Russia Wants to Get Innovative

Stephen DeAngelis

June 14, 2010

During the Cold War, the Soviet Union was known more for its engineers and its scientists than its economists. Soviet engineers and scientists demonstrated their brilliance in a number of areas during the Cold War. Nevertheless the Soviet economy encouraged pragmatism more than inventiveness. That doesn’t mean they weren’t appreciated. Soviet scientists and engineers sat atop of the country’s society; even if many of them were locked away in secret cities surrounded by fences that were meant to keep them in and everybody else out. After the Soviet Union collapsed, the engineers and scientists didn’t just disappear like 401K balances during the recession. They either emigrated elsewhere or tried to find work in the new Russian economic system. These are very bright people. One is left wondering why they flourish following the Cold War. Some analysts claim that ideas did keep coming, but because there simply wasn’t enough money available to bring innovative products to market we haven’t benefited from them. Twenty years after the Cold War ended, the Russian Federation is finally trying to encourage the kind of innovation for which the West has been known for a long time [“Innovation, by Order of the Kremlin,” by Andrew E. Kramer, New York Times, 9 April 2010]. Kramer writes:

“The Russian government, hoping to diversify its economy away from oil, is building the first new scientific city since the collapse of the Soviet Union. Even more improbably, it is modeled, officials say, on Silicon Valley. The site, still nameless and near a village outside Moscow, is conceived not as a secretive, numbered city in Siberia but as an attempt to duplicate the vibrancy and entrepreneurial spirit of America’s technology hotbed. Russia’s rich scientific traditions and poor record of converting ideas into marketable products are both undisputed, cited as causes for the Soviet collapse and crippling dependence on mining and petroleum. Not surprisingly, then, its leaders look longingly at Silicon Valley. ‘The whole country needs some sort of breakthrough,’ Viktor F. Vekselberg, the Russian business oligarch appointed co-director of the project, said in an interview. Mr. Vekselberg was chosen in part because of his investments in solar power, an unusual venture for one of the oligarchs who made fortunes in commodities. ‘The founding of the innovation city, in form and substance,’ he says, ‘could be a launching pad for the country as a whole.’ He calls the city ‘a test run of business models’ to rebuild Russian science for the capitalist era. Once developed, the site is intended to incubate scientific ideas using generous tax holidays and government grants until the start-ups can become profitable companies. Its backers in government and the private sector describe it as an effort to blend the Soviet tradition of forming scientific towns with Western models of encouraging technology ventures around universities.”

Kramer notes that not everyone sees the new enterprise as homage to capitalism. “Skeptics see a deeper strain of Russian tradition,” he reports, “trying to catch up with the West by wielding the power of the state.” Even American-based venture capitalists involved in the project recognize that not much (if anything) goes on in Russia without the central government being involved. Kramer continues:

“‘We should not expect the same mechanisms that work in Silicon Valley to work in Russia,’ says Evgeny V. Zaytsev, a co-founder of Helix Ventures, a life sciences venture company based in Palo Alto, Calif., and a member of the advisory board of AmBar, the Russian business association in the real Silicon Valley. ‘The government will be involved, because that is the way it works in Russia.’ Indeed, the new city was conceived by what is called the Commission on Modernization, deep within the Kremlin bureaucracy. The Russian government, though, has a long and conflicted relationship with entrepreneurs and scientists. There is still a thriving tradition of government crackdowns on private business with capricious enforcement of the tax laws, making entrepreneurship difficult.”

Although there are high hopes for the new innovation city, Kramer reports that “for now, Russia’s hoped-for Silicon Valley is a panorama of muddy fields, birch groves, warehouses and storage sheds belonging to a state agricultural institute.” He continues:

“The site was chosen for its proximity to another ambitious project, the Skolkovo business school, housed in a futuristic building financed by millions in donations from the oligarchs, including Mr. Vekselberg. While similar ideas have been bandied about for years, this one was approved — and blessed with $200 million in government money — within a month of a visit in January to the Massachusetts Institute of Technology by senior Kremlin leaders, including Vladislav Surkov, the powerful deputy director of the presidential administration. Mr. Surkov says the new city will isolate new businesses from the bureaucracy that handcuffs the Russian economy today. A government-financed foundation will build and run the city. Directors of existing state-financed tech companies — including Rusnano, a nanotechnology fund headed by Anatoly Chubais, a leading architect of Russia’s controversial post-Soviet privatization — will serve on the board and contribute money. Separately, a scientific council will decide which companies can locate at the site. The infrastructure should be in place within three years, Mr. Vekselberg says.”

To date, Kramer reports, Russian innovation has been pretty much of a bust. “Rusnano and the other state-financed venture businesses have had few successes thus far.” Zaytsev worries that the Russian government will try to control how venture capital is spent. If that happens, he says, “No real venture funds will come.” Russian leaders do have one thing right: the country needs to diversify its economy beyond petroleum. If it doesn’t, it will suffer from economic volatility that will retard its progress. Kramer continues:

“For a time, the Russian elite embraced petroleum as the ticket to restore the country’s domestic economy, its standing in the world and its power in regional politics. Vladimir V. Putin, then the president, took to citing the stock price of Gazprom as a national accomplishment. But Gazprom, a company that inherited title to the world’s largest natural gas reserves, is now valued by investors at well below Apple, a company that sprang from a garage.”

Kramer reports that Putin reacted testily when Michael Dell asked him at the World Economic Forum how he might help Russia develop its IT sector. “Mr. Putin answered icily: ‘We don’t need help. We are not invalids. We don’t have limited mental capacity.'” Putin is famous for public demonstrations of his manhood (including impressive shirtless photos), which demonstrate a deep sense of personal and national pride. There’s nothing wrong with that, of course, unless you let your pride get in the way of progress.

“For nationalistic Russian officials, it only rubs salt in the wounds that Silicon Valley companies so easily recruit bright Russian scientists. AmBar, the Russian business association, estimates that 30,000 to 60,000 Russian-speaking professionals work in the San Francisco Bay Area. A marquee name in the high-tech world, the Google co-founder Sergei Brin, immigrated to the United States from Russia with his parents when he was a child. Had Russia been a different place, perhaps Mr. Brin might have started Google there instead of in Silicon Valley.”

Kramer goes on to note that “Russia is hardly the first country to seize on the idea of copying Silicon Valley.” He lists examples of similar efforts in Malaysia, China, and France. I have previously written about efforts in the United Arab Emirates (see my post entitled Abu Dhabi’s Masdar Plan). Kramer indicates that Russian leaders have toyed with the idea of luring back its expatriate scientists by trying to create “an American suburb” outside of Moscow. “What is it about life in Palo Alto, they seemed to be asking, that we cannot duplicate in oil-rich Russia?” Maybe warmer temperatures for one thing! Kramer continues:

“The new effort, though, goes well beyond good housing. It also embraced the idea of encouraging new companies to commercialize the work done at university laboratories. Russian officials looked at Asian techno-parks with favorable tax treatment and established four of their own — in Tomsk, Dubna, Zelenograd and St. Petersburg. Three were based in former closed scientific cities. The visions for Russia’s Silicon Valley, though, are grander still. A proposed law would liberalize a host of tax, customs and immigration rules in ways that businesses have wanted for years. For example, the planners say they have studied the role of streamlined immigration rules in drawing talent to Silicon Valley. … The new town is intended to advance five scientific priorities laid out by [Russia’s President, Dmitri A.] Medvedev — communications, biomedicine, space, nuclear power and energy conservation — and to encourage cross-fertilization among disciplines. Property will not be owned, but rented, and the government will offer grants for scientists who struggle to find private financing.”

Kramer reports that ideological rhetoric surrounding the promotion of the new city hearkens back to Soviet-era propaganda. “Russia, they say, will again be defined by the depth of its scientific talent, rather than by its mines and wells.” Mere rhetoric, however, won’t overcome the myriad of challenges that face entrepreneurs in Russia.

“‘Russia has a lot of talented software engineers but not a lot of successful businesses,’ [Yevgeny Kaspersky, founder of the Kaspersky Lab, an antivirus company,] said. ‘People still have an iron curtain in their minds.’ … The problem, critics say, is that the government today intends to corral Russian engineers and scientists without knowing what it wants. The model, instead, should be maximum exposure to competition and the vagaries of consumer demand.”

When Kramer wrote his article back in April, planners were still searching for a name for the city. In a follow-up article, it looks like they settled on “Inograd,” short for innovation city [“Russia Takes a Big Step Into Technology,” by Andrew E. Kramer, New York Times, 25 May 2010]. In this latter article, Kramer reports on a visit made to the site by a group of venture capitalists.

“A group of Silicon Valley venture capitalists who bet on companies like Skype and Facebook are taking a look at another long-shot proposition — that Russia can diversify its economy away from oil. The Russian president, Dmitri A. Medvedev, has elevated diversification to a centerpiece of his economic policy and is building a sprawling technology park outside Moscow referred to as Russia’s Silicon Valley. The American venture capitalists’ visit … offered a first look at how heavyweights in technology investing viewed this ambitious project. At a meeting with the investors, Mr. Medvedev spoke of his commitment to commercializing Russia’s scientific heritage, but acknowledged it would not be easy. Russia’s boom-and-bust economy now swings wildly with the price of commodities like oil and metals, which make up 80 percent of the country’s exports. Government advisers have said that a lesson of the most recent crash was the urgency of diversification, despite rebounding commodity prices, as an inoculation against the next downturn. Drew J. Guff, managing director of Siguler & Guff, an $8 billion venture capital fund, said he had committed a $250 million investment to a data center in Russia, encouraged by Kremlin support for information technology as symbolized by the new science park, also sometimes called Inograd, Russian for Innovation City.”

According to Kramer, the trip was organized by Rusnano with the help of AmBar, a trade group for Russian-speaking professionals in the San Francisco Bay Area.

“Rusnano is looking for co-investors in a start-up created to commercialize Russian technological advances that are languishing at scientific institutes or university laboratories because the country has never had venture capital investors to bring them to market. … Rusnano’s director, Anatoly Chubais, one of the architects of Russia’s immediate post-Soviet privatization, who has now joined the effort to diversify, said in a statement that the goal of the visit was to ‘bring together the country’s most promising innovative projects with the world’s smartest money.'”

Guff reportedly told Russian officials that Inograd was a good first step, but that it should be a means to an end (i.e., bringing reform to the entire country) “and not a goal in itself.” The city’s most significant contribution at the moment is that it demonstrates “Russian commitment to high technology development.”

“David Kronfeld, the chairman of JK&B Capital, praised the government’s focus on nanotechnology, intended to leapfrog the semiconductor technology that Russia was far behind in anyway. But he added that Russia’s grim reputation among American investors would keep many away for now. Mr. Medvedev said he was aware of investors’ negative mood toward Russia. The government was trying to improve policy, he said. But if those gathered at the table conveyed Russia’s commitment to tech development, he said, the image might change. ‘Businessmen trust their colleagues,’ he said.”

What venture capitalists believe in and seek out is return on investment. Give them a good ROI and Russia should have no trouble attracting investors. It’s really too early to speculate how this experiment will end. After all, the city has yet to be built. Even after it is constructed and occupied, it will probably take several years to see any real benefits coming from the project. As a result, the next decade or two will witness Russia continuing to rely on the export of petroleum products and minerals and, as a result, suffering from the “boom-and-bust economy [that] now swings wildly with the price of commodities.”