Russia-Ukraine’s Brooding Border Clashes

2018 December 31 by

Russia and Ukraine stock market relative outperformance on the respective MSCI core and frontier indices was in play as a naval confrontation in Crimea sparked international condemnation and Kiev’s martial law declaration in border provinces already reeling from Moscow’s port grab. The Russian Foreign Ministry blamed stray ship provocation after forcibly boarding it and arresting sailors, while the US and Europe convened a UN Security Council session to criticize the action and threat further commercial and diplomatic sanctions. The incident preceded the annual G20 summit in Argentina with Presidents Putin and Trump in attendance and focused regional attention on the civil war in Eastern Ukraine with its heavy economic and humanitarian toll. Russian-supported rebels have taken over factories and declared their own government, while tens of thousands have been killed or fled the area 5 years after the Minsk agreement outlined a peace framework, according to outside monitors. GDP growth is set at 1.5% this year with oil above the budget’s $40/ barrel breakeven price, but sovereign borrowing continued in the wake of the latest Crimea events to close a slight deficit after VAT and pension changes. Geopolitical friction further weakened the ruble and the stock market’s valuation discount, and could send inflation toward 5% into next year prompting modest central bank tightening. State-owned Sberbank and VTB earnings were healthy in the latest reports with strong moves into infrastructure and technology to support domestic franchises, aided by depositor flight from ailing and shuttered private rivals under tougher supervision. Leading officials and executives have tried to encourage de-dollarization, with foreign reserves in the currency to be phased out in a challenge to Washington as Moscow also allies with Iran, North Korea and Venezuela.

Ukraine’s reaction was magnified by a bruising presidential contest with the incumbent Poroshenko running behind former holder of the post Tymoshenko, as both called for a harsh response. They are also dueling over a successor 1-year $4 billion IMF program after an October staff agreement was reached. Kiev passed energy price and tax hikes to keep the budget deficit below 3% of GDP and enable release of a first tranche in early 2019, but Tymoshenko’s and other candidates’ platforms oppose Fund austerity demands and pledge to roll back fuel cost increases. The fiscal package is also negative for securities markets with a 15% dividends levy, and could generate 10% inflation also due to currency depreciation with the meager less than three months imports’ reserve coverage. The 4% of GDP current account gap lingers despite a record $12 billion in remittances this year, and another Eurobond issue to ensure external financing is likely off the table until poll results are in, analysts believe. The EBRD predicts 3% growth in 2019, with both domestic consumption and investment stymied by high interest rates and political doubts. Successful privatization could boost confidence, with utility Centrenergo going on the block mid-December, but agriculture and metal exports are the mainstays drawing private equity and strategic investor interest. Eyes are also on next door Poland’s general elections at the end of 2019 which hosts the Ukrainian worker influx, with the populist ruling party still favored but experiencing an opposition incursion in recent local contests.

Bulgaria’s Euro Ambition Ambit

2018 November 12 by

Bulgarian stocks showed losses on the MSCI Index through the third quarter along with other East European and Balkans markets, as it prepared to join the euro and EU banking union in a first phase next July. The ECB must complete an assessment before it enters the supervisory mechanism, and inflation running at 3.5% will continue to place price stability pressure on fiscal policy with the currency board in place until then. First half growth was over 3% on good domestic demand and cohesion fund-driven public investment to offset slumping exports to Turkey, which accounts for 7.5% of the total. Corruption and crime marks are still poor on Brussels reviews, but are unlikely to sidetrack long awaited single-currency expansion with Central Europe abandoning plans amid the debt crisis outbreak. The Czech Republic after ending the koruna cap has lifted rates with inflation at 2.5% and energy and wage forces increasing. Hungary’s bias is dovish with inflation in the 3-4% band as it continued unconventional tools like targeted central bank small business lending while phasing out interest swaps and mortgage bond buying. Poland grew at a breakneck pace above 5% at mid-year on strong consumption, but PMI weakening signals industrial crawl in the coming months which should postpone potential tightening. In Romania 5% inflation may have peaked on 4% growth, but the government will likely trigger Brussels excessive deficit procedure with an over 3% of GDP result, and the current account hole still suggests economic overheating. The central bank will introduce macro-prudential limits on household debt after years of 20% expansion, and may turn outright hawkish if currency depreciation worsens. To divert attention the ruling coalition has emphasized a referendum to uphold traditional social values and reverse same-sex marriage recognition. However popular apathy was reflected in low turnout which will sustain such “liberal” social practice.

In Croatia too the cabinet mix hangs by a thread with a 51% bloc majority, as the senior HDZ party should finish well in elections but faces fresh anti-establishment opposition. Controversy over the Agrokor conglomerate rescue has spilled over into shipbuilder help debate with the high third quarter tourist season on track for a double-digit visitor bump. Labor shortages are widespread, as tax and pension reforms go into effect on relative budget balance. To extend 3% growth tax relief is slated for 2019 to reinforce previous packages. Serbia’s 4.5% growth is the fastest in a decade despite next export drag. Household and investment spending have picked up with good progress on the IMF program, and 2.5% inflation is not yet enough to rattle the central bank, which recently battled deflation. Western sell-side research often picks stocks and bonds for recovery value, but cultural and commercial ties with Russia sharing the Cyrillic alphabet instill caution. Russian companies have been removed from external borrowing since new US sanctions in April, and the Treasury Department is studying a full securities ownership ban. International reserves and foreign debt are roughly equal in the $450 billion range, but the ruble continues to slip against the dollar as world oil prices may soften in the near future. With this scenario budget adjustment envisioned delay in the retirement age provoking mass outcry, for a dent in President Putin’s popularity and fiscal soundness.


The EU’s Dabbling Direct Investment Detours

2018 September 24 by

With mixed stock market performance among the eighteen new and prospective EU members as Western Balkan candidates prepare applications, an IMF working paper traces FDI trends prominent in their growth and productivity narratives the past decade and a half. The gross figure came to $700 billion in the main Eastern Europe tier that joined since the early 2000s, while the Balkans group take is around $50 billion after prolonged conflict and financial crisis. Lower wages and geographic proximity to developed Europe remain advantages, but aging populations and technology shifts have eroded them. Market size and stability explain two-thirds of inflows into the Czech Republic, Hungary and Poland, with banking a key target in privatization sales. Other services and manufacturing, in autos and chemicals in particular are also popular. Serbia accounts for half the Balkans stock with a similar industry profile, and advanced economy neighbors are the leading sources: Germany in Central Europe; Scandinavia in the Baltics; and Italy and Eastern Europe into Albania, Bosnia, and Macedonia. Tax holidays and investment credits, and Brussels infrastructure and project aid, enter the mix to boost exports, while domestic value-added has been largely flat over time. Car pre and post-production is almost entirely at parent companies, with local units confined to assembly and limited research and development. From more to less advanced emerging economies manufacturing outflows have linked onward as “flying geese,” but the pattern is far less pronounced than in other regions. The latest World Bank literature surveying 750 multinational firms points out that 80 percent weigh legal and regulatory protection above incentives offered by half the emerging world. Outside the institutional and policy environment the most influential factor is supplier quality, which comprises automation and skills depth.

Business climate and governance gains are noticeable with EU accession, and translate into bilateral FDI increases in the immediate aftermath, but will fade barring labor competitiveness and related reforms, according to historic statistical analyses. The Balkans should extend geographic outreach to realize benefits and has already joined China’s Belt and Road Initiative. Education and logistics spending should ramp up there paid for with reduced fiscal breaks, and officials should insist on domestic content within efficiencies of scale especially if cutting-edge technology applies.

Second quarter GDP growth was solid in the CE-4, with Hungary and Poland at the front in the 5% range. Czech wages were up almost 10% in nominal terms with a tight labor market, as the central bank continues with 25 basis point hikes, while the currency slips since cap removal. Hungary is trying to keep inflation within the 4% target, under ultra-loose monetary policy with negative rates as Prime Minister Orban works to maintain small business loyalty. Poland as the largest equity market is down 5% with the banking sector now majority locally-owned. Warsaw may face cohesion aid suspension as punishment for judicial interference, with the ruling party appointing its own supporters to the highest court. Romanian 10-year bond yields rose 50 basis points with budget overshoot and a cascade of corruption scandals upending the government and sparking mass street unrest. Proposed integrity laws were again diluted and investigators are under threat themselves from shadowy forces darkening the FDI takeoff threshold.


Greece’s Grating Graduation Ceremony

2018 September 4 by

Greek share performance remained above the Europe average into August, the date for final exit from almost EUR 300 billion in serial EU-led rescue packages, as record tourism combined with estimated 2% growth and official debt relief though maturity extension to work away at the 180% of GDP load.  International agencies will continue with quarterly checks, and capital controls will stay in place in the immediate transition ahead of parliamentary elections next year. Prime Minister Tsipras and his party are behind in opinion surveys, and wildfire spread claiming lives and property added to subdued sentiment. In July US private equity giant KKR struck a deal for EUR 150 million in bad loans as they still account for half of bank portfolios after rounds of European Central Bank liquidity injection. With asset and labor costs slashed during the crisis, venture firms are considering existing and new industry acquisitions, mainly as a regional springboard with domestic unemployment at 20% and poverty one-third the population. The government is committed to a 3.5% of GDP primary budget surplus the next five years, with a lower income tax threshold kicking in at end-decade. The IMF’s latest Article IV consultation praised “stability,” but noted that real output is just three-quarters of the pre-crisis peak. Competitiveness lags neighbors, and approaching polls bring “uncertain” reform direction. The current account gap shrank on import compression, and government arrears were EUR 4 billion at the end of April, with reduced pension spending driving fiscal adjustment. Voluntary external bond markets reopened in 2017 for liability management operations, and benchmark 10-year yields were 4% following ratings upgrades. Bank balance sheets are still a mess with flat credit, although private deposits are up on the way back to 2015 size.

Public and commercial investment will enable future recovery, including from privatization deals, while net exports are marginal. The Fund urged greater flexibility rather than caps on healthcare and civil service outlays while further rationalizing the tax code. Legislation should allow out-of-court debt restructuring alongside existing strides in household and business insolvency. Bank governance standards are not best practice, and deferred tax credits comprise too large a portion of capital as new international financial reporting norms apply. Small enterprises deprived of credit demand creation of a dedicated development lender, but consideration should not divert cleanup attention, the report implies. Labor market and minimum wage rules remain rigid, and previously closed professions and licensing are not as strict, but more progress should be a priority. Anti-corruption agencies are now stronger in principle, but implementation and independence continue in question, according to the review. Greece’s 10% loss on the MSCI Index was in contrast to Turkey’s 35% through July, as the lira neared 5/dollar with the central bank on hold against double-digit inflation and currency depreciation. President Erdogan’s son-in-law was put in charge of economic policy after the ruling party joined with a right-wing counterpart to secure a parliamentary majority, and he has blamed “foreign disruption” for overheated growth and overstretched bank concerns.’


Ukraine’s Court Jester Jostle

2018 August 2 by

Ukraine stocks and bonds were on edge though the half-year as decent growth collided with anti-corruption failure to unlock IMF aid, going into the election cycle with President Poroshenko’s popular approval in single digits and perennial candidate Tymoshenko the front-runner after her rocky previous tenure. The MSCI frontier index was flat and fixed income struggled with debt repayments due to double to $7 billion next year, almost half of current reserves. First quarter GDP expanded 3% on improved metal exports and private consumption, but the rebound paled against 2017’s 15% contraction. Inflation is still at that level after sharp currency depreciation, bad weather affecting agriculture in the south which could halve the grain harvest, and the border war with Russia with its lingering bilateral export embargo. Duty free quotas under the EU free trade area do not match market losses, and the current account deficit has only remained a manageable 2% of GDP through slashed imports. The main inflow is $10 billion in remittances from Poland and other neighbors given miserly wages at home. The US and Russian Presidents met for a mid-July summit with the Minsk peace process stuck, and the Trump administration yet to convey support for the $17 billion IMF program, only half disbursed with the inability to meet fiscal and structural targets. The long-debated anti-corruption court became law, but was essentially gutted with appeals sent to the regular judiciary. The budget deficit could be double the 2% goal with gas charge delays and a pre-election spending splurge. The central bank leadership has changed after sector rescue and has monetary policy on hold, but may be forced to tighten as debt default jitters again emerge with expiration of the initial big haircut deal. Opposition party stalwart Tymoshenko won international sympathy for her reported mistreatment as a political prisoner, but may be reprising a populist economic platform that regularly clashed with promised Fund loan adjustments.

More successful Balkan pupil Serbia was off 1% in its MSCI component as the Q1 growth pace neared 5% on buoyant domestic demand, with investment also spurring an import surge in external accounts. Inflation is under 1%, as the central bank in contrast with the surrounding region has battled currency appreciation with regular intervention.  Croatia was down over 10% with growth at half its neighbor’s pace ahead of the peak summer tourist season, amid reports of widespread labor shortages. Early elections may still be called with the ruling coalition hanging by a thread after resignations and infighting over the collapse of the Agrokor conglomerate, employing tens of thousands with EUR 8 billion in debt. Hundreds of representatives gathered in a Zagreb arena in July, to reach an equity conversion and loan write-off deal leaving Russian state banks with 45% control.  A special law ordered the restructuring, with the former chief executive, who escaped to London, and associates still under investigation for criminal fraud. The settlement came a week before a rescue deadline under the statute, and officials hailed it as an antidote to “illiquidity and bad corporate conduct” with implementation due into next year even if the powers in ultimate charge are also reshuffled.


Central Europe’s Forgotten Convergence Crusade

2018 July 20 by

With the main Central Europe stock markets in the Czech Republic, Hungary and Poland beaten up through the first half, private equity competitors have moved to urge rediscovery of their asset class marginalized over the past decade, with less than $1 billion in funds raised last year according to industry association EMPEA, just 1% of the broader region total. Despite relatively high-growth consumer-driven economies with a combined 120 million population among a dozen EU member states, inflows are a tiny fraction of the pre-crisis level, when excitement peaked over post-communist income, competitiveness and earnings “catch up.” From 2006-08 $11 billion was easily solicited on strong returns, with individual fund closes above $500 million targeting company privatization and restructuring. Since that period, only half of managers have launched another vehicle, as popular telecoms plays faded. Engineering and technology is a new focus, and exits have included public share offerings in Budapest and Bucharest alongside traditional trade sales. The private capital penetration ratio is 0.1%, and although currency and political risks are favorable versus other emerging markets deal size is a constraint. Outside active development institutions like the EBRD and EIB with a dual smaller transaction mandate, general partners are hard-pressed to allocate several hundred million dollars as most commitments concentrate in the $50 million range. Domestic pension funds are typically absent, with a public instrument preference or bars to speculative venture capital participation. Poland, Romania and the Baltics are exceptions, but their engagement is “piecemeal,” the analysis suggests. It adds on the positive side that fund relationships have developed over decades and valuations are low, with recent buyouts under six times earnings. Low to middle market funds between $100-250 million are an open space, and credit could be offered with equity, experts believe. Poland has absorbed one-third of activity historically, and Southeast Europe and the Balkans are underrepresented, but for private managers to jump in, development agencies must take the lead. Poland’s future in turn is under scrutiny with a populist government emphasizing state intervention already eliminating the voluntary pension industry.

Russia and Turkey were not covered but managers have soured on their prospects too in country choice surveys. Russian securities are under US and EU sanctions, but oil and gas plays have recovered with higher prices as re-elected President Putin again promises economic reforms, with technocrats including former Finance Minister Kudrin in line to rejoin the cabinet. Fiscal discipline may involve military spending cuts and raised retirement age, as monetary policy progressively loosens with rate easing. The bill for big private bank rescues may reach $50 billion as secret stakes and deals with government giant VTB were revealed. The other state behemoth Sberbank meanwhile shed its Turkish subsidiary nominally to focus at home, as concerns also mount about the country’s overstretched banks and economy. President Erdogan handily won re-election, although opposition parties widened their parliament bloc, as financial assets continue to perform at the bottom of the regional pack. With the lira’s double digit depreciation family conglomerates, which must roll over overseas credit lines, are suddenly in renegotiation mode and the outcome may further unsettle byzantine central bank and political standoffs.


Russia’s Designated Selloff Scenario Spread

2018 May 9 by

After a 10% Q1 stock market gain to lead the regional MSCI index while local bond foreign ownership was one-third the total,  Russian assets were dumped in the wake of targeted US sanctions against “specially designated nationals” accused of individual and corporate complicity in “destabilization.” The Treasury Department notice freezes personal and securities holdings as of early May for 25 oligarchs and 15 firms, including global heavyweights like Rusal and gold miner Polyus. Commodity markets in turn were roiled as Glencore is a major shareholder in the aluminum giant, and Russia’s near $10 billion in exports of the metal will be slashed. The listing plunged 10% on the Moscow bourse, which was basking in the afterglow of a rare $100 million information technology IPO. Analysts were reluctant to change immediate growth and inflation forecasts which will likely suffer, as the government pledged banking support from almost half a trillion dollars in reserves without specifying amounts after establishing a $20 billion restructuring facility for rescued private sector lenders. The central bank estimates the corporate refinancing gap over the next year at $70 billion compared with the $100 billon during the original wave of Crimea-imposed sanctions, and domestic credit may be better positioned for the slack assuming the knee-jerk ruble slide stabilizes, as Governor Nabulliena indicated with a no-intervention stance, although she did not rule out a short-term rate hike. With Washington’s boycott names could be removed from the benchmark CEMBI and other indices, but sovereign spreads may barely budge after ratings agency action to restore investment-grade. The SDN label has now been extended to mainstream emerging market multinationals at the same time a future ban on government debt purchase as in Venezuela’s case could be considered. The Trump administration has signaled national security over financial market priorities in its positions so far and military engagement in Syria could invite more sweeping prohibitions, analysts believe.

Turkey is also enmeshed in the civil war there and recently recaptured Kurdish-controlled areas it is pressing Syrian refugees to relocate to after claiming $30 billion in host spending since the influx began. President Erdogan has ramped up his rhetoric on this issue and on the economy, where he lauded stimulus-induced 7.5% growth last year, which also swelled the current account hole to 6% of GDP as the lira breached 4/dollar. Despite overheating and political crackdown concerns as security forces round up academics and students, the central bank is under his admonition not to raise rates amid double-digit inflation. State-backed credit was up 40% over the period and another $40 billion package is in the works as banks otherwise retrench their business and personal lines on souring portfolios. Several big corporate borrowers also relying on external debt rollovers have entered rescheduling talks, and the rumored resignation of Deputy Prime Minister Simsek, a former investment banker, could further erode sentiment. Hungary was another populist hot spot in early April after the convincing two-thirds majority re-election of Prime Minister Orban and his Fidesz party. He too campaigned on an anti-immigrant and free spending platform against a weak opposition, and stocks and bonds rallied on the win but not foreign investor positioning at 20% of the total, half the previous take under more optimistic ruling clique embrace.


Latvia’s Lengthy Laundry List Collection

2018 March 16 by

Baltic stocks paused from their strong 2018 start as banking center Latvia again came under money laundering and sanctions-busting scrutiny, with a US Treasury Department report that the number three lender ABLV had “institutionalized” illicit operations with North Korean missile exporters. The declaration, after reported weeks of behind the scenes attempts to halt the business, prompted a depositor run with 40% of system accounts still controlled by non-residents, and an emergency government appeal for a EUR 500 million rescue. The central bank chief in the post for decades had come under criticism for previous scandals, including connections to the Russia Magnitsky tax fraud and alleged offshore looting of Kazakhstan’s BTA bank by a family member once close to President Nazarbaev. The dirty money implications featured prominently in 2008’s EUR 7.5 billion crisis bailout when Parex Bank collapsed, and were cited by other EU members ambivalent about 2014’s euro entry. The Anglo-Russian management at Nordvik Bank separately accused the governor of soliciting bribes to ignore questionable behavior, but he fired back that it was trying to influence the outcome of an arbitration claim. The prime minister ordered a full investigation and vowed to reduce international depositor share as a future safeguard, while conspiracy theorists pointed to Moscow’s possible hand in sowing public mistrust with the high-profile charges. They argued that the US too was fooled by another disinformation campaign, and that North Korean suspect funding was typically sourced through Asia. Since conducting a cleanup in recent years, penalties for offending banks have been mild, and the suspicious orbit has spread further in Eastern Europe to include Moldova, which had to turn to the IMF as well after wealthy political heavyweight executives bankrupted major lenders. Latvian officials for their part have been forced to strike a delicate balance after emerging from the post-2008 “internal devaluation” era to maintain the then euro peg. Self-imposed austerity crippled wages and incomes as banking remained a relative growth sector still providing high-paying jobs.

The international condemnation underscored the new importance of anti-corruption considerations in EU deliberations, especially with the aid budget under review pending Brexit. The Baltic position is to continue the EUR 1 trillion in “cohesion” assistance which are large portions of middle and lower-income recipient countries’ GDP.  Scandinavian donors Denmark and Sweden are in the so-called “Frugal Four” calling for reductions over the next pledging round. Recent entrants Bulgaria and Romania have been most under pressure to combat fraud and improve governance. The former is the poorest of the 28 bloc states with a EUR 10 billion allocation from the current bilateral package through 2020. Decent growth is expected at another 3.5% clip this year, and successive administrations have kept budget balance to support the currency board arrangement. As it takes the rotating EU Presidency, the lack of structural reform amid pervasive graft remains a central issue and has contributed to halving FDI since 2015. Companies cite bribery as a bigger burden than taxation, with a lowly 75th place in the Transparency International ranking. After a big bank failure concern is also mounting about another construction-associated credit bubble. Despite good capital, liquidity and profitability indicators for the industry number four First Investment Bank had a dubious asset quality review in 2016 and since has struggled to wash away residual balance sheet grime.


Turkey’s No Good Cresting Credit Craze

2018 February 17 by

Turkish stocks were pressed to sustain their 2017 35% MSCI gain as political opposition to President Erdogan further solidified with a successful gathering organized by the new Iyi (good) party founded by a former interior minister expelled from the ruling AKP, and the central bank hoisted rates 50 basis points to stem near 15% inflation from the state-credit turbocharged economy expanding 7% in the third quarter. Investors were also spooked by a senior Halkbank executive New York conviction in an illegal gold for oil trading scheme with Iran violating sanctions, which may result in SWIFT network dollar-clearing curbs. Iyi’s head Aksener fashioned a conservative cultural anti-terror platform which promotes women’s rights and criticizes the presidency’s unchecked powers. Over 50,000 have been jailed and hundreds of thousands of government employees were removed under broad security authority after the botched putsch, and waves of educated professionals otherwise fled abroad. The US has been accused of aiding plotters and of encouraging a Kurdish stronghold along the Syrian border, while Turkish embassy personnel were accused of beating protesters in Washington during a bilateral summit. Visa services were suspended between the two countries in the aftermath, and overtures to Russia and China have increased on commercial and military cooperation. Western human rights groups have blasted the regime’s strong arm tactics, including confiscation of leading private company assets, as well as harsh refugee treatment despite hosting over 3 million escaping Syrians. With emergency law tourism is down despite the softer lira toward 3/dollar, and the current account deficit again approaches 5% with booming domestic demand, on household spending up 12% annually. Turkish business has borrowed $215 billion overseas, and the government will keep weaker firms from assuming more debt under recent changes. Banks likewise depend on foreign lines, and their position may be more precarious with global monetary tightening and lingering exposure from the guarantee fund push.

Refugee labor market practice was condemned in a December report by advocacy organization Refugees International calling for “sustainable solutions” after seven years of Syria’s civil war. Despite government and EU assistance the population must “fend for itself,” and can only find informal economy work with substandard wages and conditions with few permits issued under a 2016 program. Over 5000 Syrian-owned businesses have opened, but employees otherwise face prohibitive administration and fees. One million are in Istanbul, and over 90% are in urban centers with limited language and skills access. They are under “temporary protection” and must live in the city where registered and wait six months to apply for work approvals, now at 15000 total since introduction. Cash transfers are minimal for family support, and households typically must also send money to relatives in Syria. An estimated 80% of refugees are in the underground sector, and 40% of children are out of school in such labor, particularly in the low salary textile industry. The survey documented scarce permit information through community centers and employer hiring appetite with the minimum wage, social security and other charges attached. Few refugees speak Turkish and they encounter long delays in obtaining ID cards prior to seeking permits as well as discrimination in renting which can literally undermine prospects for roofs over their heads, according to the analysis.


































Russia’s Banking Blockade Blowback

2017 December 25 by

Russian shares tried to finish the year positive, as President Putin signaled his reelection run amid swirling allegations of manipulation and back-channel deals during the 2016 US polls and Trump transition aftermath. Former national security adviser Flynn joined other junior and senior campaign officials in facing prison time on criminal charges, with his perjury guilty plea focusing on diplomatic contacts before the administration took office where 2014 sanctions modification may have been explored. The President’s son-in-law in turn is reportedly under investigation for private and early government interactions with top executives of Russian state VTB, a main target of the original bilateral business ban which was reinforced this year with further legislation widening the potential scope against individuals and institutions particularly in the energy and financial sectors. The new reach could include all sovereign debt allocation to be considered in a Treasury Department study, as the foreign investment share in ruble paper stands at one-fifth the total. A pullback would raise pressure on domestic banks to fill the gap after the collapse of two major private competitors, and as they are already over-exposed to corporate borrowers with the twenty biggest accounting for 225% of common equity according to a December report by rater S&P. Concentration risk may be understated as it is “not fully captured” in current reporting which may flout single customer limits and not combine bond investment and credit lines. Large companies have also transferred cash from foreign to local banks, and do not disclose the holdings. From 2014-16 the overreliance intensified with the system’s high interest costs and low profitability aggravated by the oil price crash. Sanctioned Sberbank, VTB, Rosselkhozbank and Gazprombank hold half of the load on their books, without incorporating ruble and Eurobond allocation. For individual clients the ceiling under IFRS standards is put at $40 billion, and Rosneft had $25 billion in outstanding credit alone in the September quarter, the ratings firm noted. The recent failures of Okritie Bank and cohorts, following the central bank’s withdrawal of 250 other licenses, accelerated retail depositor flight to quality and size which injected funds, but companies could further experience losses in smaller intermediaries only partially covered by insurance.

While both leading state banks and corporates have pared foreign debt by necessity over the sanctions period, they owe $100 billion in interest and principal payment in 2018. The amount is manageable but may require deposit drawdown at home and abroad, especially if refinancing channels are constrained by fresh US and ally curbs. To prepare capital spending has been cut on major projects with the exception of a few high-profile hydrocarbons and railway deals. The government has indicated it will be selective in future equity participation, and has ruled out sizable privatizations in strategic enterprises while demanding increased dividends. The top three state banks do not need near-term Western capital market access, but their retail deposit growth will slow and the central bank’s foreign exchange support program dating from the 2015 crisis is winding down. The “specially designated” bank pariah list could also be expanded and secondary penalties applied against other countries under the “Countering America’s Adversaries” law aligning Washington’s political parties on an anti-Putin platform, the review concludes.