December 1998

by Vladimir Berzonsky, Jr.

In the period immediately following the twin shocks of the Russian Government's August announcement of a unilateral debt moratorium and the ensuing free fall of the ruble exchange rate, normal banking operations in Russia were severely hampered. Foreign and Russian companies were unable to convert their rubles into foreign currencies and, as a result, could not pay foreign obligations or make foreign currency payments for imports. As a result of the freeze in interbank transfers, foreign companies also have been unable to make salary payments to Russian national employees using normal means. Nonetheless, a post-August survey of member businesses of the American Chamber of Commerce in Russia indicated that well over 90 percent of the respondents planned to continue operating in the Russian market.

Although the most serious complications in banking operations proved to be shorter in duration than many had feared, the root causes of the August crisis have yet to be addressed coherently or effectively by the Primakov government. As a result, it is likely that prevailing circumstances in Russian banking operations will continue to complicate the work of international companies and foreign partners of Russian businesses.

Categorizing Russian Banks
As an initial, tangible measure intended to address Russia's commercial banking gridlock, the Central Bank of Russia (CBR) has released a comprehensive listing of Russian banks, separating them into four categories according to their perceived survivability. Fourth-tier banks were deemed unable to meet their creditors' demands and, in the estimation of the CBR, should be permitted even encouraged to commence bankruptcy proceedings. Third-tier banks were treated as "holdovers" from the earlier, brass knuckles years of Russian banking. While certain of these banks might be technically solvent, their banking practices money laundering, for the most part were deemed "socially undesirable." The CBR is continuing its active review of such banks and, where sufficient cause is determined, is revoking their operating licenses.

The CBR's first (highest) tier is reserved for completely solvent banks that would survive without any government intervention. Initially, no banks were listed as first-tier; later, the state-controlled Sberbank and Vneshtorgbank were determined to be solvent. The second-tier banks, however, are emerging as the focus of gretest political concern and back-channel activity. The Russian media have branded these so-called robber baron banks as the main culprits in the August crisis. While there is plenty of evidence to support these allegations, it was the Russian federal government and not a cartel of prominent Moscow banks that aggressively developed the domestic and international market for Russian treasury bills and other public debt instruments.

Frozen Rubles
The CBR has finally commenced the slow and painful process of picking through the shattered remains of what was recently considered to be Russia's premiere tier of banks. In the meantime, many corporate accounts have been frozen, while the ruble threatens to resume its downward spiral vis-…-vis foreign currencies. The present situation may be difficult, though not unsalvageable. As of mid-November, the ruble's exchange rate was holding at 16-18 rubles to the U.S. dollar. Ruble stability could be severely challenged if the Primakov government pursues even controlled emissions of rubles.

For most businesses, the inability to pay private sector creditors has been a relatively less ominous problem than the mounting tax liabilities owed to an increasingly revenue-starved Russian Government. The Russian Constitutional Court provided a modicum of relief by ruling that the timely initiation of a valid pay order that is accepted by one's bank, where the Russian tax authorities are the designated payee and where sufficient funds are on hand at the time of the order's initiation to pay the taxes due, relieves the taxpayer of liability (accrual of penalties and interest) for unpaid taxes.

Silver Lining?
It is probably safe to assume that many individual entrepreneurs and foreign companies looking for short-term, high-risk/high-yield opportunities gave up on Russia even before the August crisis. Key reasons for doing business in Russia have been the long-term prospects of accruing favorable market positioning and in-country experience in the world's biggest developing country. From the vantage of foreign banks operating in Russia, recent events have given tremendous impetus toward lifting the current 12 percent collective market share ceiling that potentially stunts their growth prospects in the domestic Russian market.

At present, many foreign firms and larger Russian companies are attempting to open corporate accounts with the few foreign banks that already provide commercial banking services in Russia. Also, many foreign companies are discovering that some regional (non-Moscow) banks have come through this crisis in far better shape than their high-profile competitors from Russia's capital. Because these regional banks engaged in very little speculation in GKOs or similar debt instruments, their portfolios suffered relatively minimal damage when the debt moratorium was announced in August. Ironically, these banks (and other Russian companies with established foreign business partners) are now more creditworthy than the Russian Government. For these reasons, a number of prominent Russian business leaders, especially from outlying regions, have been openly critical of both the Kiriyenko and Primakov governments. The post-August banking environment in Russia thus remains fluid, demanding resourcefulness on the part of foreign businesses.

For more information on the postcrisis banking sector, read this month's Dealing with Russia's Banking Crisis article.

Vladimir Berzonsky, Jr., is a senior attorney at Steptoe & Johnson, Moscow.

This report is provided courtesy of the Business Information Service for the Newly Independent States (BISNIS)