Corruption in Russia has helped drive up interest rates on loans to the point where it's choking off economic growth.
"Rates are high now and that makes it hard to do business," Garegin Tosunyan, head of the Russian Association of Banks, said at the St Petersburg International Banking Forum in July. "Part of the reason they are high is there is a relation between corruption, ease of doing business and interest rates."
Corruption rose around the world in 2012, according to the latest report from graft watchdog Transparency International, and it that's true for Russia: 50% of respondents in the "Global Corruption Barometer 2013" said the level of corruption in Russia had increased over the last two years, while 37% believe it had increased "significantly" and nearly 80% believe graft is a "serious problem".
While corruption increases the costs for all businessmen, it is having a significant impact on the country's banks, driving up interest rates to the point where they are hurting the economy as a whole.
Tosunyan showed a chart plotting corruption against interest rates (see chart below) for the major developed and developing markets of the world. There is a clear correlation between corruption and interest rates, and Russia is one of the worst performers in the world: the more corrupt a country is, the higher the interest rates. Tosunyan went to say that there's a similar relationship between interest rates and the ranking in the World Bank's Doing Business survey, where Russia also does badly.
The bribe premium
Russia has always suffered from corruption, but the problem has become acute since the economy shuddered to a halt in the first quarter of this year. The costs of inputs is also driven up by corruption because there is a "bribe premium" added to most things, but especially imports; Yulia Latynina, the flame-haired host of a famous talk show on Ekho Moskvy, once pertinently asked in an op-ed why a cup of coffee in Moscow costs the same as one in Paris, despite the fact that Russian incomes are half those in France.
These high prices coupled with the high cost of borrowing and the slow place of growth - Russia's economy expanded by a mere 1.6% in the first quarter - have made many investment projects now only marginally profitable, so companies are not borrowing or building new facilities. The upshot is the labour market is drum-tight with unemployment at a historic low even as real wages continue to rise, but nevertheless industrial production came to a halt in May.
Interest rate panic
The Kremlin is starting to panic. Russian President Vladimir Putin has launched both a wide-ranging anti-corruption campaign and also charged the government with lifting Russia from 120th place in the World Bank's index that measures how easy it is to do business. But both these measures are going to take a long time to implement or pay dividends.
In the meantime, the government moved to attack the problem of high borrowing costs from the other end of the spectrum in July. Russian President Vladimir Putin invited the heads of the biggest banks to his dacha at Novo-Ogarevo earlier in July to "find out why interest rates are so high." The newly appointed governor of the Central Bank of Russia, Elvira Nabiullina, and her adviser, the previous governor Sergey Ignatiev, were also invited to this tea party. "Small and medium-sized business needs cheap and long money," Vladimir Putin said to the guests. "The cost of bank loans in Russia is said to be too high."
Putin said in later remarks that the bankers had told him rates were high because risks were high, but Putin dismissed this explanation after Ignatiev said the majority of Russian banks overstate risks on purpose. "Banks explain it by risks, however, macroeconomic risks in the Eurozone are much higher, but rates are much lower. We should find out what factors, except the desire to receive a profit, push our banks to raise rates and why competition doesn't work here, although there are 900 banks in the country."
Consumer lending has been expanding at a blistering pace in the last two years (although it is starting to slow now), but corporate lending has collapsed: corporate loans grew by only 13% in 2012 and are expected to expand by 10% this year. While big companies can go overseas to find money, small ones can't. However, lending to small and medium-sized enterprises (SME) was actually one place where lending did grow last year, up 15-16%. However, none of Russia's bank rely on this segment for profits. "Loans to start-ups are offered at rates of 20% and higher, fees excluded," Putin said, clearly on top of his game during the meeting. "Profitability is out of the question in this case. It's easier to deal with big companies, but they are not the whole economy."
Following the meeting, Deputy Finance Minister Alexei Moiseev (a former chief economist at both Renaissance Capital and VTB Capital) came out with a plan to boost affordable loans to SMEs.
First is an immediate injection of cash. From June, RUB100bn ($3bn) of money from the National Wealth reserve fund will be placed on the accounts of the de facto state development agency VEB at 5.25% for 10-12 years. In turn, VEB is to lend this money to commercial banks for long and cheap loans for SMEs at rates of not more than 10%. This will reduce the effective borrowing cost of SMEs to about 6.25% from the over 20% that most commercial banks are currently charging them.
In the medium term, Moiseev said his plan focuses on four areas: increasing the liquidity of banks, enhancing competition in the sector, cutting their costs and protecting the rights of creditors.
Liquidity will be boosted by raising the limits on budget funds that can be placed on deposits with commercial banks - RUB150bn to RUB500bn for deposits up to 30 days, and RUB50bn to RUB200bn for deposits up to three months. The CBR's Lombard list of assets that commercial banks can use as collateral will also be expanded.
Another measure will be to force banks to be even clearer to their potential customer what the true cost of borrowing is. Previously, the CBR ordered banks to publish the effective interest rates after many banks were adding hidden costs to loans.
To cut costs, banks won't have to keep records on borrowers and loans for so long and will be allowed to increase the number of documents stored in electronic form.
There are several plans for improving consumer protection, including creating better databases for mortgage loans and escrow accounts for the public to use in property transactions. (Currently Russians typically deposit the entire cost of an apartment as physical cash in a security box and then swap keys when the paperwork on the deal is done.)
The average interest rate for ruble loans to non-financial companies for a period of up to one year was 9.9% in May. If all the measures of the plan are implemented, the cost of loans to blue chips in the non-financial sector will go down by 2%, Alexei Moiseev promised, and the volumes of corporate loans should rise.
All this is well and good, but to really make a difference Russia needs to solve its most basic problem, which is cutting corruption and that will take years, if not generations to do.