Foreign banks eyeing Russia

(RIA Novosti economic commentator Nina Kulikova.)

The gradual improvement of the macroeconomic situation in Russia is making its market more attractive for foreign investors, including in the banking sector. According to the latest data of the Central Bank of Russia, the share of non-residents in the aggregate capital of Russian banks has nearly doubled in 2005, from 6.2% at the beginning of 2005 to 11.2% early this year.

The Russian banking sector posted intensive growth in the past few years, largely due to successful reforms on the country’s financial market. The system of insurance of individuals’ deposits was created and a law on credit bureaus was enforced in 2005. Russian banks are gradually converting to international financial reporting standards, which is strengthening the national financial sector and making it more strategically stable and investment attractive.

The actions of the Central Bank to cleanse the banking system of dishonest players and unviable organizations are facilitating transparency and high quality of services and governance. The number of players in the banking sector is decreasing, while banks are becoming larger.

Deutsche Bank Moscow president Alexis Rodzyanko said the restructuring of the banking system had progressed considerably in the past years. “Changes in the Russian banking system were especially marked in the past three years,” he said. “After reshuffling their management, the Central Bank and the Federal Service for Financial Markets got down to the bank reform, meaning the structure of the banking system.”

Western banks are becoming increasingly active on the Russian financial markets, but the form of their involvement remains an issue of discord.

As of now, foreign banks are allowed to open subsidiaries in Russia with the permission of the Central Bank. The authorized capital of a subsidiary should be not less than 5 million euro, and 75% of the staff and 50% of the board of directors should be Russian citizens. A subsidiary must act as an independent legal entity in compliance with Russian law and fulfill all directives of the Central Bank of Russia. The latter has the right of bank supervision over subsidiaries and can impose sanctions in case of violations. Foreign banks also may be minority shareholders of Russian banks.

However, during negotiations on accession to the World Trade Organization (WTO) Russia was faced with the demand to open the door to branches of foreign banks. Russia’s main opponent in this issue is the United States.

Unlike subsidiaries, branches are a structural part of the head company and are therefore subordinate to it and are governed by the laws of the country where the head company is registered. Therefore, all transactions between the branch and the head company are termed internal and cannot be controlled by the Russian financial authorities.

The Russian negotiators at the WTO talks say firmly that allowing the branches of foreign banks into the country is fraught with major problems for its underdeveloped banking system. They say that Russia will not allow foreign banks to open branches in the country and foreign banks will have to continue operating here as subsidiaries. President Vladimir Putin has recently supported this stand. “I want to confirm that the Russian government agrees with the national business community that the operation of foreign banks’ branches in Russia should be limited now,” he said.

German Gref, Russia’s Minister of Economic Development and Trade, said the operation of foreign banks’ branches in Russia would disrupt the equality of competition with Russian banks because Western banks can attract cheaper resources. “Foreign and Russian companies should have equal conditions of competition. If a foreign bank or insurance company wants to work on the Russian market, it can establish a subsidiary here. This entails higher standards of operation but equal conditions for all market players,” he said.

Restrictions are also due to the impossibility to track the movement of capital in modern conditions, as well as the struggle against terrorism and money laundering. “Some banks are not welcome in Russia,” Gref said. “These are the banks of third countries that do not always operate aboveboard, financing terrorism and laundering dirty money.”

Alexander Murychev, president of the Association of Regional Banks of Russia, said opening branches would benefit foreign banks, because their operation would be cheaper and they would not have to work according to Russian laws or pay taxes to Russia. In fact, they do not need to open branches because subsidiaries can do everything branches do, including have access to the resources of the head company.

“We have taken a moderately liberal attitude to them, because we give them an opportunity to work” in Russia, he said. “But we must not open all doors. This is a question of principle, and I am sure that it will not hinder Russia’s accession to the WTO.”

There are no obstacles to the work of foreign capital in Russia’s banking sector, said Vladimir Safronov, deputy director of the Central Bank’s banking regulation & supervision department. “Foreign capital can operate in the form of resident banks with predominantly foreign capital,” he said. “In my opinion, the issue of foreign banks’ branches is not a problem at all.”

As of February 1, 2006, 136 of the 1,199 banks operating in Russia were registered with foreign capital. As many as 42 of them are 100% foreign owned, and the share of non-residents is 50% to 100% in 11 banks and 20-50% in 14 lending organizations. Foreign banks’ subsidiaries are located in 30 members of the Federation, including 64.7% of them in Moscow.

It looks as if a growing number of foreign banks are accepting Russian rules of the game.

“Deutsche Bank wants to be regarded as a Russian bank here,” said Alexis Rodzyanko. “On the one hand, it is an international financial company with huge possibilities, but, on the other hand, it is a Russian bank with foreign capital. Russia is part of the European community and so leaving Russia would be the same as leaving European markets.”

Non-residents’ influence on the Russian financial market has been growing. The subsidiaries of foreign banks, which have bigger experience and progressive technologies, are gradually winning over the Russian market.

The aggregate authorized capital of all Russian lending organizations has grown by 16.8% in 2005 and amounted to about $16 billion as of January 1, 2006. Foreign investment in the capital of Russian banks has grown by 110% to $1.8 billion. Foreign investments into Russian banks have grown faster than their authorized capital. As a result, the share of non-residents in the aggregate authorized capital of all lending organizations in Russia grew by 11.15% by January 1, 2006 against 6.19% a year before.

Competition is growing commensurately. New foreign players are coming to the Russian market, while old-timers are strengthening their positions and spreading to the regions. Citibank is working very well in the retail sector and plans to double the number of divisions this year (it has 29 so far). Last year, the French Societe Generale bought the Samara-based Promek-bank (auto loans) and DeltaCredit (mortgage programs). BNP Paribas announced the intention to open 150 offices in Russia, and the Austrian Raiffeisen International made public the acquisition of Impexbank, which has a ramified retail network in the regions.

In 2005, the Central Bank of Russia registered two new banks with 100% foreign capital, OOO Morgan Stanley Bank and ZAO Swenska Handelsbanken. Several banks have increased their authorized capital with foreign money, some of them becoming fully owned by non-residents (including ZAO Raiffeisenbank Austria and BNP Paribas ZAO).

Foreigners also can get a part of capital through initial public offerings (IPO). It has been estimated that foreigners may acquire more than 10% in Rosbank and Vneshtorgbank during their IPO (Gazprombank is preparing an IPO too). The share of foreign capital in major Russian banks will most likely continue to grow.

Foreign banks’ subsidiaries and Russian banks operate by the same rules here, but foreigners have competitive advantages, notably experience accumulated on global markets. It is not in the interests of the Russian financial market to give them additional advantages by allowing to open branches.

But the Russian authorities are pursuing a policy of attracting foreign capital, which is why they say that a ban on foreign banks’ branches does not amount to a ban on the inflow of foreign capital. -0-