Where does the Russian banking system stand today? What role has state support played? What does the future hold for smaller and mid-sized banks? These and other questions posed by Voice of Russia on-line commentator Vladimir Mayevski are answered by Victoria Belozerova, senior banking analyst with the rating agency RusRating.

MAYEVSKI: How would you assess the state of Russia’s banking system overall? What role has state support played? Do we now know what needs to be done? Is the crisis under control?

BELOZEROVA: The relative stability of Russian banks during the current crisis owes a great deal to official support. As well as providing a substantial volume of funds in the form of loans, the government has provided “psychological” support by reinforcing the banks’ public image. In effect, the authorities have signalled that they stand behind the banks – the top hundred, anyway – in the event of a system-wide crisis. That has played a critical role in shaping the behaviour of both clients and investors. And in my opinion, right now this form of support is indeed the most appropriate means for “controlling and managing” the banking crisis.

MAYEVSKI: The number of banks is not constant and on the whole has been trending downward. The suspension of a banking license is no longer big news. Does this have negative implications for the real-sector economy?

BELOZEROVA: It’s true that the number of banks is in decline – that trend was clear even before the crisis, as regulators took measures to shut down the “unscrupulous” ones. In fact, that same process is still under way: all banks that play a significant social or economic role, whether at the national level or not – in other words, banks with a normally functioning business – have benefited in one way or another from state support. Some, for example, those experiencing difficulties, have been taken over by other banks with the help of government bodies, while in other cases regulators have approved restructuring. In other words, the banks losing their licenses, the banks that are being liquidated, are the ones whose disappearance involves the least cost to the real sector economy and their creditors.

MAYEVSKI: During the 1998 crisis smaller and mid-sized banks held up better than their larger rivals. What’s can they look forward to in today’s market? Will they survive, or will the big banks take over?

BELOZEROVA: I believe the smaller and mid-sized banks do have a chance: who, after all, in this crisis, has truly been able to stand solely on their own two feet? At the same time, there’s no doubt that state support for the major banks – and we’re talking here about billions of roubles in relatively long-term funds – gives them a clear competitive advantage over small and mid-sized players. Even so, the latter have an important role to play, particularly in financing smaller and mid-sized business in the regions.

MAYEVSKI: According to First Deputy Premier and Minister of Finance Alexei Kudrin, the most serious problem facing the banks is growth in overdue loans, which are rising by an average of 14% each month. Sberbank CEO German Gref agrees: in his opinion, the actual volume of “bad” loans in the banking system is significantly higher than official figures suggest. If the upward trend continues – and that is more than possible – the state will need to put up billions of roubles to keep banks as going concerns. And it will also need to come up with a way of taking the bad debt off their balance sheets. Can that be done in Russia?
 
BELOZEROVA: Setting up “bad banks” has worked quite well in the experience of other countries, and I think the same approach could be adopted here in Russia. As I see it, the crisis is drawing a line between stronger banks and weak ones. The strong will survive, while the weaker will be propped up for the duration the crisis and then eventually disappear from the market.

MAYEVSKI: Many experts believe a second wave of the crisis will hit this autumn. Sberbank President and Management Chairman German Gref points out that even after six months in crisis the Russian banking sector has seen few serious problems. In his view, the first wave of the crisis had little effect here since Russian banks weren’t drawn into the market for derivatives, which is where developed-country banks got hurt. What mainly hurt banks in Russia was excessive international borrowing, driven by the profits on business loans and the assumption that refinancing would always be available. But now all that cheap money is gone: the loss of trust on global markets has pushed up the cost of foreign borrowing to the point where it’s out of reach for most banks in this country. That left many on the edge of failure until the government stepped in. Next banks were hit by a collapse in the real-sector economy, which also worked to undermine stability. So it’s not hard to understand why Gref is saying that the crisis, for Russia, is still in its early stages. In fact, as he points out, the true state of affairs is not yet known. So what’s coming: a second wave, or are we about to experience a full-blown banking crisis?

BELOZEROVA: Yes, the market is going to be hit by a second wave. It’s important to remember that the first wave was not caused by any structural weaknesses in the Russian economy: it was triggered by a crisis in global financial centres, i.e. by problems in the world’s financial system as a whole. Any economy that is integrated into the global system was bound to be affected. But now  Russia’s economy is coming face to face with its own internal problems. Just now the risk of business failure is very high in many sectors. And those businesses have borrowed from the banks. At the moment overdue claims stand at around 10% at several major banks, but that percentage is only going to increase. And as risks build banks prefer to avoid financing real-sector companies. It’s more than possible that problem loans will hit a level where many banks find themselves unable to cope. And in that case, as before, the most likely source of help will be the state. The form and extent of that support is what will determine the impact of the second wave.

MAYEVSKI: It’s plain to everyone that banks have a critical role to play in efforts to overcome the crisis, particularly when it comes to credit for the real sector. And here, as you say, there’s little sign of progress so far – which brings us to another question: when and under what conditions will we see a genuine recovery in business loans?

BELOZEROVA: Real sector firms are suffering not just because the prices of certain goods are falling, but even more because of a lack of financing. And it’s not only the businesses themselves that need loans – so do their customers. Over the past ten years the Russian economy has made huge strides towards establishing a financial system that gives business access to credit resources – only to see them virtually disappear.

Banks will be in a position to finance the real sector when they themselves have access to stable, predictable and reasonably long-term funding at an acceptable cost. But the banks’ cost of funds isn’t the only factor that determines the cost of borrowing for businesses. More importantly, that cost depends on assessed credit risks, which right now are extremely high.

MAYEVSKI: Prime Minister Vladimir Putin recently told a group of Russian bankers that the government needs to create the conditions under which a cut in the basis rate leads to a real fall in the cost of loans. Any bank that takes advantage of state funding, it has been decided, will be obligated to extend an equivalent volume of business or personal loans for periods of at least one year and at no more than three percentage points over the refinancing rate. [On 23 April the CBR cut its refinancing rate from 13% to 12.5% per annum.] Putin emphasized that this cap applies to the total cost, including commission payments. To facilitate this process, he has asked the Ministry of Finance and CBR to amend the structure of official guarantees so that government funding is made available immediately following a default, before a bank takes steps to recover collateral. He also insisted that, “The CBR should ensure that these conditions are strictly enforced [in order to] boost financing for the real sector.” But are banks really about to extend loans at such low rates? Rouble deposits are paying 15-17% these days. Many bankers say that means the cost of financing for real sector firms – and other borrowers, too – needs to be at least 20% per annum.

BELOZEROVA: It’s true that interest charges on loans are extremely high right now, and even then financing is only available to a select few “top-notch” borrowers. From a bank’s point of view, any other strategy could prove fatal. So the recent cut in the refinancing rate is unlikely to have any impact on the cost of loans at most banks.

But the government can and should promote its policy through the state-owned banks. A number of steps have already been taken, and we could start to see an effect in the near future. In any case, Russia’s state-sector banks are so dominant that their activities on their own have a noticeable impact on the national economy.