While U.S. financial turmoil has seeped into virtually every global market, Russia has been devastated, as the country’s largest stock exchanges, the MICEX and RTS, have suffered their biggest losses since the 1998 financial crisis. However, Moscow only has itself to blame after heavy-handed economic, political, and military tactics scared away the foreign investments it didn’t oust directly.

"The Russian banking system is not developed enough to provide the long-term financing that companies need to grow," Douglas Rediker, a Russia specialist and former investment banker at the New America Foundation, told the Washington Times.

"If the Chinese were to stop lending to the United States tomorrow, it would have a severe impact, but we would still have a pool of domestic funds available," Rediker said. "In Russia, they don’t have the means to replace [global lenders.]"

That is precisely the problem now, as Russia’s recent military incursion into Georgia, and political interference in the private sector, have scared foreign investment out of the country.

The Russian government has said it does not want the exchage rate between a basket of U.S. dollars (USD) and euros (EUR) and the Russian ruble trading below 41 rubles. However, with oil prices remaining low, the Russian petrostate may not be able to remain above this low-water mark.

Up until now, the Russian leadership has been selling off their foreign reserves to try and buoy the value of the ruble, but at some point, they are going to run out of usable reserves. And when that happens, the Russian economy is in for a shock.

According to the Wall Street Journal: "Pressure on the ruble is likely to mount in coming weeks, say investors and analysts. Many predict a gloves-off battle between investors intent on driving the currency lower to reap profits, and Moscow, which may be forced to make unpleasant choices to keep the ruble from falling....

So far, the central bank's efforts -- raising interest rates and tightening liquidity -- haven't been aggressive enough, analysts say, serving mainly to whet investors' appetites for more ruble declines. As a result, most of the money the Kremlin is spending to boost the banking system and the economy is flowing into the currency market instead. "All the rubles that are out there have been turned into dollars," says Natalya Orlova, chief economist at Alfa Bank in Moscow. 'To get out of this spiral where everyone expects a devaluation will be very difficult.'

She says a decisive defense would require a massive increase in interest rates that would shake the fragile banking system and the slumping economy. Some analysts said the government also could impose capital controls, limiting money from leaving Russia."

If the government does start raising interest rates and the economy falls further into its recession, the value of Russian stocks will almost certainly follow the trend downward.

Two years ago, the government seized OAO Yukos Oil Co., formerly Russia’s largest oil producer, on tax charges, and put its chief executive in jail. Soon after, Royal Dutch Shell PLC (RDS.A, RDS.B) was forced to relinquish control of its Sakhalin-2 oil and gas project to OAO Gazprom for $7.45 billion, after the Russian government threatened to block investment plans by canceling building permits on environmental grounds.

Earlier this month, BP PLC (ADR: BP) finally conceded to the demands of its Russian partners over a dispute involving joint venture TNK-BP. BP gave in to demands by its Russian counterparts to replace TNK-BP’s chief executive, Robert Dudley.

This decision came after Russian authorities raided the venture’s Moscow offices in July, and arrested one employee for espionage, and after the government refused to renew visas for 148 employees, forcing Dudley to flee Moscow.

Finally, in July, Prime Minister Vladimir Putin criticised mining firm Mechel for selling coal cheaper abroad than on the domestic market. Referring to the company’s CEO, who had been taken ill, Mr Putin advised him to get better soon, "or we will have to send him a doctor and clean up all the problems."

This resulted in an investigation by the Russian Federal Anti-Monopoly Service, and cost Mechel $5 billion in market capitalization.

Russia’s early promise has given way to a somewhat bleak reality. Indeed, since that Goldman paper was written in 2003, Russia has been transformed from a successful emerging market into a corrupt kleptocracy without the rule of law and with only oil exports propping it up. Now that oil prices have dropped, Russia is in trouble. Its consumer prices are rising at a 14% clip on fudged official data, its currency is collapsing – down by a third in the past year – and stock prices are down 80% from their high last spring. Even Russia’s population is declining.

The bottom line: Russia is neither emerging, nor a market. Unless oil prices recover rapidly, or the country undergoes a sudden conversion to secure property rights, it seems fated to remain impoverished, and to have its economic vigor diverted into military adventurism. It should be on nobody’s list of growth opportunities.

The top two Russian stock markets were closed on September 17th after both exchanges had dropped just under 60% since their highs in May. Investor confidence has nose dived as oil prices dropped back under $100 in September and investors are worried about the relationship with the West after the Georgia incident. In addition, investors overseas are cowering from risk as popular emerging markets, like Russia, are being shunned and, according to Merrill Lynch, fund managers are buying more bonds today than they have at any time in the last decade. Merrill Lynch also said that between June and August, there was an outflow of $26B from emerging market funds while there was an inflow of $100B since 2003.

Russia has taken steps to counter the onslaught: lowering its oil export tariff to $50.70 a barrel from $66.20, and the government plans to put as much as $20B into domestic stocks. However, the plan to invest in domestic stocks has the potential to have the opposite of its intended effect by marking official desperation in the market and causing investors to withdraw even more from Russian stocks.