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Investment in Russia: Super Power Opportunities

The Russian power sector is priming itself for outside financial and infrastructure investment. By Branko Terzic and James Balaschak
Fortnightly Magazine - February 1 2003

The Russian power sector is priming itself for outside financial and infrastructure investment. By Branko Terzic and James Balaschak

Prospects for the successful development of the Russian power sector in the next 20 years will depend on the inflow of private investment into the industry. The crucial task, as clearly understood by both the Russian government and the management of the major power companies, is how to significantly raise the attractiveness of the industry to private investors.

The current state of the power sector of Russia can be characterized by:

  • A high concentration in monopoly, with one organizational structure uniting recognized monopoly functions (transmission and distribution) and potentially competitive activities (generation and sales);
  • An absence of free markets (both wholesale and retail) for power and generating capacities;
  • State regulation of power tariffs, with a tendency for tariff growth rates to lag behind the general inflation index;
  • Low profitability of electric power and heat production due to low regulated tariffs and low efficiency. Regulator-set tariffs do not compensate for investment risk;
  • Incompleteness of legal frameworks within the developing market environment; and
  • A low expectation of required private investment (both direct and portfolio).

Restructuring: A Vehicle To Increase Russia's Potential for Investment

Early in 2003, the parliament of Russia, the Duma, is considering a package of five bills that could result in the largest restructuring of an electric industry since the break-up of the U.S. electric holding companies in the 1930s. The proposed legislation follows earlier large-scale reform and restructuring that began in the summer of 2001 in the Russian power sector. Of the five Russian bills, the electricity bill is the most important. The proposed bill sets up the legal framework for regulation of the wholesale and retail electric sectors, establishes clear government authority to regulate, and specifies the rights of parties engaged in the generation, transmission, and purchase of electricity. The purpose of these dramatic changes in the Russian electric sector is to increase the efficiency and attractiveness of the Russian electric power sector to domestic and international investors.

The vision of the Russian electric industry in the proposed legislation closely follows reforms introduced in Western Europe, parts of Latin America, and in parts of the United States. The successful reform of the Russian electric sector would result in the creation of a competitive, economically viable, privately financed electric power generation sector; establishment of a single national grid operator; and the creation of financially competitive regional electric distribution companies. The Russian plan envisions competitive wholesale markets in power generation, regulated tariffs for transmission and distribution, and eventual consumer access to competitive power generation at retail.

Part of this restructuring plan, submitted to the Russian government in November 2001 by the dominant Russian electric holding company, Joint Stock Company Unified Electric System of Russia (RAO UES), calls for the establishment of 10 generation companies (owning 48 key power plants), a national grid, and a trading system operator.

The Russian GDP is projected to grow between 3.2 percent and 5.5 percent per year until 2020, with increasing domestic power consumption rates of 1.7 percent