DAILY REPORT ON RUSSIA

AND THE FORMER SOVIET REPUBLICS

INTERCON INTERNATIONAL USA, INC., 725 15th STREET, N.W., SUITE 908,

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Daily intelligence briefing on the former Soviet Union

Published every business day since 1993

Thursday, May 22, 1997

YELTSIN chided the minister for failing to act to reduce the size of the armed forces and cut military expenditures. "Today, you should have reported what has been done to reorganize the army. However, you have nothing to report, you have not done anything," he said. He suggested that spending on the army should account for 3-3.5 percent of the country's gross domestic product by the year 2000, whereas defense expenditures currently account for five percent of GDP.

Also at the meeting, YELTSIN announced that Strategic Rocket forces commander Igor SERGEYEV would serve as acting Defense Minister and that Far Eastern Military District commander Viktor CHECHEVATOV would become the new head of the General Staff.

Meanwhile, efforts to root out corruption in the military seem to be escalating with formerly untouchable officials being investigated, charged, and arrested this week.

Russian prosecutors on Wednesday arrested former Deputy Defense Minister Konstantin Kobets on corruption charges, one day after a presidential decree discharged him from the military. He was arrested after his release from a hospital, where he was treated for a heart condition. KOBETS is being held at Lefortovo prison. He is charged with accepting a $240,000 bribe from a construction company for a military contract and abusing his position.

Russian Federation

Politics

Defense Min., General Staff Chief Dismissed

· Russian President Boris Yeltsin today fired Defense Minister Igor RODIONOV and Armed Forces General Staff chief Viktor SAMSONOV for failing to carry out military reforms. The president announced the dismissals during a meeting of the Russian Defense Council, after harshly criticizing the Defense Ministry leadership.

"I am not just dissatisfied, I am outraged by the course of reform in the army and the state of the military as a whole," YELTSIN was quoted by the presidential press service as saying. "I rate the standards of your [RODIONOV] work in this respect as being very low."

Russian military forces are in a state of near chaos because of a persisent lack of funding. Officers and soldiers go months with no pay, leaving them demoralized and hungry. Many soldiers have been forced to find outside work or beg to feed themselves and their families. Suicide rates in the military have skyrocketed. According to YELTSIN, conditions have gotten so bad that the military is even suffering from "a shortage of plates and spoons."

The president blamed high-ranking officials for the lack of reform in the army. "It so happens in our country that the soldier gets thinner while the general grows fat."

Following his appointment as Defense Minister in July 1996, RODIONOV forwarded reform proposals, but then focused on asking for more money to implement the reforms. RODIONOV was the candidate favored by former Security Council secretary Aleksandr LEBED and parliamentary defense committee chairman Lev ROKHLIN.

Today's News Highlights

Russia

Harvard Loses USAID Funds

400 Commercial Banks to Close

Italian Foreign Min. in Russia

Kodak to Invest in Factory

Russia's Global Competitiveness

European Republics

Ukraine-Poland Reconciliation

South Caucasus & Central Asia

Georgia-Turkey Mil. Accord

New Armenian Finance Minister

Politics-Economics-Business

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Thursday

May 22, 1997

Intercon's Daily

Also on Wednesday, army Maj.-Gen. Nikolai Kotylev was charged with abusing his authority by selling state property at below-market rates.

In addition, Itar-Tass reported that in St. Petersburg two senior officials responsible for the military's oil supply in northwest Russia have been detained on allegations of accepting bribes and using state property for personal gain.

Military prosecutors say that as many as 20 generals and 100 colonels are under investigation for graft.

US Pulls Funding for Harvard Russia Advisors

· The US government has suspended a $14 million contract with Harvard University, accusing two of its employees of exploiting their positions as advisors to the Russian government for personal gain, reported Wednesday's Wall Street Journal. Those accused are Jonathan Hay, the Harvard Institute for International Development's general director in Moscow, and Andrei SHLEIFER, a Harvard economics professor and director of the Institute's Russia project.

Since 1992, the US Agency for International Development (USAID) has disbursed $53 million to the Institute to help reform the legal system and develop capital markets in Russia. USAID wrote to Harvard on Tuesday that a preliminary investigation found that HAY and SHLEIFER "abused the trust of the United States government by using personal relationships, on occasion, for private gain."

The agency alleged that HAY used government-funded resources to help SCHLEIFER's wife, Nancy ZIMMERMAN, who owns a US-based hedge fund, with her Russian investment activities. It accused HAY, with SCHLEIFER's knowledge, of directing support staff paid by USAID to buy and sell Russian bonds on behalf of Ms. ZIMMERMAN, track banking activities, and consult on tax liabilities and investment opportunities. USAID also said that HAY had invested in the Russian government debt market.

The two men have denied any wrongdoing and they are supported by Russian Federal Securities Commission head Dmitri VASILIYEV. "There is no other American or Western consultant who has contributed more to Russian economic reforms than Jonathan HAY," VASILIYEV told the WSJ.

Moreover, VASILIYEV criticized USAID's handling of the investigation into the two men, charging it was launched as the result of the efforts of his political opponents. He characterized the investigation as part of a continuing struggle for control over the Russian stock market between his commission and the central bank. He said USAID had declined his offer to be interviewed about the investigation, complaining that: "I could never actually present our position." Further, VASILIYEV said he had knowledge that he himself is the target of an investigation.

The chairman suggested that the US government investigation had produced "an atmosphere of rumors and unease in the marketplace" that could "hurt foreign investment in Russia."

Italy's Foreign Minister in Russia

· Foreign Minister Lamberto Dini arrived in Moscow Wednesday to attend the second session of the Russian-Italian council for economic, industrial and financial cooperation. Dini, who visited Russia only two months ago, is also scheduled to meet with Prime Minister Viktor Chernomyrdin and Foreign Minister Yevgeny Primakov.

In related news, Nuova Telespaszio, a subsidiary of Italy's state-owned telecommunications monopoly Stet, plans to form a joint venture with Russia's Inforcosmos to sell mobile phones in Russia, reported Xinhua on Wednesday. The company, called Marems, will be headquartered in Moscow, with the Russian side holding 51 percent of the shares.

Marems will provide satellite mobile phone services later this year for voice and data transmission and emergencies and will offer users access to a land-based international network from anywhere in Russia. Target customers will be the international and domestic long-haul transport sector, regional users in areas not covered by the Global System for Mobile (GSM) communications service, as well as public and government institutions.

Economy

Ruble = 5,753/$1.00 (NY rate)

Ruble = 5,771/$1.00 (CB rate)

Ruble = 5,750|5,792/$1.00 (buy|sell rates)

400 Commercial Banks to Close in 1997

· Association of Russian Banks president Sergei

When you need to know it as it happens

Politics-Economics-Business

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Thursday

May 22, 1997

Intercon's Daily

Yegorov told an economic conference in Yekaterinburg today that some 400 Russian private banks are doomed to close by the end of 1997, reported Itar-Tass. He said the Russian Central Bank had a list of 200 banks whose licenses would be withdrawn soon and 200 more that would lose it by the end of the year. Yegorov said that about 2,000 banks are currently operating in Russia.

Info. on Northern Diamond Mine Declassified

· The Russian government's council of experts recommended the declassification of data on the diamond reserves of the Lomonosov mine in northern Russia's Arkhangelsk Oblast, reported Itar-Tass. The council decided on Tuesday that the Lomonosov field was ready for industrial mining and it was the time to declassify the data on its reserves and "choose a strategic investor."

South Africa's De Beers has reportedly already offered a bid for a stake in the mine. A Russian special commission may choose an investor as early as this month, said Itar-Tass.

Currently, the Arkhangelsk company Severalmaz holds the license for mining diamonds at the site. According to unofficial estimates, exploration of the Lomonosov field will cost about $700 million.

WEF Rates Russia's Global Competitiveness

· The Geneva-based World Economic Forum (WEF) today released its Global Competitiveness Report which placed Russia and Ukraine at the bottom of the competitiveness ranking of countries and regions at 52th and 53rd place, respectively, reported Futures World News (FWN).

The rankings are based on 155 criteria with eight major factors determining competitiveness: openness of an economy to international trade and finance, role of the government budget and regulation, development of financial markets, quality of infrastructure, quality of technology, quality of business management, labor market flexibility, and quality of judicial and political institutions.

The report emphasized that there are still "critical shortcomings" in the economies of former Communist countries and competitiveness remains extremely low. "Certain liabilities of the business environment are mainly a matter of time," FWN cited the report as

saying. "The transition economies will lag in infrastructure, management quality, and technology for years to come, as a legacy of some 40 years effectively cut off from world markets. But in areas subject to policy changes as well, the transition economies have failed to take the decisive steps needed for a breakthrough to sustained rates of high economic growth."

For the most part, the transition economies continue to maintain high tariff rates and have been unable to reduce the size of their governments, it said. Government spending remains high in most of the countries.

"Probably the most disappointing aspect of transition has been the sense of lawlessness in many of the transition economies, particularly in Russia, Ukraine, and some other former Soviet republics," said the WEF report.

Both Russia and Ukraine were given low scores in the executive survey in every dimension of lawfulness. The report noted that "tax evasion is rampant, bribery is extensive, agreements and contracts with the government are frequently modified, the legal system is ineffective in enforcing contracts, organized crime imposes significant costs on business, and the police are ineffective in protecting personal security," according to FWN.

Business

Kodak Plans Major Investment in Russia

· US Eastman Kodak Corp. is planning to invest $10 million in a new joint venture to manufacture photo products in central Russia, reported United Press International (UPI) on Wednesday, citing the Moscow Tribune. The newspaper said that Kodak will form a joint venture with Slavich, one of the largest manufacturers of photo products in Russia, to develop photographic paper finishing, photo-chemical mixes, and packaging for minilabs in Russia. The joint venture will be based in the town of Pereslavl-Zalessky, 200 miles northeast of Moscow.

Sun to Import Russian Encryption Program

· US Sun Microsystems this week will disclose plans to offer a product from Russia that provides 128-bit and triple DES encryption over the Internet, reported PRNewswire on Monday, citing a report in CMP Media's CommunicationsWeek. The com

When you need to know it as it happens

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Thursday

May 22, 1997

Intercon's Daily

pany risks strong resistance from the federal government on the plan to introduce new, foreign-made encryption software.

Sun's software, according to CommunicationsWeek's John Fontana, could help ignite electronic commerce over the Internet because it will enable transaction data to be encoded at security levels currently unavailable via other means.

The product Sun will manufacture is called Secure Virtual Private Network for Windows. Developed by Moscow-based ElvisPlus Co., the product will be sold through Sun channels under the name PC SunScreen SKIP E+. The software is based on Sun's Simple Key Management for IP (SKIP) encryption and key management technology.

The software manages keys for exchanging encrypted data and can sit on any machine, including desktops, servers, and routers.

Sun's plan to import the Russian technology sidesteps current US restrictions. The company's legal and export-compliant government regulatory departments spent two years laying the groundwork that led to the deal.

"We must round off the dark pages of the past in Ukrainian-Polish relations. We should think of the present and future generations, which will develop and deepen good-neighborly ties between the two states," Kuchma is quoted by Itar-Tass as saying.

Ukraine supports Poland's entry into NATO and Poland has backed efforts to conclude an accord on a special relationship between Ukraine and NATO.

Kwasniewski, who arrived in Kiev accompanied by 60 businessmen on Tuesday for a three-day visit, will also hold talks with Ukrainian Prime Minister Pavlo Lazarenko and parliamentary speaker Aleksandr Moroz on economic issues. Five agreements are expected to be signed on cooperation in health, finance, culture, science, and education.

Some 700 Polish companies are currently operating in Ukraine, and trade between the two countries totaled over $1 billion in 1996.

South Caucasus & Central Asia

Georgia-Turkey Military Cooperation Accord

· Georgia and Turkey signed an agreement on military cooperation Wednesday in Tblisi, establishing closer military ties between the two neighbors, reported Dow Jones. Under the accord, Turkey pledged to help Georgia train 20 commandos and parachutists and allow Georgian officers into Turkish military academies, said Georgian Deputy Defense Minister Guram NIKOLAISHVILI, who signed the agreement for Tblisi. This was the first military agreement signed between the two countries.

Armenian Finance Minister Replaced

· Armenian President Levon TER-PETROSYAN this week issued decrees dismissing Finance Minister Levon BARKHUDARYAN and appointing former Central Bank deputy chairman Armen DARBINYAN to replace him, said Wednesday's RFE/RL Newsline.

Daily Report on Russia & the FSU will not be published on

Monday, May 26, 1997, in observance of Memorial Day.

European Republics

Ukraine-Poland Reconciliation Pact Signed

· Ukraine and Poland on Wednesday signed a reconciliation agreement aimed at putting three centuries of rivalry and bloodshed behind them and moving toward a new era in bilateral relations. In Kiev, Ukrainian President Leonid Kuchma and his Polish counterpart Aleksandr Kwasniewski signed a Declaration on Accord and Unity aimed at ending conflict and mistrust between the neighboring countries, reported Reuters.

"We have a unique opportunity and we have no right to miss it. …The past should not be repeated in the future," said Kwasniewski after the signing ceremony, according to Reuters.

Paul M. Joyal, President, Editor in Chief Clifton F. von Kann, Publisher Ellen Shapiro, Managing Editor

Svetlana Korobov, Contributing Editor

Daily Report on Russia is published Monday-Friday (excluding holidays), by Intercon International, USA. Subscription price for Washington, D.C. Metro area: $895.00 per year. A discount is

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