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Feature Story March 23, 2007
Credit Nation On The Brink?
Blowing credit bubbles in Russia’s financial sector By Yasha Levine Browse author Email

The greatest threat to the Putin regime isn't what's grabbing all the headlines - opposition marches, NATO encirclement, separatism in the Caucuses, the ever-crumbling infrastructure. No, the most likely threat to stability comes from a more obvious yet far less sexy source: e-z consumer credit.

People working in Russia's high-flying banking sector are going to publicly deny the possibility of another financial catastrophe of the 1998 variety, the crash that brought an end to Russia's experiment with Western Liberalism. But privately many admit there are signs that another crisis might be looming. This time the trigger could be an avalanche of consumer debt defaults following the popping of a ballooning credit bubble. If the personal easy-credit pyramid crumbles, it could trigger a major correction in Russian asset prices, which have been rising consistently for eight straight years now.

Just two years ago, consumer credit was still relatively new and rare in Russia. Sure, loans have been available for years, but until recently banks weren't as eager to issue consumer credit as easily as they do now, and Russians weren't lining up in droves to finance a rabidly consumerist lifestyle. But, oh, how that's changed.

In 2004, Russia's total consumer loans amounted to about $20 billion. Two years later, that number quadrupled, or more. At the end of 2006, consumer debt hovered just below the $80 billion mark (about 8% of Russia's GDP), according to Alfa Bank. If you listen to Russia's Central Bank (CBR), the number was closer $100 billion.

The 400% jump in Russia's personal credit revolution was not the result of a decision by the CBR to stimulate the economy by lowering interest rates. In fact, in the two-year period, interloan interest rates (the rates at which banks loan money to each other) rose by a few percentage points. This bubble wasn't caused by fiscal policy, but by speculation and greed.

According to the Russian daily Kommersant, Russian debtors are defaulting on roughly 35% of outstanding loans. You read that right. Thirty-five percent. This figure should have the financial sector shitting in its Depends and transferring its money into bullion. In comparison, only 5% of all American mortgages were foreclosed in 2006. But the Kommersant article, published on February 2, didn't cause any waves.

Home Bank, a small Russian subsidiary of a Czech bank called Home Credit and Finance Bank, is a shining example of the type of institution that's bringing the consumer credit market to the brink. According to PROFIL magazine, Home takes pride in the fact that the bank approves virtually anyone with a heartbeat. As a result, Home proudly posts a whopping 22% default rate on their loans. That's right, nearly one out of every four people borrowing money from them couldn't pay them back. But the bank isn't worried. They sell their bad debt to collection agencies for pennies on the dollar and still make enough to turn a handsome profit. The trick to the whole industry lies in the exorbitant interest rates they charge those who don't welch; the losses are more than covered by the people that manage to pay off their loans. The result is a classic pyramid scheme.

The banking industry is loathe to admit this, but Home's practices are the industry standard. To see if Russian banks are indeed as suicidal as they're made out to be, the eXile called Russia's five largest banks to find out what it takes to get $10,000 in cash, no questions asked.

Turns out, credit history is not even a factor in the decision-making process. In the 16 years of Russia's market economy, no centralized credit bureau has been established. Banks compile their own credit ratings and you can get a huge credit rating databases pirated from large banks at any rynok in Moscow, but banks have yet to begin sharing the information amongst themselves.

Banks clearly aren't motivated by their clients' ability to pay off loans. Rather, they're driven by the fear that the borrower will take his business elsewhere. With the competition in mind, each bank assured us that getting a loan would not be a problem, even when we hinted that our income isn't always as regular as we'd like. All we needed, the banking reps assured us, was a valid passport, written proof of employment, and deposit slips showing income. They didn't care much about our salary, just so long as some of it was legal.

Of all the banks, Russkiy Standart was by far the most, er, generous. Russkiy Standart is Russia's largest consumer lender. For awhile, the bank gave out loans like toasters. All they required was a passport, proof that the borrower has maintained a job for at least six months and a co-signer who also had a six-month employment history. That's it. Provided that, you could walk out of a Russkiy Standart loan department with a fat stack of rubles equaling $10,000.

It's almost like free money. And it is, until you look at their jaw-smacking interest rates.

How long can the banks keep it going? How many dirt-poor Russian debtors can they keep shoveling off to collector agencies before the entire Russian population has repo men stealing their cars and goons knocking down their doors and dragging out their brand new plasma TVs? If up to a third of Russians are defaulting during the peak of a huge economic boom, then what will happen if the economy takes a turn? What will happen if something like the recent China tremors or America's growing debt problems cause investors to pull money out of Russia, or oil prices to fall?

Investment banker Jim Rogers, who correctly predicted a bull market in commodities that began in 1999 and opened the massively successful Quantum Fund with George Soros, doesn't need to be told what will happen.

"I wouldn't put a nickel of my own money in Russia, and I wouldn't put a nickel of your money there either," he recently announced. "Everything about Russia is one big bubble, and it's going to pop. It's going to happen sooner rather than later ... When that happens, people will look around and say, how did that happen? That's when we'll find out about all the skeletons in the cupboard," Rogers told Reuters in a ranting telephone interview last week.

According to him, the slightest glitch in Russia's economy and the whole thing could tumble like a house of cards. But not everyone agrees.

Our source at Alpha Bank thinks it's all hype. According to her, Russia's credit and real estate markets aren't as fluid as Western markets. Russia's low consumer debt/GDP ratio (currently at 8%, as opposed to America's 92%) is going to limit the fallout of any banking shocks, and shield the country's real estate markets.

But financial bubbles are part psychology, part economics and are tricky to predict. Besides, there are signs that the big boys know it's coming.

Some of Russia's largest banks have already stopped issuing easy credit. The high profits are no longer justified by the increased risks built into Russia's consumer credit. According to PROFILE magazine, VTB 24 is leading the pack in killing off its high-risk checkout credit programs. VTB 24 is a subsidiary of VTB bank, which is half-owned by the Russian government and is Russia's largest bank in terms of authorized capital. VTB has the biggest lending reserves, yet it is pulling out of the high-risk credit game. Rosbank and Alfa bank are following suit.

The government and the CBR are finally stirring as well. Earlier this March, Gennady Onishchenko, head of Russia's Trade and Sanitary Inspection Authority, promised to curb predatory lending by eliminating hidden service charges that banks hide in their loans. You know the Kremlin is getting involved if Onishchenko is setting up to the plate. He's the guy that imposed an embargo on Moldavian wines and Georgian mineral water because of supposed "health concerns" which he discovered just at the time that Moldavia and Georgia started playing footsie with NATO.

But is it too late to prevent the meltdown? The only thing that could help now would be for the federal government to start pumping money into the banking system so the banks can start lowering interest rates. It looks like this might be happening as well. The average interbank loan rate this year is already 2% lower than the average of the last quarter of 2006.

If the credit economy were to crash, you might start to see a lot more people with the time and energy to protest. Because if there's one thing that can crush the opposition more completely than censorship, jail time and OMON put together, it's Russia's new E-Z credit economy. If there's one thing that can make living in an FSB-controlled state tolerable, it's free money of the sort we've been seeing.

The protest leaders don't seem to grasp this. "When 85% of this country's population isn't seeing the benefits brought in by the flow of petrodollars, a new team must analyze this horrible social layering," Gary Kasparov told Russian Newsweek after the protest.

But easy consumer credit is doing a pretty good job of temporarily masking this "horrible social layering." Who needs a thriving and growing middle class when even Russia's poorest village dwellers can go on the biggest shopping spree of their lives, paid for with someone else's -a bank's, that is credit? Why waste your day protesting in the streets and run the risk of getting billy-clubbed and thrown in jail, when you can go shopping for the newest 54-inch LCD TV with Dolby Digital surround sound and then spend the next 6 months bragging about it to your drinking buddies?

One of the main reasons behind Putin's popularity - as well as one of the reasons the opposition doesn't have a chance is that millions of Russians, for the first time since 1991, can act like the professional consumers they've always dreamed of becoming. So what if they're signing themselves up for debt serfdom? Americans do it.

But if the credit shit hits the fan and liquidity suddenly dries up, it could be the end for Putin's New Russia, and the start of something that none of us would even dare to guess.

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Yasha Levine is an editor at The eXile. You can contact him at

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