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Japan remains on the fence regarding investment in Russia

The Japanese government has been pushing for tighter economic ties with Russia ahead of landmark territorial talks between the two countries’ leaders in December, but although there is interest in Russian assets from Japanese lenders, mixed signals from JBIC are likely to hamper investment opportunities.

Nov 3, 2016 // 3:41PM

Japan’s state development bank JBIC will lend nearly JPY4bn (US$39mn) to Russia's Sberbank – which is subject to Western sanctions – as part of an agreement to promote cooperation between the two states’ economies and financial institutions, according to Reuters.

Sberbank will then lend the funds to the operator of Vostochny Port in Sakhalin – an island on the far east of Russia, which will purchase equipment from Japanese companies to further develop the port.

However, any future financing or loan schemes will be subject to strict internal regulations by the state-owned Bank for fear of damaging relationships with Japan’s Western partners, local newspaper Nikkei indicated, citing sources within the government.

The JBIC-Sberbank deal signals a break from a trend where Japanese banks have avoided doing business with Russian entities, as tension over the territorial dispute in the southern Kuril Islands – four Pacific islands to the south of Sakhalin currently owned by Russia but claimed by Japan – persists.

But both countries now find themselves in pressured economic positions, with Russia still under Western sanctions and facing an ongoing recession, whilst Japan has to contend with a lack of growth – GDP growth was recorded at 0.2% quarter-on-quarter in June this year – conditions may be just right for a thawing in relations which would be to the benefit of both countries’ economies.

“We used to see way more British and US investors in Russia than their Japanese counterparts, who are traditionally very cautious,” said Oleg Kouzmin, a Russia & CIS economist at Renaissance Capital in Moscow. “But depressed yields around the world make Russian credit one of the most attractive in emerging markets, and we are already seeing strong interest from Japan.”

The presidents, Vladimir Putin and Shinzo Abe, are due to meet in Tokyo in December, and observers expect Abe to use Japanese private investors and lenders as a bargaining chip in the negotiations. In earlier discussions officials exchanged proposals over financing joint projects in multiple sectors, including energy, hi tech, infrastructure and fisheries.

Government incentives have been met with a lukewarm reaction by Japanese banks and businesses, who are still wary of risky Russian assets and unpredictable policies, but JBIC appears to be willing to take on the risk – with some precautions.

According to sources quoted in Nikkei, for cases where JBIC is the sole lender, projects abandoned by European or American companies due to sanctions will not be financed.

The Japanese lender will also check to see if any private-sector peers will fund a potential borrower, and ensure that adequate fund-transfer mechanisms are in place to provide financing, thus supporting additional Japanese investments.

“I suspect that the thinking here is to provide as much control as possible to the Japanese lenders over such projects. They are some of the most cautious investors in the world and every detail matters to them. But the fact they are – even if tentatively - approaching Russian assets means that they see their government as having their back, and do not see many risks – in terms of losses, expropriation and other typical concerns,” Kouzmin stated.

Others see the tightening of economic ties as significant, but also indicative of political power play. Sergey Dergachev, senior portfolio manager of EM debt at Union Investment Privatfonds GmbH, pointed to three major factors in this development.

“Firstly, in my view, Japan’s push towards Russia is mainly linked to the fact that, post the introduction of sanctions, Russia has made huge progress in pivoting to the East, namely in the strengthening of its ties with China, India and MENA region. I suspect Japan fears losing out to China or Korea if it does not jump aboard this ‘Russia train’. Secondly, bear in mind that Japan, despite being the USA’s close ally, went against the hawkish stance on Russia displayed by US and EU governments, and is open for a dialogue with Russia.”

“Finally, with uncertainty about next week´s US elections, a lot of things can change for the APAC region in terms of US foreign policy. Japan will also likely be impacted, so I think improving ties with Russia, even in terms of regional security issues, can be a kind of insurance cover for Abe’s administration,” Dergachev explained.

Notably, JBIC’s warning about lending to Russian borrowers comes in the aftermath of a statement made by the head of Russia's upper chamber of parliament, in which they dismissed any chance of the islands being ceded to Japan.

Whatever the reasons behind JBIC’s indecision, experts estimate that up to US$16bn worth of investment in joint ventures could be at stake for the two countries. It appears that the future of their economic cooperation rests on the success or failure of the upcoming bilateral talks.

Asia Pacific Russia & CIS

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