FROM SAVINGS TO INVESTING
Expert, #26, 30.06.2008, p.42
Economics and Finance
Vladimir Dmitriev – Chairman of State Corporation ‘Bank for Development and Foreign Economic Affairs (Vnesheconombank)’, doctor of economics
Using savings of the state and citizens to finance long-term investment inside the country is a main way of the Russian financial system’s development. In order to fight inflation we have to establish control over budgetary expenses and raise their efficiency.
The foreign financial markets crisis demonstrated how vulnerable the modern financial system was. The risks that emerged are a sort of pay for a potential gain in economic efficiency achieved through creating more complex financial products, upgrading business models of market participants and further development of financial system as a whole.
Russia was relatively isolated from the financial crisis, which affected it only indirectly by limiting foreign financing channels. High-risk mortgage, which caused losses in the banking sector of the US and other foreign countries, is not common in Russia. The total amount of mortgage credits extended in our country is less than 30 billion dollars. The largest foreign banks’ direct credit losses were close to the said figure but write-offs of their losses were far beyond that amount (about 380 billion dollars). The mortgage amount in the Russian Federation is 1.9% of GDP in the US – more than 75%, in the EU – up to 50%. There are few examples of mortgage credit securitizaton on the Russian market and the use of complex financial instruments is quite limited.
But the past financial markets crisis is a warning for the future. Regulators and market participants should be aware that if problems similar to the said crisis would emerge the Russian market might be a lot less protected This would happened because of expected growth in lending, which is forecast to grow from 36% of GDP to 70-75% of GDP in 2015 as well as because of using more complex financial instruments and new borrowings from abroad.
Potential growth in foreign risks makes it necessary to improve the quality of the Russian financial system and compels us to search for new mechanisms for raising domestic savings as a source of long-term financing. In order to achieve required economic growth we’ll have to reduce the gap between the level of savings in the economy (about 30% of GDP) and fixed assets accumulation (about 20% of GDP) and encourage the growth in private savings. Without it, the financial system might be linked to foreign capital in the amounts exceeding reasonable requirements of international integration.
Volatility of financing sources became quite evident once the world’s liquidity crisis emerged. The crisis reduced lending volumes and increased lending rates. Any financial institutions using or intending to use foreign financing might face increased capital raising costs and this inevitably increases lending rates for borrowers.
If domestic financial resources are to be mobilized we should maintain favorable evolutionary background growth in savings above all through reducing inflation and taking structural measures to promote long-term financing through increased assets and long-term liabilities.
Inflation and efficiency of government expenditures
High inflation and its low predictability is a key reason for the lack of private savings. In all social strata, irrespective of their income levels, consumer behavior, financial literacy, financial investments and in the end, their perception of inflation, price growth discourages savings and confidence in financial institutions’ stability. Increased uncertainty makes Russian companies curtail their investment plans; it hampers their plans’ implementation and shortens their business planning horizons.
One of the reasons for inflation in Russia is the outrunning growth in government expenditures and their low efficiency. In the last three years, the federal budget increased almost by 1.5 times in real terms and in nominal terms it almost doubled. This growth outran that of GDP: the federal budget share of GDP increased from 15.8% of GDP in 2004 to 18.8-19.1 in 2008. Only in the first quarter of this year federal budgetary expenditures increased by one percentage point of GDP. The 2007 budget surplus of 5.4% of GDP is projected to all but vanish in the coming three years.
It was traditionally believed that we could control inflation not only through limiting budgetary expenditures but also through strengthening the ruble, which increases imports. Since 2003, when the ruble’s nominal appreciation started imports rose threefold. But now this gives minimal effect: the ruble’s excessive appreciation has a negative impact on domestic producers and mi-term reduction in Russia’s trade balance surplus would stabilize and might weaken the ruble by as early as 2010-2011.
The surge in food prices in world markets caused by the rapid growth in demand in developing countries results in the import of foreign inflation. In the past year, world food prices increased by more than1.5 times and grain prices almost doubled. Nevertheless, increased food production is not expected to return prices to their previous levels. The situation in regulated tariffs is another component of inflation. Nevertheless, growing government expenditures are now the main factor behind inflation.
We can’t limit our fight against inflation to cutting down budgetary expenditures alone we should analyze budgetary expenses efficiency and their final performance per each ruble spent. Budgetary expenses are noninflationary if they are used to reduce high production costs and help accelerate economic growth.
At present, financial authorities give top priority to using relevant mechanisms for administering expenditure rather than to expenditures efficiency and their practical performance. Essential steps have been taken to make budgetary procedures more transparent, to better report and substantiate them but they do not determine efficiency of government expenditures. An attempt to link government authorities’ performance with their financing does not yield tangible results. And we won’t improve the situation without changing the system of financial administration. Basically, these changes should change the system of personal responsibility inside government agencies. Thus, hard work lies ahead in reforming the budget system, recipient sectors and this work aims to reduce excessive expenses and inflation.
Long financing: role of funded pension system
Control over budgetary expenditures and their performance would allow to make budget surplus more stable and carry on replenishing the National Welfare Fund (NWF), which now amounts to 2.3% of GDP. The establishment of the National Welfare Fund designed to stabilize the pension system is in line with world trends. Already today, the volume of national finds in the world economy established to support pension system exceeds that of sovereign funds accumulating budget surpluses including revenue from raw materials exports and in part international reserves. By an estimate for the year 2007 the amounts of these funds were put at 4,4 and2.5 trillion dollars respectively.
The Budget Code provides for the potential use NWF funds to cover deficit of the Russian Pension Fund and co-finance voluntary pension funds of citizens. These two different options of using NWF funds are designed to secure pension guarantees and raise the level of pension security – two priorities of economic policy.
The decision to use the National Welfare Fund’s financial resources to finance deficit of the Pension Fund is short-term and if we do so we NWF’s resources might be spent very quickly especially under unfavorable foreign oil price conditions. If we finance the insurance pension system’s current deficit we can’t achieve a sustainable solution we can only partially smooth out problems caused by changes in population age structure and imbalance between the Pension Fund’s receipts and liabilities.
The use of NWF’s funds for co-financing individual voluntary savings of citizens sets in motion a principally different mechanism because in this case we do not finance current pension payments but use these funds for building up individual pension savings until a person retires. In this case, pension savings benefit not only citizens but also are a source of long money, which is in short supply in our economy and is needed to finance major investment projects with a long payback period. Thus, NWF’s money will be used to increase lending volumes and credit periods and this would make it possible to finance infrastructure investments.
Hence, we have every reason to use the National Welfare Fund’s financial resources to capitalize pension savings funded portion to promote long –term lending of the economy and improve the pension system. Nowadays, invested pension reserves in Russia are so far as small as about 1.5% of GDP, at the same time in a number of countries this figure exceeds 70% of GDP for example in the US and Great Britain. If we are to achieve percentage levels of such European countries as Germany or Italy (3-4%) we’ll have to increase pension savings by several times.
Increased financial capacity of the funded pension system would yield substantial gains both for the economy and citizens. A part of national savings invested now in the international reserves would secure long-term investment in Russia through the national financial market’s mechanisms. As opposed to using these funds through the budget or for covering deficit of the Pension Fund, their efficiency is much higher if they are invested through the funded pension system including private trust management companies. The funds will be placed to citizens’ individual accounts increasing their own pension savings. In fact, this is the only adequately functioning personicified and transparent way of distributing funds. And principles of calculating accruals bring gains to elderly people.
The decisions taken this year on co-financing citizens’ additional pension savings create an important precedent for using NWF’s funds. The extent of citizens’ participation allows us to reveal their interest in increasing their pension savings and see to what extent they trust the funded pension system. This is a valuable practical experience. Nevertheless, the proposed co-financing volumes would be rather limited and, given citizens limited participation, are comparable with the National Welfare Fund’s interest income.
We must allow for further expansion of financing for pension savings by using NWF’s resources. The flow of these funds into the Russian financial market should be gradual lest an emerging appraisal of Russian assets and interest rates be distorted. If these funds are used in the right way, the proposed reform will improve pension provision to citizens, boost the appeal of the Russia stock and debt market and help establish Russia as the world’s financial center.
A new class of long-term financial instruments
In order to expand long-term investments we’ll have to develop new mechanisms and investment instruments of long duration comparable with the duration of pension liabilities.
This class of debt instruments includes, for example, infrastructure bonds, which are actively used in the US. It’s quite evident now that demand for this type of investments, given increased pension savings, will grow and we should make arrangements for issuing such infrastructure bonds in advance.
There are several options for issuing infrastructure bonds. Under the first option they may be issued in the form of debt instruments of individual or syndicated investment projects with a guarantee granted by the state Russia’s region or a large financial institution. These bonds may also be the state’s target liabilities increasing investment resources of federal or regional budgets. The second option is designed for investments in infrastructure intended for free use, for example, in the education sector. The first option is applicable to paid facilities. This large part of infrastructure includes power engineering, transport, housing and communal services, telecommunications.
Private investors’ interest in infrastructure bonds would depend on the quality of investment projects preparation and implementation because funds are raised for such investment projects. This means that a project’s business model and its organizational and legal framework should be easy to understand, investors should be confident that the project will be paid back, established tariff terms are stable and their investments will be paid back and yield a return.
There is no doubt that by launching a number of new unique projects in various infrastructure segments we are just starting a process of large-scale investing. It is the Bank for Development that is directly responsible for organizing such investments including raising financing and the experience the Bank is gaining in this sector will form the basis for developing and spreading reliable financial instruments including infrastructure bonds. This experience would be highly instrumental in raising long-term financial resources for infrastructure projects on the emerging financial market.
Bank for Development. Beyond Competition
Date: June 2, 2008, City: Moscow
Author: VENERA KARPINSKY
The Bank for Development does not compete with Russian credit institutions. Taking part, for the most part, in public-private partnership projects it comes up against the same problems as its commercial colleagues do, said Vnesheconombank Deputy Chairman and member of the Management Board of Bank for Development and Foreign Economic Affairs (Vnesheconombank) Anatoly Ballo.
- Can you as early as today assesses the Bank for Development’s total amount of investments in the country’s economy and its impact on GDP growth?
- Development banks’ impact on GDP dynamics varies in different countries. I think that the establishment of Russia’s Bank for Development would increase economic growth rates because we go into industries, which were mostly ignored by commercial banks. Moreover, the Bank for Development would help build new industrial production facilities. For example, financing the construction of new railway branch lines on the remote territories would make it possible to develop mineral deposits there. We also participate in the projects funded on the principles of public private partnership (PPP). Such partnership tends to give a synergetic effect and stimulates economic growth.
- For example, the Bank for Development is responsible for financing two projects being implemented now with the use of PPP mechanisms. One of the projects is aimed at building a timber-processing complex in the Boguchan district of the Krasnoyarsk Territory and the other – at developing urban water supply and water drainage infrastructure in the Rostov region The most promising projects (there are more than 15 projects) identified by the expert examination include such projects as the construction of a railway branch line Kyzyl-Kuragino-Elegest in the Republic of Tyva, an element of the comprehensive project “Ural Industrial – Ural Polar” as well as a number of projects in housing and communal services infrastructure worth more than 70 billion rubles. A list of promising projects identified by concession tenders includes the following ones: the construction of the Orlovski tunnel under the Neva river in Saint Petersburg, a high-speed motorway “Moscow – Saint Petersburg on the section of 15th – 58th kilometer and a motorway “Western High-Speed Diameter” and “the Odintsovo bypass toll motorway”.
The Bank for Development’s role in accelerating the investment process in the country is becoming increasingly important in a situation of financial crisis and many market participants’ unpreparedness to go into long-term projects. By taking part in a project (as a rule it finances 25-30% of its value) the Bank for Development gives signals to other investors. The European Bank for Reconstruction and Development (EBRD) performs a similar role. I must say that it is the Ministry of Economic Development and Trade that recommends that the Bank’s participation share should be 25-30% of a project’s value. But irrelevant banking legislation in the sphere of collateral regulation (specifically, collateral distribution between creditors) hampers the establishment of syndicates in which Russian banks could participate. For example, upon financing a large-scale facility, a single property complex can serve as a collateral and we can’t “divide” it between creditors (as opposed to a block of shares). Thus, collateral is transferred to one of creditors. In this case there emerge the so called first and second-hand collaterals (or consequent collaterals). In case of the borrower’s default, the collateral holder disposes of property complex and distributes the income between syndicate participants. But in doing this, he is supposed to record the income on his balance sheet despite an agreement with other creditors. Now the Bank is preparing its proposals for addressing this problem.
- Top priority investment sectors have been identified for the Bank. In what sectors are you already investing and in what sectors do you intend to invest in the short and mid-term?
- The Memorandum sets forth sectorial priorities for Bank for Development and Foreign Economic Affairs. At the same time, our Bank’s main lines of investment activity are designed to implement projects aimed at eliminating economic growth infrastructure restrictions. In other words, we can finance projects that make it possible to dynamically develop one region or another and participate in carrying out projects aimed at effective utilization of natural resources, environment protection and improving the environmental situation.
I’d like to remind you that de jure we have been acting as the Bank for Development for almost a year (The Federal Law “On Bank for Development” dated May 17, 2007 N82-FZ came into force on June 4, 2007 – VESTI) but de-facto we had been performing these functions for two years prior to the establishment of corporation, that is, we had focused on long-term infrastructure projects and had not financed short-term ones.
Already today, 70% of our loan portfolio formed from portfolios of the “old” and “new” banks accounts for loans with an average period of more than three years. For comparison: within the whole banking system, as estimated by the Ministry of Economic Development and Trade, the amount of long-term loans (with a period in excess of three years) does not exceed 20% of the total loan portfolio. From three to six projects are considered once a month at a meeting of the Bank’s Supervisory Board. I’d like to remind you that since December when the Bank’s charter capital rose to 180 billion rubles, the Supervisory Board took a positive decision on 15 projects in the total amount of 271.5 billion rubles. VEB’s participation share is 235.6 billion rubles. The sectorial structure of the decisions taken by the Supervisory Board is the following: infrastructure – 30%, aircraft building – 11%, microelectronics – 26%, timber industrial complex – 12%, military-industrial complex – 19%, agro industrial complex – 2%. Since the Bank has been operating as a development institution (June 2007 – February 2008) it has formed its long-term project portfolio in the total amount of 1 trillion rubles and the Bank’s financing amount for them is expected to be about 0.5 trillion rubles.
The sectorial structure of the Bank’s long-term project portfolio is the following: timber processing - 24%, transport (including infrastructure) – 25%, power engineering (including infrastructure) – 17%, housing and communal services (including infrastructure of technoparks and special economic zones) – 7% aircraft building – 7%, defense industry – 8% other projects – 12%.
The Bank has already started to finance the implementation of some projects, for example, the construction of a Pulp and Paper Mill in the Krasnoyarsk territory. The Bank has approved the size of a credit line in the amount of 41.4 billion rubles. The project is financed jointly with the Investment Fund. It is the first pulp and paper mill being built in our country in the last 30 years (see the reference).
In implementing such major projects as the construction of the Boguchan Pulp and Paper Mill besides technological and financial problems we face other problems too: shortage of specialists capable of working at this sort of facility and not only engineers and technicians but also blue-collar workers. A lack of qualified personnel is a big problem today. As far as I know, Russia’s Union of Machine Builders is making efforts to establish special training facilities. The Bank also participates in implementing projects in the agro industrial complex despite the fact that the Memorandum does not provide for the Bank to invest in this sector.
Moreover, the Supervisory Board recommended the Bank to finance projects in such sectors as small aviation, deep timber processing, pure water systems, deep fish processing. Russia is known for its low fish consumption. Russia is at the bottom of the list of industrialized countries in terms of fish consumption. The problem in this sector is that there are a lot of private producers who export the bulk of produced fish. Recently I’ve been at a meeting of the presidential representative in the Far Eastern Federal District. All fish from the Far East goes to Japan.
- The Brazil Development Bank is called the resuscitator of aircraft industry in Brazil and the co-author of the industrial miracle of the 1990s – mid-range Embraer aircraft. This business project was recognized as instrumental in boosting sectorial and national competitiveness. Financing was based on PPP principle. To what extent is your Bank capable of performing a similar role of aircraft industry resuscitator? It has been known that Vnesheconombank is determined to spend up to 30 billon rubles to purchase additional equity issue of the United Aircraft Building Corporation and receive up to 20% in the Corporation’s capital and the transaction is planned to be completed by mid this year.
- The Brazil Development Bank was at the right place at the right time time. The reason for this success story was that the project’s preparation coincided with the Brazil Development Bank’s activity. The miracle might not have happened without the Brazil Development Bank, which managed to put together a competent team, adopt a relevant policy and identify the right niche.
We also participate in projects aimed at supporting aviation industry. Recently, the Bank’s Supervisory Board has established a credit-documentary limit for the United Aircraft Building Corporation for the year 2008 in the amount of 24.69 billion rubles. Specifically, the credit resources will be used to build a research and production aircraft-building cluster on the basis of TsAGI (the city of Zhukovsky). The limit also provides for financing the Sukhoi Aviation Holding Company to implement a program to build and equip new SSJ 100 aircraft, certify them and launch them into batch production as well as create an after-sales service system on the territory of Russia and abroad. The limit also provides for financing work and investment projects within the program to supply new Russian aircraft up to the year 2015 approved by the United Aircraft Building Corporation.
We opened several credit lines not only for developing new aircraft but also for purchasing import components. Credits extended by former Vnesheconombank three years ago made it possible to launch all programs by the Sukhoi Civil Aircraft Company. But our support for this project is not limited to financial assistance alone.
Within the framework of establishing an export credits insurance agency we are jointly with French and Italian export agencies developing a program of selling this aircraft. It is well known that the program to build this aircraft is international – there are a lot of import components in the list of Sukhoi Super Jet-100 parts. In the future, a greater part of them will be manufactured in Russia. At the same time, manufacturing of this aircraft’s components in other countries makes it possible to get agencies in Italy and France to sell this aircraft abroad. As practice shows, an aircraft building project’s success depends not only on manufacturing itself but also on the ability to sell aircraft. As a rule, airliner buyers rely on leasing schemes and long-term credits upon purchasing aircraft. For this reason, we are preparing a financing program, which provides for the optimal sale of the aircraft. We are going to extend the so-called export credit, that is, finance buyers of Russian aircraft for a period of eight – ten years.
- The program is going to be the Bank’s first experience as an export agency?
- As a member of the Russian banks syndicate, Vnesheconombank financed the supplies of Il-96-300 and Tu-204-100 aircraft to Cuba against the Cuban Government’s guarantees and the Russian Finance Minister’s counter-guarantee. The financing program we are preparing now is a commercial one without any government guarantees.
- Do you intend to act as a co-author of any industrial miracle?
- We are planning to finance the construction of high-speed railways but this is not a matter of immediate future. Non-optimized concession legislation hinders the process of financing transport infrastructure facilities, which are veins and arteries of the economy.
We are also planning to finance power-engineering facilities, specifically, in nuclear power engineering. It takes at least three-four years to build power-generating units in this sector.
- The Memorandum provides for your Bank to participate in projects financed, among other things, with the funds from the Investment Fund a well as associated with building special economic zones infrastructure.
- The Bank is active in discussing these issues with the Ministry of Economic Development and Trade and the Ministry of Regional Development. We have agreed that if we go into projects financed within the Investment Fund, a total participation share of the Bank and the Investment Fund is not to exceed 75%. Many ask a question why your Bank and the Investment Fund participate in one and the same project (for example, in the Lower Angara Area Development Project)? I see nothing wrong in this co-financing scheme, as the Investment Fund’s funds are non-refundable subsidies. Our credits are extended on commercial terms. Of course, they have grace periods. During three years of construction we may not collect interest from borrowers and principal is to be returned after a project starts to function and generate cash flows. But credits are granted at interest rates and against collateral. The state on the one hand stimulates investors through the Investment Fund, we on the other help synchronize subsidies with private investments. But we are also ready to finance special economic zones infrastructure. I would like to give you the following example. An automobile cluster is being formed and several technoparks are being built in Kaluga. Such corporations as Volkswagen and Peugeot are already present in this region. Our Bank’s Supervisory Board approved our proposal to participate in the Kaluga region’s investment program. Our Bank and the local administration intend to build technoparks infrastructure. Moreover, it has also been planned to establish a development corporation in the Kaluga region. On a parity basis with the Kaluga region Administration the Bank is determined to participate in the Corporation’s charter capital. Our Bank’s funds will be used to form infrastructure of technoparks. By our estimate, each ruble invested by the Bank and the Administration within the framework of the region’s investment program will raise no less than10-15 rubles in private investments.
- What are the most pressing problems you come up against in financing large –scale projects in the outrunning growth sectors?
It’s the low quality of projects being prepared. Those responsible for developing projects often ask us to provide them with credit funds without giving us business plans and sufficient information and give us only their business ideas.
Even some ministries recommend us to finance unprepared projects. This necessitates long periods – up to half a year – from accepting a project for consideration to the start of project financing. There are very few properly prepared or initially financed programs. Because, given optimal financial leverage with respect to a project, its initiators turn to commercial banks for financing. We do not compete with commercial banks and play a significant part in preparing projects for financing. We conduct comprehensive expert examination of projects. Information and analytical support of investment activity tends to be at a low level. Reference data needed for doing analysis are not available, for example, information on marketing. A lack of skills in structuring projects and working on principles of project financing is especially evident in the provinces. We are determined to organize a series of workshops to train specialists from administrations of all regions. They need to know our approaches and criteria in all regions.
- Are you going to establish your representative offices as the China Development Bank did? It has now 35 branches across the country.
- We can’t establish our representative offices in all eighty federal constituent entities. That is why in the first place we’ll go to the most sensitive areas, for example, the Far Eastern Federal District. Historically, the Bank is responsible for servicing foreign economic ties and for this reason we have our representative offices abroad – in London, Frankfurt, Milan, New York, China, India and even the Republic of South Africa and in Russia we have our representative office only in Saint Petersburg. Of course our foreign representative offices will be useful as we intend to create a positive image for Russia to raise investments for the Russian economy. Our representative offices will also perform explanatory functions and expand the Bank’s transactions (the so-called business development), that is, will search for interesting projects.
- How do you make decisions as to what sectors you should go into? –Do you do it on the recommendations of the Ministry of Economic Development and Trade or on the basis of your own research?
- The Ministry can’t interfere in our activity. It is important for us to see if other banks are in a position to finance a given project. Our Bank is not supposed to compete with commercial banks but I think that in real practice this principle is next to unworkable. I hold such major banks as Sberbank, VTB, Gazprombank in high esteem and I believe that these market participants are capable of financing any project in our country.
Why doesn’t Germany’s Development Bank KWF compete with commercial banks? It has special status – all its borrowings are guaranteed by the German Federal Government. Russia’s Bank for Development borrows funds without any special preferences. That is why in terms of long liabilities we face the same problems as the largest Russian banks do. And we are even in a more difficult situation than commercial banks, which as opposed to us have a diversified base for raising financial resources. We can’t raise personal financial resources.
- Do you think that legislation should be changed?
- The state has already limited us. We go into projects with a financing horizon of more than five years. Project value can’t be less than 2 billion rubles. Thus, a lot of projects are cut off from us, as we are not allowed to finance them.
There are a lot projects in the country and they are enough for all. But they require long funds for a period of 5 – 7 – 10 years. And today many banks, even large ones, can’t extend long-term credits.
- Does your model differ significantly from that of the German KwF Bank?
- We have studied many foreign development banks’ business experience quite thoroughly. Our Bank’s activity is modeled upon KwF, which was highly instrumental in rebuilding Germany’s economy after the Second World War. We entered into an agreement on cooperation with this Bank. Our Bank’s main difference from the German Bank is that its borrowings are guaranteed by the German Federal Government.
The China Development Bank’s business experience is of interest too. This Bank does not have any limitations in conducting its transactions. In the Celestial Empire they do not debate an issue of competition with commercial banks. Competition in any sector is welcome because in China they believe that economy benefits from competition. And it would cause banks to prosper. The China Development Bank has also government guarantees for its borrowings. The Bank can support any sectors. And now it is financing the Olympics to be staged in Beijing. This Bank can extend an emergency credit in the amount of only 10 thousand US dollars to eliminate disaster consequences. I don’t want us to replicate this situation in Russia. But an issue of competition with commercial banks is being overblown. To my mind, competition would only improve the borrower’s standing. If commercial banks offer more favorable terms, customers will turn to them.
- Did transactions conducted by the China Development Bank have any impact on inflation growth in that country?
- No, the China Development Bank’s actions were insignificant against the backdrop of such factors as the overheated Chinese economy and the artificially fixed yuan-US dollar exchange rate.
- What principles is your interest rate policy based on?
- It is based on the Bank’s credit policy, which is approved by the Supervisory Board. Many think that we extend preferential credits. Our credits are not preferential. When determining an interest rate we act on the premise that a certain part of our loan portfolio (but no more than 20%) is formed from the Bank’s capital. Interest rates on our credits are a bit lower than in commercial banks due to differences in capital yield rates. In banks, this indicator is 10-15% (in banks, capital is the most expensive liability – shareholders invest in the capital with an yield of no less than 10%).
The Bank for Development’s strategy approved by the Supervisory Board on April 3 provides for capital yield rate to be no less than 5% (profitability benchmark is based on yields on long OFZs).
- In what way do you take into account the Government’s plans to redraw the country’s economic map and establish 7 – 10 macro zones in your policy?
- We are working in close contact with the Ministry of Regional Development.
Moreover, the head of this Ministry is a member of the Bank’s Supervisory Board. There is no doubt that we’ll give top priority to projects carried out in these zones. The Bank for Development is a constituent part of the uniform system of government policy aimed at supporting investment activity. The Investment Fund, regional policy to stimulate outrunning growth zones, the Bank for Development, and the Russian Venture Fund are constituent parts of this system. We give top priority to government programs in these zones.
- What about your partner relations with regional banks?
- I see them as partners if they are ready to be responsible for financing initial stages of investment projects.
It’s easier for them to do it. And the Bank for Development can’t start to finance a project without conducting a comprehensive expert examination. It is an initial project stage when project initiators have only business idea and do not have any business plans and project-budget documentation that poses the most serious challenge.
- But you’ve mentioned the fact that commercial banks would not finance unprepared projects…
- If commercial banks know their customers and are ready (though it is a risky operation) to finance an initial project stage, we in our turn would be ready to provide funds to finance the implementation of prepared project. Thus we do not compete with regional banks, as we are not responsible for offering settlement and cash services and for opening accounts for company employees and we are not engaged in credit card business. On the contrary, we are ready to carry on projects initiated by them and put these projects on a higher level. Besides, we can involve regional banks in monitoring project progress. We also need their assistance in providing settlement and cash services to companies whose projects we are financing as well as in replenishing current assets and so on. But to my mind, our cooperation could yield best results in supporting small and medium-sized business. At the same time, we are going to be very strict in financing and refinancing regional banks responsible for supporting small and medium-sized business.
- What banks became your partners in financing large-scale projects? Or do you enter partner relations in financing only small and medium-sized business?
So far we have entered partner relations in financing small and medium-sized business. Now the Russian Development Bank (RDB) to be integrated into our Bank later on is developing a program designed to support small and medium-sized business.
The RDB’s established limit for credits (guarantees, sureties) is 9 billon rubles in 2008 including credits (guarantees, sureties) to legal entities rendering assistance to small and medium-sized business in the amount of 2.5 billion rubles. By our estimate, the portfolio of credits to be extended to small and medium-sized business would amount to 42 billion rubles for 2012.
The BFI Consulting Group did a research among banks in which it asked them what sectors in their opinion should be financially supported by the Bank for Development. They mentioned transport, special and power engineering (63% of questionnaires) and electronic industry (52%). They also said that manufacturing industry and agriculture need support.
Clause 7 of the Memorandum on Financial Policies of State Corporation ‘Bank for Development and Foreign Economic Affairs (Vnesheconombank)’ approved by the Russian Government’s order dated July 27, 2007.
In 2007 – 2010, the priority areas of Vnesheconombank’s investment activities by sectors of economy shall be: a) aircraft-building industry and space and military complex; b) shipbuilding; electronics; c) nuclear industry including nuclear power engineering; d) metallurgy (special steels production); e) wood-working industry; f) military-industrial complex.
Concession Legislation Shortcomings
In accordance with the Federal Law “On Concession Agreements” the concedent represented by government and municipal authorities officially registers title to infrastructural assets built by the concessionaire right after construction completion.
The concessionaire recoups his expenses through commercial operation of infrastructural assets. From the Bank’s point of view a principal defect of Russia’s concession idea arises at the junction of Russian concession and budget legislation, legislation on procurements as well as legislation on competition and natural monopolies.
First, it is easy to imagine a case when an infrastructural asset is social and does not generate sufficient direct incomes, for example the Underground. Accelerated construction of such an asset can be financed if budgetary payments are made by installments to cover investments. But budget legislation and legislation on government procurements do not allow to implement this sort of scheme without formal registration of budgetary guarantees for such installment payments.
Second, the concessionaire’s commercial activity is regulated by third parties – by government authorities irrespective of the concedent’s contractual obligations. It is evident that the concessionaire would like to have guarantees for long-term economic regulation of his activity but the concedent can’t give them, as he is not authorized to do so. To put it differently, neither party to a concession contract is responsible for regulation risk management. And finally, in case of early concession contract completion for this or that reason when the concessionaire’s investments have not been refunded in full, the only way to refund them is to receive budgetary compensations.
From the point of view of a bank responsible for financing a project in order to cover this risk the concessionaire needs to receive a guarantee for the concedent’s contractual obligations including a procedure for early termination. Taking into account the fact that capital capacity of infrastructural projects are comparable with regional and municipal budgets and that the Budget Code places limits on regional and municipal authorities with regard to amounts of guarantees and credit periods, financing of new infrastructural assets construction on concession terms is problematic.
The Strategy of Bank for Development and Foreign Economic Affairs (VEB) envisages that the amount of loan portfolio would be increased to 850- billion rubles, capital participation share – to 120 billion rubles, the amount of guarantees – to 100 billion rubles.
Bank for Development and Foreign Economic Affairs (VEB) lists the following projects the implementation of which has already started or is to start in the immediate future as the most significant ones:
1. The project aimed at building the first in Russia production facility to manufacture sub-micron semiconductor components with topological norms of 0.1- 0.13mm implemented by OJSC Angstrem-T in Zelinograd. Its implementation is designed to develop the domestic electronic industry and can make a significant contribution to accelerating the development of all high-technology industries and increase GDP significantly. The Bank made a decision to open a credit line in the amount of 815 million euros for a period of nine years to finance the project (microelectronics).
2. Projects implemented by companies incorporated in the United Aircraft Building Corporation (UABC). The Bank made a decision to establish a credit-documentary limit in the amount of 24.69 billion rubles to enable the Bank, among other things, to participate in financing the establishment of a production aircraft-building cluster on the basis of TsAGI (the city of Zhukovsky), as well as in financing the Sukhoi Aviation Holding Company to carry out a program to build and equip aircraft of a new type of SSJ 100, certify the planes and launch their batch production, create an after-sale service system both on the Russian territory and abroad as well as finance work and investment projects under the Program of supplying new Russian aircraft up to the year 2015 approved by the United Aircraft Building Corporation.
3. The project to build a timber processing complex in the Boguchan district of the Krasnoyarsk Territory within the framework of the Lower Angara Development Project initiated by the Krasnoyarsk Territory Development Corporation. The Corporation was established with the participation of the Krasnoyarsk Territory Administration, OJSC Hydro OGK and the Bank to make qualitative changes in the economy of the Krasnoyarsk territory through implementing major investment projects based on PPP principle on the region’s territory.
Under the project, the Bank is responsible for financing the construction of a timber-processing complex including building its own timber materials base and a production facility with a capacity of 800 thousand tons of pulp, 250 thousand cubic meters of MDF panels, 500 thousand tons of craft cartoon and 700 thousand cubic meters of saw timber a year in the Boguchan district of the Krasnoyarsk Territory in the amount 41.4 billion rubles. It is one of the first projects in the pulp-and-paper industry in the last 30 years. It was given status of a top-priority investment project in the field of timber development.
4. Projects incorporated in OJSC RZHD’s investment project including a project aimed at upgrading a section of the railway line Kuzbass – the Far Eastern transport hub (the project’s value is 40 billion rubles, the payback period – 10 years, expected amount of financing by Vnesheconombank in 2008 is 6.3 billion rubles).
5. The project to develop urban infrastructure of water supply and water drainage in the Rostov region under the Comprehensive Program of Building and Reconstructing Water Supply Facilities (housing and communal services infrastructure), the project was initiated by OJSC Eurasian. It is the first project being implemented on a concession basis with the participation of the administrations of the Rostov region and the city of Rostov-on-Don. The program of investments under the project is expected to be carried out till the year 2021 and is comprised of three five-year stages. Its total value in prices of 2006 is 22.1 billion rubles and in today’s prices - 41.5 billion rubles, with the private investor’s funds being 32.7 billion rubles, the Investment Fund’s – 6.6 billion rules, the Rostov region’s and the city of Roston-on-Don’s – 2.2 billion rubles. Within the framework of financing the private investor’s investment program under the project (OJSC Eurasian) the Bank participates in the project company’s capital (19.99% of OJSC Eurasian’s shares, the Bank will open a credit line of 4.5 billion rubles for a period of 14 years to implement the first stage of the project carried out on the territory of Rostov-on-Don.
6. Projects in the transport infrastructure sector seeking to be financed through the Investment Fund of the Russian Federation (the Bank will determine the terms of its participation in the projects through concession tenders):
construction of the Orlovsky tunnel under the river Neva in Saint Petersburg;
building of a high-speed motorway “ Moscow – Saint Petersburg on its 15th – 58th kilometer stretch;
building of the Western High-Speed Diameter in Saint Petersburg;
building of a toll motorway “the Bypass Odintsovo” (under the project to construct a new exit from the federal motorway the M1Belarus “Moscow-Minsk” onto the Moscow Ring Road (MKAD)).