Vnesheconombank Chairman Vladimir Dmitriev’s Interview to the Expert Magazine
The Time of Strategic Investments
February 27, 2012
Accelerated economic growth and closing the productivity gap with the world’s leading countries require major investments supported by the state’s economic might represented by the budget, development institutions and state banks. VEB’s strategy focuses on this sort of development scenario.
Determining the scope and forms of the state’s efficient involvement in the economy has been an integral part of Russia’s market reforms in the past twenty years. In the 1990-es, the dominant notion was to minimize the state’s involvement in the economy which culminated in a very fast and not always well-thought out privatization of large chunks of state property. Nevertheless, later on the pendulum started to swing in the opposite direction. Arguments for recognizing the state’s specific functions which require not only to establish rules of the game and monitor their compliance but to directly participate in the economic activity started to sound more convincing in public and professional discussions, to be more specific, in the lines of activity which were avoided by market players because of their low profit margins, lack of resources or the absence of long-term objectives.
This trend resulted in a decision to set up state corporations in the second part of the 2000-es, that is, special institutions designed to fill up glaring gap in various market sectors ranging from encouraging innovations, establishing an individual deposit insurance system to accumulating assets in the defense industrial complex.
The Bank for Development and Foreign Economic Activities (VEB) set up in 2007 holds a unique position among state corporations. I’d like to remind you that the idea of establishing Russia’s Bank for Development on the basis of VEB was noticed and supported by the President and the presidential chief of staff as early as in 2005.
And it should be noted that both Vladimir Putin and Dmitry Medvedev have paid particular attention to the Bank’s activity and its problems during all those years.
VEB’s core activity is to fund investments that have high economic multipliers but are beyond the reach of private capital and the budget in terms of resources, risks and payback periods. Under the Law “On the Bank for Development” VEB is also to perform other functions. Some of them were inherited from Vnesheconombank of the USSR. They include management of pension savings funds, servicing of the Soviet-era foreign debt and a portion of the Russian foreign debt. Other functions are brand new and not only for the Bank but also for Russia as a whole. Here I mean providing support for small and medium-sized enterprises through refinancing banks lending them as well as insurance of Russian exports.
When the said Law was under discussion many swords were crossed over such extended interpretation of Vnesheconombank’s extended functions but this approach proved to be right. Completing the first five-year period of its activity, VEB has no “dormant” itemized functions in its portfolio, all its lines of activity are advancing considerably and some of them have been delegated to its subsidiary institutions within Vnesheconombank Group.
Crisis and Return to Basic Functions
The Bank’s systematic development was interrupted by the financial crisis of 2008-2009 when the Bank was instructed by the Russian Government to carry out measures for supporting the banking system, the largest Russian companies and the financial market. Our critics believe that Vnesheconombank was charged with taking crisis management measures as a paymaster that is, as a money sack automatically providing rescue resources. We’ll upset ill-wishers as we select assistance recipients and forms of government support rapidly but extremely thoroughly. None of the rubles or dollars received by Vnesheconombank from the budget or foreign exchange reserves were not either free or nonrefundable for us and for end recipients. This is also true of subordinated loans extended to the largest state-owned and private banks or those intended for rehabilitating Svyazbank and Globex Bank. The said funds prevented the banking sector in October of 2008 from plunging into a tailspin of system-wide crisis. It’s also true of credits extended to major private corporations for refinancing (because of significantly depreciated pledges) their foreign debt obligations.
In the course of emerging from the crisis our basic functions as a bank for development were returning to us, here I mean funding of investment projects of national economic significance. I’d like to cite some figures. Last year, VEB’s loan portfolio as a Bank for Development excluding crisis management lending programs which are scaling down now exceeded 500 billion rubles. It increased by 40% for the past year. And it’s crucially important that our Bank as a Bank for Development is responsible for funding mostly new large-scale projects in the real economy and this predetermines the structure of our loan portfolio which differs qualitatively from those of commercial banks.
We set ourselves a task of bringing a total amount of VEB’s funds intended for supporting our national economy to 1.9 trillion rubles or 2.4% of GDP in 2015. And in doing this, we’ll raise resources needed for funding projects on open foreign and domestic markets on commercial terms. Taking into consideration the fact that generating profits is not Vnesheconombank’s target function, our interest margin today is a bit more than two percentage points. For comparison, Russian large commercial banks’ interest margin ranges from about three to more than six percentage points. This reduces significantly the cost of borrowed funds for our customers. In a whole number of cases VEB’s lending rates are substantially lower than market ones.
For example, as opposed to average market interest rates of 15-20% on credits extended to small and medium-sized enterprises they do not exceed 13% and with regard to certain products – 10.5% in Vnesheconombank’s Group. VEB also differs from other banks in credit tenures. Today, 80% of our credits are extended for a period of 5 years and a maximum credit tenure amounts to 15 years and these credit tenures are unique on the Russian banking market.
Modernization through Reindustrialization
Stark numbers really matter because they tell us about real projects, that is, about hydroelectric power stations and plants that are being built in Russia’s market-oriented economy for the first time. An important thing is that under the Memorandum on Vnesheconombank’s Financial Policies we don’t have the right to fund oil and gas production or compete with commercial banks for projects that are attractive to them. About a half of VEB’s loan portfolio is concentrated in infrastructure projects. So, our objective today is to encourage a real diversification of the economy. We are participating in funding the construction of the Boguchan aluminum plant and the Boguchan hydroelectric power station. We are also responsible for funding the construction of a new passenger terminal in the Vladivostok international terminal as well as for reconstructing the Khabarovsk oil refinery. We are also participating in setting up the production of a new family of engines in the Yaroslavl engine plant. The Tobolsk Polymer Project is in its final investment phase. This project is aimed at constructing the largest polypropylene production facility in the former Soviet Union. Polypropylene is to be produced there through utilizing associated petroleum gas.
I’d like to stress that the Tobolsk Polymer Project was almost fully funded by foreign state export-import banks. VEB assumed all the project’s risks and that was extremely attractive for our foreign partners and reduced substantially the cost of raised funds.
I can give other examples too, but I’d like to stress the following. Recently, experts have often countered objectives of industrializing our country (sometimes they speak about reindustrialization or new industrialization) on the one hand with objectives of its modernization, that is, innovative economic restructuring on the other hand. We believe that this contraposition is quite hypothetical and unproductive. Nobody will deny the fact that a real economy of any country is an intertwining of various production and technological structures – from the most advanced to outmoded and ageing ones in terms of strategic objectives. But this doesn’t at all mean that a total growth in economic efficiency and labor productivity results from developing high-end production facilities and technologies. It’s also important to systematically upgrade and expand production facilities that do not relate to the said technological structures. In the end, this is the only way to gradually form sustainable demand for innovations which will have to win significant economic areas. It will enable our country to make its economy more efficient, close a twofold labor productivity gap with the world’s leading countries, which is becoming a key impediment to economic growth. Investments intended for developing the most advanced technological sectors account for a significant share in VEB’s portfolio. Here I can cite a project aimed at developing and exporting Russian supercomputer technologies and services. At the end of the last year VEB closed a transaction on purchasing a blocking stake in Russia’s leading supercomputer company T-platforms. I can also cite a project on constructing an advanced pharmaceutical integrated production facility FORT in the Ryazan region which is in line with GMP standards. We also fund a project to set up batch production of light multipurpose civil helicopter Ka226T as well as a number of other projects.
Russia has the potential to become first in Europe and fifth in the world in terms of economic might in the mid century despite extremely limited demographic resources. Increased ratio of capital to labor based on increased national rate of capital accumulation and diffusion of both domestic and imported innovations will create a qualitatively different economy. Only on the basis of such advanced economy we’ll be able to make fundamental social transformations in the country designed to increase the proportion of our middle class from current 25-30% of population to 50-60%, create sustainable demand for first-class fundamental and applied sciences and new education.
Let’s Support Exporters
The absence of a large-scale government credit, insurance and guarantee policy to support domestic exports and in particular civil high-technology products exports was the reason that our machine builders lost international tenders more than once. Suffice it to remember the tender for the supply of equipment to construct a Three Gorges Hydroelectric Dam in China, when our power machine builders offered pretty competitive equipment but lost the tender in the end because they failed to submit a package of financial and guarantee support documents. A similar situation emerged in Kazakhstan several years ago when our neighbors made a decision to reequip their fleet of railway locomotives and in the end they preferred General Electric’s railway locomotives whose technical performance was not better than the products of the Kolomna Locomotive Building Plant.
It is safe to say today that we have all chances to reverse the situation. In addition to specialized Roseximbank, another VEB’s subsidiary institution, namely, the Russian Export Credit and Investment Insurance Agency started to operate. Its legal framework and capitalization were completed last year.
The Law on the Agency provides for an opportunity for insuring sellers and buyers as well as banks responsible for funding supplies on the part of the exporter and importer. In the future, the Agency will be responsible for insuring Russian investments abroad, for example, in the case that a Russian company builds a production facility abroad. Here we have more complex risks. In fact, we are talking about monitoring a project at all stages of its life cycle.
The Agency will be responsible for insuring export credits for the supply of products and services to such top-priority regions as the CIS, South-East Asia and Latin America. But it does not mean that the Agency will not insure supplies to other regions. Top priority sectors include mechanical engineering, automotive industry, power engineering, chemical industry, aircraft construction, radio electronic industry.
The Agency has already provided insurance coverage for three export contracts for the supply of Russian high technology products to Vietnam, India and China. It plans to insure exports for a total amount of about 300 billion rubles over its first three years of operation.
Instrument for Improving Investment Climate
The past year saw the completion of economic growth recovery phase. Russia’s GDP grew 4.3% in real terms in the second successive year thus making it possible to overcome economic slump of 2008-2009. Main recessionary trends were overcome. Inflation was sharply reduced and unemployment rate fell to pre-crisis levels. Nevertheless, economic growth pattern didn’t change qualitatively. The crisis eliminated only “bubble” components in a number of sectors, specifically in the real estate sector which were inflated by excessive lending by banks that had access to foreign funding. Today our economy is growing on a healthier footing without “bubbles” and without gaps between labor remuneration growth and changes in labor productivity.
But our economic growth is not enjoying now the support of our foreign trade sector. Physical amounts of most exported raw materials products are stagnating or even falling and the price factor, especially in the current extremely unstable situation in the world economy, does not hold out hope for maintaining cost volumes of exports. At the same time, imports are increasing rapidly. As a result, last year, net exports contribution to GDP growth amounted to minus 4 percentage points. Foreign trade transformed from a driving force of economic growth into an economic growth impediment and macroeconomists believe that such situation would remain unchanged in the coming years. It is for this reason we have to transform investments into a main economic growth driver. And the state should initiate such a step relying on budgetary funds, development institutions and state banks. We can complain repeatedly about unfavorable features of Russia’s investment climate. But instead of complaining we prefer to take concrete measures. The Russian Direct Investment Fund established last year is to become one of the instruments for adapting our domestic investment climate to our partners’ standards.
The Fund is structured in such a way as to dramatically reduce risks for foreigners participating in its projects. The Fund’s managing company is a 100% owned subsidiary of Vnesheconombank. The state’s contribution to the Fund in the coming five years is to amount to 10 billion dollars. As part of each investment project the Fund is to engage investment partners whose contribution will be at least no less that the Fund’s contribution thus creating an efficient mechanism for making direct investments in the Russian economy. At present, the Fund is considering projects in the field of energy efficiency, medicine and in the agricultural sector for a total amount of 180 billion rubles.
Project Financing Based on Domestic Resources
The past crisis showed that it was extremely dangerous to place the main stake on foreign finances while forming consumption and savings resources in the country. Not only their cost but also their physical availability, as we could all see, were vulnerable to significant, difficult-to-predict fluctuations depending on a whole number of factors which can’t be influenced efficiently by Russia and its economic agents. So, the Russian financial system should be a lot more focused on using domestic resources in particular natural persons’ money.
The share of natural persons’ deposits in the funds raised by the banking system has reached today almost a third against 24% in 2008 and it is going to increase in the future.
For that matter, we should not disregard the fact that Vnesheconombank has unique financial resources which in our opinion have not been used to the full so far. Here I mean pension savings worth 1.3 trillion rubles. The funds are under our management in our extended investment portfolio. At present, the lion’s share of these funds are invested in government securities and only 15% of funds are invested in corporate debt instruments.
Moreover, there are securities guaranteed by the state in our conservative portfolio.
There is no doubt that a key principle in managing pension savings funds must be reliability aimed at ensuring the preservation of pension funds and generating reasonable profits to protect them from inflation at least. But in our opinion the existing instruments for investing pension savings are not being used efficiently and in part because a market for long-term investments has not been formed. The so-called infrastructure bonds might become a new investment instrument. Here I mean long-term bonds issued by such infrastructure companies as RZHD and the Federal Network Company and etc. A discussion on the need for such bonds and on the forms of arranging their issue has been under way in the professional financial community and government agencies for more than a year. It’s high time to get down to business. It’s issuers who should act.
We are often viewed as a sort of affordable money-box, as a quasi-budgetary instrument. In fact, sometimes VEB has to deal with non-core projects diverting significant efforts and resources from our core activity as a Bank for Development. This limits our capabilities as a development institution and affects directly our current financial indicators.
Nevertheless, in strategic terms the Bank for Development’s activity is aimed at long-term project financing in line with our core activity.
This approach implies that the state returns non-budgetary investments in the form of making payments for availability with due regard to generating new budget revenues from removing infrastructure restrictions. Thus, the state funds a construction project without using current budget revenues as is the case today but pays for a built facility on the basis of economic growth results.
In this respect, I’d like to say that a project principle makes it possible to unlock investment potential of VEB and Vnesheconombank Group and work out programs aimed at developing such macro regions as the North Caucasus, the Far East and Transbaikalia (all of them are within VEB’s investment jurisdiction) mostly on the basis of non-budgetary financing.
At the same time, this approach will allow us to use pension funds managed by VEB in its capacity of a state management company and it will also increase capabilities for using financial resources of infrastructure funds and direct investment funds. A transition to funding long-term projects that transform technological patterns, form new images of regions and cities, give impetus to social development is in our opinion a long-awaited dividend from a stable political development.
Vnesheconombank Chairman Vladimir Dmitriev’s Interview to TV Channel Russia 24
TV Channel Russia 24
Host Anna Shnider
HOST: We continue discussing presidential candidates’ election programs. We are talking about Vladimir Putin’s latest article devoted to economic issues. Vnesheconombank Chairman Vladimir Dmitriev is in our studio now, good afternoon Vladimir Alexandrovich. Thank you for coming.
Vladimir DMITRIEV, Vnesheconombank’s Chairman: Good afternoon.
HOST: This is an election article. There are a lot of general remarks and few specifics in it. One of the most important things is that Putin said that we should change our criminal legislation and refer economic crimes to arbitration courts. To what extent did business anticipate such a proposal?
Vladimir DMITRIEV: We have discussed this theme repeatedly at business forums and in dialogues between representatives of business and authorities. It is extremely topical and the fact that it appeared in the election article is of crucial importance and relevance to the business community. I believe that we have created necessary conditions in Russia for settling economic disputes by arbitration courts.
HOST: In this context it could be a matter of economic amnesty for people who were convicted of economic crimes?
Vladimir DMITRIEV: I wouldn’t like to comment on this concept in broad terms… Our legislation keeps up with common sense and the need to increasingly influence the investment environment and offer better opportunities for doing business in our country. In this sense, there is a sound logic in granting amnesty for a number of economic crimes.
HOST: In his article Putin writes that state should mainly rely on a presumption of business fairness and honesty. At today’s international forum he said that maybe we should introduce the post of business ombudsman. What would you say has been the weakest point in the relations between the state and business in the past years and have you seen any answers in this article about how to address this problem?
Vladimir DMITRIEV: In my opinion there are enough answers about how to address this problem in the article you mentioned. I think that this line of activity is really important for both the government and business as well as for relations between business and authorities. I wouldn’t like to talk in great detail about this kind of problems. We face them every day and everywhere. The most important things in the article and in the policy pursued by the Government and the Russian President are measures for upgrading our legislation, improving business climate as well as a continuing dialogue between authorities and business, other forms of communication, informing authorities about the needs of business. All these efforts are aimed at improving investment climate in our country.
HOST: Putin says that the state’s share in the economy should diminish in the course of time and he proposes to undertake another privatization by 2016. What are the most attractive assets for business today?
Vladimir DMITRIEV: A list of businesses to be privatized has been made public. It includes above all businesses with the state participation, that is, companies and banks. As far as foreign investors are concerned they are of course interested in the industrial sector that has good prospects for growth and in banking system’s capitalization. To my mind risks associated with the banking system are assessed pretty adequately. This is evidenced by yesterday’s successful placement of 5-year Eurobonds worth $1.5 billion by Sberbank.
We are also closing a transaction today on placing our bonds on international capital markets. From my point of view companies operating in the infrastructure sector enjoy good prospects. I am telling you this not as an outsider but as a person working directly with foreign investors through our subsidiary – the Russian Direct Investment Fund. We have good prospects for engaging foreign investors.
HOST: Do you agree with the opinion of some economists that in the coming years sales of state corporations’ assets are disadvantageous for the state, with a second wave of the global economic crisis looming?
Vladimir DMITRIEV: To my mind, it’s important here to balance the state’s interests in generating budget revenues on the one hand and ensuring efficient governance on the other hand. Privatization for the sake of privatization does not always result in increased budget revenues. In the current economic situation when many assets are underestimated it may not make sense to put them on the market and engage foreign investors in order to simply declare that we have a favorable investment climate and investors are coming to our country. So, ongoing discussions demonstrate that we should undertake privatization only when it is advantageous from all points of view.
HOST: Putin talks much about innovations and places special emphasis on developing university and research centers. What should the state do in the near future to encourage innovations and investments in the development of academic research centers?
Vladimir DMITRIEV: In my opinion the article articulates clearly basic lines of government policy on supporting innovation activities undertaken by Russian higher education institutions. The article focuses on tax exemptions, administrative measures for encouraging business activity and commercializing scientific developments. In this respect a lot is already being done. Here we mean the technological university at Skolkovo. Skolkovo itself is also a very serious breakthrough investment and innovation project in our country. I am also telling you this not as an outsider but as the Head of the Bank which is a shareholder in a non- profit partnership with Skolkovo and an initiator of establishing the Skolkovo Innovation Foundation. The Foundation is designed to commercialize innovation activities at Skolkovo.
In this respect, I think that both Russian banks and special institutions set up to support small and medium-sized enterprises in the innovation sector can play a very important role. We are enjoying the state’s support and I believe we are moving in the right direction.
HOST: Do you thing that long money will appear in Russia in the coming years?
Vladimir DMITRIEV: We already have long money now. The main thing is to put the money to good use. Here I mean pension savings funds. Vladimir Putin mentioned them in his article. The funds are not always used to finance specific economic projects. I’m telling you this as the Head of the Bank for Development which is also the state management company. We are responsible for managing more than 1.3 trillion rubles in pension funded portion funds included in our extended investment portfolio. Only a small part of these funds are used to finance the economy. These funds are invested either in bonds guaranteed by the state or in corporate bonds of first-class borrowers. I believe we can increase these financial resources manyfold if the state is ready to grant guarantees for innovation projects which carry increased risks. I don’t think that it makes sense to grant guarantees for the construction of a cement plant that is a project that can be paid back. If it can’t be paid back there is no sense for a bank financing it. But if we talk about funding major projects of national significance in the innovation sector, these projects must be guaranteed by the state and pension savings funds might be invested in them.
HOST: Does this mean that the government is likely to take some concrete steps in the coming months?
Vladimir DMITRIEV: I think that in this respect right decisions have been made. Lately, I have participated in the meetings conducted by the Prime Minister in Kemerovo and Tikhvin. The other day we were in Tambov. Everywhere we discussed an issue of raising long money inside the country. For example, the Finance Ministry planned to float 10-year bonds worth 30-40 billion rubles; but there was an oversubscription in the amount of 160 billion rubles. This demonstrates that we have long money in our country. So, it has to be used. I can’t help giving you official figures on the use of the National Wealth Fund and the National Reserve Fund. The Reserve Fund’s yield for the last year was 1.5% and the National Wealth Fund’s yield was 2.5%. The highest yield was shown by the money of the National Wealth Fund placed on Vnesheconombank’s deposits at an interest rate of 6.5%. It must be borne in mind that we extended these deposits in the form of subordinated credits to Russia banks which were to use these funds under the agreements signed for funding the Russian economy. So, we can use the National Wealth Fund within, of course, reasonable limits and without opening the Pandora box for funding long-term projects.
HOST: A widely discussed issue is a tax on luxury that Putin offered to introduce. How do you feel about it? Discussions are mainly focusing on who is supposed to determine what luxury really means and on how to determine it.
Vladimir DMITRIEV: I find it difficult to answer your last question about a definition of luxury. In this respect there are expert opinions and international practices and I don’t think that we’ll have to invent the wheel. This measure might be efficient of course if it is administered in the right way and here I mean without any exceptions and exemptions from legislation. But in terms of social justice it’s up to the government to equalize budget revenues between high-paid and low-paid people. We have a huge income gap in Russia. The income gap between the poorest 10% and the richest 10% is gigantic and sometimes it is higher than in countries with developing economies.
HOST: Aren’t we going to get stuck on the very same global problem that Putin also mentioned, that is, systemic corruption?
Vladimir DMITRIEV: I’d like to say it once more that we’ll be able to change legislation, in particular tax legislation and address other problems through proper administration and flawlessly functioning law enforcement system.
HOST: Vladimir Alexandrovich, thank you very much for your comments.
Vladimir DMITRIEV: Thank you.