Industrial modernization under sanctions, an impossible task

The most important event of the first week of April, both in terms of potential repercussions and for understanding the current situation, was the State Council Presidium meeting in Tula on “the development of Russian industry in conditions of sanctions pressure.” It was a remote meeting, though President Putin, as well as State Council Secretary Igor Levitin, Tula Governor Alexei Dyumin – who also chairs the State Council Commission on Industry and was the main speaker at the meeting – and Presidential Envoy to the Central Federal District Igor Shchegolev, was physically in Tula, at the Tulazheldormash plant.

The location chosen for the strategy session allowed Putin to be seen “outside the bunker” while also being relatively close to Moscow, which is important considering that the Russian president now prefers to travel by train.

Putin was last in Tula at the end of December, he visited a defense-sector company there. This time it was an old-fashioned, Soviet-looking factory, where even before the revolution there were locomotive workshops. Now Tulazheldormash produces heavy track machinery for Russian Railways.

State Council meetings have been done the same way since 2018. Usually, about 50 people are convened to discuss a certain issue, including three dozen governors, deputy PMs and ministers, as well as heads of state-owned companies and banks. Previously, they also invited experts on the given issue, though this time there were none. The first day features a discussion in small groups, while on the second day, proposals that have been agreed upon are reported to the president. Dyumin, who had to quarantine before the meeting with Putin – as is always the case – could not participate in the discussion the first day in person, which perhaps explains why the format of reconciling the interests of the main players and developing a common position did not work out this time.

Dyumin, a general and former bodyguard of Putin, has very little experience in industry – it is limited to having been the governor of Tula, one of Russia’s industrial regions, since 2016. Thus, his appointment to head up the State Council Commission on Industry in 2018 looked strange then and even more so now, when industry is facing huge challenges due to sanctions. In the video of the meeting, even though Dyumin is giving his report without looking up from the paper, he is still uncertain and periodically gets confused, giving a distinct impression that he does not entirely understand what he is reading. Except for the very last point: bringing back drawing classes at schools, and here his words sound heartfelt. All the proposals in Dyumin’s report were addressed exclusively to Putin and formulated in the form of “I ask you to instruct the government to consider...” Meanwhile, Dyumin looked quite comfortable in dialogue with the president when Putin made remarks during the report.

Two moments from Dyumin’s report clearly show that no technological “sovereignization” is possible in the medium term. The first is R&D costs. “You have set a clear task,” said Dyumin, “to ensure the place of Russia among the 10 leading countries in the world in terms of research and development. To do this, according to experts, R&D spending should amount to at least 1.5% of GDP in 2024 and about 3.0% in 2030. However, now the spending is about 1.0% – that is not enough, Vladimir Vladimirovich.” Secondly, Dyumin talked about modern machine tools, without which no technological sovereignty is possible. At one point, he starts saying something but stops, as if remembering that it is not supposed to be said in public. He just moves on, never finishing what he was saying – though we can assume that it was about the deterioration of the current machine tools.

Currently in Russia there is not, and in the coming years there cannot be, a modern machine tool industry, which makes talk of developing industry pointless. Over the past 10 years, the government has adopted three programs to develop machine tool manufacturing (the last one in 2020) and two roadmaps for import substitution in the machine tool industry twice (the last one in 2021). None of these attempts led to anything, partly because specific steps were not laid out for the realization of the goals set and partly because the wrong criteria for evaluation were chosen.

An example is the bet on the production of machine tools at the subsidiaries of foreign companies that undertook to organize production in Russia. In 2015, the German-Japanese company DMG Mori, a world leader among developers and manufacturers of computer-numerical-control machine tools, launched the DMG Mori Rus machine tool plant in Ulyanovsk under a special investment contract (SPIC).
The SPIC provided the foreign investor would set up production, undertaking to gradually increase the degree of localization of products. Meanwhile, right after the conclusion of the contract, the foreign company had the right to declare all its products (which in fact had not yet been produced in Russia) as made in Russia.

This gave DMG Mori Rus the opportunity to officially sell Chinese-made machines as Russian-made. In Ulyanovsk, semi-knocked-down manufacturing was done, with the main components supplied from Chinese DMG factories. Even a couple of years ago, the company was planning to wind down production in Russia as the end date of the SPIC approached. Meanwhile, the machine tools produced in Ulyanovsk were never fully localized. Though that had been provided for in the contract, it was bad for DMG’s bottom line – in other words, DMG seems to have decided not to fulfill its obligations. After the announcement of sanctions last year, the company had an official reason to exit Russia.

At the end of the State Council meeting, Finance Minister Anton Siluanov spoke, and here the surrealism of what was happening was striking. It turned out that none of the proposals voiced by Dyumin had been worked out with the Ministry of Finance: some were rejected outright, while Siluanov promised to consider others.

One gets the impression that the attendees of the State Council Presidium meeting did not really plan on seriously discussing the development of industry amid sanctions, since in reality no such thing is possible in the current conditions. Does Putin realize this or, despite the evidence, does he believe that Russian industry will develop? Perhaps he does. More than once, including in Tula, he has said that the current sanctions will lead to a breakthrough in industrial development, just as the 2014 sanctions did for the agricultural sector. Still, the latter claim is not entirely true: the agricultural sector is still dependent on imports of seeds and machinery. But most importantly, the cycle of industrial modernization is radically different from agricultural modernization – for one, it is much longer.

It seems that the whole format of the April 4 meeting was intended to demonstrate the activeness and competence of Putin rather than to advance the country’s industrial development. The State Council did not look like a platform for developing strategies and a common position for various branches and levels of government, but a kind of decoration in a theatre performance.

However, final conclusions should only be drawn after the release of the post-meeting presidential directives, which usually takes a couple of weeks following a State Council Presidium meeting. It is hard to imagine that an empty discussion will lead to sensible directives. Maybe about bringing back drawing classes at schools.