Russia And The Digital Cycle

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The Skolkovo Foundation was set up in 2010 by then-President Dimitry Medvedev. Plans were made to finance and develop an innovation center near Moscow that would help diversify the Russian economy away from natural resources and especially away from gas and oil. Called the Russian Silicon Valley, Skolkovo is attempting to foster technical innovation and a start up culture based on entrepreneurial savvy. So far, however, the project has become enmeshed in corruption and embezzlement.

 Online Growth

As recently as 2006 only 10 percent of Russians used the internet, so the idea of a technology center to foster high tech innovation may seem a bit optimistic. Nevertheless, early in 2013 a survey by Levada polls established that over 50 percent of Russians are now weekly users of the internet with many use it more frequently. By Russian accounts, internet use in Russia is exploding. The Russian internet, RUNet is freely accessible and people are able, for the most part, to publish whatever they like.

Russian e-commerce faces a different set of issues. It’s not that there aren’t enough people online to make it all work, it’s that the infrastructure that supports e-commerce success isn’t workable in many places outside of Moscow. Mail delivery and parcel post are generally too expensive and too undependable for fast convenient fulfillment of online orders. Bank fees are exorbitant and the majority of Russian customers don’t trust electronic payments, which inhibits high tech shopping.

In Russia, there’s a difficult relationship with online American companies. Google only captures a 27 percent share of search, while Yandex the Russian search engine takes a 61 percent share. Ebay, Craigslist and Amazon are all in competition with Russian imitators that act as rivals. Is there a chance for a Russian high tech innovation center? There is. Is it likely to work? Probably not without a better legal system. Silicon Valley, after all, wasn’t imposed on the American technical community, it developed from a unique combination of U.S. government support, existing west coast technology and imported east coast financial and technology expertise. But can Russian companies doing the same things U.S. online companies have succeeded with, develop online Russian commerce? They certainly can. That’s different than developing unique new technology.

When fiber optic cables took off in the 1990s in the U.S. and Europe, they also connected to parts of Russia. Russia has its own fiber optics manufacturing plants and now designs and initiates new cable projects like the recent Arctic Cable. In 1991, a fully Russian government financed cable manufacturing company named Opten, opened its plant in St. Petersburg. Because Russia is so large, the government (Soviet in the past) was always a fast adopter of communication technology. As the Russian government emerged in the 1990s this same impulse to adopt new communication technology continued, but when the Russian economy crashed in 1998 everything slowed down. It has taken over a decade for the internet to take hold again, as internet growth had just begun at the time of the crash.

E-Commerce Takes Hold

In 2013 there are 61.4 million internet users in Russia and in 2014 there are expected to be 80 million internet users. Currently, in late 2013, there are more than a quarter million e-commerce orders per day and the market is growing. In 2014 the Russian e-commerce market is expected to be worth 23 billion euros, which equals over 31 billion U.S. dollars. With fairly strong Russian e-commerce sites dominating big American sites, the Russians are developing their own e-commerce presence, although the Chinese e-commerce site, Alibaba, is there too. With a history of fraudulent e-commerce vendors and distrust of online payments, there are still substantial concerns about investing in Russian e-commerce, even though the market seems opportune for growth.

E-commerce demand comes primarily from Moscow and St. Petersburg, but it is growing in other large cities with populations over a million, like Novosibirsk and Yekaterinburg. Some of the best selling products are luxury goods, children’s clothing and rare expensive lifestyle items. Favorite foreign brands bought online in Russia are Yves Saint Laurent, Jimmy Choo and Prada. Russia’s online growth rate is the highest in Europe and their e-commerce is growing faster than any other European country including Germany. Established American and European e-commerce companies are attracted, but also baffled about a variety of on-the-ground issues like fulfillment and payment systems. E-marketer projected Russian e-commerce sales at $17.5 billion for 2013, up 21 percent from 2012 and $700 million of that purchasing, which is 4 percent, was done from companies outside Russia.

How serious are payment problems in Russia? In the early 2000s identity theft from credit cards was rife in Russia. To make the Russian economy work better, President Putin’s authoritarian government cracked down on some of the worst offending groups. Still, in 2013 over 35 percent of Russians who responded to a poll about online security told the pollsters they personally had their online accounts hacked at some point. By way of comparison, in Europe that number is only about 7 percent.

A Moscow-based online security company, Group-IB, that works with police to stop identity theft and online banking fraud, says cyber-crime in Russia decreased 11 percent in 2012 to $1.07 billion. While that sounds encouraging, a billion dollars of stolen online money per year is a massive amount and should be sobering to eager online business ventures looking to expand into Russia. In July U.S. Federal prosecutors indicted five Russian men for allegedly stealing information about more than 160 million credit cards in the United States. So, even though these crimes are not inflicted in Russia, they give an idea just how sophisticated Russian hackers have become. Eastern European cyber-criminals, although no longer Russian, use complex attack software and operate in small closely knit teams.

 the digital cycle - Russian intenet

Sources Of Cyber-Crime

Is Russian and East European cyber-crime likely to diminish enough to make e-commerce in Russia a genuinely attractive option? Let’s take a quick look at which social trends underlie digital crime. Unemployment and especially highly educated unemployed young people are the most likely pool of potential cyber-criminals. They have technical know-how and are frustrated enough to act. But last December Russia’s Deputy Minister for Social Policies, Olga Golodets announced Russia’s unemployment level was 5.2 percent. That’s lower than the U.S. or European unemployment rates. But a closer look reveals unemployment anomalies and Ms. Golodets admitted as much. She said, “It is difficult for young people to find employment after university.”

Russian unemployment levels vary significantly by regions of the country. The farther you get away from the wealthy Northwest region of the country where St. Petersburg and Moscow are located and most of the e-commerce happens, the higher the unemployment rates. The Far East Federal District (FD), the Southern FD and the Siberian FD all have higher unemployment rates by 2 to 3 percent on average. But when you look at very specific geographies you see a dramatic rise in unemployment. For example, during the first three months of 2013 Ingushetia had 46.9 percent unemployment, Chechnya, 27.1 percent, Tuva, 15 percent, Kalmykia, 14.5 percent and Dagestan, 12.5 percent unemployment. All these districts are located in Southern Russia, just north of Georgia, except Tuva which is just north of Mongolia.

With unemployment numbers like these, there isn’t any real hope that cyber-crime is going to slacken dramatically in Russia. E-commerce can grow significantly in Russia, but the marketplace isn’t wide open to foreigners. Since most Russian online purchases are still made with cash, through a Paypal-like Russian site called Qiwi using ATM-like machines, the Russian e-commerce marketplace favors domestic e-commerce, which is fine with the Russian government and, for the most part, with the Russian people. At this point, the slogan for U.S. and European e-commerce merchants hoping to expand into Russia has got to be: “let the seller be ware.” Russians, just like the Chinese, are really looking for ways to capture their own e-commerce marketplace and establish their own major digital sales niches with their own servers. Foreign online companies, and especially American companies are respected for their technical prowess, but also seen as “vultures.” A Russian business woman used that exact term as she described the situation to me. So for now the digital cycle in Russia is swinging upward on the shoulders of Russian servers and Russian controlled niches.

As foreign companies see opportunities the question to ask is, Am I missing an opportunity to be a first in the marketplace service? That’s one of the keys to being extremely successful online. A first to market company can establish itself deeply and broadly enough to be the primary company servicing a niche. That’s a great opportunity and maybe worth dealing with all the headaches of being an outsider in a hostile culture. Apparently Russian women are looking for exotic luxury clothing and lifestyle items, which means domestic Russian companies are at a disadvantage in some niches.