The third Banking on Russia conference had a smattering of differing opinions but highlighted several issues that seemed to be of concern to foreign institutions, rather than domestic players. The current condition of the Russian banking system was acknowledged to be good, having recovered from the liquidity problems caused in the inter-bank market by the confidence crisis in June and July 2004, when the Russian central bank was forced to ease monetary policy.
Poul Thomsen, the International Monetary Fund’s former senior representative in Moscow, gave a generally positive view of the economy but rang some warning bells. “This year we are projecting growth of 6%, a significant slowdown compared to last year and it is made under the assumption that investment will start recovering. It certainly assumes no further jolts to confidence and clear signals on behalf of the government to reassure investors.”
Flight of capital
While the Russian economy would continue to grow even if oil prices fell, growth in foreign investment was less robust and figures also showed capital fleeing the country, according to IMF studies. As for the drop in foreign investment, Mr Thomsen was circumspect in his reasoning. “There are speculative answers why – Yukos and the perception of state intervention and perceptions that reforms are flagging,” he said.
Ironically, one area in which that drop in foreign investment is most obvious, according to many of the speakers, was within the banking system. Time and again they mentioned the consequences of the lack of foreign investment and the investors that have begun to pull in their horns.
Western perception
Artem Konstandian, director of international business development with Promsvyazbank, which specialises in trade finance, complained that the general perception in the West was that the Russian banking system was weak. “This affects the role of international banks and makes them less bullish.”
But he accepted that during the 2004 banking crisis, many of the international banks had their fingers burned and it was especially noticeable in the area of trade financing.
“Several international banks really suffered and lost money in Russian banks that went under,” he pointed out. The consequence was a reduction in investment in Russia, complete suspension of business or the raising of lending margins to cope with greater risk. “It meant that the number of banks in Russia with access to international trade finance markets decreased dramatically,” Mr Konstandian said. A consequence the commercial sector could well do without.
According to Hubert Pandza, head of the Russia and Central Asia group for the European Bank for Reconstruction and Development, foreign investment in Russian banks was far too low at 7.6%. Across the board, this had implications.
“The amount needed to finance the SME sector in Russia is about $30bn. The banking sector in Russia can provide only $1bn, so there is a huge discrepancy there,” he warned, adding that this lack of capitalisation of the banking system could create problems.
He pointed to the growth in consumer borrowing which, while not yet threatening capital adequacy ratios, could become a problem. “There’s not enough capital and [foreign] shareholders are not always ready to provide it. The local capital markets do not provide a solution either because IPOs for Russian banks in the local market is not an easy exercise.”
Consolidation is key
What remains as a solution is the consolidation of Russia’s 1289 banks to create banks with higher capitalisation, said Mr Pandza.
That lack of capitalisation was also a concern for Alexander Popov, chairman of the executive board of Rosbank. “There are several hurdles Russian banks have to overcome. Among them, I would emphasise insufficient capitalisation, which prevents very strong growth in the system, although we still believe it will be strong,” he said.
But Mr Popov was far more bullish in general: “The Russian banking system continues to expand at a very impressive rate, although it went a little soft last year. But still, the rate of growth was about 25% for assets and 45% growth for loans.”
Indeed, standard cash loans dominate the retail banking product offerings. “But more sophisticated products are expected to prevail in the future banking developments,” he added.
Retail sector
Speaking afterwards about the equity markets in Russia, Yuli Stein, a fund manager with Griffin Capital Management, criticised the lack of imagination within the Russian banking system for producing retail products and virtually limiting them to basic loan structures. However, he did praise Rosbank and Mr Popov’s announcement that it intended to develop an asset management business. “You don’t hear that too often,” said Mr Stein.
He questioned the reality of whether this retail business was genuinely contributing to the growth of Russian banks. “In general for retail banking operations – and I know the people who run Russian banks know it better than us – at this stage it’s all about potential and market share and we’re not really seeing any particular profits being generated there.”
He went on to say that even Russian banking CEOs were unsure what would constitute a model for the Russian marketplace.
Perhaps unsurprisingly, foreign banks face a less optimistic future within the retail sector, according to Michael Perhirin, chairman of the managing board at Raiffeisenbank: “Many banks are talking about retail banking and see it as very attractive. The banking network is very important and only large Russian banks have this network to collect deposits and it’s very difficult for foreign banks to compete with this.” As a result, only 3% of money on deposit was held by foreign institutions. He also warned against getting into the retail business since naturally the investor had to get their money back and there was very little transparency with account holders.
Unfortunately, as far as Mr Perhirin was concerned, that lack of transparency also stretched to more aggressive moves in taking on the Russian retail market. “It is very difficult for a bank to buy into large Russian banks because it is very difficult to analyse what is in the deal,” he said.
Instead he saw a more complementary relationship between foreign and Russian institutions, especially in raising money outside Russia. “$24bn was raised last year in syndicated loans in bond issues offshore. $60bn in loans have been put at the disposal of the Russian corporates last year, representing 40% of the total borrowing. International loans is what foreign banks should get into,” he said.
Russian reality
While Mr Perhirin was generally bullish on opportunities available to foreigners and advocated expanding business to the regions too, he warned: “When you get there, you have to live with the reality and that’s not easy – even for the Russian banks.”
This ongoing worry about tough business realities, rather than investment agency platitudes, tended to dominate the conference. Charles Hecker, associate director with Control Risks in Moscow, was straightforward in his views that while he and his company were bullish on the commercial prospects in Russia, it was certainly no level playing field, especially for foreign companies. Russia had, he said, a high level of “state capture”.
“What I mean by that is the people who are supposed to be regulated are in fact driving the writing and content of the regulations – something that we’d say in America was a case of the lunatics being in charge of the asylum,” he commented wryly.
But, he added, who said the political elite should be the driver of economic change? “Maybe it shouldn’t be the driver of economic change – that should be the market.”
Vested interests
These other influences affecting policy and regulatory development were mentioned repeatedly as being detrimental to faster and stronger development of the economy. Mr Stein argued that certain vested interests hindered the regulation of equity markets and its growth into a free-flow market supported by a healthy mutual fund sector. Mr Pandza criticised the “very restrictive” approach to foreign bank branches and the fact that capital was welcome once it did not create headaches for the authorities.
The indications of capital flight following the state seizure of Yukos were, said Mr Thomsen, not an indication of economic problems but a reflection of increased uncertainties.
Nevertheless there were also impressive examples of improving governance.
“It’s a truly extraordinary effort by the central bank in essence trying to re-licence the whole banking system in a non-crisis environment and I don’t think there are any examples of countries that have done that in six to nine months,” Mr Thomsen pointed out. The central bank admits the process is not perfect but it shows willingness to undertake reform.
