DAILY REPORT ON RUSSIA

AND THE FORMER SOVIET REPUBLICS

INTERCON INTERNATIONAL USA, INC., 725 15th STREET, N.W., SUITE 903,

WASHINGTON, D.C. 20005 -- 202-347-2624 -- FAX 202-347-4631

Daily intelligence briefing on the former Soviet Union

Published every business day since 1993

Wednesday, February 10, 1999

early warning defense system against missile attacks. Soviet-era satellites have become inoperable and Moscow cannot replenish the array of satellites it needs to monitor both US missile silos and submarines. Even in the post Cold War-era, the US and Russia threaten to counter attacked with a massive retaliation before enemy warheads arrive in their airspace. The Washington Post reports that the threat of retaliation requires accurate early warning. Gaps in coverage by Russia's early warning systems, increase the risks of a miscalculation, because Russian commanders will have less time to react to a signal and determine whether it is a real launch or not. YELTSIN and US President Bill CLINTON in September approved plans to share early-warning data, but these measures have not been implemented. This kind of cooperation would entail sharing ultrasensitive defense information. With a legacy of distrust and the current tensions in the relationship, this so far has been unattainable. Meanwhile, Russian State Duma Security Committee Chairman and Communist Party member Viktor ILYUKHIN said that the Duma will start debating ratification of START-II Treaty in March. Alexander PIKAEV of the Moscow Carnegie Center says that the chances for ratification have never been so small.

Lugar Committed To Nuclear Reduction Program

· US Senator Richard LUGAR (Republican, Indiana) in a speech to The College of William and Mary on Friday expressed his commitment to de-nuclearization. He said that strategic nuclear

Russian Federation

Politics

Restructuring Armed Forces Before Collapse

· Russian Defense Minister Igor SERGEYEV, after meeting with President Boris YELTSIN in the Kremlin today, said that 1999 will be, "the year of the final restructuring of the Armed Forces." YELTSIN ordered SERGEYEV to develop a plan by May to complete the transformation. SERGEYEV said that the Russian armed forces will not be receiving new weapons and hardware until 2005 due to budgetary restrictions. Until then, the military will have to repair and modernize the existing weapons and equipment, he said. He expressed the hope for further increases in the defense budget and linked his optimism with Prime Minister Yevgeny PRIMAKOV who, "understands the importance of force in conditions of uncertainty better than any of his predecessors." The weekly Nezavisimoye Voyennoye Obozreniye (Independent Military Review) reported a dismal picture of Russia's military. The report said that military planners believe, "it is only possible to finance the armed forces with a strength of 550,000 to 600,000 military personnel," about half of its current size. YELTSIN has vowed to turn Russia's Cold War sized conscript army into a far smaller, better trained professional force by 2000. It is widely believed that Russia can not afford to keep its forces employed nor does it have funds to help transfer these troops into civilian life. In 1998, Russia cut its forces by 400,000 to 1.2 million as it fought to trim down its Soviet-era regime to meet post Cold War realities. The article states that the, "1.2 million troops is proving to be unsustainable." Defense spending in 1998 fell short of the military's requirements and wages went unpaid for months.

In addition to reducing a military force, Russia's Defense Ministry must also cope with a deteriorating

Today's News Highlights

Russia

Russia To Close More Banks

DCR Rates Russia's Credit

Deitz Launches VR Group

European Republics

New Trading Band For Gryvnia

South Caucasus & Central Asia

Rus-Georgia Discuss Transport

Aliyev Dynasty In The Making?

Armenian Deputy Min. Killed

Turmoil In Oil and Gas Industry

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Wednesday

February 10, 1999

Intercon's Daily

arms reduction, de-nuclearization, and issues involving weapons of mass destruction will continue to dominate the US-Russian agenda. LUGAR noted that Russia must, "exhibit a willingness to make good on outstanding commitments like START-II ratification, and clarify questions revolving around continued chemical and biological weapons activities, as well as ballistic missile-related technology transfers to rogue and other states." LUGAR added, "We should continue to assist Russia in preventing the proliferation as well as the unauthorized use of weapons of mass destruction, their means of delivery, and destabilizing conventional weaponry, all of which Russia possesses in abundance." LUGAR specifically noted that the NUNN-LUGAR Cooperative Threat Reduction Program is working with Russians to account for nuclear weapons and material by moving scattered handwritten notes to a computer database.

First Deputy Nuclear Minister Lev RYABEV said that the Russian nuclear industry is going through restructuring. He said that the work of the Arsenal enterprise in Arzamas 16 and the Penza 19 enterprise will be stopped this year and by 2000 the two will stop the assembly of nuclear armaments. Several hundreds of millions of rubles are allocated in the 1999 budget for converting and restructuring the nuclear industry. The first meeting of the Russian-American commission on the Russian closed towns, once nuclear centers, will take place in Moscow on February 21st to 22nd. The US plans to allocate $15 million from a special budget and another $15 millions from other conversion and restructuring programs for the needs of ten closed towns of Russia, the first deputy minister said.

Economy

Ruble = 22.9/$1.00 (NY rate)

Ruble = 23.05/$1.00 (CB rate)

Ruble = 25.69/1 euro (CB rate)

Four In Every Five Russian Banks May Close

· Russian Central Bank chairman Viktor GERASHCHENKO warned the country that four in every five banks may close and that Russia may only have 200 to 300 banks by year end. He said, "Everything depends on what the situation will be, how the restructuring will go, who will take part in it and whether we will be able to attract foreign capital

to the Russian banking sector." Russia had 1,500 commercial banks by early September 1998. The licenses of 200 banks are now revoked and licenses of 200 banks more can be annulled, "without any problems or fault-finding." He added, "The whole problem is a civilized financial receivership or liquidation of banks, primarily in the interests of creditors." GERASHCHENKO pointed out that Russian law does not allow the Central Bank to take an active part in that process.

Meanwhile, the Central Bank will allocate the second installment of a credit to the SBS-Agro Bank. The tranche will total 2.5 billion rubles. The overall sum of the credit given on security of SBS-Agro shares to be paid in three installments is 7.5 billion rubles. The first tranche was provided in November 1998.

DCR Rates Russia's Credit

· Duff & Phelps Credit Rating Co (DCR) has reviewed Russia's economic situation and determined that Russia's crisis lies in its chronic federal budget financed largely by short-term ruble-denominated debt. According to a DCR press release, Russian authorities must address a number of current impediments to market development if they are to create an attractive investment climate for both foreign and domestic investors. The agency rates Russia's foreign currency Eurobonds with a Single B minus and assigned a long-term currency issuer rating of Triple C. The higher Single B minus rating on the Eurobonds reflects the added incentives for Russia to avoid rescheduling these bonds, including the potential for re-establishing access to the international capital markets, DCR vice president Roger SCHER explained. DCR believes that Russia's ability to segment the debt markets is limited. As a result, Russia's rating remains on Rating Watch—Down.

NY Bank To Finance And Export Russian Gold

· The Republic National Bank of New York is proposing an ambitious plan to finance and export up to 60 percent of Russia's gold production in 1999. According to the bank's plan, the Russian affiliate of Republic National Bank would secure the rights to export to Republic National Bank of New York up to half a billion dollars' worth of Russian gold. The bank's plan says, "It is imperative to test in practice Republic National Bank-Russia's gold export license to verify that no attempt will be made by any interested parties to interfere," with the license, The

When you need to know it as it happens

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Journal of Commerce reported. In order to calm worries that a government official may interfere at the last minute, the Republic National Bank has asked the European Bank for Reconstruction and Development (EBRD) to cover the deal with its guarantee. This proposal is regarded as a new development for raising capital before the start of the alluvial gold mining season. Russian gold producers, refineries, the Finance Ministry, the Russian state Treasury, and the EBRD hope to raise up to $150 million exporting gold in this manner. Experts have predicted that Russia can produce between 60 to 70 metric tons of alluvial gold this year and between 30 to 40 tons of gold from hard rock mines.

Business

Deitz Launches VR Group

· Richard Deitz, a founding partner and former head of fixed income trading at Moscow investment bank Renaissance Capital Group, today announced the launch of a new Russian investment vehicle VR Group. The new company is raising initial capital of $75 to $100 million from investors to pursue opportunities targeted by DEITZ in distressed debt, real estate, and technology sectors. The VR Group will have a four-person debt trading unit led by Alexander KLIMANOV and an external dent trading team led by Harry MILANDI. DEITZ expects that cash-strapped banks and developers will ultimately put property up for sale at fire-sale prices. VR Group plans to launch a distressed real estate fund, since the next 12 to 18 months should be an attractive time to enter the real estate market. A technology company to be set up by VR Group will concentrate on Internet service and software business. DEITZ believes that Internet connectivity is low and companies will be forced to introduce measures to improve efficiencies to combat declining cash flows. "We re not betting on a fairy-tale recovery in Russia but on undervalued assets that generate current cash flows and on businesses we expect to grow regardless of the recession."

gryvnia to the dollar for 1999. The currency is being traded at approximately 3.6 to 3.8 gryvnia to the dollar. The official rate is 3.4 gryvnia to the dollar, but the black market has it at 4 gryvnia per dollar. Following the Russian devaluation of the ruble, Ukraine set the previous trading corridor at 2.25 to 3.5 gryvnia to the dollar. Ukrainian exporters are required to sell 50 percent of their hard currency earnings to the National Bank at the official exchange rate. Deputy Economics Minister Sergei TYHYPKO said that the government will maintain the currency corridor in order to ensure stability for investors and domestic producers.

South Caucasus & Central Asia

Georgia-Russia Discuss Transport Problems

· Georgian President Eduard SHEVARDNADZE and Russian Transport Minister Sergei FRANK met on Tuesday to discuss, "prospects for developing the Eurasian transport corridor with the use of Georgia's and Russia's transport lines." FRANK emphasized the commonality of Russian and Georgian positions. He said that Russia is interested in establishing transport links with Turkey, the Mediterranean countries, the South Caucasus, and Iran across the Georgian territory. SHEVARDNADZE stressed that many transport problems could be ironed out if the question of re-opening traffic on the railway and highways in Abkhazia would be settled.

Aliyev Dynasty In the Making?

· Raising doubts as to the real health of the Azeri President, the ruling party New Azerbaijan has endorsed President Geidar ALIYEV's son, Ilham, as the heir to power in the Caspian state. Ilham ALIYEV is a vice president of state oil company SOCAR and has been a key figure in negotiating contracts worth billions of dollars to explore and develop Azerbaijan's Caspian crude oil reserves. Despite his lack of charisma and public profile of his father, the party and media have touted his ruling qualities and frequently shown him alongside his father. The New Azerbaijan daily paper said, "Ilham ALIYEV possesses the genetic code of Geidar ALIYEV. That genetic code is not one of an ordinary person, but of the national patriarch and the leader of the state." Head of the party's organizational department and youth association Siyavush NOVRUZOV said, "He was born in a political family and educated in Mos

European Republics

Ukraine Devalues Gryvnia Currency

· Ukrainian National Bank has adjusted the gryvnia trading band, effectively devaluing the currency. The new trading band is from 3.4 gryvnia to 4.6

When you need to know it as it happens

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cow. He has good ties with America. All of young people adore him. He added that, "of course there will be elections. But if the people want him, who can say no. We think the people will choose Ilham ALIYEV." These statements already appear to be the beginning of a campaign for president, while Geidar ALIYEV is still alive. Intercon sources report that the President's health is failing and that he may undergo further treatment abroad in the near future for a heart condition, which is treatable but more complicated than acknowledged.

Armenian Deputy Minister Assassinated

· Armenian Deputy Interior and National Security Minister Major-General Artsrun MARKARYAN was assassinated near Yerevan on Tuesday. A representative of the Interior Ministry press service confirmed this information, declining to give any details. According to unofficial data, MARKARYAN's body was found on the highway leading from the district center Abovyan to Yerevan. The deputy interior and security minister survived an assassination attempt on January 22, 1998. At that time, unidentified persons shot at him from a submachine-gun inflicting grave wounds on him. The Major-General underwent complex operations and after a course of treatment continued to work. The preliminary investigation is being carried out by the Investigation department of the Prosecutor-General's office. Investigators found on the scene of the crime cartridge-cases and cartridge, as well as the general's personal pistol Smith-Wesson loaded with seven cartridges.

Tuesday's murder has become yet another one in the series of unsolved high-profile assassinations committed in the last few years. The victims include the chief of the Armenian Railway, the chairman of the Chamber of Commerce and Industry, the chairman of the Armenian Culture Fund and the former Mayor of Yerevan. The country's prosecutor-general Genrikh KHACHATRYAN, was shot dead in his office last August. On December 10, 1998, Armenia's

Deputy Defense Minister Vagram KHORKHORUNI was killed in front of his apartment.

Turmoil in Oil and Gas Industry

· With low world oil prices, low volumes of reserves discovered, and competition between various countries on bids for proposed pipeline routes, there is turmoil in the oil industry which is causing friction and oil suspensions. On Monday, Kazakhstan said it has stopped shipping Chevron Corp. oil from its Tengiz field across the Caspian Sea through Azerbaijan and Georgia by rail and pipeline. Kazakhstan said this was in response to Azerbaijan's refusal to cut its transit charges. Tankers operated by Turkey's Caspian TransCo are sitting idle at the port of Aktau. In addition, Russia has suspended deliveries of Caspian oil from Azerbaijan International Operating Co. (AIOC) at the Black Sea port of Novorossiisk for the second time this month. AIOC said that production had halted because storage is full. AIOC president David WOODWARD had asked Russian state pipeline operator to cut its transit fees for oil deliveries to Novorossiisk, The Journal of Commerce reported. It is widely believed that Russia's suspension is in response to this request. Russian gas monopoly Gazprom's chairman Rem VYAKHIREV said that it will no increase Russian transit gas deliveries across Ukraine nor will it participate in expansion projects for the Russian network on the Ukrainian territory. VYAKHIREV said that the Ukrainian side goes on with the non-payment for gas deliveries, and the diversification of gas transportation routes should become a way out from this situation. Comment: Oil and gas once thought to be the resource for former Soviet republics to use to build independence, form economic cooperations, and attract international investments, may be a destructive element fostering instability and ill-will.

The Daily Report on Russia

and Former Soviet Union

will not be published February 15th

in observance of President's Day

Paul M. Joyal, President, Editor in Chief Clifton F. von Kann, Publisher Jennifer M. Rhodes, Principal Editor

Daily Report on Russia is published Monday-Friday (excluding holidays), by Intercon International, USA. Subscription price for Washington, D.C. Metro area: $950.00 per year. A discount is

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Daily Report on Russia is for the exclusive use of the subscriber only. Reproduction and/or distribution is not permitted without the expressed written consent of Intercon. Daily Report on Russia Ó copyright 1999, Intercon International, USA.

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