The link between banks' performance and real sector growth seems obvious. Assuming that banks reallocate financial resources to benefit their corporate customers (who would otherwise not have used the service), it appears that banks and the real sector should prosper together. The reality, however, is different.
In their article 'The impact of financial intermediaries on Russia's real sector growth: The case of large and medium-sized companies', Vasslisa Makarova and Andrei Krylov note that Russian banks reported loan portfolio and revenue growth in 2012 (the year under review).
According to estimates by the Russian Central Bank, the banking sector's aggregate profits amounted to a record 1 trillion roubles in 2012. In the first nine months of 2012, Sberbank increased its corporate loan portfolio by 18.6% and its retail loans by 48.9%. Similarly, VTB reported an increase in retail lending and sustained rates of corporate lending. According to Makarova and Krylov, these two banks’ results suggest overall strong performance of Russia's banking sector in 2012.
Despite the booming banking sector, the country’s industrial production has been trending downward since 2010. According to Rosstat, the national index of industrial production dropped to 102.6 in 2012 from 104.7 in 2011 and 108.2 in 2010.
Certain characteristics of Russian companies can explain the imbalance. In particular, many of their fixed assets are obsolete and depreciated due to wear and tear, and thus require major upgrading. In 2011-2012, companies used borrowed funds to support capital construction and equipment purchases, but they could not effectively upgrade due to other economic factors. Among such factors is the growing cost of production caused largely by tariffs of natural monopolies that had pushed already limited operating margins further down – from 8.9% in 2011 to 7.7% in the first nine months of 2012.
Companies tend to increase their selling and administrative expenses in response to sustained economic growth; however, increases in these expenses were significantly lower than revenue growth between 2011 and 2012, which suggests that companies were reducing costs.
Despite falling production, companies earned more, with their revenues growing by 17.6% year on year in the first nine months of 2012. According to Makarova and Krylov, higher earnings were driven by higher product and service prices in response to rising tariffs. Price increases were accompanied by faster product turnaround – companies required prompt payment for delivered goods and services and often charged an advance payment, as evidenced by the lower share of trade receivables in total receivables in 2011 and 2012.
All of the above benefits banks by creating demand for loans to cover advance payments and cash shortages. In contrast, the market situation does not look as good for companies that require advances and faster payments to avoid potential losses if a customer goes bankrupt or refuses to pay. Banks respond to these concerns by expanding their loan portfolios and sharing the default risk with industry, but charge a higher interest rate to offset the risks.
A review of Russian companies' aggregate 2011-2012 financial results reveals an overall drop in profitability for two consecutive years due both to decreasing operating margins and increasing debt service costs. The aggregate amount of loan interest paid by industry increased by 27.7% in the first nine months of 2012, contributing to the banking sector's impressive financial performance.
Makarova and Krylov conclude that Russia's real sector is facing a rather difficult time, while banks are benefitting from industry's financial challenges by expanding their loan portfolios and raising interest rates and margins. As a result, banks are showing record performance while the real sector is in decline.
An important cause of the problem, according to Makarova and Krylov, is the nature of Russia’s economy where sectors operate without significant coordination among them. In addition, businesses seek to accumulate resources today in order to survive possible future adversity.
Companies become increasingly indebted at higher interest rates and have limited funds available to develop production capacity and economic growth. An appropriate response from banks would be to find new approaches to real sector financing to avoid a future recession.