Hidden Russia: Informal Relations and Trust

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Breaking into the Russian market has always been a challenging task, particularly for Western organisations, and personal networks play a crucial role in achieving this. However, personal networks that exist in Russian business remain a mystery to Westerners.

Russia is different

 

Russian business is built on personal relations in a system whereby personal networks allow for quick and direct access to valuable resources…

 

 

BRICS countries (Brazil, Russia, India, China and South Africa) are all deemed to be at a similar stage of newly advanced economic development. However, Russia has not received as much attention as other BRICS nations such as India and China in either academic research or the popular business press (Puffer and McCarthy, 2011). Russia has a great potential for business development with opportunities that have the potential to markedly influence the international business landscape. However, the Russian market still remains one of the most difficult to enter. This was recently highlighted by Butler and Purchase (2004, p. 34), who suggest that “the renewed Russia is a very large economy and potentially an advantageous marketplace for Westerners — possibly even a ‘promised land’ for those wishing to face the challenges of a fast changing country.”

Russia is the eighth largest economy in the world by nominal value and the sixth largest by purchasing power parity (PPP) and as reported by the World Bank the Gross Domestic Product (GDP) of Russia was worth an estimated 2014.80 billion US dollars in 2012 and growing. The GDP value of Russia represents 3.25 percent of the world economy.

With increasing global competition Russia is in a unique position to use its natural resources as a strategic tool to gain greater international influence. Countries that have the power to influence global political and economic environments are valuable allies. This is having a dramatic impact on the changing nature of organisations looking to enter the Russian market, highlighted by the influx of Western organisations. Camiah and Hollinshead (2003, p. 245) stress this point, commenting that “it is not Russia moving to the West but the West moving to Russia, through an influx of expatriates seeking to gain a foothold in an embryonic market structure.”

Western organisations often fail to enter the Russian market successfully. There are many high profile accounts:

  • In 2012 HP dropped out of the list of top Russian IT service providers as it failed to maintain its position, despite previous success;
  • The supermarket chain Ramstore (Migros, Turkey) simply left the Russian market in 2007 after ten years of development, deciding to rent out or sell their 10 shopping malls and 52 hypermarkets and supermarkets based in few Russian cities.

 Foreign investors in the banking sector have suffered the same fate:

  • After two years of expensive trials HSBC closed all of their retail operations and a number of branches;
  • The global banking group Barclays closed all of their retail banking operations in Russia in 2011, losing approximately £244 million in the process;
  • More recently, due to heavy losses and difficulties in developing business in Russia AIG (Switzerland), KBC (Belgium), International Personal Finance (UK), Santander (Spain), and Rabobank (Holland) all sold or closed their Russian subsidiaries completely.

It is the same story for other industry sectors:

  • Barrick Gold Corp. (Canada) sold their 20% share in Highland Gold Mining Ltd due to the difficulties of dealing in Russia and exited the Russian market.
  • The French organisation Carrefour closed their business in Russia as they could not see a clear perspective for development;
  • Motorola closed their Russian office in 2010 after not gaining a reasonable market share.   

There have been radical market transformations in Russia, which began in the early 1990s, and since then the demand for knowledge of Russian managerial practice, culture, society, and values has become increasingly important. To succeed, foreign companies looking to enter the Russian market must learn how to get ‘inside’ the Russian society, understanding that Russia is different and conduct business accordingly. For almost 75 years, Russia was behind the ‘Iron Curtain’; Russian citizens were not allowed to contact anyone from abroad freely. The state regime was totalitarian, where all rules, norms, standards, and laws were dictated by the Communist Government in order to control people and keep them in ‘hedgehog gloves’ (Russian folk expression). Since 1992, Russia has gone through turbulent periods of political and social changes, affecting the population’s mentality, lifestyles, cultural values, wealth, and endeavours.

Russia is a country with a ‘high-context’ culture and the importance of local Russian customs is often tacit (experience-based) and difficult to explain to people from other cultures. Westerners do not always realise that Russia and Russians operate differently to those from the Western culture in the way that business is conducted. Historically it has always been difficult for Westerners to understand Russian people due to the significant differences in terms of national culture, habits, economy, ideology, political structure, religion, and social system (Elenkov, 1998; Michailova, 2000). 

Russia also remains a country with a high level of perceived corruption and bribery, and this phenomenon strongly influences the way business is conducted. Safavian, Graham, and Gonzalez-Vega (2001) explain that in no other transition economy is the degree of regulatory penetration as pronounced as in Russia, which has the most extensive history of bureaucracy, dating back to the 18th century, combined with the longest period under central planning in the 20th century. These authors highlight that in Russia, the regulatory state, with its elaborate system of permits and licences, combined with bureaucratic discretion in enforcement and monitoring, has created a corrupt cadre of government bureaucrats who frequently engage in rent seeking behaviour while monitoring and enforcing regulations. Regulatory harassment and extortion could be viewed as among the most severe obstacles to the long-term success of small and medium enterprises, where the most innovative firms, with the most “entrepreneurial” approach and highest in profitability, are penalised with an expectation of bribes at the highest rate.

In 2010 the World Bank revealed that the productivity level of the Russian workforce was only 43% compared to other developed countries such as the USA, UK, Japan and Germany.  There are many reasons for this, but all stem from the fact that the Russian workforce is one of the most difficult to manage:

  • It is difficult to implement new technologies and best business practices; Russians generally tend to resist changes. Studying knowledge transfer in Russian business Michailova and Husted (2003) found that Russian people have a syndrome called ‘not invented here’.
  • The taxation system in Russia is unpredictable due to frequent legislative changes. These changes are often backdated by the government and often cause heavy financial losses to organisations. The taxation system is poorly regulated and almost draconian. In order to overcome this challenge, Russian managers constantly participate in practices considered illegal or unethical in the Western world (Snavely, Miassoedov and McNeilly, 1998).
  • Licensing is one of the toughest issues in Russian business, whether it be land plot allocation, import or export of goods, health services, road haulage, construction, or any kind of production; for instance, it takes a year to have all the relevant permissions required for building a warehouse or food store. The cost of licensing with added corruption costs make projects expensive and in some cases, almost illusive.

The legalisation of private property ownership happened in the early 1990s during the privatisation period in Russia and is widely seen as being inequitable and splitting social classes even further. McCarthy and Puffer (2008, p. 24) found that “during the privatisation period, many people became cynical when ownership of enterprises became concentrated in the hands of opportunists, including enterprise managers who flagrantly abused other stakeholders’ rights.”

The list of differences between Russian and Western businesses could be endless. Here is one story told during a discussion of the differences between Russian and Western business styles by one of the respondents during the research for this book. It illustrates some of the differences in solving business related issues, and the reaction of Western businessmen, when they meet the Russian reality:

 “My company had been dealing with a well-established Spanish fish-processing company, where we were mutually involved in supplying frozen fish from the Barents Sea to Europe and China. One day, the MD of the Spanish company, Mr P., decided to visit Russia himself. The actual reason for the visit was to clarify discrepancies in supply caused by fishing vessels.  After secure arrival to Murmansk and a welcome evening we set up the plan for the next days. All meetings with important stakeholders were arranged. 

The next morning we went for the first meeting. Everything was going well until Mr P. asked for a written guarantee from the Fisheries Authority that in the near future, additional quota will be allocated to our suppliers. The supplier had been trying to convince Mr P. that he could have everything but not this kind of guarantee. Mr P. argued back claiming that in Spain he would receive it as a standard procedure. Eventually, our supplier made a call and within less than an hour, we were talking with one of the Fisheries’ Authority’s top men. He assured us that our supplier will be within quota and the project was secure and claimed that there will be no chance to have something in writing except his word.

The Spanish MD went out of the meeting completely puzzled. He was under the impression that we are dealing with the Russian mafia, whilst I had been claiming that this is the standard approach in Russia if you are well established and connected. After spending a couple of days in Murmansk, Mr P. learned that he could have access to any information and even secure supply but in most cases things are done through personal relations and not much through official channels, even though things were said to be done only ‘officially’. The Russian approach was shocking and difficult for him to cope with. Instead of making friends and learning how to deal with Russians in the ‘Russian way’, the Spanish MD had been trying to bring his home rules and habits into Russia and faced resistance instead of cooperation. Eventually, the project was closed due to the difference in approach.”

The Spanish businessman was relying on the familiar institution based system typical for his country rather than on personal relations that solve many issues in Russia. Another problem was that Mr P. had been looking at the way Russians live and conduct business from a “personally based” viewpoint, and not accepting that things in Russia are done differently to the West.

Institutional systems in Russia are still in the early stages of development and are mainly shaped by the state and government forces, not the market, where local businessmen rely heavily on their interpersonal relations in order to survive and succeed.  

 

Personal networks in Russian business 

 

Every society is built around patterns and relationships among individuals, groups, and organisations, which invariably provide a sense of security and unity. In Russia, this is particularly prevalent as strong personal networks are culturally driven. Answering the question about the role of informal relations, Hutchings and Michailova (2006) claim that it is crucial that Western managers recognise the long-term nature of Russia’s networking and development of trust (which is based around tacit knowledge). 

A recent study on Russian network capitalism (Puffer and McCarthy, 2007) found that Russia would continue to develop its ‘state-managed, network capitalism’, where the strengthening of the market economy of Russia becomes more attractive for foreign and domestic investments. Western investors and businesses need to recognise that it will not be Western market capitalism that prevails but state-regulated network-dependant capitalism.

There is widespread belief among Russians that in their country, in order to succeed in business, personal networking and social connections are often more important than the price and quality of the product or service or even the technological expertise offered (Michailova and Worm, 2003). Russian business is built upon personal relations, which allow quick and direct access to resources, from accessing information regarding the reliability of supplier to the timely allocation of licences. It is a well-known fact that Russia is very difficult to deal with from a bureaucracy viewpoint, and that personal network ties keep ‘doors’ open.

In Russia, if a businessperson needs to get access to certain resources, the first question they tend to ask their contacts is — “Who is in control of ‘such and such’ resources and how do I find the person in charge?” Russians view such an approach as the most appropriate in business. Networking structure strongly affects entrepreneurial performance; managed well, network structure can enable entrepreneurs to recognise opportunities, access diverse information and resources in a timely manner. Indeed the benefits of a well-managed networking structure include a reduction in transaction and monitoring cost, enhanced learning, increased interpersonal trust, and subsequently, increased local cooperation.

Our research has highlighted a tendency for Western expatriates coming to Russia to create their own temporary social networks instead of immersing themselves into the Russian society and trying to enter Russian networks. Such an approach makes life difficult in Russia and results in even more insulated and difficult living conditions. Even after a few years spent in Russia, knowledge of the Russian inner life, access to information and resources remains generally unexplored for Westerners. Being separated in such way from the Russian society, Westerners look even more superstitious, strange and snobbish in the eyes of local people. 

From the resources availability point of view, Butler and Purchase (2004, p. 538) explain that “networks established under the previous system are still considered reliable and stable by most Russians, but are now intertwined with new network structures. Therefore, resources embedded within personal and social networks in Russia have, to some extent replaced the nearly non-existent state-level infrastructure.”

Many Westerners often do not realise the existence of personal networks in Russia, or at least do not take them seriously. Personal networks remain a mysterious phenomenon for them. Even having realised that certain resources are controlled by a particular group of people in Russia, many Westerners tend to ignore such facts, believing that everything in Russia should be easy to access, just as in their home countries. In order to gain access to resources, foreigners usually apply directly to the person in charge and then fail. They usually ignore the fact that those resources are valuable to the Russians themselves and that the people in charge have an agenda to get their own personal reward or share in profit by providing a service to their close contacts, using their status advantage.

Personal networks existing in Russian business are different to those traditionally known and must be addressed with great care. Most differences could be formulated as follows:

1)         There are ten personal networks that exist in Russian business — friends, relatives or kinship, mates, ethnic groups, colleagues, ex-militia officers, ex-Army or Navy officers, ex-FSB officials, business groups, classmates and college mates;

2)         The structure of relations is more complex than that originally described by Granovetter (1973), where the strength of ties should be viewed as strong, intermediate and weak;

3)         The element of emotional attachment makes Russian networks different to those of other countries. If emotional attachment exists in relations then willingness to co-operate goes beyond the rational choice;

4)         It is much harder to establish relations in Russia but they last much longer and are more meaningful;

5)         The rules of the game of networking are very different to those known in the West. There are certain social norms which are strictly monitored by networks’ members. Local social norms and codes are tacit and not spread beyond the networks boundaries and therefore, are not visible or transparent to foreigners;

6)         Due to the lack of law and order, personal groups occupy different positions to secure and remain in control of resources that are available to them;

7)         Russian people have their own definition of trust and the role of interpersonal trust is significant;

8)         The maturity of trust depends on a number of factors but trust matures more quickly for those people facing challenging life situations; 

9)         The strength of ties is directly related to a taken-for-granted level of trust which corresponds to the strength of relations;

10)      ‘Shadow’ business groups exist in Russian business and strongly influence the way business is conducted; such groups were not previously recognised or described.

 

 

The role of social capital

 

One of the main values of the personal networks is the tremendous amount of social capital that is provided, which in the words of L. J. Hanifan (1916) refers to “different daily lives tangible substances such as good will, fellowship, sympathy, and social intercourse.” Fukuyama (1999) notes that social capital plays a few crucial roles in the free-market reducing the transaction costs associated with formal mechanisms like contracts, bureaucratic rules and hierarchies. Social capital is important for all levels of economy and political systems where in the words of Fukuyama (1999, p. 1) “social capital is important to the efficient functioning of modern economies, and is the sine qua non of stable liberal democracy.”

In fact there are three basic functions of social capital (Portes, 1998):

a)        As a source of social control;

b)        As a source of family support;

c)         As a source of benefits through extra-familial networks.

Tested through the tough communists’ era, the system of personal networks has proved to be an effective communication mechanism. They have proved themselves to be the most stable, reliable and convenient communication mechanism for the politically turbulent Russian environment.

The role of personal networks in Russia is extensive and includes the provision of emotional and functional support, access to resources, sharing of social and business related knowledge and information, referrals, promotion of social opinions, political support or resistance, keeping and generating local cultural and social values. Personal networks are deeply rooted in all areas of social, business, and human activities in Russia and extend to routine household operations, the management of crisis situations, and generally help members with life situations.

Teaching executives to see social capital, Burt and Ronchi (2007, p. 1180) explain that “the science of social capital has an interdisciplinary heritage and, as such, provides a comprehensive framework for analysing the issues that contemporary executives face, issues that are inevitably interdisciplinary in nature.”

 

The Russians’ view on foreigners  

Michailova and Husted (2003) have pointed that Russians are suspicious of foreigners and in our research we sought to understand the reasons for this apparently negative impression and also to understand the ‘other side’ – the views of business people from the West.

Russian individuals have only been conducting business since the early 1990’s, when the country saw the end of communist rule. In contrast, business in the west has been going on for centuries. The differences in the history of Russian and Western businesses are often viewed by Russians as a barrier. This was described by respondent M. K., the business owner of the sea-freight company, who commented that:

“I will trust foreigners less than Russians. We will tie up everything to the papers with my foreign partner. We need to get everything into one standard. We have been doing different things before but not business during our recent history. We have been in business for less than twenty years in this country. Let’s take Britain — five hundred years of the business history. Let’s talk about Germany — more than five hundred years of business. Let’s take America — two hundred years of running business. And you want me to trust people who ‘had’ the whole world for a thousand years? This is a reflection of my experience — cause and consequences effect.”

A similar view was shared by respondent E. K. who explained that:

“I don’t trust foreigners because of the huge difference in business experience between us [Russians] and Westerners.”

In some cases, Russians see Westerners coming to Russia and behaving in what they perceive as a ‘snobbish’ manner; such attitudes can hamper the chances for good and productive relations and destroy trust completely. For instance, respondent V. E., who is the commercial director of a company involved in international trade, explained that:

“I don’t trust foreigners at all because in most cases they behave brutishly, cunning, showing their superiority, and presenting that everything is so bad in Russia and everything is so good in their home countries.”

The general consensus from the respondents of our research was that if foreigners want to maintain healthy relations with Russians, then they should follow the norms and traditions of Russian society, or at least refrain from conducting themselves as they would back in their own country. Foreign organisations entering the Russian market must be prepared to adopt Russian cultures, as by not knowing about the private lives of their foreign counterparts, Russian people naturally remain suspicious.

In other words, foreigners wishing to enter the Russian market should – adapt!

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