Offshore hide and seek

Why foreign investment in Russia fell to a ten-year low

The current situation in the world, where various kinds of risks, primarily geopolitical, trade and economic, are growing and multiplying, has a direct impact on the dynamics of foreign direct investment (FDI) at the global level. FDI volumes have been falling for three years in a row, and in 2018 they reached their lowest level since the financial crisis, falling by 13% at once.

In many respects, this trend is explained by the tightening of the position of many regulators, who have become more vigilant in monitoring the observance of national security in the wake of growing protectionism. Thus, over the past year, regulators have blocked international mergers and acquisitions for more than $150 billion, while a year earlier this figure was 50% lower.

According to the IMF, out of the total volume of foreign direct investment, which is about $40 trillion, investments worth $15 trillion are fictitious.

Moreover, 85% of them are in such tax havens as Luxembourg, Hong Kong, the Netherlands, Switzerland, Ireland, etc., whose task is to attract foreign investment through a low or even zero corporate tax rate.

However, this practice is typical not only for the above countries - many other states are tempted to invest in so-called foreign shell companies, from which you can get decent investments.

And what about in Russia?

If we talk specifically about Russia, here, last year, foreign investment also halved, reaching the lowest value in 10 years in relation to GDP. There are several reasons for this, the main ones being the sluggish economic growth and the ongoing geopolitical risks associated with Western sanctions rhetoric. The measures of the government also have an effect, which encourages the re-registration of Russian companies in their country, including domestic offshore companies. In the Bank of Russia itself, this collapse was explained by the extinction of the tendency for capital to return to the economy through offshore companies.

At the same time, the balance of investments in Russia from abroad is a very important macroeconomic parameter. For example, based on the dynamics of this indicator, the Central Bank plans specific measures of its monetary policy. But it is important to note that this barometer is not reliable and, in fact, cannot be relied upon.

Three factors distorting the statistics

First, for quite a long time, actual investments in securities from abroad were more profitable and attractive than investments in Russia. For example, let's take Estonia, which gave a zero rate on transactions with securities. Against this background, several problematic moments associated with nominee services did not matter much if they were foreseen in time.

Secondly, one cannot ignore the fact that there are quite a large number of absolutely Russian companies whose head offices are registered in offshore zones.

In the case of this segment, it is not possible to adequately evaluate the real investments cleared of part of the funds withdrawn by profits. One such example is the large Russian retailer O'Key. Its management company O'Key Group is registered in Luxembourg, while its head office is in Moscow.

And the third obstacle to accurately estimating investments is the fact that often many industries actually engage in so-called “grey” import schemes. As part of such operations, the customs value is underestimated, and, accordingly, the profits in the same way settle on unspecified offshore companies.

Carrot and stick

Realizing that the use of purely restrictive measures is an unpopular method, the state decided to use the strategy of "carrot and stick".

Having tightened control over the movement of funds, the government simultaneously launched a capital amnesty program, and it has already been extended several times. In theory, everything looks quite logical and appropriate. But in reality, due to the low consistency of the tax authorities and other participants in this process, this capital amnesty did not give practically any increase, according to statistics.

However, the main problem is not even in this, but rather in the lack of trust. Investors often do not feel fully protected in Russian jurisdiction, they do not feel completely confident that the ownership of their direct investments will be backed up by something. In such conditions, "hide and seek" behind offshore companies for "reinsurance" is not surprising.