Going Far Together – The Value of Cultural Guides in Cross-Cultural Communication

“If you want to go fast, go alone. If you want to go far, go together.” 

African Proverb

The anecdote goes, that many years ago, a plane full of gold went down in the middle of Siberia. When the KGB had finally located the wreckage, they were shocked to find that the gold was gone. After careful examination, they discovered tracks in the snow leading through the forest to an indigenous hunter’s cabin. The hunter answered their authoritative knocks, but to their dismay, they found he spoke no Russian. Leaving the man under guard, they located an interpreter and began the interrogation.

“Where is the gold?” they demand. The interpreter conveys their question and the peasant claims ignorance.

The agents pressed further, “We followed your tracks from the crash site to your cabin. We know you have the gold. Where is it?” The interpreter repeats the question in the hunter’s own tongue.

The man again feigns ignorance. The agents realize more persuasive measures are required. One pulls out his weapon and points it at the hunter’s head.

“If you don’t tell us where the gold is, your days are over!”

The hunter breaks. “I buried it under the tree behind my cabin! Please don’t shoot me!” he pleads desparately.

The interpreter, without hesitation says, “Go ahead and shoot, I’m not going to tell you a thing!”

Interpreters are often indispensable when working in a global environment. The skill, trustworthiness, and professionalism of your interpreter can make or break your negotiations. You rely on them to keep you abreast of all that transpires during your meetings with your foreign counterparts. In fact, they may be the only one in the room that gets the whole picture.

However, finding someone that can take your ideas in language A and convey them to your partner in language B is only the beginning. A truly effective interpreter understands the target culture at a much deeper level. As they are well versed in the history, literature, and etiquette of the culture, they are also able to help you navigate the cultural and social intricacies of these cross-cultural interactions. In other words, they must be more than an interpreter. They must be a cultural guide.

Another story illustrates their value:

After months of correspondence, an American company has finally landed a meeting with a key Korean retail distributer. This company has the best distribution chain in the country and ties to other distributers throughout East Asia. They enter the conference room, shake hands, and exchange business cards. The host takes the American leader’s card in both hands, looks at it, carefully and thanks them by name. The American looks at the Korean’s card briefly, memorizes his name and title, and puts it in his pocket. The Korean host’s demeanor cools noticeably, but since he continues discussions, the Americans think nothing of it, but the deal just doesn’t make progress. They don’t understand what happened.

Unfortunately, no one had explained the personal value Asian cultures place on a business card. It is considered an extension of the person and a key component of personal dignity. The card is , a part of what is known as “face.” As such, a business card should be given the same respect that is due the person it belongs to. By not giving the card proper respect, the American offended the host. Teaching local etiquette is a key role of a cultural guide, but this can only happen if their involvement began weeks before the trip.

During my many trips throughout Eastern Europe as part of American official delegations, we would begin our preparations weeks beforehand. As an interpreter, one of my key duties was to prepare a country briefing. This included a short history of the country, a basic familiarization with the language, including key phrases and words. I would follow this with a short lesson on customs and etiquette. One of the lessons I taught included the regimented order of standard toasts in Russia. This had a significant impact on building positive working relations with our hosts. For example, I taught that in military circles, the third toast in Russia is traditionally to the fallen, drunk standing, without clinking glasses. On one multi-site inspection, this third toast fell to my non-Russian speaking team leader. He gave an eloquent tribute to those who had fallen defending both of our homelands, including mention of the Soviet and American soldiers who together defeated fascism. By this simple toast, he earned the enthusiastic esteem of our Russian counterparts. Due to his good relations, he was able to overcome some very thorny issues that arose during the inspection in a very effective and amicable way.

As the above examples show, the insight a cultural guide can provide requires goes beyond linguistic support. Their ability to help avoid missteps and build an affinity with our partners. The cultural literacy the guide provides can pay significant dividends.

As an interpreter, I have supported people from all levels of responsibility from small team leaders to government officials and leaders of national-level NGOs. As I grew in experience, my management responsibilities grew as I managed the interpreters and teams of my own. Regardless of my rank, while serving as the interpreter, my basic duty was to ensure that both sides clearly understood the other. However, early on, I came to understand that my most important role was guiding my team through the intricacies of inter-cultural interaction and ensuring they understood not only the words, but also the unspoken meanings of their partners’ actions and ensure our team’s actions did not convey inappropriate messages.

A cultural guide’s training differs somewhat from a simple interpreter or translator.[1] Whereas many interpreters’ and translators’ skills extend beyond the mechanics of language to include cultural proficiency as well, each individual specialist falls somewhere on the continuum of cultural competency.

Full cultural literacy requires an in-depth understanding of the many factors, which make up the shared understanding and values of a culture. This often requires both formal and informal prolonged exposure to the language and the culture gained from significant time in country and study of its culture, history, art and literature, and philosophies. It is key to understand that language is merely the most basic vehicle by which understanding is shared between people, but it is not the only, and often not the most important one.

To be able to converse at a high or near native level, one needs to understand the unspoken cultural realia that is often interweaved into conversations, especially at a higher intellectual level. A simple phrase can carry meaning understood by natives due to its cultural context. For example, if an American says, “Here’s your sign,” we instantly picture Larry the Cable Guy and understand the implied meaning. No further explanation is necessary. A culturally literate specialist must understand and be able to convey this meaning in both languages.

When looking for an interpreter, it is important that they have the skills, both linguistic and cultural, to give you the support you need. There are some key concepts to keep in mind.

First, you should integrate your cultural guide into your team in the early stages of your preparations. They should be a key part of your planning process. Your guide will understand such vital factors as timelines to expect, the approaches that will be most effective, what would be an appropriate gift, what would be the best hierarchical makeup of your team based on your goals, and many other similar factors that will determine your schedule, scope, and tactics you will employ during your trip. Furthermore, if you visit a certain country regularly, you may want to include a cultural guide as a permanent member of your team.

Second, a cultural study led by your cultural guide should be a key component of your team preparations. This should include a historical synopsis, cultural norms and etiquette, any holidays during your trip, and key words and phrases such as greetings, please, thank you. A study aid or phrase book, including the name and address and phone number of both your host and of your accommodations in the local script to give to a cab driver or law enforcement if the need arises is highly recommended.

Third, your cultural guide should be trusted and confident enough to ask for clarification if something you say or do is unclear or if it may be interpreted negatively. He/she should be comfortable in explaining the possible meaning and consequences of that action or statement and clarify whether that is your intent or not. As with other members of the team, their input should be valued, but a professional interpreter and cultural guide understands that their role is not to lead the team, but to advise and facilitate understanding. Once they are sure the principal understands how the statement will be understood, if they decide to proceed, the interpreter’s role is to convey that meaning – no more, no less.

Fourth, understand that an interpreter/cultural guide interprets meaning, not words. What you say may require expansion or may be conveyed in few words than in your language. It may even not be possible to translate. This is especially true with humor. ALWAYS run jokes by your cultural guide before telling them. Humor often does not translate and puns or plays on words almost never do. Don’t put your interpreter on the spot of the mythical interpreter, whose boss tells a joke that does not translate. The interpreter, in desperation, explains to the audience, “My boss just told a joke that doesn’t translate, but if you don’t laugh, he’ll fire me, so when I say laugh – please laugh.”

Fifth, the cultural guide should not be the team leader. While a team leader well versed in the language and culture is an asset to the team, having another acting as a sounding board and filter is often vital. I have on occasion interpreted for people whose language was on par or better than my own, but wisdom and protocol require an official interpreter.[2] Working through an interpreter has certain benefits in official exchanges. First, if you also speak the language, it gives you a double pass at what your partner is saying and additional time to consider your response. If you do speak the language, I would advise speaking directly with your counterpart, however, during the official portions of the inspection, use your interpreters.

Finally, vet your cultural guide carefully. They will be key in ensuring you and your partner fully understand each other as well as helping you not only avoid the cultural landmines that could scuttle your success. Furthermore, a good cultural guide can also that could give you that added edge.

In our modern, globally connected world, the likelihood we will find ourselves working with people who speak another language and have different cultural norms. Having a well-trained and trustworthy cultural guide to help you navigate the sometimes complicated cultural maze and help you find the common ground where you and your counterparts can take advantage of the strengths each side brings to the table is critical to your success.


[1] Many people use the terms interpreter and translator interchangeably. While many may be able to do both, many professionals focus on one or the other. Translation normally refers to written translation, while interpretation refers to conveying spoken communication in another language.

[2] If you do speak the language, but are working through an interpreter, never publicly criticize or correct your interpreter. You will only discredit him/her and yourself in front of your counterparts.

A Mile in Another's Shoes – The Value of Perspective

Developing a Global Mindset through Foreign Language and Cultural Immersion

"He who does not travel, does not know the value of men." Moorish Proverb 

An American negotiating team arrives in Riyadh.  They are sure their proposal will be a big hit with the Saudi negotiating team.  Their talking points are ready, and they feel they should have the whole thing sewn up by evening.  However, their best-laid plans begin to unravel as the Saudis refuse to act like Americans.  They just don’t seem to want to get down to business.  The meetings start with coffee and small talk without a mention of business, and continue with tours of the city and other social events.  The Americans are growing frustrated.  What did they miss?

The thing is the Saudis are not doing anything wrong.  Just as the Americans are acting like Americans, the Saudis are just being Saudis.  For them, you must show your guests hospitality and get to know your prospective partners before you start talking business – to do otherwise would be rude.  This approach to business, common in many cultures including Arab, Asian, Latin, and Slavic is often unfamiliar to Germanic and Anglo-Saxon cultures, where friendship is friendship, business is business, and the one does not necessarily have to exist for the other to happen.  For these cultures, time is precious and the thinking is, “We came on business so let’s get to it!”

This may be a fictional caricature of a common situation, but it illustrates the intricacies of cross-cultural interactions occurring daily around the world.  As the global economy continues to grow and integrate, more and more people are coming into contact with other cultures and finding that not everyone works, thinks, or acts as they do. 

Just a few decades ago, relatively few people had direct contact with people outside their own country.  Most of their acquaintances were just like them. 

Things have changed dramatically.  The Internet, social media, and modern transportation have changed the way we live and interact with the world outside our own communities.  The effects on everyday life are significant. 

In today’s globally connected virtual economy, anyone with a computer and an internet connection can find and find your business, leading to not only new customers and but also to new partners.

For example, acting on a friend’s suggestion, a farmer set up a website to help grow his feed sales.  His website succeeded beyond his expectations when a customer placed a large order from China.  This farmer found himself in a crash course on international trade.

Checkpoint Charlie and Warning Sign in Cold War Berlin

As the world continues to integrate, the exchange of ideas, capital, and goods across borders has reduced hostility and border controls between countries.  As William Shurtz, the second president of Thunderbird School of Global Management pointed out, "Borders frequented by trade seldom need soldiers."[1]    

Border posts now stand empty across Europe and free trade agreements are proliferating around the globe.  Even when conflict does arise, as it has between Russia and Ukraine, it is often moderated by economic ties and potential loss of markets. 

With all these global opportunities, what can provide a competitive advantage? 

A common characteristic of today’s most successful companies is their ability to leverage diversity and foster the free exchange of ideas.  Those brave enough to seek out and welcome ideas that challenge their own paradigms find benefits, which would be unachievable in a mono-cultural setting. 

For example, Google’s famous free lunches and recreation rooms are more than perks.  They are part of a larger strategy to facilitate contact between people from different backgrounds, specialties, and functions.  Providing settings, where their employees can exchange ideas with people outside their normal social or professional spheres allows Google to mobilize the capabilities and perspectives of different people to resolve problems, create new innovative products, and find ways to increase the customer base.    

As with any great opportunity, diversity also presents its own problems.  Working with those who think and act differently increases chances for conflict and misunderstanding.  To navigate these waters, we must take time to understand the cultures and people we will be working with, we must build an appreciation of the diversity in the world around us, and foster a spirit of adventure to explore it.  We need to build a global mindset.[2] 

Monsour Javidan, the Executive Director of Thunderbird School of Global Management’s Najafi Global Mindset Institute, describing the Global Mindset in 2010, writes:

“Leaders with a strong stock of Global Mindset know about cultures and political and economic systems in other countries and understand how their global industry works. They are passionate about diversity and are willing to push themselves. They are comfortable with being uncomfortable in uncomfortable environments. They are also better able to build trusting relationships with people who are different from them by showing respect and empathy and by being good listeners.”[3]

Empathy and trust comes through good communication.  Therefore, learning another language and its associated culture is key in building a global mindset.  In 2004 Christine Uber Gross conducted a survey of Thunderbird graduates, who must demonstrate proficiency in a foreign language before graduation, on the impact of foreign language study on their professional life.  She found that 82% of graduates rated the impact of language and cultural literacy in their professional life as significant.[4]  While learning a language is only the first step in gaining a global mindset, it strengthens our ability to empathize with others.

Until we learn to express ourselves in another’s language and see the world from their perspective, we have a hard time seeing beyond our own cultural biases.  In other words, we must spend time walking in another’s shoes.  As we learn about the cultural landmarks, of their art, history, religion, and language, we find that ours are not the only way to see the world around us.  This opens our perspectives and makes us more tolerant of others, even those with whom we do not share a common language.  Language study does more than teach communication – it expands our horizons, opening our minds to new ways of seeing the world and relating to others.

In fact, research has shown that people, who learn to express themselves in another language, learn to see issues from a broader perspective.  This impacts how we learn and positively influences intellectual development.  This is especially evident in bilingual children.  Therese Sullivan Caccavale, President of the National Network for Early Language Learning (NNELL)[5] points out that:

“Studies have shown repeatedly that foreign language learning increases critical thinking skills, creativity, and flexibility of mind in young children. Students who are learning a foreign language out-score their non-foreign language-learning peers in the verbal and, surprisingly to some, the math sections of standardized tests.” 

The way we communicate influences our view on the world and reflects our cultural norms.  However, the interaction between language and culture flow both ways – language is also a product of a society’s shared historical and cultural legacy.  For example, Russians seldom use the verb “to possess something,” but rather say that something is near them.  This is a product of a history where the only person who truly owned anything was the sovereign who could take their possessions away at will.  Conversely, this conception of ownership also influences how Russians themselves view ownership and authority.  In gaining an understanding of others’ perspectives, we can better understand them and build productive relationships.

Building this understanding requires focused study, exposure to different ways of thinking, and immersion in language and culture.  Awareness of this is not new.  Programs like the Middlebury Language Schools[6] and the American Graduate School of International Management (today Thunderbird School of Global Management) [7] pioneered education in language immersion and internationally focused business management in the first half of the 20th Century.  However, with the growth of globalism and international trade have created a greater awareness of the need for cross-cultural and global leadership skills, resulting in a growing number of programs similar to those pioneered at Middlebury and Thunderbird.

Language and international business courses abound using a wide variety of methodology.  However, not all are equally effective.  While school courses, books, and computer programs can provide a basis for cultural and language proficiency, the watershed event in one’s education involves some kind of immersion.  Whether this is formal study abroad or working in a factory with native speakers, only when one is regularly exposed and required to function in a language and navigate the culture, will true proficiency develop. 

Furthermore, higher-level proficiency requires more than grammar and vocabulary.  Whereas much of the higher-level communication takes place in using abstract ideas, cultural context, and inferred meaning, this requires complementing the mechanical aspects of language with an understanding of the target culture.  This requires an immersion, building a sound knowledge of its art, history, religions, climate, political system, values, and many other factors.

Living in another country for an extended time, where you must function not only linguistically, but in daily interpersonal and cultural interactions infuses those aspects of culture, which are impossible to learn in a classroom.  Long-term interaction with the people, their language, and culture reinforces an understanding of the locals’ worldview and norms of interpersonal behavior.  Only then do the deeper, abstract meanings of their conversation begin to make sense.

We live in a world where global trade is no longer the undisputed domain large multinational firms with their substantial war chests of capital allowing them to leverage global markets.  Today, the Internet and cheap and efficient global delivery services allow even small businesses to export their goods around the world, requiring these much smaller companies to work with partners, clients, and legal systems around the world whose native cultures, laws and regulations, and languages are different from their own.

In the modern globalized world of business and mass communication, the ability to understand not only what people say, but also how they feel, their values and desires is vital in maximizing the synergistic potential of our multicultural world. When we can accept others’ way of thinking and living not as wrong, but simply as different from our own, we begin to understand that we can learn and benefit from looking at the world from their perspective. We are then on our way to a richer more fulfilling life as we are better equipped to succeed in business, resolve thorny political issues, to appreciate the wonderful diversity of our world, and build lasting relationships based not on coercion and threats, but on mutual respect. 

While we will not always agree and our interests will not always mesh, when we understand how others see the world and accept their right to do so, we can then find ways to make it a place we all can live in.  Studying not just foreign languages, but various cultural perspectives allows us to enter another’s soul – to walk in their shoes.  This helps us gain a deeper understanding of not only other cultures but our own as well.  The first step to true emotional intelligence is self-awareness.  This is impossible without the reflecting pool of our multicultural world.  When we see our culture and views juxtaposed against others, we can better understand ourselves.  This new understanding will lay the foundation for a truly global mindset and unlock the potential the diversity of our world has to offer.

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[1]  Thunderbird School of Global Management. About Us. 2 April 2012. 7 April 2012 www.thunderbird.edu/about_thunderbird/thunderbird_good/about/index.htm.

[2] For more information on what a global mindset is and how it influences our ability to interact with the diversity in today’s world, see Thunderbird’s Najafi Global Mindset Institute at http://globalmindset.thunderbird.edu/

[3]  Javidan, Mansour. "Bringing the Global Mindset to Leadership." Harvard Business Review (May 19, 2010): https://hbr.org/2010/05/bringing-the-global-mindset-to.html#.

[4]  Grosse, Christine Uber. "The Competitive Advantage of Foreign Languages and Cultural Knowledge." The Modern Language Journal (Vol. 88, No. 3 (Autumn, 2004)): 351-373.

[5] Duke University. "American Council on the Teaching of Foreign Languages (ACTFL)." Fall 2007. Cognitive Benfits of Learning Language, Vol 8, Issue 1. http://www.actfl.org/advocacy/discover-languages/for-parents/cognitive#sthash.gk6l0BzU.dpufIf. 1 November 2015.

[6]  Middlebury Language Schools. The Language Schools' Mission Statement. http://www.middlebury.edu/ls/academics/language-schools-mission-statement. 1 November 2015.

[7] Thunderbird School of Global Management.  Thunderbird History.  http://www.thunderbird.edu/thunderbird-history.  1 November 2015.

Shadows of War: Life and the Reality of War in Ukraine

Photo by Forbes.com

(Revised 5 February 2015)

The question in itself was not all that extraordinary, as a father of a large family; friends have frequently approached for advice on parenting.  We had spoken several times on questions of family values and child rearing.

“When do you think we should start having kids?” my young Ukrainian friend asked me. 

I gave the usual answers.  However, his follow-up question left me speechless.

“What about war?” he continued.

I was dumbfounded.  My wife and I had never had to even contemplate that question.  However, for my friend, this was a crucial consideration.  His country was at war.  Crimea had been taken away by “little green men,” the eastern regions of Ukraine were embroiled in armed conflict, and everyone knew someone fighting in the ATO (Anti-Terrorism Operation).  Not only did my friend have to worry about the possibility that war could spread to Kyiv itself, but that he too may need to defend and possibly die for his country.

I told him that honestly, I had no adequate answer.  My country, while at war for over fourteen years in foreign lands, had not seen armed conflict on its soil for over a century.  This was a question I never had to face.  I explained, however, that it is difficult for me to hear about suffering children in war zones.  I immediately see my own children and shudder to think what the child and the parents are going through.

My friend’s question drove home the reality of Ukraine’s crisis more powerfully than any journalistic report ever could.  My friend had been on the barricades of Maidan Nezalezhnosti (Independence Square).  His wife, while supporting his actions, feared for his life and on several occasions begged him not to go.  My friend was one of the tens of thousands of the faces we saw on our television screens dressed in makeshift armor facing down Viktor Yanokovich’s elite riot police.  For him the struggle for a truly independent and free Ukraine was not finished.

This dialog with my friend could just as likely have been repeated on the other side of the battle lines, which stretch through the Donetsk and Lugansk regions of Eastern Ukraine.  Young couples in Donbas are certainly pondering the same questions as the sound of Grad rockets and artillery reverberate through their cities and Russian troops stream across the border bringing the latest Russian military hardware with them on their “vacation” to Eastern Ukraine and Ukrainian volunteers gather to meet them.

Additionally, the threat to Ukraine’s stability comes not only from Ukraine’s powerful neighbor, or even from those Russia backs in Ukraine’s eastern regions.  It also comes from those who have volunteered to fight for Ukraine’s territorial integrity.  They have made it clear that they had come out to rid Ukraine of not only foreign interference, but even more so, from the dishonesty, corruption, incompetence, and repression of the political and economic “establishment.”  They have made it clear that those they elected to replace their ousted President and his supporters have a limited time to show progress in reforming Ukraine’s corruption ridden political and economic system before they return to set things right by force.  Thousands of battle-hardened and heavily armed fighters could return to Kyiv to bring about the change the politicians have been unable or unwilling to produce.

What was the catalyst of the rebellion and subsequent conflict?  The Western media has portrayed it primarily as a response to Yanukovich’s rejection of the Association Agreement with the European Union.  In fact, the protests against this action were initially relatively small.  It wasn’t until the Berkut riot police of the Ministry of Internal Affairs tried to forcibly clear out the protesters, that Kyiv at first, and within days much of Ukraine, rose up against the president they had elected just four years before.  This misunderstanding in the West is illustrated by the different names the West and Ukraine give the revolution.  The Western press calls the events of November 2013 through early 2014 the Euromaidan Revolution, while Ukrainians call it the Revolutsiya Natsionalyogo Dostoinstva or the Revolution of National Dignity. 

An tale of two squares serves to illustrate the difference in these two terms.  In downtown Kyiv there are two squares located not far from each other – European Square (Euromaidan) and Independence Square (Maidan Nezalezhnosti).  The pro-EU opposition parties gathered largely on Euromaidan, while by far the largest protests took place on Maidan Nezalezhnosti.  The Independence Square protesters’ demands were much more varied.  While closer ties with the West were important, grievances against government excesses and corruption were by far more prevalent.  This, more than anything else, illustrates how the Ukrainians themselves see their revolution.  It was a demand for independence, for a restoration of national dignity.

Furthermore, it is illustrative that few of those I spoke to in Ukraine said not signing the Association Agreement motivated them to protest.  While they were disappointed in Yanukovich’s move, they were not ready to revolt to change the President’s mind.  In reality, the spark that ignited the mass action was the television footage of bloodied students being beaten by riot gear-clad Internal Affairs troops, purportedly in order to clear space for a New Year’s tree.  This action brought the growing frustration with government corruption and ineffectiveness, combined with Yanukovich’s increasingly repressive and heavy-handed policies to a boiling point.  Tens of thousands rushed to Maidan Nezalezhnosti, overloading the city’s transportation system.

The frustration with Yanukovich’s policies built on years of disappointment as the people, time and time again, elected “champions of freedom and progress,” only to see them subsequently filling their pockets with the ill-gotten fruits of a corrupt economic and political system.  The heroes of the Orange Revolution Viktor Yushchenko and Yulia Timoshenko were not exceptions.  This explains the cool reception Timoshenko received when she appeared on Maidan after her release from prison in February of 2014.  It also explains her limited role today.  She was pro-West, but still part of the establishment.

Yanukovich came to power in 2010 when, frustrated with their fallen Orange Revolution heroes, Ukrainians turned to the man they had rejected in 2004. Unfortunately, the kleptocracy not only continued, but grew and thrived under his rule.  To make matters worse, he filled government posts with people of divided loyalties and began building Putin-like verticals of power and controls over the mass media. 

On the economic front, not only did life for the average Ukrainian not improve, but Ukrainian businesses were sold off to Russian conglomerates and disparities in wealth increased.  Yanukovich’s elaborate “cottage” was a stark reminder of the gulf that separated the average Ukrainian from the power brokers and oligarchs, who ostentatiously flaunt their wealth on the streets of Kyiv with their Bentleys, BMWs, and Ferraris.

These were the reasons my Ukrainian acquaintances gave for rising up against their elected leader and his privileged inner circle.  They were tired of their livelihoods being eroded while Yanukovich and his cronies grew ever richer and cozied up to Putin’s elite at the expense of Ukrainian sovereignty.

The vast majority of protesters were tired of the establishment taking care of its own narrow short-term interests at the expense of the average Ukrainian.  They were tired of being a pawn in the East-West struggle.  They wanted to build a Ukraine that can be prosperous and free of external meddling. 

Is there hope that my friend and his children will see a peaceful and prosperous Ukraine?  I think there is, but that future lies in the hands of the Ukrainians themselves and the path will not be easy. 

After being away for almost five years, the difference in national pride and desire to make a change for the better was palpable.  Kyiv of 2009 was emotionally drained and resigned.  Kyiv of 2015 is energized, proud of what they accomplished and determined that the blood spilt would not have been in vain.

Only by demanding real change can they build a strong and prosperous Ukraine that can stand up for its own interests in the face of outside forces, both from the East and the West.  Right now, Ukraine’s plundered economy can barely support its brave, but battered military, and its outdated factories cannot compete with its modern, high-tech western or even less efficient Russian competitors.  Ukraine needs investment, innovation, entrepreneurship, and leadership.

Consequently, much needs to be done to create an investment and innovation-friendly environment.  Property and labor laws are outdated, many dating back to Ukraine’s Soviet past.  Foreigners cannot buy land, and small business ownership is complicated by corruption and onerous registration rules that not only make it difficult to do business, but also make it almost impossible to close that business and let employees go when things don’t work out. 

An equitable and efficient system of business registration and liquidation are critical to small business.  Whereas many small businesses fail, a reasonable means of exit is vital.  A friend and economic consultant at CASE Ukraine[1]  explained that it may take years to officially close a business.  This results in obligations to pay the numerous licensing and operating fees long after the business has ceased to function. 

Additionally, the Soviet era employee regulations give employees rights to compensation for months, even in cases when they simply stop coming to work.  This, combined with the above issue makes the cost of registering and running a legitimate business higher than operating in the off the radar.

As a result, much of the Ukrainian economy exists in the shadows and its workers are paid “in envelopes,” which leaves businessmen vulnerable to shakedowns by corrupt officials.  This also means that the uncollected taxes the government needs to build effective infrastructure, defense capability, and social supports go instead into the pockets of extortionists. 

While Western governments have pledged financial support to Ukraine, the amounts promised are woefully inadequate.  Ukraine cannot be saved by international aid alone.  The money needed to rebuild her aged and plundered infrastructure outstrips what donors and creditors have promised.  Only foreign and domestic investment can provide the amounts Ukraine needs to create the economy her citizens dream of.  However, those investments will only begin to flow when Ukraine has taken the steps necessary to ensure a safe, secure, and adequate return on investment and to establish an equitable business climate.

I contended in my article “Money to the Winds – Russia’s Capital Dilemma,” [2] with greater risk, capital will expect higher returns.  Absent adequate incentives, capital will avoid risk.  Right now, the Ukrainian system promises plenty of risk with little prospect for adequate returns. 

By meeting the demands of the protesters on Maidan Nezalezhnosti to liquidate corruption and create conditions for legitimate business to prosper, Ukraine can change this situation.  However, the clock is ticking and Ukrainians will not wait forever for the changes they demand.  They have given their current leaders a mandate, but one with conditions and a timeline. 

President Petro Poroshenko inherited a job few would envy – a country wracked by civil war and near financial collapse.  If he is able to do what he was elected to accomplish – eliminating corruption and graft, maintaining territorial integrity, and restructuring the government and economic system – he will go down in history as one of the greatest leaders of our time.  If he cannot, he will take his place on the list of Ukrainian presidents defeated by processes beyond his ability to control.

I have hope for the former and fear the latter.  I hope my friends will be able to build the Ukraine they so ardently desire, one where they can raise their children – a Ukraine where those children will look upon them as that great generation that stood up to corruption and tyranny and built a better nation worthy to take its place among freedom loving democracies.

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[1] http://www.case-ukraine.com.ua/?language=en

[2] http://brentsglobalmind.blogspot.com/2015/01/money-to-winds-russias-capital-dilemma.html

Money to the Winds: Russia’s Capital Dilemma

Alexander Zemlianichenko The Associated Press

(Revised February 5, 2015) I had just pulled out of the parking spot when a tone called my attention the dashboard display.  It read “Oil pressure low – turn off engine immediately.”  The timing couldn’t have been worse; I was on my way to a job interview and had neither the time nor the wardrobe to deal with car troubles.  I pulled over and checked the oil.  The dipstick was dry.  My oil was critically low and without immediate attention, my engine would seize up.  I went to a nearby store and bought enough oil to keep the car going until I could get it to a mechanic.  There, they initiated a check to find out where my oil was going.  Eventually the mechanic told us the oil was leaking into the cylinder and being burned there.  My oil was literally being burned and blown to the winds.

Just as oil reduces friction inside an engine, capital ensures a market economy works efficiently.  Left to market forces, money generally flows to the most effective sectors, while inefficient ones, deprived of it, die out.  When market forces are allowed to work unhindered, capital supports those areas where a given economy has the greatest potential for growth. 

Since investment normally goes where it can find the greatest expected growth, capital flowing out of a company, industry, or country shows there is a problem.  The cause must be determined and fixed or the economic engine seizes up.  This is currently the case with Russia, which is hemorrhaging financial and human capital.  This threatens her long-term economic and social health. If the causes are not addressed, the economy could seize up.

To understand this situation, we must look at factors that influence capital flows.  We begin almost 240 years ago with Adam Smith’s classic The Wealth of Nations where he described capital flow with a concept called comparative advantage.  This posits that if someone can produce a given good comparatively better or more efficiently than another, the customers (and one can assume, the capital) would flow to them.  This means that each country, in a truly free market should produce what it is more efficient at. 

It is also important to remember that countries’ advantages are not necessarily fixed.  With proper planning, marketing, and management a country can develop higher value added industries and therefore comparative advantages in those new areas.  But capital must be attracted there.  Conditions need to be created that either offset or eliminate perceived risks and limitations inherent in a given market.  Left to itself, capital will go to sources of growth that provide either high returns or safe investments.  Anything that increases or decreases either of these will affect capital flow.

Countries like Ireland, Costa Rica, and Georgia have been able to reinvent themselves and grow their economies by creating attractive conditions for foreign capital.  For example, before the Rose Revolution in 2003, Georgia was ranked 124 on Transparency International’s Corruption Perceptions Index.[1]  By 2014, it had climbed to 50.[2] This spectacular progress required a concerted effort to push through structural and cultural changes.  This required the power and wealth brokers to forgo short-minded illicit acquisition for the long-term advantages of transparency.  This requires them to allow others to prosper and to not extort bribes, kickbacks, protection money, and the like from legitimate businesses and foreign investors.  According to a 2009 OECD report, foreign direct investment flowed in, going from $340 million in 2003[3] to almost $2 billion in 2007 as a result of Georgia’s improved climate.  In 2013, five years after the double shock of the worldwide economic crisis and war with Russia, it still stood at almost $1 billion.[4] 

 Factors that may affect the flow of capital are lack of innovation, lack of diversification, risk, and corruption.  These can have a telling effect on long-term economic development.  Russia is a prime example of how these can negatively impact investment.    

Over the past fifteen years, high oil and natural gas prices brought massive flows of wealth to Russia.  While she wisely used this wealth to pay off the huge foreign debts that had drug her into default in 1998 and to build a sovereign wealth fund, she did not use this wealth to finance the development of a competitive industrial and high technology sector.  Money in a bank does nothing for long-term growth other than defend the currency and bail out firms when the economy goes south. Used effectively, this wealth could have moved Russia up the value chain from commodity dependence to a producer of more profitable finished goods.  Unfortunately, due to lack of progress on this front, Russia has failed to make many inroads into the high value added world markets. 

President Vladimir Putin, in his first annual address to the Federal Assembly in 2000 recognized the need to diversify the Russian economy, attract foreign capital, and control cronyism, graft, and corruption. He said, “We are losing the competition on the world market, which is more and more oriented on the innovative sector, on a new economy – the economy of knowledge and technology.” [5]  This has been a running theme in each address since, including his most recent address in 2014 when Putin said, “Our goal is to acquire as many equal partners as possible…We must create new technologies and competitive products, strengthen the financial system, and develop a modern workforce…[We] must work to create a large group of manufacturing companies capable of competing not only domestically, but on international markets…But they come up against a deficit in capital, technology, personnel, and equipment.  We must make maximum effort to remove these limitations, to give them a real boost through investment.” [6]

Unfortunately many of these noble goals made over the years have not been achieved.  Despite some progress, corruption, cronyism, and waste still prevail.  As a result, both foreign and domestic capital continues to flow out of Russia.  This has only accelerated with western sanctions and the collapse of oil prices.  Losses have risen to $130 billion dollars in 2014 from less than $60 billion in 2013.  The government has spent over $100 billion propping up the ruble, reducing its foreign currency reserves.  What is behind this?

As mentioned above, risk plays into this equation.  One of the main factors is that capital is risk averse.  If risk is higher, the cost of capital will also be higher.  If the risks to an investment are too high and expected returns too low, investors will find more attractive investments elsewhere even if that other market is less efficient at producing that good. 

Risks fall into two basic categories – economic and political.  Economic risk is based on market factors that may jeopardize one’s investment.  This includes costs of inputs, market prices for outputs, labor, and disposable income.  Political risk, on the other hand, is the risk of losing an investment from government action.  While the difference between the two can be nebulous at times, the one affecting the other, these two terms are important to keep in mind. 

The Russian economy is suffering a “perfect storm” of political and economic risk.  Russia’s oil dependent economy is reeling from falling prices and economic sanctions.  This is exacerbated by the actions of an ever more erratic and authoritarian regime.  These factors have combined to spook investors, who are taking their money and leaving. 

Furthermore, Russia’s corruption problem has also worsened.  In contrast to Georgia, Russia moved from 86 in 2003 to 136 today.[7]  Together with the political risk of Russia’s aggressive actions towards its neighbors, this has had a telling effect on its economy.

As a result, the capital that streamed into Russia in the early 1990s and again after the 1998 default crisis has been flowing out.  This flow increased to almost $130 billion for 2014.  While Russia blames Western actions for her economic woes, her problems go beyond any real or perceived coordinated effort to counter Russia’s resurgence on the international stage by sabotaging its economy and political system. 

Putin’s attempts at limiting the flow of Russian money offshore show that he sees capital outflows as a huge problem.  It also points to a serious confidence gap among Russian businessmen. If they must be coerced into keeping their money in their own country because they find it too risky or expensive, why would foreign businessmen invest? 

Furthermore, Russia has been hemorrhaging not just foreign but domestic capital since long before the current crisis.  Even more disconcerting, it is not only losing rubles, dollars, and euros, but also human capital. This mass exodus has increased over the last several years as corruption, cronyism, and the Russian government’s increasingly authoritarian and erratic policies toward the opposition, the independent mass media, and dissent have increased. 

Since the fall of the Soviet Union, many of Russia’s best and brightest have left their homeland drawn by better opportunities abroad.  Russian émigré specialists can now be found in leading laboratories and businesses throughout the world.  This includes Pavel Durov, the founder of VKontakte, Russia’s Facebook.  As quoted on the Ukrainian television channel ICTV, he explained, “The absence of open courts, justices chosen by the people, and the plethora of contradictory laws, which stimulate corruption and retard economic growth has deprived returning to my homeland of any sense.” [8]

Human capital is one of Russia’s most vital long-term assets.  The Soviet Union produced some of the world’s best scientific and technical minds.  While Russia has lost some ground in this area, its educational system continues this great tradition.  Unfortunately, the tightening of civil liberties since Putin’s return to power in 2012 combined with limited economic prospects has led to a growing number of Russia’s highly educated, motivated, and innovative middle class leaving the country.  Russia cannot afford to educate innovators and creators of wealth for other countries, she needs them to stay and build prosperity at home.

According to official data from the Federal Service of State Statistics, 122,751 people left in 2012, 186,382 in 2013 and over 200,000 in 2014 as compared to less than 70,000 in 2010 and 2011 combined.[9] 

While immigration is still ahead of emigration, the loss of the well educated professionals is far from being compensated by the less educated immigrants from Russia’s former Soviet neighbors including the approximately one million refugees from the turmoil in Ukraine.  This unequal demographic churn will reduce the pool of qualified workers and experts foreign investors will need if they are to build profitable ventures in Russia.

While we must acknowledge that the West has not always been cognizant of Russia’s interests, leading to a feeling there that she must stand up for her interests at all costs, the course she has chosen has not improved her lot.  These actions have led not to respect, but to increased concern among her citizens, neighbors, and global partners that Russia is becoming increasingly irrational and aggressive, violating international norms and taking measures against her own long-term interest to make a point. 

This approach is threatening capital inside Russia.  Foreign firms in Russia have long been wary of the government and government backed businessmen.  Companies like Hermitage Capital and BP have suffered at the hands of the Russian government and their own business partners.  The in-country expatriate leads for both companies had their work visas revoked and assets seized because their actions were at odds with power brokers within the Russian government. 

Russian businessmen such as Gusinsky, Berezovsky, Khodorkovsky, and recently Yevtushenkov have also suffered at the hands of the government when their actions ran counter to Putin’s desires.  Although none of the fallen oligarchs were lily white, they were singled out from among their colleagues with equally questionable backgrounds because they challenged the existing power structure, Putin himself, or because they simply had something a Putin ally wanted. 

These events have not gone unnoticed by possible investors.  When the business elite feel that the risks of doing business in Russia have overwhelmed the expected benefits, they take their capital and leave.  This, together with energy export dependence and sanctions imposed in response to Russia’s annexation of Crimea and support of separatists in Eastern Ukraine is what is behind the Russia’s economic woes.  Russia must do more to reassure investors if she is to reverse this trend.   

Politically, Russia has the ability and potential to play an important role in world affairs, but she must play by the accepted rules if she is to gain the respect and prestige she so ardently craves and deserves.  No two countries’ interests will ever coincide at all times, and no one should expect Russia to support another’s interests at her own expense.  Nevertheless, defending those interests should be done in a productive, not obstructive manner.  Annexing territory and fomenting unrest on others’ territory does not build trust.  Conversely, it pushes neighbors into hostile alliances to counter the perceived threat.  This, more than Western action, is behind NATO expansion.  Russia needs to employ more productive approaches that build credibility and productive ties that a more vibrant, prosperous, and diverse economy can be built upon.

This also requires that the West take Russia’s interests into consideration.  It would be unfair to lay the blame for the current state of affairs solely at Russia’s feet.  The West has repeatedly sidelined Russia and ignored her pleas for inclusion and the consideration of her interests.  It has only taken notice of Russia when, after years of seeing her interests encroached upon, she feels the only way to stand up for herself is through aggression. 

A drop in rhetoric on both sides would allow for a dialog that would decrease the political risk in Russia and in many of the problem spots throughout the world.  In fact, Russia’s influence over “pariah states” could be a boon in resolving their issues with the rest of the world community. 

However, the Russian government also needs to get its own house in order.  The drains of corruption, cronyism, and overly complex and restrictive rules for foreign businesses only serve to drive out what capital is in the country and discourage potential capital flows from entering. 

If Russia is to realize Putin’s stated goals of economic diversification and innovation, she must create a better investment climate.  Until she does so, she will continue to see the capital that is so vital to achieve her goals flow to countries where it can find better, more reliable returns with lower political and economic risks. 

Since the fall of the Soviet Union, western investors have dreamt of unlocking the unlimited possibilities of Russia’s natural and human wealth.  Billions have been invested in trying to develop that potential. 

Despite Russia’s claims to the contrary, an economically and politically weak Russia is not in the West’s interest.  A prosperous Russia, where property, investor, and civic rights are respected would be a boon not only for the West and its investors, but for Russian businessmen and citizens themselves.  A Russia where one can do business without having to pay off government officials, utilities providers, or the local mafia; where taxes are used for their proper purpose and not to line the pockets of government officials or their friends; where judges can make decisions independently; and where all have a fair shot at success and equal access to resources is a Russia that can only contribute to the wealth, prosperity, and stability of the world and its economy. 

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[1] Transparency International. "Corruption Perceptions Index 2003." 2003. Transparency International . 31 December 2014 <http://www.transparency.org/research/cpi/cpi_2003/0/#results>.

[2] Transparency International. "Corruption Perceptions Index 2014: Results." 2014. Transparency International. 31 December 2014 <http://www.transparency.org/cpi2014/results>.

[3] Ministry of Economic Development of Georgia. "Georgian Economic Outlook." 2009. OECD.org. 10 January 2015 <http://www.oecd.org/investment/psd/43361054.pdf>.

[4] Economic Policy Research Center. "Georgian Economic Outlook 2014, First Quarter." May 2014. 10 January 2015 <http://eprc.ge/admin/editor/uploads/files/Economic_2014_Report_Eng_WEB.pdf>.

[5] Putin, Vladimir. "Послание Федеральному Собранию Российской Федерации (Report to the Federal Assembly of the Russian Federation)." 8 June 2000. Official Site of the President of the Russian Federation. 23 December 2014 <http://archive.kremlin.ru/appears/2000/07/08/0000_type63372type63374type82634_28782.shtml>. (Author's translation)

[6] Putin, Vladimir. "Послание Федеральному Собранию Российской Федерации (Report to the Federal Assembly of the Russian Federation)." 4 December 2014. Official Site of the President of the Russian Federation.  9 January 2015.  http://www.kremlin.ru/transcripts/47173#sel=56:1,56:47;72:1,72:43. (Author’s translation).

[7] Transparency International. "Corruption Perceptions Index 2014: Results." 2014. Transparency International. 31 December 2014 <http://www.transparency.org/cpi2014/results>.

[8] ICTV . "Побег из «империи зла»: массовая эмиграция россиян. (Fleeing the "Evil Empire:" a Mass Russian Emmigration)." 5 December 2014. «Гражданская оборона». 10 January 2015 <http://oborona.ictv.ua/ru/index/read-news/id/1535871>. (Author’s translation)

[9] de Carbonnel, Alissa. "Disenchanted with Putin, Some Russians Vote with Their Feet." 24 July 2014. Reuters. 8 January 2015 <http://www.reuters.com/article/2014/07/24/russia-putin-emigration-idUSL6N0PI4TH20140724>.