http://www.nytimes.com/2010/03/13/business/global/13ruble.html


By ANDREW E. KRAMER

MOSCOW — Ask a Russian what the country makes well, and the answer, more often than not, will be the Kalashnikov rifle.

Russian-made cars may be rickety, and its passenger airplanes such fuel-guzzlers that even the country’s flag carrier, Aeroflot, has switched to a mostly Western fleet. But Russians could always point with pride to the fearsome reputation of their weapons — the Kalashnikov and the MIG and Sukhoi fighter jets.

Indeed, until recently, Russia’s military exports were second in volume only to the United States.

But in today’s Russia, the $40 billion military equipment industry is withering alongside civilian manufacturing.

Once-legendary Russian weapons are suffering embarrassing quality-control problems. Algeria, for example, recently returned a shipment of MIG jets because of defects.

An aircraft carrier refurbishment for India is four years late and hundreds of millions of dollars over budget.

In perhaps the most poignant sign of trouble, Russia’s own military is now voting with its rubles: Moscow is in talks with France to buy four French amphibious assault ships. If a deal is struck, it would be Russia’s most significant acquisition of foreign weapons since World War II.

The purchase of Mistral-class ships would be “the most salient example of the deficiencies in the Russian defense industry,” said Dmitri Trenin, a military analyst at the Carnegie Moscow Center, a policy research organization.

Outside Russia, the potential deal has led to geopolitical hand-wringing. Critics say France is selling out its Eastern European NATO allies.

Yet opposition to the deal has been nearly as fierce inside Russia — by supporters of the weapons industry.

Even as military manufacturing shrank to 4.28 percent of gross domestic product last year, down from 20 percent under communism, Russia’s armed forces relied on domestic producers for nearly every screw and bullet in the arsenal. Self-sufficiency in military manufacturing was a “sacred cow” of national security, Mr. Trenin said.

“Have we forgotten how to make military hardware?” a Communist Party deputy, Svetlana Savitskaya, said Wednesday at a hearing in the Russian Parliament about the potential purchase. “And if we do not have certain secrets that other countries know, what is our military-technological intelligence service for?”

Many experts say the decline began with the end of the Soviet Union. When Russia became capitalist, they say, so did its military industry. Like much of Russian industry, it was privatized haphazardly. For example, factories and the engineering departments that designed what these factories made were sold separately.

Over time, this had a deleterious effect on quality. Big companies that inherited export contracts with China, India and the Middle East made profits on older designs and legacy parts but did little to upgrade.

The end of generous Soviet military budgets, too, caused assembly lines to creak to a halt at tank and airplane factories.

More recently, the sector suffered from an insidious economic problem known as the “Dutch Disease” — when an increase in revenue from natural resources (oil and natural gas, in Russia’s case) pushes up a country’s currency, making exports more expensive on world markets.

This has whittled away at the competitiveness of Russian weapons merchants abroad. The ruble appreciated through most of the decade, before tumbling in the financial crisis. But it is gaining again. The ruble has risen almost 16 percent against the dollar in the last 12 months alone.

Other problems have beset Russian military contractors. Many engineers have emigrated, leaving a work force that is near retirement.

Even with these troubles, some companies have succeeded and gone public, listing their shares on the Russian Trading System stock exchange. United Aircraft, the umbrella company for the makers of the MIG and Sukhoi fighter jets, has a market capitalization of more than $2 billion, according to Marina Alekseyenkova, an industrial analyst at Renaissance Capital, a Moscow investment bank.

The question is, will Moscow buy from these relatively successful companies? So far, domestic military spending has been spread across the entire gamut of Russian military suppliers to maintain the illusion of Russian self-sufficiency. This has meant spending money on hopeless losers, like Russian walkie-talkie makers.

Abroad, Russia’s share of arms sales plummeted with the onset of the financial crisis in 2008, according to a Congressional Research Service report on the international arms trade released in September.

Russia sold $3.5 billion worth of weaponry globally that year, down from $10.8 billion in 2007. That was well behind the United States, whose companies sold $37.8 billion worth of weapons — 68 percent of the total global arms business that year.

In the developing world, where Russia surpassed even the United States in military exports in 2004 and 2006, its market share collapsed. Over all, developing-world sales were flat in 2008, but Russia’s share tumbled, from 25.2 percent of all deals in 2007 to 7.8 percent in 2008, the latest year for which figures were available.

Russia’s traditional customers in Asia and the Middle East held off on new purchases with the onset of the global recession.

Russian experts have said the Congressional figures underestimate Russian sales.

Rosoboronexport, the state weapons exporting monopoly, said $15 billion in new contracts were signed in 2009.

Meanwhile, the result of Russia’s foreign military purchases could actually be positive, leading to a streamlined industry, said Aleksandr Golts, a deputy editor at the Yezhednevny Zhurnal newspaper and a commentator on the military. The policy within the industry seems to be one of trying to modernize by assimilating foreign technology — much as Russia tried with the integration of foreign assembly plants into its auto industry.

On the civilian side of its production, Sukhoi is in partnership with the Italian aerospace giant Finmeccanica to built the Russian Regional Jet; Boeing is advising on design and marketing.

During a visit to India last week by Prime Minister Vladimir V. Putin, Russian aerospace executives said they were in talks with India to develop an export version of Russia’s first stealth fighter, the Sukhoi T-50. On Friday the Indian military signed a $1.5 billion deal to buy 29 carrier-based versions of the MIG-29, the same jet rejected by Algeria.

Still, struggling to hold onto its export customers, Russia cannot afford to continue investing in the current panoply of domestically produced weaponry, Mr. Trenin of Carnegie said. As the Mistral carrier talks show, Russia has no choice but to become both a buyer and a seller.

“Russia, like Germany or any other country, will be competing and collaborating in the global arms bazaar,” he said.