A friendlier Russian face

The 11 people arrested and accused of spying for Russia have titillated the tabloids and reminded Cold War veterans of the good old days. But they won’t do much damage to U.S.-Russian relations. In fact, the two governments are getting along much better at the moment. There are three major reasons for this, and all of them have to do with the view from the Kremlin.

First, Russia’s recently ailing economy is now feeling much better. The financial crisis inflicted more damage on Russia than on most other emerging markets, in part because of a steep drop in oil prices. When Obama first proposed a "reset" in U.S.-Russian relations, Moscow was hemorrhaging reserves, and Kremlin officials hadn’t arrived at any clear idea on what to do about it. Prime Minister Vladimir Putin was traveling the country assuring local workers that complacent oligarchs, not state officials, were to blame for the volatility, and that their government would ensure that all would again be well. President Dmitry Medvedev and his more western-oriented advisors were beginning to look like convenient scapegoats should the public become restive and Putin run out of businessmen to punish.

Things have changed. The economy has picked up thanks to some skillful economic management and a rise in oil prices out of the danger zone.

Second, Russia is feeling much better about its neighborhood. The Orange Revolution is now a distant memory. In 2004, a presidential election in Ukraine lifted the Putin-endorsed Viktor Yanukovych over Viktor Yushchenko. But Ukrainian nationalists and several Western governments charged fraud, and the race was re-run. Yushchenko won the do-over, fueling suspicion and hostility in Moscow. But his leadership earned little public confidence during his five-year tenure, and Ukraine’s latest election elevated Yanukovych, who has now taken his country’s bid to join NATO off the table for the foreseeable future.

Russia’s brief war with Georgia in August 2008 has had a lasting impact. Russia demonstrated that it could push President Saakashvili to the wall with a minimum of serious pushback from America and Europe. Upheaval in Kyrgyzstan leaves Moscow with more leverage in Central Asia, as Medvedev and Obama agree to coordinate a response with an understanding that Russia will be the key player. Russia has even managed to improve relations with Poland following the plane crash on Russian territory that killed Polish President Lech Kaczynski, an outpouring of Russian sympathy outside the Polish embassy in Moscow, and Putin’s visit to the crash site to pay his respects.

Finally, there is the realization among some within the leadership that Russia remains too reliant for revenue on oil and natural gas. The new international prominence of climate change, the ongoing fallout from the oil spill in the Gulf of Mexico, and the fear in the developed world that energy demand in emerging economies will drive prices to new heights in coming years has sustained momentum behind efforts to move, forgive the expression, beyond petroleum. The Saudis and Iraqis have considerable reserves within reach, but much of Russia’s remaining untapped reserves are located in some of the world’s least hospitable climates, and the technical demands in extracting them are extraordinary.

Russia is also the world’s leading exporter of natural gas, and Russian officials have floated the idea of an OPEC-like cartel to manage production levels and prices. There are several reasons why that won’t happen. Technical breakthroughs in unconventional gas technology will likely allow the United States to diversify its sources of supply. Over the longer-term, countries like Qatar and Iran will look to Europe and Asia as their primary markets and work together more closely on large infrastructure projects. Russia’s market power will be increasingly limited.

In short, it’s becoming increasingly clear that Russia will have to diversify its economy away from over-reliance on energy exports. U.S. investment, particularly in advanced technology, will come in very handy.

Beyond a warming in the rhetoric between Washington and Moscow, can we expect tangible benefits from improving relations? On the political side, we’re already seeing some. Now that the issue of U.S. missile defense in Eastern Europe has dropped from the headlines, Russia is one of a very few countries now taking a more supportive position on the U.S.-led effort in Afghanistan. Bilateral arms control discussions are picking up steam. Moscow has taken a tougher line of late on Iran’s nuclear ambitions.

Big economic projects will prove more challenging. Medvedev has proposed the elimination of capital gains taxes on long-term direct investment, cuts in corporate tax rates, and tax breaks for companies that invest in innovation. He has also pledged to dramatically lower the number of Russian companies that are legally off-limits for foreign investment. He wants to create a Russian Silicon Valley and to transform Moscow into an international financial center. Russian officials say the government hopes to double levels of foreign direct investment within four years and to boost investment in energy efficiency, information technology, nuclear energy, biomedicine, and communications.

But his government has not proven it can deal in a serious way with endemic corruption at all levels of society or assuage investor fears that Russia’s courts will not protect their rights. Until it does, foreign investment will fall far short of its potential.

That said, a more self-confident Russia will continue to try to improve relations with the United States. With so much else on his plate, President Obama will welcome the opportunity to cultivate warmer ties with Moscow.

The Russians don’t need spies to tell them that.

Ian Bremmer is president of Eurasia Group and author of The End of the Free Market: Who Wins the War Between States and Corporations?