable," says Simsek. "But we are committed to fiscal discipline and this hit is a one-off. Given the mood today, it feels like we are already in a modern depression, but in reality things are not that bad. We expect a bout of slow growth in the next years rather than a full-on recession." The numbers are bad, but Simsek has certainly put Turkey into a much stronger position than most of Europe's developed economies. However, these are only short-stop measures and for Turkey to really flourish, it needs to deal with its basic problems: low-quality production and the need to import all its energy. Fuelling the future Here too, Simsek has a firm grasp of what needs to be done. Clearly energy imports are the country's Achilles' heel: every extra dollar a barrel of oil costs adds about $2bn to Turkey's current

out new generation capacity in multiple directions, as well as obliging gasoline and diesel to contain a minimum 3% of domestically produced biofuel by 20142016. Turkey has recently agreed a deal with Russia to build a nuclear power plant, boost its wind generation, and is planning to tap its hydroelectric power potential by doubling capacity in the next decade. "We have very good hydropower potential and we are only using a third of what is available at the moment," says Simsek. "The government had 1,500 hydropower power projects in the drawer, but not the resources to put them into place. So we just gave these projects to the private sector." The second plank is to move Turkey's exports up the value-added chain by investing in its young population: half the population is under 28 years old and the biggest beneficiary from federal spending in the 2010 budget was the Ministry of Education. Turkey is also building relations with the Middle East to diversify its export markets, while Russia has become one of Turkey's most important export markets, especially for agricultural products like fruit, vegetables and chicken. However, all these measures will take at least a decade to really have an impact on Turkey's fundamental problems. Still, Simsek is the man with a plan and he

"Given the mood today, it feels like we are already in a modern depression, but in reality things are not that bad" account deficit and with the mediumterm forecasts for oil prices in the range of $80-100, this is bad news for Turkey (although Capital Economics has been predicting for two years that oil will fall to $50). The government's strategy is to reduce its dependence on imports by building

brims with a confidence that largely rests on the Turkish people themselves. "We cannot maintain the current high levels of growth forever, as we don't have the domestic savings base to fund it," says Simsek. "However, we can comfortably sustain growth of 5-6% for the next one or two decades thanks to our very favourable demographic situation."

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Alarko's forwardthinking chief

of a bargain compared with the prices paid for other distributors in later sales.

INTERVIEW:

David O'Byrne in Istanbul

t 84, veteran Turkish businessman Ishak Alaton could be forgiven for putting his feet up, avoiding controversy and reflecting on a life of success conjured from the most unpromising of beginnings and achieved very much on his own terms. Instead, ensconced in his office overlooking the Bosphorus, he shows little sign of either his age or of eschewing his reputation as a maverick prepared both to say what he thinks and to act on it. "Did you hear I'm donating $1bn to Somalia?" he booms. "Actually it's only TRY1m – they mistranslated me," he laughs, referring to a German TV crew who interviewed him the previous week. But even that lower sum is surprising enough given that Alaton is a prominent member of Turkey's tiny Jewish community and his donation has gone to a fund established by Turkey's most successful Islamist politician, Prime Minister Tayyip Erdogan, aimed specifically at alleviating the plight of starving Somali Muslims. The more so when considering Alaton's own history. His comfortable middleclass existence was thrown into poverty by a punitive tax imposed on non-Muslims by the Turkish government during World War II. Alaton himself was forced to abandon plans for university, and moved to Sweden to train as a welder. From there it would have been easy for him to follow friends and relatives to

First in line is a 1200-megawatt (MW) coal-fired plant that Alarko plans to build on the south side of the Sea of Marmara, complete with port facilities to import coal from global markets. "It will have all the necessary equipment to protect the environment," he explains, pausing to complain about Turkey's rigorous environmental legislation that has kept the project on hold for over a year.

Ishak Alaton

the nascent state of Israel. Instead, he chose to return to Turkey and establish his own company, Alarko, of which he is still chairman, and which over the past 60 years has grown to become one of Turkey's biggest and most reputable conglomerates – founded on engineering contracting, but with interests in everything from construction to tourism to seafood. "I've known Tayyip Erdogan since he was mayor of Istanbul – he's a practical and intelligent person and very efficient leader," he says, pointing to his government's excellent record of handling the historically fragile Turkish economy. Alaton even has praise for Erdogan's hardline against Israel, criticising Tel Aviv for destroying relations with Turkey – its only ally in the Middle East – and for its

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Equipment for the plant is being brought in from China, but the actual construction will be done by Alarko's contracting arm. "We have plenty of experience

in that area," says Alaton, adding that they are already scouting for sites for a second plant of the same size. But while energy is the current focus of Alarko, Alaton himself admits to a growing passion for the cutting edge of the biotechnology industry, having taken a 5% stake in a $100m biomedical venture Alvimedica, established by a consortium of Turkish doctors and other professionals based in Scandinavia. Operating from a purpose-built biotech park in Turkey's European backwater of Thrace, the company has in only four years established the biggest "clean room" manufacturing site in Europe

to grant statehood to Gaza. "At least it will stir controversy and be a warning to Israel they have very few friends left in the world."

He then celebrated the referendum vote in favour of constitutional change by announcing that Alarko was planning to go ahead with $3.5bn of new investments. The bulk of that, he explains, will be in constructing new

As such, he's lending his support to the campaign at the UN, backed by Erdogan,

power plants aimed at supplying Meram Edas, the power distribution company for the Konya-Nevsehir region, which Alarko bought with partners Cengiz in a privatisation sale in 2009. With 1.5m subscribers (11% of Turkey's total) and a turnover of over $1bn, the $440m that the partners paid looks nothing short a

Far from meeting an arcane medical niche market, Alaton points out that while global energy markets are set to double over the next 50 years, the growth of the global medical market is expected to exceed 1,800%, with the Thrace biotech park already attracting interest from established European manufacturers. "In the near future, people will be living to over a hundred," he says. "We have to learn to cope with change and if not take part, at least understand what's happening."

These sales were further complicated by monopoly issues when Turkey's competition board ruled that two of the successful bidders – Aksa Enerji and MMEKA – should be considered as one entity due to their both being co-owned by members of the same family.

Problems with distributing the spoils David O'Byrne in Istanbul

intransigence in dealing with the Palestinians. "I've completely lost hope for the simple reason that the Israeli government doesn't want a solution – they think the best solution is no solution," he says.

and becoming one of the world's leading manufacturers of balloon catheters and drug eluting stents (a device inserted into narrowed, diseased arteries).

an effort to build distribution portfolios from the few remaining unsold companies.

Home truths But Alaton's taste for controversy isn't confined to regional politics. In 2010, he weighed into the debate on proposed changes to the Turkish constitution, criticising Turkey's influential business association, Tusiad, for failing to back what he saw as a straight choice between more or less democracy.

"While global energy markets are set to double over the next 50 years, the growth of the global medical market is expected to exceed 1,800%"

I 59

rivatisations in Turkey seldom go completely according to plan and the ongoing sell-off of the country's 21 regional power distribution companies has been no exception. The sales of the first 14 were relatively straightforward, with sale prices

broadly in line with expectations. However the sales of the final seven operators – including three of the five biggest – conducted in the second half of last year resulted in what some analysts have described as a "feeding fest", because Turkey's major corporations bid aggressively against each other in

The final accepted bids were: $2.99bn by a consortium of MMEKA and IS-Kaya Insaat for Turkey's biggest distribution company Bosphorus EDAS, which distributes power in the European side of Istanbul; $1.813bn from MMEKA for Anadolu Yakasi EDAS, Turkey's fifth biggest distributor, which distributes on the Asian side of Istanbul; $2.075bn from Yildizlar SSS Holding for Turkey's second biggest distributor Toros EDAS, which distributes in the southern Turkish city of Adana; $1.922bn from a consortium led by Turkish silver mining group Eti Gumus for Gediz EDAS, Turkey's third biggest distributor, which distributes in Turkey's Aegean capital Izmir; $1.165bn from Park Elektrik for Akdeniz EDAS, which distributes power in the Antalya region: $622m from Aksa Elektrik for Trakya EDAS; and $228m from a consortium of Turkish construction groups Karavil Dayanikli Tuketim Mallari Insaat and Ceylan Insaat for

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Dicle EDAS, which distributes in the largely Kurdish region of Diyarbakir. In total, a cool $10.bn – a figure widely regarded as a major coup for Turkey's Privatization Administration (OIB) and a major vote of confidence from the private sector in both the government's strategy of liberalising Turkey's power sector and selling off the country's power distribution operations. Or at least it would have been had the OIB been able to conclude the sales. Power outage By May this year, it was apparent that all was not well, with the winning bidders for six of the seven requesting extra time to conclude finance agreements and Park Elektrik announcing that it would not go through with its purchase of Akdeniz EDAS, which was instead to be offered to second bidder Enerjisa – the joint venture of Turkey's Sabanci Group and Austria's Verbund. "The basic problem is that the prices paid are too high and the banks don't think that the purchases are feasible at these prices," explains Selim Kunter, energy analyst at Istanbul brokerage Expres Invest. Kunter says the problem for the banks is that the purchases would need to be funded with project finance, which requires the buyers to put up 30% of the capital themselves, and this comes at a time when generally tight financing conditions prevail.

"Pity the poor Turkish electricity consumer forced to watch such a soap opera played out in the media, while struggling to meet electricity bills"

Dicle EDAS had succeeded in making a down-payment and it was clear that most bidders were in serious trouble – unable to raise sufficient finance to complete their purchases, but unwilling to pull out and hand a prized purchase to a rival. Confusion reigns But while the OIB and the government insisted no further time would be given and the distributors would be offered in turn to each company that submitted bids before being re-tendered, some ousted bidders protested, claiming their bids are still on the table. Mehmet Kazanci – apparently now divorced from his partner – vowed publicly to reverse the decision on the grounds that he had secured the $4.8bn he needed to buy Bogazici EDAS and Anadolu Yakasi EDAS from unnamed overseas sources. Further confusion exists, as most of the bidders submitted bids for several companies and as higher bidders are eliminated, find themselves offered the chance to buy another distributor, which they may or may not be able to finance. Such is the case of Enerjisa, which having been refused extra time to arrange purchase of Akdeniz EDAS, has now apparently as second highest bidder been offered the chance to buy Gediz EDAS, but as third highest bidder for Anadolu Yakasi EDAS will also be in line to buy that company if second-placed Eti Gumus fails to secure finance.

The high bids themselves, he explains, stem from the understanding that Turkey's energy regulator, the EPDK, was planning to raise the permitted margin for power distributors from 2.33% to between 4-5% – a move which by early this year the regulator had announced would not happen.

Confused? Then pity the poor Turkish electricity consumer forced to watch such a soap opera played out in the media, while struggling to meet electricity bills that have risen drastically over the past decade.

Further problems ensued as the winning bidder in two tenders, MMEKA – a consortium founded by two of Turkey's most prominent businessmen – fell apart with one of the two, Mehmet Kazanci, publicly accusing his erstwhile partner Mehmet Karamehmet of duplicity.

Little wonder, then, that so many choose not to pay. Power theft in some regions of eastern Turkey is reckoned to be running at up to 70% of power distributed, while in Turkey's richest city of Istanbul, Bogazici EDAS has been forced to open legal proceedings against more than 300,000 of its 3m customer base.

By July, only the consortium buying

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I 61

to foster entrepreneurship in developing countries. Bayrasli points out that Turkey’s recent economic prosperity is bringing Turks back home from the US and Europe. "You are seeing a lot of 'brain gain' in Turkey," she says. "Turkish expats are returning and taking the skills they have acquired and transferring those skills into the Turkish market. This is building confidence in investors."

Turkey gets creative

Justin Vela in Istanbul

urkey is known more for copying ideas and products that originate in western countries than for innovation. But a young, increasingly skilled population, together with a developing venture capital industry, is changing this stereotype. In the past, cargo ships unloaded in Karakoy, a bustling waterfront district in central Istanbul known for its brothels that served the sailors. Even in Muslim Turkey, consecutive governments lauded Matild Manukyan, the Armenian woman who owned 32 of the legal brothels. During the 1990s, she was Istanbul’s top taxpayer five years in a row; in 1992 alone, she reportedly paid $1.2m to the city – a massive amount in Turkey, where shrinking the grey economy is among the government’s top economic priorities. However, with Manukyan’s death in 2001, the brothels closed and Karakoy

became a desolate neighbourhood of architecturally quaint, but ill-kept buildings. Until recently that is – today, a growing number of small businesses are

Esra Sonmez Islek and Bediha Gungor, two founders of lab::istanbul, an architecture and design firm, also describe a new creative era for Turkey. They give the example of Turkish furniture makers copying French and Italian furniture designers to illustrate how a new consumer mentality is fostering a change in Turkey. Among a growing segment of the population, mass produced copies are no longer satisfactory – there is a growing demand for the unique, such as the furniture that Islek and Gungor created by "hacking" mass produced products and putting them together into new ones. "They want the original and new," says Gungor. "In the old times, people wanted the classic product. They saw something in someone’s house and they wanted [that]. It's not the same any more." The architecture projects they have been commissioned for also reflect this

"You are seeing a lot of 'brain gain' in Turkey"

setting up shop and the neighbourhood is fast becoming the city's new creative hotspot. Brain gain Adapting ideas from the West brought a certain amount of investor money to Turkey. Those years of copying models for e-commerce and manufacturing have made a difference for the next generation, who are more skilled and worldly, says Elmira Bayrasli, formerly of Endevor Global, a company that seeks

change. Currently, their projects in Istanbul include a reception for the new Intel headquarters, a sports centre, and university buildings in other parts of the country. The desire for new looks is expensive, but fosters greater cooperation between government and private business, says Gungor. For example, though the local municipality owns the building where the sports centre will be built, a private investor is funding the construction. In return for fronting the money for construction, the inves-

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tor will be allowed to rent the space from the municipality for 10 years at TRY7,500 per month, a small amount in comparison to the TRY50,000 per month the space was worth. Another innovative Turkish company is Sestek, a voice recognition technology company founded in 2000.

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Sestek claims to have developed the world’s first voice conversion system for commercial use. "Voice conversion basically tries to mimic the voice of the target speaker," says CEO Levent Arslan. "This is the first commercial application in use, though there is academic researches going on [in this field]."

Along with voice conversion, Sestek is focused on voice verification, text-tovoice services, outbound interactive voice response systems, and speech analytics. Voice technology is increasingly important as the world becomes more reliant on machines and electronic devices, Arslan says. "We have to communicate with these devices," he

Turkey's real estate boom begins

bne Turkey's overall economy might have its weak points, but real estate remains a safe investment bet given the growing demand for housing and scarcity of land in cities, according to a new study from Erste Bank Group. Turkey's housing market has grown in the past decade as locals and foreigners buy up property, causing construction to boom and land prices to rise. "Increasing demand for housing has also raised land demand," writes Erste. "This has resulted in a boom in land prices, especially in major cities. Land availability is a problem for construction companies, especially in major cities. As land is in short supply, it accounts for approximately 30-40% of total construction cost." Underpinning this boom is the country's strong economic growth, coupled with declining interest rates and rising disposable income. Other factors include urban migration, a population that is forecast to grow 1.3% per year to reach 76m by 2013, and falling household sizes. To meet demand, about 400,000 new homes are required each year, according to estimates. TurkStat data shows that there are already 15m registered housing units in the country, with an average of 600,000 homes obtaining construction permits every year. This does not include unauthorised housing units, which would increase the number exponentially, according to Erste. Some 17% of all housing in Turkey is in Istanbul, 6.8% in Ankara, 6.1% in Izmir, 3.6% in Konya, 2.7% in Adana and 2.5% in Antalya. About 10m families, or 68% of Turkey's population, live in their own homes, while 3.6m families, or 24% of the total, live in rented accommodation. Five years ago, these ratios were, respectively, 60% and 33%, according to Erste. Monthly interest rates might have risen to 1% from 0.75% mainly due to global liquidity concerns, but this still com-

pares well with the 7.5% of 10 years ago, argues Erste. As such, between March 2008 and June 2011, the volume of housing loans in the country doubled to reach TRY70bn. This is still only about 6% of Turkey's total GDP, and low in comparison with the average of 43% in European countries. "In our view, there will be no changes imposed on the loan/value ratio, since housing loan growth is not a main driver of the current account deficit. We note that 1% monthly interest rate levels are still low compared to historically higher ones," writes Erste. While the Real Estate Investment Trust (REIT) index on the Istanbul Stock Exchange has underperformed the overall index, this should be regarded as a buying opportunity, argues Erste. Erste issued "buy" recommendations for Emak Konut REIT and Sinpas REIT.

HOUSING NEED STEMS FROM POPULATION INCREASE

Years

Total Population Annual Increase of Family Size Housing Need ('000) Urban Population stems from (mn person) Population Increase

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011e 2012e 2013e

64,560 65,440 66,320 67,190 68,050 68,900 69,750 70,590 71,520 72,560 73,720 73,950 74,885 75,811

1.00 1.05 1.11 1.10 1.11 1.14 1.18 1.20 1.23 1.25 1.27 1.29 1.32 1.34

Source: TurkStat, Erste Group Research

4.39 4.37 4.34 4.32 4.30 4.28 4.25 4.22 4.19 4.16 4.13 4.06 4.02 3.99

276,042 278,965 281,919 282,606 283,304 284,014 302,532 307,997 335,616 370,822 409,472 393,346 391,365 395,981

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says. "The most basic input is voice," adding that voice recognition technology greatly reduces the cost of doing business by, for example, reducing the amount of human resources needed for a call centre. Developing voice recognition software for mobile devices is one area Sestek is particularly focused on. "Instead of typing something, it would be nice if you could say what you are going to type and get the response immediately," Arslan adds. Another firm ahead of the curve in Turkey is Zumbara.com, an online "time bank". At Zumbara, a person performs a good service for another individual and acquires time credits that can be spent on good services from other people. The site’s founder, Aysegul Guzel, told Turkish media it can earn money as a tool used to foster corporate responsibility and in-house bonding and innovation. Other Turkish companies with ideas to watch are PI Works, which is becoming known as having among the best technology for preventing dropped calls in the region; Trendyol, a retailer that sells expensive brand clothes at discount en masse during certain blocks of time; and Artesis, a company founded by a former Nasa employee that manufactures intelligent monitoring systems. For instance, Hurriyet, Turkey’s most widely read newspaper, is seeking to answer one of the most pressing questions of the new media age: how to attract and grow traffic to a publication’s website and generate revenue from it? Erhan Acar, vice-president of the Hurriyet Internet Group, tells bne that a variety of regularly updated unique content across a range of platforms and digital communities that visitors can interact with kept users at Hurriyet.com. tr longer. Since they had made interaction with the content a priority, the site’s traffic had grown from 500,000 unique daily visitors in 2006 with ad revenues of TRY1.5m annually to TRY2m daily unique visitors and TRY15m in ad revenues annually.

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After proving themselves successful with an established theory for growing readership, Hurriyet has now established a new system called Bumerang, which aims to generate revenues beyond traditional Internet ads. With Bumerang, companies pay Hurriyet to offer their advertorials to its 10,000 member blogger community. The bloggers are not obligated to post the advertorials, which come as a copy-and-paste html code. But if they do, Hurriyet pays them between TRY1-50 per advertorial, depending on the number of clicks the advertorials receive on an individual’s blog and social media. The bloggers are also motivated by their blog appearing in the results when individuals search for the products that Hurriyet asks them to advertise. Acar says that Bumerang is a model that can be applied to any web publication that has built a large enough blogger community around it. New capital Along with the skills, Turkey has traditionally lacked the venture capital necessary to foster innovation. But now more VC money is coming into the country due to the confidence that the ruling Justice and Development Party's (AKP) running of the economy has inspired in investors, says Bayrasli. The party’s growing authoritarianism is watched warily, but it has ushered

"More VC money is coming into the country due to the confidence AKP's running of the economy has inspired in investors" in an unprecedented level of stability to Turkey, which had been wracked by decades of military coups and shortlived coalition governments. In the short term, the country’s macroeconomic picture might look shaky, but Bayrasli says investors see innovation and business growing in Turkey and take a long-term view on the country. "Investors are willing to be patient and look at the Turkish market," she says.

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whom attend one of those two schools: Istanbul International Community School (IICS) and the British International School (BIS), which together have space for just over 1,400 pupils. Since the explosion in foreign investment that the country has enjoyed since 2002, the two players have seen a surge in applications. "Over the past six years, we have increased attendance by 40%," states IICS's Jennifer Gokmen. "In an average year, you would be looking at an annual increase of 3%, but we haven't seen that for some time. I believe that we are up to 11% alone this year." Similarly, BIS has experienced an average annual increase over the last five years of 9.2%, with this year being particularly good. Both schools are prevented by law from accepting Turkish nationals, although IICS limits dual Turkish nationals to 30% of any class.

Expat in Istanbul Rupert Birch in Istanbul

elentlessly marketed as the bridge between Europe and Asia, Turkey has benefited from a flood of foreign investment over the past decade and more recently its commercial capital is becoming a magnet for multinationals looking to benefit from local and regional market access. Accompanying this, of course, are the people to manage that investment. "The Arab Spring has forced a number of companies to reconsider their regional headquarters," states Sinan Renda from DTZ Pamir & Soyuer, "and Istanbul ticks many boxes." With these investments have followed a surge in expat managers and their families. Local relocation manager, Steve Pheby of Bedel Relocation, has experienced a growth in business of around 15% alone this year, driven mainly by incumbents increasing their investment here.

Whilst Istanbul dropped 26 places to 44th in Mercer's most recent cost of living survey, Pheby identifies schooling as one of the main issues affecting expatriate assignments to the city. "Two schools control around 90% of the mar-

Increased demand in this duopolistic environment favours the supplier, with both charging close to $30,000 per annum for high school and marginally less for lower years. Only Yerevan in Armenia is more expensive in the region, according to Mercer's survey. "Most parents are shocked by the cost of schooling, but at the end of the day it is the company who pays," says Bedel's Pheby. Although housing is often cited as a serious issue, schooling comes top of the

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Opportunity knocks So is there an investment opportunity here? Absolute numbers are hard to come by, but Bedel's Pheby estimates that there are between 5,000 and 10,000 foreign nationals in Istanbul who could be termed expatriate. BIS's William Bradley concurs that it is difficult to estimate the number of expats, though he says it's surprising for a city of Istanbul's size that, "we do appear to have a very small expatriate population." Even so, there's certainly some space to create more places. "Our primary school is full to capacity and we have had to turn away a number of children

from various years within our secondary school," says Bradley. IICS is rumoured to be opening a new campus in a residential area favoured by foreigners and wealthy Turks for the next school year. IICS's Gokmen would only confirm the school was actively looking at opportunities to expand and an announcement will be made in October. "As a not-for-profit organisation, we plough all excess funds into a variety of programmes that will ensure that we remain one of the leading international schools in the world."

"We increasingly see companies actively choose childless managers or not including education allowance in the package because of cost" ket, with several other players offering education standards that many of our clients will not consider," he says. Packaging giant Tetrapak, with its Greater Middle East regional office in Istanbul, typifies this. There are 11 children of varying ages amongst the six expatriate staff in the office, most of

list in Istanbul and many companies are taking note. Jennifer Gokmen from IICS observes that: "Although there has been a significant increase in the number of expats arriving in Istanbul, we increasingly see companies actively choose childless managers or not including education allowance in the package. I believe this simply to be because of cost."

And here's the crux of the matter: should a new entrant consider entering the purely expat market, there is clearly a capacity issue. But if you also take into account the dual-nationality market with all those newly-minted Turks, then the potential market is huge. MEF International is attempting to bridge that divide by offering a dualtrack approach; pure international and Turkish streams. Although not as popular as the two market leaders, MEF's fees are 30% cheaper and they have no problem in filling their classes.

Gokmen would say that as part of the evaluation process, IICS estimates there are 2,000 children who fit their student profile.

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German Equity Forum 2011 (21 - 23 November) Deutsche Boerse Group Frankfurt-am-Main, Germany www.eigenkapitalforum.com

Russian Regional Forum (9 - 10 November) IC Energy Moscow, Russia http://www.icenergy.co.uk

Russian Power: Finance & Investment (22 - 24 November) Adam Smith Conferences +44 20 7017 7444 Marriott Grand Hotel, Moscow, Russia events@adamsmithconferences.com www.adamsmithconferences.com

Ukrainian Banking Forum (14 - 17 November) Adam Smith Conferences +44 20 7017 7444 Kiev, Ukraine events@adamsmithconferences.com www.adamsmithconferences.com

SuperInvestor Conference (15 - 18 November) ICBI The Westin Paris www.informaglobalevents.com

CIO Summit Russia & CIS 2011 (22 - 24 November) GDS International Kiev, Ukraine www.cisciosummit.com

BAKUTEL 2011 (23 - 26 November) ITECA +994 12 4474774 Baku,Azerbaijan telecoms@iteca.az www.bakutel.az

EU-Ukraine Energy Finance & Investment Summit 2011 (17 November) Euroconvention Conferences Vienna, Austria www.euroconvention.com

Finance and Investment Conference (24 November) BEUBC Minsk, Belarus www.beubc.com

EU - Central Asia Energy Finance & Infrastructure Summit 2011 (18 November) Euroconvention Conferences Vienna, Austria www.euroconvention.com

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