PROJECT INFORMATION DOCUMENT (PID)

CONCEPT STAGE

Report No.: AB2113

Project Name / Information Technology Parks Project
Region / EUROPE AND CENTRAL ASIA
Sector / General information and communications sector (100%)
Project ID / P098569
Borrower(s) / GOVERNMENT OF RUSSIA
Implementing Agency / Ministry of Information Technologies and Communication
Environment Category / [ ] A [X ] B [ ] C [ ] FI [ ] TBD (to be determined)
Date PID Prepared / January 20, 2006
Estimated Date of Appraisal Authorization / April 28, 2006
Estimated Date of Board Approval / October 12, 2006

1.  Key development issues and rationale for Bank involvement

Summary

Information and Communications Technologies (IT) are a general purpose set of technologies. They are rapidly emerging as a vital factor in economic and social development to facilitate innovative and scalable solutions for achieving major development objectives

Russia possesses a significant world class scientific establishment and technological capacity. This is evident in the IT sector where Russia has a large stock of human capital with skills in computing research and development, programming and mathematics. Significantly, Russian IT professionals have opportunities for working elsewhere in the world given the global search for IT talent. Although the sector has been expanding rapidly, its contribution to the general economy in terms of investment, innovation, employment, production and exports is below its full potential due to the presence of certain impediments. These include flaws or gaps in the business, regulatory and working environment, together with certain market failures. In order for the Russian IT sector to match its peers and fulfill its potential, growth and private investment in the sector will need to accelerate.

The failure of the IT sector to achieve its full potential raises the risk that the Government of Russia (GOR) will not achieve its overall economic objectives regarding the competitiveness of the economy, its prospects for sustainable and diversified growth, employment creation and retention.

In order to address the foregoing issues, a Federal Targeted Program for the IT sector was developed by the Ministry of Information Technology and Communications (MITC). The Federal Targeted Program provides for around $200 million from the Federal budget together with a World Bank loan of up to $20 million. The Program was approved by the President of the RF, as a constituent of the 2006 Federal Budget at the end of December 2005. The WB project was included in the External Borrowing section of the Federal Budget. The majority of the Federal funds will be used for parallel [and co-] financing of investments in infrastructure to support IT Parks. The WBG IT Parks Project is designed to support and complement the development objectives of the Federal Targeted Program.

Role of IT in Development

The Internet and the wider Information and Communications Technologies (IT) are a general purpose set of technologies. They are applied globally and ubiquitously across all activities with no sector of the economy untouched. IT is radically transforming the nature of economic and social organization generating a new paradigm associated with the Knowledge Economy[1] and the Information Society[2]. The drivers of the new paradigm include the growing importance of knowledge creation, dissemination and use in economic activities. The core of the paradigm is the ubiquitous application of IT and their impact on the micro-economic competitiveness of enterprises, and thereby on the macro-economic competitiveness of regions or whole countries.

The application of IT has brought about a massive shift in the way businesses operate by their impact on the organization of the “supply chain”[3] and in customer relationship management. The physical transportation system facilitates off shore “outsourcing” of manufacturing. IT allows for both the off shore outsourcing of non-personal services[4] and the “back office” functions of businesses and even governments. They also produce entirely new industries and businesses e.g. call centers, nanotechnology, and biotechnology. Equally, the application of IT can transform the relationship between government and citizens. Human capital is the key factor of production for IT and IT related activities can be located wherever there is a supporting environment and infrastructure.

It has been observed that “The global ICT sector is extremely dynamic and transformational; there is virtually no status quo” and “I[C]T are rapidly emerging as a vital factor in economic and social development to facilitate innovative and scalable solutions for achieving major development objectives[5]”. These observations are relevant to Russia given its stock of human capital and scientific knowledge base together with the intentions of GOR for sustained and diversified economic growth and greater social inclusion.

In the context of the development of Russia, promoting private investment, and the widespread diffusion of IT are necessary to ensure that:

·  businesses, in the new or old economies, are made more competitive and create employment

·  businesses commercialize Russia’s science base and continue to innovate

·  the economy is diversified and achieves a satisfactory rate of sustainable growth

·  governments, national, regional or local, are responsive

·  government services are delivered cost effectively

·  infrastructure, whether in energy, logistics, transport or utilities, are efficient

·  citizens, of whatever ethnicity, gender, age or habitation, can participate fully in civil society

·  skilled personnel are encouraged to remain in Russia

IT is largely the responsibility of the private sector and major Russian companies have applied IT across their businesses. Similarly, GOR has already implemented many projects to enhance its own IT capacity. Nevertheless, GOR still has a significant IT role to play in policy development and implementation, establishing the business climate to promote private investment in the sector, ensuring the widespread benefits of IT and addressing market failures. Very many governments have actively promoted the sector with public funds. For example the European Union (EU) has placed great emphasis on the role and contribution of IT as the enabler of accelerating growth and job creation largely in the ‘knowledge based economy’. The EU’s “Competitiveness and Innovation Programme” envisages more than €800 million for IT.

IT Sector in Russia

Russia possesses a substantial stock of well educated human capital with skills in computing research and development, programming and mathematics. This capability provides Russia with a considerable IT potential if it can be retained and employed. During the early 1990s, a significant IT industry developed across many activities including telecommunications, hardware assembly, packaged software, IT systems design and integration, offshore software engineering and technology research and development.

In 2004, Russia’s IT goods and services market (excluding telecommunications) was nearly $10 billion[6], achieving growth rates of 25 to 30% annually. Some of the Russian IT companies are world class and have been successful both on domestic and international markets. Equally Russia’s human capital has attracted some foreign direct investment by leading global IT companies.

Russian companies have been successful in winning contracts for large complex software and highly specialized ‘niche’ products. These are relatively limited markets. Some Russian IT companies attract contract R&D and software development but the resulting intellectual property rights are owned by the customer and therefore the Russian IT suppliers do not earn downstream revenues from royalties and maintenance.

Despite impressive growth rates, the IT performance in Russia is modest in comparison to China, India, Ireland and the Philippines. The IT Offshore business of India is over 40 times larger than Russia’s and China’s is ten times larger[7]. There is further evidence that Russia lags its peers and competitors in the production and diffusion of IT by a sizeable margin[8]. IT accounts for 8% of EU GDP while in Russia the figure is less than 5%. In order for the Russian IT sector to achieve the objectives set by the GOR (by 2010 IT’s share of GDP at 10% and of exports at 5%) and for it to match the performance of other countries, the IT sector will have to grow at higher sustained rates.

Obstacles to Growth

In part the development objectives of GOR rely on an accelerating growth of investment, production and diffusion of IT products and services but there are self- imposed obstacles to achieving these growth rates.

The growth of Russian companies is retarded by some administrative obstacles. For example:

·  IT exporters require certificates and licenses for every individual transaction from the relevant Federal agency

·  IT exporters face difficulties in confirming each export transaction for VAT refund

·  Restrictions on the importation of pre-production goods to be developed in Russia for re-export

Furthermore, as a labor intensive activity, taxes and levies on employment have a sizeable impact on the competitiveness of Russian IT companies in the global market.

The prevailing IT business framework is inadequate. It has not developed to keep pace with the rapidly evolving IT sector. Much of the relevant legislation is more than 10 years old. Many aspects of existing laws are not supportive of knowledge economy based activities, or the business models of innovative knowledge economy companies and start ups. A Federal Law “on electronic digital signature” enabling contracts to be made electronically, came into force in January 2002 but does not apply to contracts with the GOR. A draft law “on electronic commerce” has been drafted but not approved. There is also an absence of clarity, with respect to the Internet, regarding privacy, data protection and Intellectual Property Rights (IPR). The absence of sufficient “trust” with the internet retards its usage. As a consequence internet enabled business activities have yet to achieve their full potential for generating significant demand for and investment in IT products and services. Certain cities and regions have successfully implemented e-commerce projects but these have not been rolled out nationwide.

There are certain administrative, regulatory and legal impediments to the development of public private partnerships which involve shared assets, common services, management, IPR and proceeds from goods and services.

At times there is a negative image of the “Made in Russia” brand. It is perceived in the market as being associated with undesirable “hackers”, with consequent difficulties for Russian companies entering foreign markets.

There is a noticeable market failure in the supply of venture capital finance for seed and early investment for SME and start up companies. There is an issue regarding any changes of the ownership structure of a company whenever there is any form of state participation in its capital. Despite the undoubted scientific skills available there is an absence of relevant vocational and project management skills.

In combinations these obstacles and cost structures generate perverse incentives with negative consequences for the sector and GOR. The incentives encourage Russian IT companies to relocate their operations offshore or use other means to circumvent these obstacles. These practices by companies impact the fiscal revenues of the GOR and pose problems for IT companies when borrowing, raising venture capital and finding partners. As a consequence there is the steady flow of emigration by skilled IT professionals and a possible deceleration of investment in the sector. The more attractive business and working environments abroad also contribute to this growing tendency.

The Need for IT Parks

In many countries Information Technology Parks (ITP) have been set up to facilitate the rapid growth of IT activities and foster economic development. They provide infrastructure and support services for businesses, particularly high quality (high capacity) communications, real estate and office space. Frequently ITP have links to research institutions providing a pipe line of both innovations personnel and advice – the technology transfer function. ITP offer support facilities for incubator activities as well as established IT companies thereby generating synergies in IT clusters. ITP usually entail conducive or attractive working environment for mobile IT professionals in the context of the global search for IT talent. Often ITP are formed by public private partnerships (PPP). The public sector may be represented by a regional authority, municipality or State University. PPP are a means of accelerating the provision of infrastructure, reducing the “whole life costs” of projects, improving the distribution of risk and incentives between parties, enhancing public management and improving quality of service[9].

Numerous ITP have been established in Russia. However, their success has been limited where international best practice has not been applied to the management of these facilities or they have been insufficiently funded or they have failed to attain a sufficient level of commercialization.

The Risks

Unless these obstacles and impediments are removed there is a clear risk that Russia will not reap the full benefits of IT and will not participate in full in global IT developments. The steady flow of emigration by skilled IT professionals will continue and there will be a deceleration of investment in the sector. Equally, this state of affairs places the overall economic objectives of the GOR at risk.

The main areas of the World Bank partnership with Russia were outlined in the latest Country Assistance Strategy (CAS) of the Bank approved in 2002. The CAS envisaged Bank support to the Russian Federation along three “strategic pillars”, including “Improving the business environment and enhancing competition”. Currently, the World Bank and Russian Government are discussing the main areas for cooperation over the next three year period from 2007 to 2009. It is expected that the themes for cooperation will stay the same as in the previous period but better reflect the strength of the economy and progress achieved in these areas. The proposed project is directly related to this priority area of the CAS for its potential contribution to diversification to economy and sustaining economic growth.

The GOR is aware of the situation and has responded with a Federal Targeted program to address the issue which this project seeks to support.

2.  Proposed objective(s)

The strategic objective of the WBG project is to provide a major stimulus to private investment in IT in the Russian Federation in conjunction with the Federal Targeted Program.

Additionally the project will support new ways of promoting diversification and growth through developing PPP in high value-added sectors of the Russian economy, by commercializing country's rich intellectual capacity.

[The project will improve the level of financial intermediation via drawing upon and leveraging the existing and pending Venture Capital initiatives of the Russian government.]