New Structures Are Designed to Solve Problems Business Does Not Solve
September 24, 2007
This year the Russian authorities have announced the creation of a number of new state-run institutions designed to help solve pressing problems in various fields ranging from encouraging scientific and technical innovations to modernizing housing and utility services. The Bank for Development and Foreign Economic Affairs (Vnesheconombank) was one of the first to obtain state registration. The Bank was established on the basis of Vnesheconombank of the USSR with capital participation of the Russian Development Bank and Roseximbank. In his interview Director of the Institute of Economic Forecasting of the Russian Academy of Sciences, Academician Victor IVANTER gives Vremya Novostei observer Mikhail VOROBJEV his opinion about the Development Bank’s role and position in the Russian economy.
- Victor Victorovich, almost everybody believed that it was necessary to establish an institution similar to the Development Bank. But opinions about its objectives, lines of business and the reasons for its establishment vary.
- First, to put it bluntly, is there any need today to create a special institution to deal with trade networks? No, there isn’t. This is what business is doing and it is doing it quite well. But there are sectors where business is not keen to operate. Has it built during all this time at least one major oil pipeline? Has business forgotten about it? Or it hasn’t seen the need to do and hasn’t been interested in it?
Second, we say that we live on oil and gas exports etc. The assumption that we’ll stop producing oil and gas and start writing software programs and sell them is of course foolish. We’ve got energy resources and it’s quite natural that we’ll go on trading them but we’d also like to sell machine-building products. What’s the difference between selling oil and gas resources and manufacturing products? All raw materials are sold according to “the payment against delivery” system. As to manufacturing industry and machine building, almost everything is sold on credit. So we can’t sell these products without an adequate financial infrastructure.
If we fail to extend credits to purchase our high-technology export products there will be no exports. For example, energy machine building is a sector highly dependent on high technologies. And this business is very expensive. If we fail to offer favorable credit terms to our customers we’ll lose all tenders and we’ll lose them for this reason.
And these products are quite competitive…
Moreover, I think that in a number of cases our products are unique. We built such an energy system that allowed us to live for 15 years without making considerable investment. For all its shortcomings, our energy system is quite effective. Our energy machine building has always been a lot better than machine tool building in terms of all quality standards. But I’d like to say it once again that nobody purchases the most efficient equipment straight away this is not the case. It is purchased exclusively on credit.
We made forecasts for our agricultural machinery building, and it became clear that in terms of prices and quality our harvester combines are quite competitive. But now we’ve got the following situation: for example, a purchase agreement has been made and then purchasers suddenly withdraw from the agreement. And the reason for it is that competitors offer better financial terms, credits and payments by installments etc. Of course, we have commercial banks and the modern banking system is in place but its distinguishing characteristic is that it lacks money. And it is clear why this happens. The bulk of the money comes from our raw materials sector and this money is subdivided into two parts: the first part goes to owners and unfortunately, they keep the greater part of their money abroad. The second part goes to the state and it, to a large extent, keeps the money abroad too. Here I mean financial reserves. Therefore, today, Russian commercial banks do not have enough money for investing in major projects, the more so, in projects with long payoff periods. That is why we need a major state-run institution, which among other things would be responsible for promoting Russian industrial exports.
And the current situation is not unique. Japan experienced exactly the same situation in the late 40s – early 50s. They established two banks there – a development bank operating in the domestic market and a bank that was responsible for supporting foreign trade.
In our country a decision was made to combine all these functions in a single bank. And we can’t call it a bank in the fullest sense of the word. It’s a bank in the sense that it lends money. But doing this, it does not aim to generate commercial profit. Its objective is to prevent money from being lost and ensure effective use of it. And it does not seek to generate earning at high interest rates. And it’s a benefit that Vnesheconombank has a well-known brand so it is not confused with any other brands. And second, there are highly qualified and adequately experienced employees working for the Bank.
If there was a great need for such a bank, why was it established as late as this summer?
- For many years we talked about the need for such an institution mentioning the fact that it won’t compete against commercial banks as it is supposed to operate in a completely different line of business, which is not attractive for free capital. But it was not until now that we gave real substance to all this talk. Factually, we were in a deep crisis and then we made efforts to overcome it. That is to say, we lacked conditions for developing our economy. The current situation is radically different. Our economy is growing even faster than it was forecast to grow by analysts including government, independent, liberal and anti-liberal ones. And hence, at the time when the economy is growing, we should support it.
The Development Bank was established to provide this sort of support. Its priority should be to deal with infrastructure problems. Here we, above all, mean production infrastructure: roads, power grids, ports, aerodromes etc.
For you to grasp the importance of the problem, I’d like to give you the following example. Let us look at the Far East - what we really did was to separate one part of Russia from the other. May I dare use tough words: The Russian Federation is commercially ineffective territory. In terms of commercial considerations we don’t need the Far East at all. And when the Russian emperor was building a railroad from Saint Petersburg to Vladivostok he didn’t pursue any commercial objectives. The railroad was built to connect the country.
The problem we are facing now is that there is a gap. What should we do to strengthen ties? We should consolidate the territory and close the gap. If we double our trains’ speed, the Far East will be twice as close to us. If we double the quality of our interregional roads and our motor transport goes twice as fast and air tariffs are half as much, the Far East will be twice as close to us. To make it happen, we have to upgrade our railway transport, roads and port facilities. As we can see, business is not capable of doing it. And we shouldn’t make business do it. In order to achieve this goal a relevant financial institution, namely the Development Bank, has been established. And I’d like to say it once more that it’s not a bank in the fullest sense of the word and it’s not supposed to compete against commercial banks.
This sort of concern was voiced while the draft law on Development Bank was under discussion…
Of course, it was. But conceptually, the Bank is not supposed to operate the way commercial banks do. Factually, this Bank is designed to promote business. Its task is to create favorable conditions in certain sectors to make them attractive for business. To a certain extent the Development Bank operates in a sort of “reverse direction”. Imagine that we prioritize regions by their investment appeal. Where should the Development Bank go? It should go to regions with low investment activity to create conditions for boosting such investment appeal. In this sense, it operates against the rules. Here I mean against the rules on which business is based.
There are sectors where business should not operate. This is, for example, the military-industrial complex. There is a very naпve assumption that dates back to the 19th century that military-industrial complex is “guns instead of butter”. The slogan was in line with reality in the 19th century, it was absolutely wrong in the 20th century and it’s of course wrong at the beginning of the 21st century. Why is Europe lagging behind the US in technological innovations? The only reason for it is its foolishness: Europe does not spend money on military research and development and military R&D gives rise to basic technological breakthroughs. We can’t limit ourselves to fundamental science. As a rule, effective major breakthroughs are made in military R&D. And here the Development Bank could play a role of its own.
There is also a different kind of infrastructure – an intradepartmental infrastructure. If we ay that our agrarian sector should be able to feed us, it’s quite clear that it needs a seed growing infrastructure and a pedigree stockbreeding infrastructure. The idea that all farmers or agroholdings would create their own systems is not realistic.
Maybe, the Development Bank could participate in building this sort of infrastructures.
And there is another problem, here I mean designing business. We had colossal designing and research institutes. This network of institutes was ineffective and excessive. But now we’ve got nothing. You can buy whatever you like. But project purchasing is an obstacle to development. Moreover, it is awfully expensive.
- And what’s the Bank’s role here?
It should play a role in establishing a new, advanced designing infrastructure that embraces all industries all sectors and all regions. Establishing large-scale project institutions is what the state should do. And the Development Bank should have a hand in it. Business won’t do it on its own. It wants to come, order and buy the ready-made. And this chance should be given to it
- How effective are similar development institutions abroad? Have they achieved goals set before them?
Yes, they have. As to the effectiveness of specific projects carried out with the help of development banks, it was the way it has always been. Some of them were super effective but there were ineffective projects too. No one can be secured against failures. But here we’ve got double control. On the one hand we’ve got state control among other things exercised by the Supervisory Council on the other – financial control. The Bank receives budgetary money and it gives it to carry out this or that project. The Bank is supposed to get the money back. If the Bank gets it back, everything is O.K. if it does not; we’ve got a warning signal. In this sense, development institutions are radically different from budget financing. What should we have in mind here? We should have in mind that here we don’t deal with Soviet-type investment. We should avoid at all costs creating any construction trusts or something of the kind. That’s not what we really need. We have to create and fine-tune a normal system: government money, government control and government project assessment. And then business starts to operate, but of course within a relevant framework.
- But we are facing at least one serious problem. What sort of situation are we faced with? Out of the Russian investment fund worth 70 billion rubles we have used only 3 billion rubles and this does not happen by accident. This means that we proved to be unprepared in terms of project quality. And it costs a lot to develop a top quality project. Normally, it is 10% of investment. Who is going to pay for it? Who is going to invest money in designing before a project is approved and funds are allocated to carry it out?
- The Development Bank’s authorized capital is to be at least 70 billion rubles. The Government is determined to hand over 250 billion rubles to the Bank. Are these funds sufficient to achieve formidable objectives set before the Bank?
- In the long term, this money will not be sufficient. But today we are coming up against a different problem: we should be able to make the most efficient use of available funds. There is no limit in terms of money there is a limit in terms of substance. And of course we shouldn’t demand that the newly established development institution start to operate at its full capacity as early as tomorrow. But there ought to be a short, tight time limit during which we should be able to see that allocated money has been spent. If the money is still simply kept in accounts it is as bad as though it was used ineffectively.
This, among other things, makes it necessary for the Bank to establish a branch network. Should the Bank establish its own branch network or work through agent banks? I think the Bank should do both. It should have its own branches in federal districts and also work through commercial agent bank.
To my mind, we’ve got another difficult problem: should the Bank be a direct investor or a creditor of last resort? I think we shouldn’t abide by strict rules here. A flexible approach might be appropriate here to give the Bank room for maneuver.
- Would you specify the above-mentioned short and tight time limit?
- In my opinion, over a period of five years the Development Bank will occupy a place intended for it. In our estimates, we should move along at a growth rate of more than 8% in the coming decade. We can’t see any obstacles to it. We can’t see any obstacles in terms of energy and human resources etc. In the past, they accused me of excessive optimism. And now when I look through statistical data by the Russian Statistics Committee I see that I fall into a category of pessimists. We forecast a growth rate of 8% for GDP rather than for production output. Nevertheless, industrial output is growing significantly.
This means that our economy is in fact market oriented. And a market-oriented economy is more efficient than a centrally planned economy as I wrote about it for many years. And now we can see it. This does not mean that this sort of economy is perfect but it is doing well. And it is doing a good job where it can. But there are market gaps, as they are called by economic theory, where business does not operate. Development banks are meant to close these market gaps. As soon as economy starts to develop in a normal way, development institutions will play a secondary role. But prosperity can’t last forever. We should not forget that as soon as the energy crisis started in the early 70s, authorities of all serious countries became involved in coping with this problem. And they didn’t seek to replace business but cooperated with it.
My stand is as follows: any efficient economy is liberal. There is no need for intervening in the economy if it is doing well. But we failed at least to prove the assumption that liberalism leads to prosperity. And where there is a failure, effective economic intervention is appropriate.
- The former Vnesheconombank was a state-run company responsible for managing pension savings funds of citizens who failed choose a private trust management company. Has this function been transferred to the Development Bank? Do you think the Bank should manage pension funds?
- This is a very difficult problem. We started too soon and devised a funded pension system in the situation where no pension system existed. We have a system of social benefits including old-age benefits. Why? The reason for it is not a malicious intent or the fact that we don’t know how a pension system should operate. The reason is that, given our extremely low wages, no pension system can function. People can save up when they make a decent living already today. In this case, they can think about tomorrow. And if they can barely make ends meet today, everything becomes pointless. That is why there are so many undecideds, that is to say, citizens who failed to choose a private company to manage their pension savings funds. If we press young people to choose a company to invest their pension savings in, given that their pension savings amount to 3 thousand rubles, they are sure to tell us to get lost in the rudest way. But when their pension savings amount to 60 thousand rubles, they will treat this money differently. They would start to show greater interest in this money and are most likely to choose a private trust management company where investment yields on their pension savings are higher.
- What should the Development Bank do with these pension savings funds?
First of all, there’s no need for making a fuss about it. A certain pension system has been created. Whatever this system is, it is in place. And this means that the Bank has another line of business. If the amount of pension savings funds takes completely different dimensions, this segment should be separated from the Bank’s main line of business. Here we’ve got quite a different objective: If we invest pension funds, we pursue commercial goals but the Development Bank does not pursue commercial goals.
- How do you view the Bank’s prospects in today’s economic situation?
- I am optimistic about the Bank’s future provided that it operates in the way we are talking about. Of course there is a danger that it won’t happen, but we should do our best to make it happen. It would be wrong to think that the Development Bank is a smooth well-trodden road. It will have to overcome a number of problems and occupy its position in the economy. On the one hand, it should not hinder business and on the other, it should solve problems that business does not tend to solve. What do I think could pose a danger? It will be wrong if we make it the Bank’s duty to be responsible for solving social problems. It is not designed to do it.
SCO Secretary General B.K. Nurgaliev’s Speech at the SCO Interbank Consortium Council Meeting
(The city of Bishkek, August 15, 2007)
Dear Vladimir Alexandrovich!
Dear heads of delegations! Ladies and gentlemen!
I’m honored to take part in today’s important forum.
One of the Shanghai Cooperation Organization’s top-priority lines of activity is to encourage effective and active economic cooperation between its member states and observer states. We have been able to establish the solid legal framework for the SCO’s activity in this field including such a fundamental document as the Program of Long-term Multilateral Trade and Economic Cooperation.
Our countries identified such high-priority mutually beneficial lines of cooperation as transportation, power engineering, information and telecommunications technologies. We launched the website “Regional Economic Cooperation of the Shanghai Cooperation Organization.” We established a mechanism of holding regular meetings of ministers responsible for foreign-economic and foreign-trade activities. A great deal of work on implementing the decisions made is being done within 16 relevant special working groups in charge of various lines of activity.
The SCO established ties and expands its cooperation with the CIS, EurAzEC, the UNDP, the Asian Development Bank, ESCATO UN. With the two latter organizations’ financial assistance an intergovernmental Agreement on Creating Favorable Conditions for International Motor Transportation is being prepared.
As is generally known, the SCO is fertile ground for developing coordinated approaches of its six founder states and four observer states to ensuring regional integration.
We have to hear rather often an unpleasant argument that the SCO’s economic development is lagging behind the dynamics of political cooperation. To my mind, the problem is not that the number of coordinating and planning bodies is not sufficient. We’ve got 17 bodies. The legal framework for cooperation in economic and investment sectors is also solid: 33 major documents have been signed during a period of six years; this is a period of the SCO’s existence. Another 8 documents are about to be signed soon. The problem is how to implement agreements on promoting economic integration. This of course depends on the countries involved and on the availability of financial and other resources needed to carry out specific projects. The SCO needs a solid investment portfolio.
It’s quite natural that high expectations for expanding the economic development in the SCO”s activity are associated with the Interbank Consortium and the Business Council. The SCO Secretariat seeks to maintain close ties with the Interbank Consortium and the Business Council. On the whole the SCO’s economic cooperation plans and projects are, to tell you the truth, at the stage of legal, organizational and financial coordination. The problem is that until now we have failed to create an efficient system to fund economic projects proposed by SCO member states.
That is why we are glad that the Interbank Consortium adopted the Action Program to promote regional economic cooperation within the SCO and that a number of agreement on extending credit lines and joint financing of investment projects have been signed. The total amount of them should exceed 740 million US dollars.
There are plans to sign an Agreement on Cooperation between the Interbank Consortium and the SCO Business Council tomorrow and everyone hopes that it would create favorable conditions for raising funds to carry out “pilot” projects.
In this respect there are considerable expectations that the Interbank Consortium will take an active part in raising credits to fund specific projects in large, small and medium-sized business on the territories of SCO member states.
The Interbank Consortium cooperation with observer states and Afghanistan has considerable and so far untapped potential.
We are convinced that steps being taken within the Interbank Consortium and agreements being worked out today would yield tangible results in the trade and economic sphere in the near future and bring about SCO member states’ sustainable welfare growth. In order to make it possible we should fully use such advantages of our organization as vast joint geographical space, huge natural and human recourses, complementarity of our economies, high educational, scientific and technological potential.
Taking this chance, I would like to present my best wishes to all the participants in the SCO Interbank Consortium Council meeting for continued successful activity and success in all endeavors, good health and happiness!