When Lenin declared “the worse, the better”,  he could have been thinking of foreign consultants in Russia. Market research, strategy creation and implementation, and internal audits are all areas of corporate and government activity in Russia that in various ways rely on the professional expertise of international firms. Sanctions and an increasingly tense geopolitical environment have made international firms' work all the more important. But in early 2018, international auditors in Moscow including PwC, EY, Deloitte, and KPMG have been dealing with a growing political problem: Tatiana Golikova, chair of the Audit Chamber, Russia’s obscure state public finance watchdog, warned that contracts with foreign consultants threaten national security.

It’s a salient issue for an economy that depends so widely on state procurement. Russia’s track record dealing with state orders is far from sterling. The Duma passed a law in June of 2015 that any companies registered “offshore” cannot participate in procurement. Offshore companies are vehicles international and Russian businesses alike use to dodge taxes or otherwise shield themselves from rapidly changing and often poorly written legislation. But Maksim Cheremisov, administrative head of the Ministry of Economic Development’s contract system, issued a letter stating that procurers could not lawfully require participants of electronic auctions to provide documentation to comply with the law. Though the Ministry of Finance took charge of state orders last year, Cheremisov’s letter has seemingly held sway.

Amidst any institutional confusion, pressure from the Audit Chamber is real. For example, the Ministry of Energy has already noted it is not using foreign consultants for any work concerning the creation of strategy and strategy documents, only informational and analytical material. There’s clearly political weight behind the latest policy stance despite the fact that Russian businesses and agencies rely on international consultancies for a wide variety of services.

Lemon Aids

Moscow’s consulting market has heft. Though demand for consulting services has declined since 2014, it reached around RUB97.5bn in total ($1.72bn) in 2016. Since then, sanctions and numerous domestic policy changes have driven growth. Last year, the market was projected to be worth around RUB117bn ($2bn). Foreign consultants ought to be well-positioned to make lemonade of Russia’s souring external political environment and domestic policy shifts. Siluanov and budget hawks at other revenue-collecting institutions have been looking for ways to bring in more money for the state – or ‘mobilise revenue’ as they say. Sanctions from the US Congress provide opportunities for international consultancies to work with clients in Moscow looking to insulate themselves from reputational or legal risks.

Business newspaper RBK’s review of the consulting market July 2017 noted that the Federal Tax Service (FTS) is becoming increasingly active in delivering bigger revenues, threatening countless companies with additional charges and fines. For example, Golikova at the Audit Chamber praised the Service for collecting RUB101bn in arrears for insurance premiums last year. She also supports work to expand the definition of a tax payments for collection purposes on company spreadsheets, the idea being to expand the tax base while reducing the overall tax burden. These arcana matter because the finance ministry is looking to increase its oversight over tax revenues and expenditures. As tax exemptions become a more popular instrument to achieve policy goals rather than direct subsidies, the FTS is now required to calculate losses from tax benefits in the regions. Company books are under scrutiny too since plans are likely to change on the fly with changes adopted for any kind of tax reform.

Golikova is taking an active part in Siluanov’s policy push to tighten control of the budget. Before her announcement on consultants, she called for the regions to spend their budgets in a more responsible manner, reduce burdens on federal spending when possible, while increasing total social spending, and is now calling for the Duma to work without weekends until they pass tax reform. Oversight is the key. Yet Golikova is threatening a crucial source of internal oversight for Russia’s companies and agencies with her pronouncement. That workarounds often continue to function despite shifts in what’s permissible raises the question of exactly what role Golikova and the Audit Chamber occupy in the policymaking process – and what they’re after.

Tea and Golikova

Golikova is a technocrat associated with Moscow’s “economic bloc” who got her start at the Ministry of Finance in 1990 and spent most of Russia’s lost decade in various capacities focused on budget policy. She worked her way up to become First Deputy under Alexei Kudrin from August of 2002 to April of 2004. She was then demoted to deputy for unknown reasons – it’s likely she was a casualty of political maneuvering between then Prime Minister Mikhail Fradkov, Kudrin, and then Minister for Economic Development German Gref. Kudrin famously would ask his secretary for materials on the budget and added “get me tea and Golikova” during his tenure. She assumed the post of Minister of Health and Social Development in September, serving in the role until May of 2012.

Having secured her reputation as her own person, she was chosen to be the chief economist for Putin’s presidential administration after he returned to the presidency. She replaced Elvira Nabiullina, now chairwoman of the Central Bank of Russia (CBR), as Putin’s top economic aide with Nabiullina’s impending promotion. After nearly a year and a half on Putin’s team, he nominated Golikova to chair the Audit Chamber in September of 2013 and the Duma confirmed her. The choice, in part, reflected an interest in expanding the Chamber’s remit from a purely consultative and analytic role to one that would actually affect policy outcomes. Golikova’s experience with the budget process made her an ideal candidate and is now needed more than ever.

The Chamber of Secrets

The Audit Chamber is a body tasked with the external audit of public finances. But its role as a legitimate oversight body collapsed during a public scandal in 2005 when then chair Sergei Stepashin tendered a shock resignation following the adoption of a law stipulating that the chair be nominated by the president and confirmed by the Duma. The law clearly compromised the oversight role of the Chamber, particularly given Kremlin control of Duma votes. A further law amending details of the nomination process and role of the Chamber was adopted in 2013. A roughly analogous process is used to choose the 12 auditors below the chair that comprise the Chamber. Six are elected by the Duma and six by the Federation Council.

The Chamber’s functions are primarily delineated as follows per the 2013 law: administrative oversight and accounting responsibility for all government agencies, control over extra-budgetary spending such as pensions, analysis of the socioeconomic development of Russia, and technical control of Russia’s various forms of state debt. By and large, however, the Chamber’s role is supervisory. It reports on the state of things to the Duma, Presidential Administration, and functionally the Ministry of Finance.

Given its formally supervisory role – excluding the few areas it is legally empowered to make policy decisions – the power of Golikova’s announcement stems from her outfit’s power to endorse or shame as well as its personal connections. The Chamber is essentially a collection echo chamber for budget data and analytic studies of the effectiveness of state spending and programmes. Reports to legitimise spending or else castigate waste at state companies and agencies can be used as bargaining chips in policy fights. Exemplifying this role, Golikova has been tasked with analysing the country’s tax code and offering suggested amendments for 2019. Anyone on reform watch should follow what she produces for a better sense of the political system’s consensus.

Golikova’s odd national security announcement is rooted in two political imperatives. It helps increase the Chamber’s auditing power by denying access to international firms, making its reports on socioeconomic development goals and inspections of agency and state books the primary source by which waste or corruption are rooted out. More importantly, it advances a likely aim of certain players in Moscow: to politicise access to company and individual financial statements by placing them in the hands of the state when possible for budgetary purposes. Golikova and her resources could well be committed to building a monopoly on financial secrets along the blurry state-private sector lines created by state procurements.

Watching the Watchmen

Some of the problem’s roots originate in the CBR’s drive to clean up the banking sector. CBR supported legislation early last year that would have denied auditing licenses for firms that knowingly signed off on unreliable information, provided false information, or disclosed audit secrets. It was noted at the time by the daily Vedomosti that Deloitte would have lost its license because of its role as the auditor for Probiznesbank, a bank targeted by the regulator. Similar situations would most likely have arisen for other large international firms.

Suspicions about the role of foreign consultants were aroused further when Deloitte was suspended by the Treasury (by dint of the Audit Chamber)  for 30 days in fall of 2016 for reasons not disclosed by the Federal Service for Financial and Budgetary Oversight. The suspension was a red flag for consultancies, drawing further attention to reform. The proposed bill could have stripped half the country’s auditors of their licenses, forcing them out of the market. In the end, 2,000 auditors lost their licenses as of last April but the so-called Big Four were spared.

Back in 2016, the finance ministry and CBR began pushing for a reform bill regarding the regulation of auditors. The finance ministry wanted to mandate auditors provide more information to tax collectors; CBR wanted to obligate auditors to inform the state of discrepancies or other problems whenever they were discovered. Last July, the Duma’s budget committee passed a bill that essentially erased the category of “auditor secrets” from the tax code. Any refusal to share information on the part of a company or individual would result in a 10,000 ruble fine and, the real kicker, a bad reputation with Russia’s regulators. The bill seems unnecessary, since there are already plenty of ways to induce companies to share information on their books.

As of November, the bill brought to the Duma regarding audit regulations would place the process under the legal jurisdiction of CBR instead of the finance ministry and the Treasury. The Bank of Russia’s strong arm is a cause for concern for international auditors, and may also threaten those in Russia’s regions as planned legal requirements become more onerous for smaller companies. To be fair, it’s not yet clear what would happen if foreign consultants were suddenly unable to win contracts, nor is the situation entirely new. Back in 2014, the FSB wanted to gain access to information on servers by trying to force companies to physically store information in Russia. Doing so would have allowed the FSB to use backdoors to collect financial information and prevented companies from storing sensitive information abroad.

Some have expressed concerns that this new push amounts to another attempt at import substitution, but with professional talent that can’t be replaced. Auditors can only work effectively when their clients’ confidentiality can be maintained, otherwise companies won’t want to show their books to avoid leaks to competitors and regulators. The squeeze on auditors is likelier to create a shortfall and force companies and agencies to rely on audits carried out by the Chamber. The Chamber will in turn be empowered to collect more and more information since legal protections for auditors are being stripped from the tax code and state procurements of services fall under their purview. That spells serious trouble for companies. The state will not have their interests in mind.

Golikova couched her complaints in the language of state officials leaking information via foreign consultants, likely in a play to use security concerns to mask the real prize: revenues. Siluanov and others are talking up tax reform and budget hawks occupy a more prominent place for Putin 4.0. The state needs to finance higher incomes in a state-dominated economy, which means higher revenues are needed.

Golikova has been vocal about the need for structural reforms and has stood her ground in past fights with more conservative economic blocs in Moscow. One plays the part assigned them in Russia’s political system, but she’s directing this latest drama to raise revenues. Barring a sea change on reforms, it seems she’ll try and get them in auditing.