Volkswagen in Russia In the mid-2000s, Volkswagen announced that it would invest directly in auto… 1 answer below »

Volkswagen in Russia In the mid-2000s, Volkswagen announced that
it would invest directly in automobile production in Russia. The
decision to invest was driven by a number of factors. Russia’s
economy was growing rapidly at the time and living standards were
rising, while the level of car ownership per capita was still low
by European standards. This suggested that demand for cars would
grow rapidly going forward. Indeed, forecasts predicted that by
2020, Russia would surpass Germany to become the largest car market
in Europe. Moreover, Volkswagen’s global rivals, including most
notably Toyota, General Motors, and Ford, were also investing in
production facilities in Russia, so Volkswagen felt that it had to
make direct investments in order to avoid being preempted by its
rivals. The Russian government also createdPage 238 incentives for
carmakers to invest directly in Russian production facilities,
allowing them to avoid import tariffs and a punitive tax on imports
of parts if they produced at least 25,000 cars in the country. In
2011, the government announced that it would keep tariffs on
imported components at 0.3 percent if a foreign automaker built at
least 300,000 in the country by 2020 and produced 60 percent of the
value of the car locally. Spurred on by such incentives, in 2007
Volkswagen opened a plant in Kaluga, 160 miles southwest of Moscow,
to build some of its VW and Skoda car brands. The plant was
projected to have a peak capacity of 150,000 units a year and
employ 3,000 people. Initially all vehicles at the plant were
assembled from semi-knocked-down kits imported from Germany. In
October 2009, however, the plant launched full-scale production,
including welding and painting of vehicles. In October 2011,
Volkswagen announced that, together with a local partner, GAZ
Group, it would open a second plant near St. Petersburg, as it
strove to reach the 300,000 units of local production by 2020. In
2013, Volkswagen made an additional investment in Kaluga when it
pledged 300 million euros to build an engine plant near to its
assembly operation. The engine plant opened in September 2015. All
told, by this point Volkswagen had invested over $1 billion in
production in Russia. General Motors and Toyota had also announced
investments of over $1 billion to boost Russian production up to
300,000 units by 2020, and Fiat had indicated that it would make
investments to bring its Russian production up to 300,000 as well.
In total, foreign carmakers had invested over $5 billion in Russian
assembly operations by 2014. Meanwhile, analysts continued to
predict that the Russian car market would grow at a healthy pace
and exceed that of Germany by 2020. In 2014, however, the market
took a sharp turn for the worse. Russia is a major oil producer.
Since the mid-2000s, much of the country’s economic growth had been
powered by high oil prices. In the second half of 2014, however,
global oil prices started to fall rapidly as increased production
in America and weak demand in China conspired to create a global
glut of oil. By early 2016, oil prices had fallen 80 percent from
their peak. To make matters worse, following hard on the heals of
its hostile takeover of the Crimea region from Ukraine, Russia had
become embroiled in a smoldering civil war in eastern Ukraine.
Western nations responded to what they perceived as Russian
aggression by imposing sanctions on Russia. Hit by these twin
blows, the Russian economy weakened significantly in 2014 and 2015,
and the ruble declined precipitously, losing 50 percent of its
value against the U.S. dollar. Suddenly the bright hopes that
foreign automakers had for the Russian market seemed to be
tarnished. Faced with falling demand, Volkswagen cut production at
its Kaluga plant to 120,000 vehicles from a planned 150,000. With
the new engine plant scheduled to come on line and no resolution to
Russia’s economic crisis insight, Volkswagen’s excess capacity
problem may get worse. Looking forward, Volkswagen has to decide
whether to keep investing in Russia in order to hit the magic
300,000 local output figure by 2020 or to pull back from a market
whose future suddenly looks highly uncertain. At this point, it
looks as if Volkswagen is staying the course. In late 2015, a
Volkswagen board member noted that “We need to continue to
strengthen our partnership (in Russia) despite the current
situation”.* Sources: Sarah Sloat, “Volkswagen to Halt Production
at Russian Plant for 10 Days,” The Wall Street Journal, September
7, 2014; Clare Nuttall, “Foreign Car Firms Invest Heavily in
Russia,” The Telegraph, April 28, 2011; Staff reporter, “Volkswagen
Russia Shows the Way,” Automotive Supply Chain, July 2, 2013; Staff
reporter, “Volkswagen Slashes Car Production at Russian Plat,”
Reuters, September 7, 2014.

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1.Russia is largely dependent on oil exports to drive its
economy forward. Given the sharp fall in global oil prices that
occurred in 2014 and 2015, what impact do you think this will have
on FDI into Russia?

2.Volkswagen has signaled that it is going to stay the course in
Russia, despite current political and economic headwinds. Why do
you think it made this decision? What are the pros and cons of this
decision? In your opinion, is it the correct decision?