THE BANKING SECTOR, BELARUSIAN STYLE

UNCLAS MINSK 000851

SIPDIS

SIPDIS

State for EB/IFD/OIA, EB/IFD/OIA, EUR/UMB

E.O. 12958: N/A
TAGS: ECON EFIN EINV KCOR BTIU PGOV AFIN BO
SUBJECT: THE BANKING SECTOR, BELARUSIAN STYLE

REFS: (A) MINSK 0638, (B) Minsk 0118


1. Summary: The banking system in Belarus is
characterized by its underdevelopment, lack of foreign
competition, and constant government interference.
The Belarusian economy still relies primarily on cash
as a settlement instrument. Cash outside the banking
sector is the preferred method of payment because,
what the GOB doesn't see, it can't confiscate or
control. GOB intervention in the operational
activities of both private enterprises and government-
controlled banks is the cause of most of the problems
in the banking sector. However, despite these
systemic problems, public trust in the banking sector
is growing. End summary.


2. The banking sector in Belarus remains relatively
underdeveloped. There are 31 registered banks in
Belarus. Eighty percent of the banking system is
owned by the state or the central bank. Four of the
six largest banks are majority state owned, and the
other two are minority state owned. Only one western
bank operates in Belarus, Priorbank, majority owned by
Austria's Raiffeisen International Beteiligungs AG.
Priorbank, Belarus' third largest bank, has greatly
outperformed the state banks, accounting for over half
of all banking profit in 2004 and with a return on
equity of 22.3 percent. The two largest state-owned
banks had returns on equity of only 3.5 percent.


TAKE THAT TO THE NATIONAL BANK
--------------


3. The banking system in Belarus is characterized by
poor infrastructure, quality and reliability of
accounting systems in place and a lack of skilled and
educated labor in the financial sector. Generally
Accepted Accounting Principals (GAAP) and other
internationally accepted methods of accounting are not
taught inside Belarus. They have developed their own
standard called the "Belarus Accounting Regulation."


4. The Laws "On the National Bank of the Republic of
Belarus" (NBB) and "On Banks and Banking Activities in
the Republic of Belarus" were passed in December 1990.
All bank institutions of the USSR within Belarusian
territory were declared the property of Belarus at
that time. The NBRB was established on the basis of
the Belarusian Republican Bank of the USSR State Bank.
Specialized state banks were transformed into
joint-stock commercial banks.


5. The president has ultimate control over all aspects
of the NBB. Any member of the Board of the National
Bank may be removed from office by the president with
a simple notification to the National Assembly.
Reasons for removal vary from expiration of one's term
in office to the well-known Soviet scheme of
"inability to carry out functions for health reasons
on the basis of findings of medical examination." In
other words, non-observance of decrees, edicts and
directives of the President of the Republic of Belarus
will be cause for removal. Officials like the
Chairman of the NBB, a mining engineer by training,
rely on the president's goodwill to remain in their
positions.


TAKE THE CASH AND LET CREDIT GO
--------------


6. In Belarus, cash is still the main form of
settlement used by individuals. A large share of
wages, retirement and welfare benefits are paid in
cash, particularly by private employers. Most
Belarusian workers do not maintain accounts with
banks.

7. Some large enterprises have started to pay wages by
using a bank-sponsored corporate plastic card.
However, cash is still the prevailing instrument used
to pay wages. Plastic cards were first introduced in
Belarus in 1993. There are two types of bankcards
currently in use in the country: cards issued by the
Belarusian national payment system and those issued by
international banking associations VISA and
MasterCard/Europay. The six largest banks are members
of these international banking associations. Most
bankcards in circulation are debit cards. Credit cards
are used on a limited scale. VISA and MasterCard /
Europay are not widely accepted by sales outlets for
purchases.


THAT INTERFERING GOVERNMENT
--------------


8. Bank ownership and creditor rights are not well
protected in Belarus. Banks are often distracted by
unwarranted visits by tax inspectors, police and other
controlling authorities. The current political
situation in Belarus leaves banking institutions
subject to various and frequent presidential decrees
that have had significant impacts on the flow of, and
access to, cash by its citizens. The GOB chooses to
impose its preemptive authority over the control of
cash with little or no regard for the rule of law.
Its consideration of the impact on society or the
business climate in Belarus is secondary to its
ultimate control of the cash economy for political
ends, namely to ensure economic and social stability
for the survival of the regime.


9. According to IMF reports, the regime continues to
strengthen its ability to assert control over every
organization in Belarus through legislation, including
presidential decrees. Most recently, on July 25 the
National Bank of Belarus, citing clauses in the
state's bankruptcy law, took control of the private
(and 80 percent foreign owned) Djem-Bank. The NBB has
transferred Djem-Bank's management rights for a three-
month period to BelGazPromBank. Djem-Bank management
is appealing this move, has called it illegal and
unfounded, and complained that BelGazPromBank is their
main competitor. [Comment: Djem-Bank's complaints
seem valid. According to NBB statistics, Djem-Bank is
not bankrupt. Their assets (USD 47.7 million)
outstrip liabilities (USD 36.6 million),deposits are
up 13 percent for the year, and they earned USD 70,000
in profits in the first half of the year.]


DIRECTED LOANS
--------------


10. The 2005 IMF report on Belarus lists directed
loans to be a major tool of government control over
the economy. The GOB often orders banks, both state-
owned and private, to direct lending to certain
institutions, usually state owned, for political
reasons. The state often directs such loans to allow
unprofitable state enterprises to meet salary
payments. Such loans could become more common since
for the past decade the GOB has mandated across the
board wage increases, in dollar terms, that greatly
outstrip any rise in productivity. This is having the
effect of decapitalizing many enterprises.


11. In 2004 directed loans accounted for 3.4 percent
of GDP, or half of all new bank lending. The majority
of these loans have gone to agriculture, with another
large segment directed towards new housing
construction. Private banks have not been immune; for
example, in 2003 the GOB ordered Priorbank to lend USD
36 million to the Krinytsa Brewery.


12. The high level of directed lending, with no

consideration of the enterprises' ability to repay the
loans, leads to liquidity crises toward the end of
each year. To rescue its banks, the GOB annually
recapitalizes the largest state banks from the state
budget. From 2000 to 2004 the GOB transferred 1,540
billion rubles (USD 716 million) to three banks,
Belagrombank, Belarusbank, and Belpromstroibank. At
its peak, in 2002, this recapitalization accounted for
62 percent of all banking system capital
. That had
dropped to 25.2 percent for 2004. The IMF concludes
these banks could become insolvent in the absence of
further recapitalizations, posing significant systemic
risk. However, GOB officials told the IMF they see
such policies as being successful, and see no need to
phase out directed lending.


EVERGREENING, BUT NO TREES IN SIGHT
--------------


13. The IMF also noted that Belarus' banking sector,
while reporting sound indicators, is in reality
"increasingly vulnerable" because of Non-Performing
Loans (NPL). The GOB follows a policy of leniency with
their problem borrowers to avoid having to increase
their own loan loss reserves, which would further
impair needed capital. This has lead to a policy of
"evergreening" loans: banks extend additional loans to
troubled firms to enable them to make interest
payments on already outstanding loans to avoid or
delay bankruptcy. By keeping the loan portfolios
artificially current, the banks can make their
official balance sheets look better and are not
required to show such problem loans as non-performing.
However, such practice makes banks dependent on state
bailouts and removes any incentives for practicing
good banking practices.


14. The NBRB required registered banks to ensure that
the level of NPLs fell below specific thresholds by
the end of 2003. In Belarus, when the government
wants something to happen it does, at least on paper.
The targets were met and NPLs reportedly fell from
14.4 percent of the loan portfolio at the end of 2001
to less than 4 percent at the end of 2003. [Comment:
Amazing how far a little "cooking of the books" will
get you.]


15. In May Lukashenko declared 2005 as the "Year of
raising the efficiency of economic activities and
saving resources" (Ref A). In his comments, the
president stressed that his prior targets were not met
and ordered the NBRB to investigate. He again ordered
the NBRB to reduce bad debts. If evergreening worked
once, why not try it again. He also "suggested" the
GOB should continue its efforts to transfer accounts
of industrial giants to state-controlled banks.


A REAL INDEPENDENT VIEW
--------------


16. Post's FMO, a CPA, obtained a copy of the audited
financial statement of the largest private bank
operating in Belarus. The notes to the financial
statement offer a glimpse of what the bank views as a
major concern for its operations in Belarus. The bank
and its independent auditors, Ernst & Young, signed
off on listing the GOB as a contingent liability in
the financial statement.


17. Accounting standards require the presentation of a
Balance Sheet, Statement of Income and a Statement of
Cash flows. In addition to those reports significant
issues not reflected on the books of the entity must
be described in notes to the financial statements.
Failure to disclose these items could have a
significant impact on an individual's understanding of
the financial condition of an entity in its entirety.


18. In the bank's note on "Allowances for Impairment
of Financial Assets" it says, "The Bank is not in a
position to predict what changes in conditions will
take place in Belarus and what effect such changes
might have on the adequacy of the allowances for
impairment of financial assets in future periods." In
its note on "Taxation," it says, "Tax returns,
together with other legal compliance areas are subject
to review and investigation by a number of
authorities, who are enabled by law to impose
extremely severe fines, penalties, and interest
charges. These facts create tax risks in Belarus
substantially more significant than typically found in
countries with more developed tax systems." Failure to
discloses these remarks would have a major impact on
the readers understanding of the bank's financial
operating environment in Belarus.


BUT TRUST IS GROWING
--------------


19. Despite these systemic problems, public trust in
the banking sector is growing. Ruble deposits grew 74
percent in 2004. However, this growth was still not
enough to offset the sector's liquidity crisis in late

2004.


NO BUYERS IN SIGHT
--------------


20. In January 2005 the NBRB announced it was
interested in selling its interest in three banks
operating in Belarus. Shares of Belvnesheconombank,
Paritetbank and Bank Mezhdunarodnoy Torgovli i
Investitsiy (Bank for International Trade and
Investments) are up for the highest bidder. As of
July these banks are still listed as available. This
suggests limited interest by potential buyers when the
GOB's current stated policy is to transfer accounts
away from private banks and into state controlled
institutions.


CHINA; THE FINAL FRONTIER IN BANKING
--------------


21. It was recently reported in a GOB-owned newspaper
that the NBB is considering opening a branch of one of
Belarus' banks in China. The paper reported that the
idea was being considered after a recommendation came
from the Belarusian Embassy in China. The NBB sent a
letter to all registered banks in Belarus "suggesting"
that they consider such a move. Given the level of
influence by the president and the NBB, it won't be
long before Belarusian Rubles will be available at a
local branch in Beijing.


CONCLUSION
--------------


22. The GOB continues to impose its agenda on and
exercise significant control over all facets of life
in Belarus. Its ability to significantly control the
financial sector in Belarus will continue to keep
western influences in check for years to come. Its
strong-arm tax strategies combined with intrusive
presidential edicts will make it difficult for
financial institutions to operate in Belarus, at least
according to western standards. The state's economic
policy is directed at keeping the economy under strict
government control. While this may work in the short
term, ignoring fiscal realities over the long term can
only lead to destabilization. Nevertheless, growing
consumption, spurred by economic growth, is forcing
more Belarusians to turn to the banking system for
credit and deposits.


KROL