As Vladimir Putin heads to Beijing this week to meet with his Chinese counterpart, Xi Jinping, investors and officials in both countries are preoccupied with the nations’ mounting economic woes. For Russia, the Chinese slowdown is particularly vexing, since it puts up a potential roadblock to the Kremlin’s “pivot” to the east. Independent researcher Cyrus Newlin and IMR analyst Ezekiel Pfeifer examine the shifting landscape and attempt to determine whether Russia can count on China to drive its economy forward.

 

On September 2-3, Vladimir Putin will take part in China’s celebration of the 70th anniversary of the end of World War II. According to the Russian president, Russian-Chinese relations are developing rapidly and have probably “reached a peak in their entire history.” Photo: AFP

 

In the run-up to this week’s Eastern Economic Forum in Vladivostok, an interviewer asked Deputy Prime Minister Yury Trutnyev a question that has long vexed Russia’s government: Could the Kremlin lose the Far East to China? After all, the logic goes, Russia’s Far East has only about 6.7 million residents, while China’s neighboring Heilongjiang province boasts about 38.3 million people—spread over a much smaller territory. Six of nine Russian “priority development areas” are located in areas on the Chinese border, and China wants to expand Vladivostok’s port capacity to help its exporters. The government of the Zabaikalsky Region made a preliminary agreement in June to lease 247,000 acres of uncultivated agricultural land to Chinese investors, with the potential to lease hundreds of thousands more later on. So—should Russia be worried about China?

The answer is yes—but not because of an imminent Sino takeover of the underdeveloped Far East. The reason for concern is almost the opposite: China’s current economic troubles could significantly slow Russia’s much-hyped “pivot” toward its eastern neighbor. In other words, the Kremlin should be concerned less about a Chinese takeover and more about a Chinese slowdown—although Russia’s currency devaluation may provide the consolation prize of turning China into an export market for Russian businesses. But during President Vladimir Putin’s trip to China this week to meet with Xi Jinping, there will likely be fewer joint investment opportunities on the table than in the recent past. Because as China analyst Alexander Gabuyev wrote recently, a question inevitably arises given the current environment: “Will the Chinese save us, or will they need to save themselves?”

China has acted as an economic locomotive of sorts for the entire globe in recent years, and as a result, the country’s underwhelming output this year has caused anxiety among investors and governments the world over. The most dramatic symptom of this downturn was the summer plunge in the country’s main stock exchange, from a high of almost 5,200 points in June to the current level of about 3,100. The non-financial sector has suffered as well: industrial growth dropped to a rate of just 1.2 percent in the first half of 2015, while construction growth decelerated from 10 percent in mid-2014 to 4.1 percent in the second quarter of 2015. Officials in Beijing maintain that China’s annual growth rate is 7 percent, but China has long been suspected of cooking its books, and some analysts put that number as low as 2 percent.

Putin calls China the country’s “key economic partner,” but Russia’s economic ties with China remain paltry compared to those with Europe. Trade with China represented 11.4 percent of Russia’s overall trade volume in the first half of 2015, while trade with the EU represented 46 percent, even with Western sanctions and Russia’s food embargo in place. Putin had assigned new weight to bilateral relations with China well before the West imposed sanctions against Russia over the Ukraine conflict, and the West’s economic restrictions have intensified Putin’s need for alternative foreign partners. China has been happy to step in, at least so far. In addition to gaining access to cheap energy supplies, closer ties with Russia allow China to expand its investments and political reach in the region. Although the two countries go about it in different ways, both Russia and China are interested in creating a global balance of power than does not revolve around the United States and Western Europe. What is harder to say with certainty is whether Beijing truly wants to team up with Moscow or is simply using Russia as a geopolitical sidekick and a source of commodities as needed.

Some experts point to mounting evidence that Russia’s economic “pivot” has already begun in earnest. In June, commentator Leonid Bershidsky declared that there was strong evidence the relationship was blossoming, citing the fact that China’s $1.3 billion in direct investment to Russia was second only to the amount from France last year (excluding off-shore countries) and represented an increase of almost $1 billion from the previous one-year high. New loan volume from China also rose in 2014 to $11.6 billion from $7.5 billion the year before, after Russia became virtually cut off from Western sources of financing.

Because the ruble has lost about half its value over the last 12 months, Russian agricultural producers have begun exporting more foodstuffs to China, and that trend may accelerate in the coming months. Exports of dairy products, honey, and eggs through Russia’s Far Eastern border crossings went up by 14 times in the first six months of 2015, and China may soon open itself up to Russian grain exports. Russian pork has also become competitive in China, where rising prices for the meat, a staple of the Chinese diet, have caused consternation in the government. Pork from Russia cost about $4.6 per kilogram on the wholesale market a year ago, while now it costs around $3 per kilogram, compared to around $3.1 per kilogram in China. The recent devaluation of the yuan may make Russian imports slightly less attractive, but the ruble is still massively weaker now than it has almost ever been.

Then there are the bilateral mega-projects—and they are indeed gigantic in scale. A deal for Gazprom to supply gas to China over 30 years, using yet-to-be-tapped resources via a new pipeline called Sila Sibiri (Power of Siberia), or the “eastern route,” has an estimated value of $400 billion. Russian Railways signed a $380 million contract in June with China Railway Group to design a high-speed connection between Moscow and Kazan, and the state-controlled Chinese company will probably win the rights to construct the link as well, a project set to be completed ahead of the 2018 World Cup and estimated to cost $19.5 billon. China has a 20 percent stake in Russia’s proposed $27 billion Yamal LNG project in the Far North. Ahead of Putin’s visit to China this week, Gazprom announced that it had signed a deal to open a $1.5 billion line of credit from a set of Chinese banks and that it will sign a memorandum of understanding regarding gas deliveries to China via a Far Eastern pipeline.

Putin may be putting too many of his eggs in China’s basket. Russia’s “pivot” east is just now revving up—but at precisely the wrong time, given the economic slowdown in China and the resulting falloff in its need for Russia’s commodities.

But the biggest of the mega projects, the Sila Sibiri pipeline, presents a glaring problem for Russia: the pipeline will cost an estimated $55 billion for Gazprom to construct, but because of the recent collapse in energy prices, the investment will pay off only if the price of gas rises to about twice the current level. Many of these huge investment projects also will not come to fruition for years. Gas deliveries via Sila Sibiri, for instance, will not start until 2019 at the earliest, and possibly not until 2021. “The concerns of influential Russians [over China’s slowdown] are triggered by the fact that many of them believe that Russia, besieged by Western sanctions, has already become dependent on the Chinese economy,” wrote analyst Alexander Gabuyev. “But at the moment, this influence is significant only on paper.”

There are also minor signs that the two countries’ economic crises are hurting their ties. After growing last year, Chinese direct investment to Russia over the first six months of 2015 dropped 25 percent—possibly a sign of Chinese investors cooling on Russia’s volatile economy—even as China’s overall FDI rose by almost 30 percent. And trade between the countries over the same period dropped by 28.7 percent, to $30.6 billion, although China remains Russia’s largest trading partner, increasing its share of Russian trade from 10.8% to 11.4%.

So, what might the future hold for ties between the mighty but sluggish Chinese dragon and the wounded Russian bear? Officials make grandiose statements about growth goals for the two sides all the time, such as Russian Trade Minister Denis Manturov’s recent pledge that bilateral trade would increase to $200 billion by 2020. Senior officials from the two countries also agreed in May that they would coordinate development of the Eurasian Economic Union with China’s New Silk Road Economic Belt, but this cooperation is still in the planning stages. The dramatic declarations, combined with the questionable economic logic of some of the major trade deals and their delayed timetables, point to a key fact about the Sino-Russian partnership: politics often trump economic considerations.

In Putin’s eyes, a partnership with Beijing could become a meaningful geopolitical counterweight to the West, the creation of which has long been one of Putin’s publicly stated goals. Just as Xi acted as Russia’s guest of honor at the 70th-anniversary Victory Day parade in May, Putin will be China’s special dignitary at this week’s WWII victory celebration in Beijing—a clear sign that the leaders have embraced each other politically, at least for the moment. “It is extremely important that our two countries are united in their striving to further preserve historical truth and defend our common victory [in World War II],” Putin said in an interview this week ahead of his visit to Beijing. The two countries’ naval exercises in the Pacific Ocean in August, their largest-ever joint military training, underline this fact.

But unlike the Kremlin, which has shown itself willing to seriously impair relations with Europe and the U.S., China’s Politburo wants to maintain and even ramp up ties with the West, especially economically. Russia has in fact deliberately limited its options and turned toward China—as Putin said in this week’s interview, the chill in Western ties “encourages our domestic business to develop stable business ties with China.”

To be sure, Russia’s turn toward China has brought much-needed diversification to its economy, especially given Europe’s growing desire to reduce its dependence on Russian energy supplies. But Putin may be putting too many of his eggs in China’s basket. Russia’s “pivot” east is just now revving up—but at precisely the wrong time, given the economic slowdown in China and the resulting falloff in its need for Russia’s commodities. Russia also may not be paying enough attention to other potential markets in Asia, although events like this week’s Eastern Economic Forum in Vladivostok, the first edition of the investment conference, is designed to help forge new bonds between Russian and Asian investors.

China’s economic slowdown has already had a short-term negative effect on Russia: its decreased need for commodities has lowered global prices, on which the Russian economy is highly dependent. Just this week, the price of oil dropped about 8 percent in a single day in response to weak economic data from China. The slowdown may also mean that Chinese companies will become more conservative in their investments, and Russia is not a destination for the risk-averse. But as long as Beijing and Moscow consider it politically expedient to act as a balancing force in the world, bilateral mega-projects will keep being rolled out and trade and investment will likely increase. Given that Russia desperately needs to restructure its economy away from dependence on sales of raw materials anyway, the drop in global prices may end up being beneficial to it in the long run.

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