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This is bne's Russia chairman’s newsletter, a selection of forward looking stories on development in eastern Europe and the region. Feel free to request topics or ask questions: editor@bne.eu

Contents: Top Story

Politics – the ugly

Russia on track for mild recovery this year after annus horribilis in 2013

Criminal Case Launched Against Ex-Defense Minister's Relative Investigators to strip notorious Russian lawmaker of immunity

Politics – the good Russia climbed up Bloomberg’s ‘doing business ranking’ PWC ranks Russia as the world’s best tax reformer Khodorkovsky and his business partner Lebedev released Top bureaucrats to be put on a five-year rotation Politics – the bad Major reshuffle of the state’s media assets Russia’s leading independent TV closed down Russia merges it two top courts Government delay on controls over state purchases leaves door to corruption open Are Russia’s regions ready to abandon Mayoral elections? Russia leads the world in protectionist trade measures, study says

Polls, mood, sociology Putin’s popularity higher than ever… …And he is increasingly admired abroad Most Russians indifferent to Khodorkovsky’s pardon Residents more than twice as likely to say collapse hurt their country Vodka still a major killer in Russia

One in three Russians think Pussy Riot should be behind bars Banks and Finance Only one in three Russians have any savings Russia Has Too Many Banks Russia’s investment banks' income exceeded $800m Russia's Sberbank continues European expansion to Czech Republic, Germany Russian retail portfolios growth to slow to 25% in 2014 Auto loans decreased 7% from RUB523.3 thousand to RUB487.7 thousand in 2013 Russia’s mortgage loan portfolio rises 32% to RUB2.56 trillion as of Dec 1


Retail loan NPLs up sharply in 2013 New transparency rules introduced for bank credits Central Bank to Expand List of Systemically Important Banks Economics Ruble tumbles, breaks out of band Will Russian companies build up inventories this year? Russia had the third highest level of foreign direct investment (FDI) in the world Russia finishes 2013 with 1.4% growth thanks to December boost, 3% forecast for 2014 December brings early signs of a recovery for investment following horrible year EBRD cuts investments in Russia due to “falling appeal” Regional Debt to be a growing problem in 2014 Russian Producer confidence was down for fourth consecutive month in December Eastern European CEOs are the least optimistic about 2014 in Europe Government misses inflation target, finishes with 6.5% Real income growth slowing as consumption driver running out of puff, but retail already showing signs of recovery Russia’s net capital outflow for 2013 rises to $62.7bn, $30bn predicted for 2014 Russia ends 2013 with $9.2bn budget deficit, 0.5% of GDP Weak performance of Russian foreign trade continues Russia's Finance Minister proposes raising retirement age The number of companies closed in Russia in 2013 was twice that of 2012

Sentiment amongst business improving, bodes well for 2014 Privatisation back on the agenda (if markets allow) M&A volumes fall by half in 2013 year-on-year 15-20% of Russians Work in Shadow Economy Infrastructure Aeroflot Expands Fleet With New 777-300ER and SSJ-100 Russian-Made Superjets to Start Flights to US Russian market as a driver for German shipbuilding Russian Railways to issue RUB50bn shares to fund Siberian projects ECM Outlook for Russian equity positive IPOs revive in 2013 Germany’s Metro considers IPO of Russian subsidiary Government Wants Dividend Payout Based on International Accounting Standard Who owns Russia’s free float? Significant new listing rules, new assets at the Moscow Exchange from April DCM Euroclear to enter Russian corporate bond market on January 30 Bond issues down 4% in 2013 Russia's corporate foreign debt grows by $86bn in 2013 vs. $74bn in 2012 Sectors Rosoboronexport sold a record $13.2bn in 2013


Russia’s pharmaceutical production rises 23% on year December Russian harvest expect to rise by 2m tonnes in 2014 Russian car output falls to 2.192m in 2013 Russia worlds third largest military spender

Russia to remain world top fuel exporter by 2035 Private Sector Seen as Solution to Run-Down Social Services


Top Story Russia on track for mild recovery this year after annus horribilis in 2013 2013 was an annus horribilis for Russia. Indeed, it was probably the worst year the country has been forced to endure (that was not a crisis year) in the last decade and half. The economy suffered from a "phantom crisis" that had its roots in the fears of a second global financial crisis which started in Europe in the summer of 2012. The state issued a mass of debt to build up its reserves, which crowded private companies and banks out of the market and created an atmosphere of fear amongst businessmen. The results were soon to be seen as the economy started to slow in the autumn of 2012 and that slowdown became self-reinforcing. By the summer of 2013 growth had stalled completely and Russia underperformed, missing the 3.5% GDP target most analysts were predicting at the start of the year. At the time of writing in December, Russia looked unlikely to even manage 1.5% for the whole year. “Despite what can be viewed as a high oil price, real GDP growth slowed dramatically to 1.3% in the first nine months of 2013, compared to 4.0% in the first nine months of 2012, as have all major economic indicators,” said Aton Capital in its 2014 outlook.

Analysts totally underestimated the impact of the terrible sentiment amongst Russia’s businessmen. This climate of fear was only reinforced as the Kremlin ramped up its anti-corruption campaign in 2013, which increasingly is breaking up the old businesspolitics client system and has exposed all to the possibility of arrest or confiscation of assets. Perhaps the best illustration of the fears is that companies cut inventories in 2013, leading to a collapse in industrial production in the summer. This is a typical reaction to a crisis, but in 2013 it was being used prophylactically as a way to avoid tying up cash in product and keeping companies’ resources liquid. At the same time Russian President Vladimir Putin introduced a new law that bans Duma deputies and state officials from owning property abroad or holding foreign bank accounts. This is in effect the first capital controls that Russia has used since the 1990s and given the step from Duma deputies to businessmen is short, this measure further unsettled everyone. And more recently the Central Bank of Russia (CBR) has started a visible campaign to close some of the 800 smaller banks, which has introduced yet another note of uncertainty in the banking sector and the possibility of a domestic financial crisis. On top of all this have been the poor external conditions and the slower-than-expected recovery in Europe. Access to international


capital markets remains muted and the problems have been exacerbated by the bubble forming in developed capital markets due to the endless quantitative easing, which has seriously distorted flows of international capital. These are some of the superficial reasons for Russia’s slowdown in 2013, but at a deeper level Russia’s growth model has also run out of steam and the economy will not pick up unless deep structural reforms are put in place. While oil prices held up at over $100 for the year, such high prices no longer deliver growth. Consumption was the main engine for growth in 2013, but will probably fade in 2014 and was already slowing at the end of 2013. It remains moderately robust with nominal average incomes continuing to rise by an average of 10%, ahead of inflation at about 6.3%. “Personal consumption growth has remained positive, although, with the exception of real disposable income, it has slowed dramatically compared to last year,” says Aton. All these problems have manifested themselves in the collapse of investment, which normally is one of the three big economic drivers (along with consumption and construction). As bne pointed out in its 2013 Outlook, investment was going to be the key variable in 2013, yet the investment numbers ended up being hugely disappointing, mirrored by the low levels of corporate borrowing, which also

contributed to the collapse of industrial production. “Most concerning is fixed investment, down 1.8% year-on-year in the first ten months of 2013, vs a full 9.1% year-on-year growth in the first ten months of 2012. Equally, industrial production growth has disappointed, being flat year-onyear in first ten months of 2013 compared to 2.8% growth in the same period last year,” says Aton. Despite the slowing growth, the continued rise in incomes over inflation means that both companies and banks have been suffering from a sustained squeeze on margins, a problem only made worse by the high cost of borrowing, as the CBR has refused to cut interest rates while it battles stubbornly high inflation. All this has led to talk of stagnation of the Russian economy. In a much-cited speech on November 7, Economic Minister Alexei Ulyukayev outlined a gloomy economic outlook for Russia, saying that GDP growth could likely average 2.5% per year until 2030, down from the previous estimate of an average of 4%. This is a very pessimistic call and it is probably partly aimed at the statist elements in the government, to persuade them to allow for more liberal structural reforms. Growth of 2.5% would be below the expected average global growth of 3.5% for the same period. “Ulyukayev’s statement should be viewed as a clear acknowledgment by Russia’s leadership that the country’s economic model needs to be


dramatically altered given the country’s dependence on oil and other structural and institutional deficiencies,” says Aton. So is the Russian growth story over? Several of the factors that have impaired growth in 2013 will drop away in 2014, but the biggest fillip should come simply from an improvement of sentiment amongst Russian businessmen. The main positive factors for growth in 2014 include: • Low base effect: the bad numbers in 2013 set a very low bar for 2014 and growth should pick up on a year-on-year measure on the basis of the statistical comparison alone; • Inflation to fall: the CBR has nailed its inflation-fighting flag to the mast. Confidence in its ability to deliver should bring down inflation, as one of the factors has been the high expectation of inflation amongst the population; • Food prices to fall: a second factor fuelling inflation was the poor harvest of 2012, which sent the price of food soaring. However, the harvest in 2013 was good and this should reduce inflation towards its core level of 4-5% in 2014; • Interest rate cuts: falling inflation will allow the CBR to cut rates and reduce the cost of borrowing, which will help spur growth. However, the cuts likely won't begin until the first half of 2014 and take at least six months

to have a positive economic impact; • Structural reforms: the slowdown has forced the Kremlin’s hand and it launched what could be argued are the first ever sincere attempts at making deep structural reforms epitomised in, but not limited to, Putin’s goal to improve Russia’s standing in the World Bank’s annual "Doing Business" ranking. Russia has become the best country amongst the BRICs for doing business this year (from 120th to 92nd place) and this process will continue. However, the economic benefits from these changes will take years to have a major economic impact; • External environment: in the shorter term a general pick-up in the rest of the world increasingly seems to be on the cards and this will immediately benefit Russia, if for no other reason than it will remove fears of an imminent crisis elsewhere. The bottom line is that recovery is on the way, but a sustained recovery will probably only kick in around the second half of 2014 – and then only if the main growth engine shifts from consumption to investment. For the full year, the consensus is that Russia will grow by about 3% in 2014, with the more pessimistic forecasters like the World Bank predicting 2% of growth and the more optimistic predicting 3.5%.


Politics – the good Russia climbed up Bloomberg’s ‘doing business ranking’ Russia climbed up another ‘doing business ranking,' this time from Bloomberg, up 13 places to reach 43rd place breaking into the top 50 for the first time. Russia scored 61.6 out of 100, sharing the position with Oman, and in between Bulgaria and Panama, from a total of 157 countries. Russia scored 61.6 out of 100, sharing the position with Oman, and in between Bulgaria and Panama, from a total of 157 countries. Russia got its highest score in the "degree of economic integration" criteria with 78 out of 100 points -- comparable to the total score of the best ten countries. A similar Doing Business (DB) rating by the World Bank has Russia moving to 92nd place from 111th out of 189 countries. PWC ranks Russia as the world’s best tax reformer PriceWaterCooper (PWC) recently published its annual "Paying Taxes" report for 2014 in which it reviews and compares tax systems from 189 countries from around the world. Analysts find the report useful at it serves as a reliable gauge in monitoring developments in taxation in various countries. The report in its ninth edition and has served as a sub-indicator for the "Doing Business" project run

by the World Bank ever since its inception. PWC notes that in the wake of 2008 financial crisis with many governments struggling to finance their spending programs and faced with the difficult task of having to raise taxes to help cover public deficits, interest in taxation is high. Russia moves up Hertigate Foundations ‘Economic Freedoms’ ranking Russia moved up to rank 140th out of 186 countries in the 2014 Index of Economic Freedom released by the Heritage Foundation think tank in January. The country scored 51.9 economic freedom points, which is 0.8 points higher than in the previous year, but still below the global average. Its ranking puts it between Tajikistan and Burundi. Heritage Foundation noted improvements in four out of 10 economic freedoms, including control of government spending, but reported declines in trade freedom, freedom from corruption and fiscal freedom. Russia to free another 1,000 jailed businessmen with new amnesty About 1,000 businesspeople could be released this year under an new economic amnesty according to Russia’s business ombudsmen Boris Titov. Just over 1,660 businessmen were freed in 2013 and Titov is putting a new amnesty to continue the process as last year’s expires; The


amnesty began on July 4, 2013 and officially ended six months later. It includes a pardon for firsttime offenders convicted of economic crimes, as well as those who had not yet been sentenced. Titov originally said the amnesty would affect 100,000 people, including 13,500 people serving prison sentences. But the list of crimes that the amnesty covers was reduced by the Russian parliament when the legislation was under consideration, and Titov later said that he expected just "thousands" to be freed. Khodorkovsky and his business partner Lebedev released Oligarchs Mikhail Khodorkovsky and his partner Paton Lebedev were both released after serving about 10 years in jail. Khodorkovsky release was announced in a carefully stage managed fashion by Putin who dropped the bomb in off agenda remarks to a crowd of journalists following his annual 4 hour long press conference in January. The point the president was making was the news was not important enough for his formal address and the oligarchs are a side issue. Khodorkovsky was released after formally applying for a presidential pardon. Khodorkovsky didn’t not concede on the key issue of admitting his guilt so saves some face, but the Supreme court later ruled upheld an order that Khodorkovsky has to

repay $500m of back taxes, effectively labeling him guilty. Lebedev was released after the Supreme Court at the same session reduced his sentence to time severed. Although it was not widely reported, Lebedev is ill although the nature of the illness is not clear. However, he could be suffering from AIDS. Yukos��� head of security also suffered form AIDS and died in jail of the illness. Despite the hoopla surrounding the case it is clear that Khodorkovsky’s release was the result of a deal. Khodorkovsky had been negotiating with the Kremlin for over two years, via the German government, according to bne’s information. While no one has said anything publically about the terms of the deal, following his released Khodorkovsky said that he will not return to Russia in the foreseeable future. Moreover, we explicitly said that he will not go into politics nor will he actively work against Putin and the government. He will be involved in civil society programmes designed to support democracy in Russia. Lebedev’s release was clearly part of the deal, who was released with in a month of Khodorkovsky release, but far enough way so the two releases are not explicitly linked in the mind of the press (which is not particularly bother about Lebedev anyway as his name is not widely known outside of business circles).


In effect Khodorkovsky has agreed to go into exile, drop his PR and lobbying campaign against the Kremlin. The reason why Putin may have agreed to do a deal is Khodorkovsky was a thorn in the Kremlin’s side and damaging Russia’s investment image. The release came only a few months ahead of the Sochi Olympics where the Kremlin hopes to re-sell itself to the rest of the world. Publically Khodorkovsky said he had applied for parole because his mother is very sick (which is true). However, behind this it was already clear that Russia’s Investigation Committee was preparing a third case against Khodorkovsky. Due to be released later in 2013 there was a very high chance of a new case being

brought against Khodorkovsky this year and a new 5-10 sentence being passed on him. He probably calculated that 10 years in jail was enough. Top bureaucrats to be put on a five-year rotation New regulations proposed by the State Duma Financial Markets Committeewill force the heads of top state agencies to change jobs every five years. The officials may also be moved from region to region as part of the changes. The idea is to break up the networks that bureaucrats build around themselves that should reduce corruption.

Politics – the bad Major reshuffle of the state’s media assets The state-owned media holding RIA Novosti went through a major reshuffle in January that came out of the blue by presidential decree. The holding produces things like Moscow News, one of Russia’s oldest newspapers, the Ria Novosti news wire and RAPSI, a well respected legally orientated news wire that regularly gives impartial reporting on political trials. All the holdings have been moved into the Russia Today holding, that

doesn’t include the RT (formerly Russia Today) TV station that will remain independent. The new holding will be run by Putin insider Dmitry Kiselev, who is known to take a hard progovernment line and has publically spoken out against homosexuals. According to bne sources in Ria he began his staff pep talk to resident journalists with the line: “Objectivity is dead.” It seems that the Kremlin is fed up with being slated in the international press. Rather than


hire a PR manager to deal with this poor image the Kremlin has decided to go on the attack with its own media. While much improved, RT still takes a virulent pro-state line on domestic stories. Likewise, the print equivalent Russia Beyond the Headlines, has seen hundreds of millions of dollars poured into it and now has supplements in many major titles like the Daily Telegraph, Le Monde, NYT and others.

providers -- from taking Dozhd off the air. Later, Valery Kostarev, a representative of the state telecoms operator Rostelekom, announced on January 30 that it would suspend further broadcasts until the "extremely negative situation" with Dozhd was resolved. President Vladimir Putin's spokesman, Dmitry Peskov, said the station had "crossed every line of acceptable behaviour." Russia merges it two top courts

Russia’s leading independent TV closed down The broadcasting license for online and cable TV Dozhd (TV Rain) was with drawn in January. TV Rain is widely respected as one of the few truly independent stations in Russia and has been a vocal critic of the regime. Nominally the station was closed after it asked its viewers: should Leningrad have been surrendered in order to save hundreds of thousands of lives? The poll question proved distasteful to many Russians, for whom the nearly 900-day Leningrad siege -in which an estimated 1 million people died of starvation -remains one of the grimmest chapters of the country's World War II history. Dozhd quickly removed the question and apologized for causing offense. But it was not enough to prevent a number of broadcasters in Russia -- including the Akado and NTV-Plus cable

In a move that has worried investors, Russia merged its two top courts, the Supreme Court with the Supreme Commercial Court, in January. The problem is that despite Russia’s lawless image the commercial court in recent years has been doing a good job and is trusted by businessmen to settle commercial disputes fairly. Indeed, Russia scored in the top ten for contract enforcement in the last “Doing Business” report from the World Bank. They fear that by expanding the commercial court to include the more general Supreme Court the Commercial court will become less efficient and so less effective. The kremlin is selling the merger as part of its on going efforts to reform the judiciary. The Supreme Court will be granted power to supervise and resolve economic disputes that currently fall within the jurisdiction of the


Supreme Commercial Court. There will be 170 judges overall. New judicial branches will be established in the Supreme Court: one for dealing with economic disputes, as well as one for military personnel. The joint courts will be headquartered in St Petersburg. Government delay on controls over state purchases leaves door to corruption open Government delays have pushed back the full institution of controls on state purchases until 2016, leaving officials wishing to extract profit from their positions an extra year to take advantage of lax oversight. State purchases are now essentially unregulated, and procurement by government bodies at inflated prices cost the state RUB265bn ($8bn) in 2013, according to the National Association of Electronic Commerce Participants. Although certain elements of the new Federal Contract System have already passed into law, about 50 key measures, including a bill placing price and quantity limitations on government purchases and another requiring all state procurement to be conducted electronically, are still under consideration. The Cabinet was expected to adopt a resolution by Jan. 1 ordering regulation of purchasing but failed to do so, while the State Duma

in December pushed back the deadline for regulation to July. Since most ministries finalize their budgets in mid-summer, the delay means that the new controls will fully impact the state budget only in 2016, Kommersant reported. Are Russia’s regions ready to abandon Mayoral elections? In early December, TV Rain published an article that claimed, according to a source, that Putin was on the verge of eliminating mayoral elections, which would make the office of mayor an appointed one. It didn’t happen, but the rumour has persisted, especially following opposition blogger Alexei Navalny’s strong showing in the recent mayoral race in Moscow. Buried in this fairly technical article by Kommersant, the pro-Kremlin news outlet owned by Alisher Usmanov, is the idea that the regions themselves are asking for mayors to be appointed rather than elected as part of a larger reform package. It seems according to the report that the populations of regions themselves are rising up “to demand change” and end the elections. If true and this leads to the end of suffrage in the regional mayoral elections it would be straight out of the Dictatorship 101 play book and is a worrying sign of old school politics making a come back.


Russia leads the world in protectionist trade measures, study says

Russia joined the WTO in 2012, while Kazakhstan and Belarus, are negotiating entry.

Russia enacted more protectionist trade measures in 2013 than any other country, leaving it as the world leader in protectionism, according to Global Trade Alert, or GTA, a leading independent trade monitoring service.

Of Russia's protectionist policies, 43.4% were targeted bailouts and direct subsidies for local companies, the report said. Tariff measures accounted for 15.5%, while anti-dumping, countervailing duty or safeguard provisions constituted almost 10%. Other steps included cuts in foreign worker quotas, export subsidies and restrictions, and sanitary measures

Russia, with Belarus and Kazakhstan, its partners in the Customs Union, accounted for a third of all the world's protectionist steps in 2013, said the study. A total of 78 trade restrictions, almost a third of all those enacted by Group of 20 countries, were imposed by Russian legislators last year, the study said. With the new restrictions, Russia now has 331 protectionist measures in place, or a fifth of all protectionist policies registered worldwide. Belarus is ranked second, with 162 measures. The Russian-led Customs Union, which the Kremlin has presented as an alternative to the European Union, came under harsh criticism from the report's authors. "The Customs Union was responsible for 15 times as many protectionist measures as China while having only an eight of the population," said GTA coordinator Simon Evenett, Reuters reported.

A surge in protectionism occurred around the world starting in 2012, the report said. The 2013 data indicate that this trend, which could slow down international economic growth in the next several years, is likely to continue.


Politics – the ugly Criminal Case Launched Against Ex-Defense Minister's Relative

Investigators to strip notorious Russian lawmaker of immunity

Another victim has been caught up in the biggest anti-corruption case to hit Russia since Dmitry Medvedev launched the drive in 2008.

Russia's Investigative Committee has asked Prosecutor General Yury Chaika to strip Alexei Mitrofanov, Chair of the State Duma Committee on Information Policy, of parliamentary immunity.

A criminal case was launched in January against a brother-in-law of former Defense Minister Anatoly Serdyukov, who was sacked in November 2013, the Russian Investigative Committee said. Spokesman Vladimir Markin said that Valery Puzikov, who is married to Serdyukov's sister, was suspected of fraud and illegal acquisition of property. Puzikov's company, a Defense Ministry affiliate, leased several expensive vehicles to the ministry, including a Mercedes-Benz GL 320 4 Matic and Porsche Cayenne Turbo. The vehicles were leased from commercial firms affiliated with his company.

Investigators intend to question Mitrofanov as a witness in the case connected with extorting $200,000 from businessman Vyacheslav Zharov in 2012. Mitrofanov said that he had already given the investigators all necessary explanations. If the Prosecutor General's Office finds solid grounds to strip Mitrofanov of parliamentary immunity, the case materials will be forwarded to the State Duma. Mitrofanov is only the latest in almost a dozen Duma deputies that have found themselves under investigation for corruption.

Polls, mood, sociology Putin’s popularity higher than ever… Putin’s popularity rating top 68% in December, the highest level since 2002, according to the latest Levada poll, up 10% from a month earlier.

The figures for Putin’s closest possible rival, Communist leader Gennady Zyuganov, were 11 percent, slightly down from the December 2012 figure of 12 percent.


However, this doesn’t mean that the Russians want Putin to stay for ever: only 22% said that they want to see Putin re-elected for another six years in 2018. 47% said they want someone else to stand in the next elections. The trouble is no one knows who could creditably stand against Putin in 2018: only 12% said they could think of an alternative candidate and another 31% said there is no alternative candidate. …And he is increasingly admired abroad Russian President Vladimir Putin has been named the third most admired person in the world, behind Microsoft founder Bill Gates and US President Barack Obama, but ahead of the Pope, according to a poll for The Times. The newspaper reported that Putin’s popularity among Russians helped him secure the third place on the list. The poll conducted in 13 countries around the world. Putin, 61, was named International Person of the Year by The Times in late December for succeeding in his ambition of bringing Moscow back to the international top table. Most Russians indifferent to Khodorkovsky’s pardon Despite his fame in the west, over 40% of Russians are completely uninterested in the fate of former Yukos head Mikhail Khodorkovsky and say they are indifferent about the news that President Vladimir Putin granted him a pardon,

according to a survey by the Public Opinion Foundation. To most Russians Khodorkovsky is just another Jewish oligarch that stole state assets to become super wealthy (6 of the 7 original Yeltsinera oligarchs were Jewish). The subsequent release of Khodorkovsky partner Platon Lebedev was even less newsworthy. The two releases coupled with the surprising statement from Khodorkovsky that he would not go into politics nor oppose his nemesis Putin strongly suggests that he final caved in and cut a deal with Kremlin after ten years in jail. Indeed, bne’s German sources say negotiations had been going on for over 1.5 years ahead of the release. Residents more than twice as likely to say collapse hurt their country The majority of residents of the countries of the former Soviet Union say its break up was detrimental to the quality of their lives and their countries. In seven out of 11 countries that were part of the union people are more likely to believe the collapse harmed their countries than benefited them. Only Azerbaijanis, Kazakhstanis, and Turkmens are more likely to see benefit than harm from the breakup. Georgians are divided. And Russians are clear: 19% say Russia is better off following the fall of the USSR whereas 55% say it is worse off.


Vodka still a major killer in Russia

British medical journal The Lancet has found that 25 percent of Russian men die before the age of 55, compared with only 7 percent of men in the United Kingdom. Many of those deaths are thought to have been caused by Russia's long-abiding devotion to heavy drinking. Average life expectancy for men in Russia is 64 years, compared to

78.5 for British men. This is still an improvement from the 54 years of life expectancy in the pits of the crisis in the early 1990s. In general as the middle class increasingly assets itself Russian are becoming more conscious of making healthy life style choices. The reveals that Russian male smokers who drink three or more half-liter bottles of vodka weekly double the risk of dying compared with those who consume less than half a liter a week.


Heavy drinkers mainly die from alcohol poisoning, accidents, violence, suicide, cancer, tuberculosis, pneumonia, pancreatitis, liver disease and heart diseases, the study said. One in three Russians think Pussy Riot should be behind bars Some 40% of Russians disapprove of the amnesty that in December cut short the prison sentences and saw them released. Another 25% said they did not care if the women were released from prison or not, while 33% said

they supported the move, the survey by state-run pollster VTsIOM. The highest rates of disapproval among the 38% who disagreed with the liberation of Nadezhda Tolokonnikova and Maria Alyokhina were from small towns and villages. Most Russians were genuinely shocked by Pussy Riot’s protest in one of Russia’s most important cathedrals. Some 80% of Russian profess to be Orthodox an saw the performance as simply sacrilegious.

Banks and Finance Only one in three Russians have any savings Only one in three Russians have any savings, Banki.ru found in a survey, and that has not changed in the last five years. The proportion of Russians with savings has been stuck at 34% since 2009 and that two thirds of young people have no savings to speak of. The survey shows that young people aged from 18 to 24 years (66% of respondents) and people with a low level of income (79%) are not disposed to save. Over a half of respondents (57%) don't plan to save money in the nearterm. The survey also showed that

the amount of RUB243,216 is considered savings by an average Russian resident. Thus, it is possible that those who said that they had no savings do have some money laid aside. The fact that the proportion of the people who make savings is stable means that distribution of income among the population changes slightly from year to year, Alexei Devyatov, an economist at Uralsib Bank, told Banki.ru. "A small percentage of respondents making savings (34%) shows that income in the country is distributed unevenly," he says. In his opinion, in the next few years, the part of the people who save part of their income will increase savings amid instability in the national economy. Such behavior is typical of the


people when prospects are not clear, the economist adds. Russia Has Too Many Banks In 2013 the Central Bank of Russia started a campaign to close Russia’s legion of small banks, which is continuing in 2014. In December Putin that Russia has “too many banks” underling the resolve by the authorities to consolidate the bank sector and clean out the deadwood. “We have just under a thousand banks. That is, of course, a large quantity of financial institutions for our economy,” Putin said during a meeting with a group of Moscow students, pointing out that Germany has just 250 banks. The goal seems to be to close some 400 banks and consolidate the top end of the table into fewer, but bigger banks. At the same time the state-owned banks are moving out and expanding in the other CIS countries and slowly breaking into western European markets. Dozens of Russian banks have been shut down in recent months after the financial regulator pulled their banking licenses in a campaign to tighten oversight of the country’s lenders. The small banks are increasingly unprofitable as the economy slows and increasingly forced to do illegal business or offer high rates and hence take bigger risks as the economy slows. For its part the CBR is struggling to regulate a sector with so many

banks, something the small banks take advantage of. The trick is to close banks quickly, but not so quickly that it sparks a crisis. The small banks largely live off money they can raise on the interbank market, but if other banks believe a small bank is on the closure short-list then they will stop lending, thus causing the small bank to collapse. It is a delicate balancing game the CBR is playing, but so far has managed the process very competently. Russia’s investment banks' income exceeded $800m In 2013 Russia’s investment banks' income grew by 3% to $805m, Thomson Reuters reports, which is 1.5 times less than the record high recorded in 2007 of $1.3bn. Since the crisis most of the independent investment banks have fallen on hard times as the equity and M&A markets shrivelled. Moreover, rapid consolidation in the sector leading to the dominance of state-owned VTB Capital and Sberbank CIB have left little room for privately owned players. According to Thomson Reuters, in 2013 M&A transaction in Russia totalled $52.8bn and ranking Russia eighth in the world compared to fifth in 2012. In all there were 4 IPOs totalling $1.8bn and 11 additional placements for $6.6bn, way down on the 2007 peak of $33bn.


VTB Capital lead the pack in 2013 earning $97.8m. JPMorgan ranks second ($55.6m), Sberbank CIB third ($55.2m). VTB Capital was a front-runner in DCM and M&A transactions sectors, while in ECM sector Citi was more successful. Russia's Sberbank continues European expansion to Czech Republic, Germany Russia's state-owned retail banking giant is continuing its move in western European markets with the opening of 20 new branches in Czech Republic this year and launching in Germany. The bank inherited 28 outlets in Czech Republic as a result of the take over of Volksbank International (VBI), which it bought for €505m in 2012. The German expansion is waiting on regulatory approval and could start in the first half of this year. The bank plans to grow organically over the next few years. The foreign business profit amounted to $750m in 2013. VBI also has branches in the Czech Republic, Slovakia, Hungary, Slovenia, Bosnia and Herzegovina, Serbia, and Ukraine. Russian retail portfolios growth to slow to 25% in 2014 After two years of white hot growth, the retail loan portfolio of Russia’s banking sector slowed in 2013: from December 2012 to December 2013, consumer loan volume grew by 22%, mortgage

loans by 9%, credit card loans by 6% and car loans by 7%. The rate of consumer lending is expected to reach 25% this year – the upper limit of what the Central Bank of Russia (CBR) considers to be ‘healthy’. Last year the CBR introduced tough new prudential regulations designed to slow retail lending growth that was running at over 40%. The CBR considered the situation dangerous and indeed, non-performing retail loans began to increase at an alarming rate in 2013. However, the new rules, that come as part of the move to the Basel III regulatory regime, have forced the most aggressive banks to dramatically increase provisions and so slowed the lending rate. Corporate loan portfolio should be rising faster but are expected to increase by only 10% this year, the Deputy Central Bank Chairman Mikhail Sukhov believes. Auto loans decreased 7% from RUB523.3 thousand to RUB487.7 thousand in 2013 Experts explain a decrease in the average amount of an auto loan by the overall decline in sales of cars in Russia. The Association of European Business (AEB) says that sales on the Russian automobile market fell 5.5% in 2013 (by 161.3 thousand new passenger cars and light commercial vehicles). In 2013, 2.78 million passenger cars as well as light and medium commercial vehicles were sold in


Russia. 2.73 million cars will be sold in 2014, according to AEB's estimates.

overdue loans accounted for 1.56% of the portfolio as of December 1.

Average consumer debt up to RUB100,000, but with longer maturities

Retail loan NPLs up sharply in 2013

The average amount of a consumer loan in Russia is now RUB100,000 ($3,125), but an average repayment period has increased to 3 years. The increase in the amount of loans granted may be explained by the development of the credit history market, which has only appeared in the last few years. Lenders are approving larger amounts as they know their customers better. However, younger people in Russia receive their salaries "under the table" and officially declare a low net income complicating the process. As a result, young borrowers have to apply to banks offering higher interest rates, which has a direct impact on their debt burden." Russia’s mortgage loan portfolio rises 32% to RUB2.56 trillion as of Dec 1 The combined mortgage loan portfolio of Russian banks rose 32% on the year to RUB2.56 trillion ($8bn) as of December 1, 2013, the Agency for Housing Mortgage Lending (AIZhK) said. The quality of the portfolio is high despite easier requirements to borrowers, and the share of

The number of retail loan that went bad was up sharply in 2013 compared to the preceding three years. Loan arrears were up 40% over the first 11 months to RUB440bn ($13.7bn) as of December 1, 2103. The Russian people spend a third of their income to service loans, according to the Bank of Russia's Financial Stability Review The National Collection Service forecasts that retail loan arrears (all types of loans, including mortgage loans) will reach about RUB435bn for the full year 2013 (up by 39%). The fall in December is expected as many Russians get end of year bonuses and use them to pay off debts. Total retail loans for last year were expected to top RUB10 trillion ($313bn) at the end of 2013. In order to the meet the new prudential provisions on debt and bad debt, banks have been increasingly selling their troubled loans to collection agents as well as being more active in restructuring troubled loans. There was a nearly twofold increase in debt sales in 2013 worth over RUB200bn.


At the same time the rate of lening to consumers has fallen to A three years record low in 2013, (except the crisis years). New transparency rules introduced for bank credits A bill has been submitted to the Duma to improve the transparency of loans that will force banks to declare all the charges and interest rates on a loan to customers. Currently banks are not obliged to declare all expenses. The new rule follows on earlier rules that forced banks to declare the effective interest rates on loans. The new rules will especially affect operations with foreign currency exchange. Currently the boards in exchange offices show only the bank rate of exchange and charges are added during the transaction. If the law is passed then the rates on the boards will have to show the effective exchange rate, including the charges. The new rules will also apply to transactions made via an ATM. Russian banks will be also required to file information about customers' actions related with remote payment systems. Such innovations are introduced by specific changes in the Bank of Russia's regulations which became effective on January 7, 2014. Central Bank to Expand List of Systemically Important Banks Russia’s CBR created a list of 20 “too big to fail” banks in effect extending the implicit guarantee

that the largest state-owned banks Sberbank and VTB Bank enjoy to all the top commercial banks in 2013. In January the CBR said the list of “strategically important banks” would be extended again this year to include the top 50 banks. The new laws says that banks identified as systemically important will also be subject to increased oversight. The Central Bank combines four criteria — size of assets, quantity of deposits and degree of integration into the banking system — to assess the size of lenders within the system as a whole. Previously, banks responsible for more than 0.6% of the total system were to be designated systemically significant. According to draft Central Bank regulation, that threshold will be reduced to 0.17%. These new regulations are designed to shore up the systematically important banks as the CBR itself will introduce more volatility into the sector as it wages its campaign to close small banks in the next few years.


Economics Ruble tumbles, breaks out of band Over the first four weeks of 2014, the ruble shed about 5–6 % of its value against the euro and the dollar. For all of last year, the ruble lost about 12 % of its value against the euro and 7 % against the dollar. The ruble has not been this weak since its devaluation in early 2009 following the global financial crisis. The ruble’s slide picked up momentum in the last week of January as general uncertainty in emerging markets increased. Current CBR policy allows the market more say in formation of the ruble’s exchange rate, but the central bank has still intervened in the currency markets to smooth its decline. The ruble dropped 1.5% MoM against the dollar in real terms in November and lost 0.3% MoM against the dollar in December. By the end of January the ruble broke out of its trading band despite multiple widening to the band during the day at the height of selling, trigging the CBR’s “unlimited buying.” CBR interventions amounting to US$7 billion by the end of January. The dramatic surge in demand for FX by the public has the government worried and means that a planned float for the currency in 2015 may be delayed.

However, no one in Russia thinks that the Russians will follow the Turks and hike rates. The CBR’s monetary policy framework is based on using rates to deliver the inflation target, and as inflation is falling there is little basis for a hike. Moreover, since RUB is marketdetermined, and the CBR only intervenes to smooth short-term fluctuations, there is little case for the CBR to intervene to defend a particular rate. Indeed, many have speculated that the Kremlin is happy to see a weaker ruble as one of the simpler ways of boosting soggy growth in 2014. In addition, with better fundamentals – a current account surplus as opposed to a current account deficit – and seasonal balance of payment strength, the CBR may expect RUB weakness to diminish in February. In short Russia suffers from none of the fundamental macro problems facing the “fragile five” and so analysts believe a lot of the selling was simply contagion and the currency will correct, but continue to weaken over the year to finish somewhere at about RUB36/USD1. However, the nervousness has introduced dangers. One scenario is that the CBR might hike in response to strong pass-through from the weaker ruble to import prices rising and inflation starting to rise. But there was no sign of this happening in January.


Another scenario would be to stabilise demand for ruble if there was large-scale switching out of RUB into FX. And this is a lot more likely, after FX buying surged at the end of January. But even this is unlikely to get out of hand and the CBR has plenty of water in the cistern to fill the hosepipes if needed.

keep more of our assets liquid and so are better prepared to deal with any new shocks. "In 2013, the major drag on economic performance in Russia came from the inventory cycle with the negative contribution to the full-year GDP growth print estimated at a severe -1.8%," Renaissance Capital's Oleg Kouzmin said in a recent report. "This primarily resulted from businesses adjusting inventories to the more-moderate pace of growth anticipated in the medium term. We expect this GDP busting factor to fade away in 2014, taking into account the general duration of destocking periods (for instance, even during the crisis of 20082009 it lasted for five quarters in Russia) and improving sentiment around the globe led by a recovery in advanced economies," he added.

Will Russian companies build up inventories this year? Russia's economy stalled in 2013 for many reasons. The poor external environment and the lack of domestic investment were key, but to a lesser degree managers decision to sell of their inventory rather than produce new goods was also a crucial contributing factor. If Russia's economy is to recovery this year, will factories go back to making things? Selling off your stock rather than running your machines to meet orders is a classic post crisis tactic. However, in 2013 Russian businesses were using it prophylactically as it means you

Given that most economists believe that the economy will grow this year the chances are companies will go back into production that will start off a virtuous cycle of growth, profits, rising wages and investment. "According to our estimates, in the leading companies of metals and mining industry inventories and, in general, working capital amounts reduced noticeably through 2013, probably bottoming out," says Rencap.


surprisingly positive December industrial output stats released last week and the apparent upgrade of growth figures for early-2013. Analysts believe Russia’s economy will start to gradually improve in the coming months. Retail trade and private consumption data show that after six quarters of decelerating growth, consumer demand has stabilized.

Russia had the third highest level of foreign direct investment (FDI) in the world Russia had the third highest level of foreign direct investment (FDI) in the world taking $94bn in 2013, up 83% year-on-year. The government expects the rate of inbound capital to remain the same in 2014 as international retail companies increasingly set up shop in Russia to tap the rising income levels. Russia finishes 2013 with 1.4% growth thanks to December boost, 3% forecast for 2014 According the Economic Development Ministry's preliminary figures, GDP growth was 1.4% y/y in 2013, which was slightly higher than the 1.3% y/y guided in 11M13. The lower growth rate was apparently avoided because of the

The range of forecasts for 2014 are wide, reflecting the uncertainty over Russia’s recovery this year and run from 2.4% to 3.5%, with the official Ministry of Economy forecast of 2.8%. The World Bank (and most of the investment banks) are more optimistic predicting around 3.1%. December brings early signs of a recovery for investment following horrible year Capital investments surged 70% MoM in December after a very meagre year that saw total fixed investment contract by 0.3% for the full year. Capital investments were up 6.6% growth in 2012. It is too early to call this a reversal of the trend set in 2012, but everyone is watching this number closely as a rise in investment is necessary precondition for a strong recovery in 2014. 2013 was the first since the crisis began to see a year-on-year contraction in fixed investment. Fixed capital investment corresponds to about 20% of GDP, which remains well below the 25%-


30% most economist believe Russia needs. Economic Development Minister Alexei Ulyukayev said the outlook for 2014 is not exciting with an 0.2% increase expected this year. Lower investment levels of large and mid-sized firms were the main reason for the reduced investment overall. A companies own funds accounted for 78% of investment finance in 2013, expensive commercial loan rates meant 27% of investment was funded by loans. In the third quarter of 2013, investment by such firms actually fell below 2012 levels even in nominal terms. Taking inflation into consideration, the real contraction in the first nine months of 2013 was remarkably severe; prices of investment goods have risen even faster than the CPI, which ran at about 6 %. The drop in capital investment of large companies affected entire sectors. In January-September, on-year in-vestment in oil & gas transmission pipelines was down about a third, investment in base metal production was off 20 % and investment in oil & gas production and in the electricity sector declined about 10 %. Investment in manufacturing, on the other hand, continued to rise, although at a slower pace of around 2 % yo-y. Investment in oil refining and chemical production helped buoy growth in manufacturing investment overall.

EBRD cuts investments in Russia due to “falling appeal” The EBRD cut its allocation to Russia due to “falling appeal” thanks to the country’s lack of reforms. The development bank remains the largest single foreign investor into Russia. It cut investment in new projects in Russia in 2013 due to the country’s declining attractiveness to private foreign and domestic investors to from €2.6bn in 2012 to €1.8bn in 2013. Regional Debt to be a growing problem in 2014 Russia’s government famously has a low debt to GDP ratio, but the situation is not as healthy if you drill down into the international debt of the regions. Since the 2009 financial crisis, the Kremlin has allowed Russia's regions to take the brunt of the country's economic decline in order to keep the federal government seemingly healthy. The state has a nominally small budget deficit and


large currency reserves, but at the regional level the local governments' debt is so high, it is becoming dangerous for the federal government. Currently, the Russian regions are financing their debt via bank loans, bonds and budget credits (federal loans, for example). Each region has to get federal approval to issue bonds, because regional bonds create more market competition for the federal and business bonds. In January the Kremlin decided to allow Russian regions to tap foreign capital markets, if their rating awarded by two agencies is not lower than the sovereign rating, First Deputy Prime Minister Igor Shuvalov told Prime Minister Dmitry Medvedev. So far, only Moscow and St. Petersburg out of the country’s 83 regions, meet the criteria, but five other regions may soon receive the chance, Shuvalov said, cited by Prime.

Most of the rest rely on banking loans that carry high interest rates and are short term (mostly between two and five years). The federal loans come with much lower rates and longer repayment schedules (mostly between five and 20 years), so naturally federal credits and loans are more attractive for the local governments, though unprofitable for the federal government. The issuance of federal credits or loans to the regions in 2013 was limited; initially, Moscow said it would issue $4.8bn in new credits to the regions in 2013, but only issued $2.4bn due to its own budgetary restrictions. While the central government remains in a position to bail out regional governments growing debt and inability of some regions to finance their debt load is a drag on overall growth.


Russian Producer confidence was down for fourth consecutive month in December Producer confidence dropped across all sectors in December. Confidence in resource extraction fell to minus 5% from minus 3% in November, Confidence in manufacturing dropped to minus 8% from minus 6% in November Confidence in utilities decreased to 6% from 9% a month before Among those polled, the percentage who expected output to grow in the next three months was higher than the percentage of those who expected output to contract by 9 points in manufacturing and 5 points in resource extraction, compared to 13 points and 9 points in November.

Eastern European CEOs are the least optimistic about 2014 in Europe The proportion of CEOs in the world who predict improvements in global economic growth in the next 12 months has growth to 44% this year, as opposed to 18% last year, but executives from eastern Europe are the least optimistic of the bunch. The proportion of CEOs who do not expect any improvements to come in 2014 is now only 7%, as opposed to 28% last year. CEOs from Western Europe are the most optimistic about the recovery of global economy (50%). They are followed by the Middle East (49%), Asia and the Pacific Ocean region countries (45%), Latin America (41%), North America (41%) and Africa (40%). CEOs of Central and Eastern Europe, including Latvia, are the least optimistic about global economy recovering in the near future (26%). CEOs of this region are certain that global economy will remain at the same development level as it is at the moment (56%). Government misses inflation target, finishes with 6.5% Inflation decelerated growth to 0.5% MoM in December from 0.6% MoM in November. Thus, consumer prices grew 6.5% in 2013 after 6.6% growth in 2012. Unexpected growth in food prices was the biggest contributor


especially in the last quarter, up 7.3% YoY in 2013 vs. 7.5% YoY in 2012. Non-food prices grew 4.5% YoY in 2013 vs. 5.2% YoY in 2012. The prices for services grew 8% YoY in 2013 vs. 7.3% YoY in 2012. On January 18, Russian Finance Minister Anton Siluanov announced the official inflation target for 2014 of 5%, whereas some bankers think it could be as low as 4.2%. Real income growth slowing as consumption driver running out of puff, but retail already showing signs of recovery The one thing that has been propping up Russian economic growth in the last few years is consumption on the back of continuous rise in real incomes by about 4% a year. However, as 2013 came to a close real income growth fell to a three-year low and real wages growth fell to 1.9% year-on-year. This bodes ill for growth prospects in 2014 and also puts even more emphasis on the investment performance if Russia is to put in decent growth or surprise on the upside. The real disposable cash income of the Russian people increased 3.3% in 2013, Rosstat reports. Income increased 38.1% in December compared with November 2013 and 1.5% year on year. Official headline annual retail sales growth slowed 0.7% to 3.8%, after

a short-lived pick-up to 4.5% yearon-year in December, mainly on the back of the food component, while non-food discretionary spending continued apace (5.5% year-on-year). The decrease in real incomes is due to the sharp contraction in entrepreneurial incomes. An average monthly salary was RUB29,940 ($935) in 2013, up by 12.3% compared with 2012, Rosstat says. In December 2013, the average monthly salary increased 8.5% year on year, to RUB39,380. In another sign of Russia’s consumption slowdown, secondary housing prices fell the fastest in Moscow last year compared with other Russian cities, down 5.7% to an average of RUB189,200 ($5,520) per square meter in the capital. Housing prices were largely stable for most of the crisis years. Real disposable incomes are expected to grow 4% in 2014, which will put a little more oomph into retail sales. The good news is the bump up in incomes at the very end of the year already fed through into retail sales. The retail trade was up 4.5% YoY in November after gaining 3.6% YoY in October (3.9% YoY for 11M13). The share of food items in retail trade increased to 47.1% in November 2013 from 46.5% in November 2012.


Analysts are expecting 3.9% retail trade growth for 2014, while retail lending growth should slow to 23% year-on-year, down from over 45% only two years ago.

and deficits to become more common. Weak performance of Russian foreign trade continues The value of Russian goods exports contracted 2% y-o-y in the first ten months of 2013, amounting to $427 billion. In October the value of exports slipped even 6% y-o-y.

Russia’s net capital outflow for 2013 rises to $62.7bn, $30bn predicted for 2014 Capital flight accelerated in 2013 to $62.7bn, up from the $54.6bn outflow in 2012. However, the central bank is more optimistic for this year expecting capital flight to fall to $30bn. Russia ends 2013 with $9.2bn budget deficit, 0.5% of GDP Russia ran a small budget deficit of RUB310bn ($9.2bn) in 2013, according to the Finance Ministry, or about 0.5% of GDP. The result was slightly lower than the start of year official forecast of 0.9% for the full year. While not a heavy burden the state is expecting the budget to come under more pressure in the future

The decline of the value of exports reflects lower prices as ex-port volumes have actually increased slightly. Especially export volumes of petroleum products and natural gas have grown rapidly. Gas exports to Europe rose, while exports to CIS countries contracted. Some of the reduction in exports to CIS countries in recent months reflects the problems in Russia-Ukraine relations. With the exception of nickel, most metal exports contracted on-year both in terms of value and volume. The Netherlands continued to be Russia’s top export destination by far as it is the hopping off point for distribution of Russian oil and petroleum products to other countries. Russia’s next largest export markets were Italy and Germany. The value of goods imports grew in January-October slightly over 2% y-o-y to $280 billion. Growth reflected rising import prices whereas import volumes declined slightly. Imports have been falling in recent months, how-ever. In October, the value of imports fell 4 % y-o-y and further 2 % in November according to preliminary


data covering imports from nonCIS countries. The decline in the machinery, equipment and transportation vehicle cate-gory drove the drop in imports. There was a particularly sharp reduction in imports of cars and trucks. On the other hand, rapid growth occurred in imports of e.g. dairy prod-ucts and pharmaceuticals. The biggest sources of imports were China, Germany and the US. Russia's Finance Minister proposes raising retirement age Finance Minister Anton Siluanov suggested in January increasing Russia's retirement age from the currently 60 for men and 55 for women. This is the first time a sitting minister has formally suggested raising the retirement age, as it remains a political hot potato. The government needs to hike pension ages as it cannot afford the overly generous system that is a big contributor to the high State Pension Fund deficit of 3% GDP. The demographic dip caused by the 1991 collapse of the Soviet Union is about to arrive and will only make the problems worse. The number of companies closed in Russia in 2013 was twice that of 2012 Twice as many small Russian companies were closed in 2013 than a year earlier, mainly due to low profitability, a study from EY found.

About 40% of Russian respondents said that they had to wind up their business because it was unprofitable. The number of those who indicated the lack of financing as a reason for the closure decreased drastically. The number of Russian respondents who plan to start own business in the next three years increased 1% compared with 2012 and reached 4.7%, but it is much behind the other BRICS countries (22% on average) and Eastern Europe countries (21%). Sentiment amongst business improving, bodes well for 2014 Three out of four Russian directors think that economic situation in their companies is satisfactory and one in ten think the situation is very good, according to a Rosstat survey. A fifth (21%) of Russian managers in the extraction industry think that the economic situation in the country will improve in the next six months, and a quarter (26%) of those in production think things are going to get better in the first half of this year. The number of managers that expect things to get better is 11% higher than the number of managers that believe things will get worse this year. Privatisation back on the agenda (if markets allow) The state’s share in Russian companies must decrease to 25% from the current 50% until 2018,


Deputy Prime Minister Igor Shuvalov said in January. “It is important not to keep such a large number of companies and such a large share of the economy under government control. Of course, by 2020 this share must be reduced significantly. We must try to have no more than a quarter of the economy controlled by the government by the end of the current political cycle (by 2018),� he said in a speech at an investment forum. Shuvalov said that the privatization must not to done too hastily despite its urgency. M&A volumes fall by half in 2013 year-on-year

2013 were half as much as in 2012 - $52.8m. According to Dealogic, M&A volumes were down by 38% to $88bn. Russia fell from fifth place in Reuters global M&A ranking in 2012 to eighth place in 2013. 15-20% of Russians Work in Shadow Economy Up to a fifth of Russians work in a shadow economy that does not generate adequate tax payments, the country's labour minister said in January. He called for stricter legislation as well as economic incentives to promote transparency among Russian businesses.

Thomson Reuters also said that the volume of M&A transactions in

Infrastructure Aeroflot Expands Fleet With New 777-300ER and SSJ-100 Aeroflot has taken delivery of a new Boeing 777-300ER, the fifth of an order for sixteen of the aircraft, and its fifth full-specification Sukhoi Superjet 100 (SSJ-100). The 777-300ER is configured in a three-class arrangement, with business-, economy- and comfortclass salons. Aeroflot's comfort class has been designed with a focus on price and quality, and

includes a number of attractive features such as increased leg room, an upgraded on-board menu, additional baggage room and more Aeroflot Bonus reward miles. On Aeroflot's winter timetable the new 777-300ER will fly on routes to Sochi, Khabarovsk, Krasnoyarsk, Vladivostok, Hong Kong, Bangkok and Phuket. Russian-Made Superjets to Start Flights to US Russian-made Sukhoi Superjet-100 (SSJ-100) passenger aircraft will


start flights to the United States in the coming months, according to the head of a Mexican low-cost airline that has SSJ-100s in service. The Superjet-100 has gained a 20% share of the global market among regional planes of its class, Industry and Trade Minister Denis Manturov said in January. Russian market as a driver for German shipbuilding Between 2008 and 2010, the German shipbuilding industry experienced its deepest crisis of the post-war period. According to the German Shipbuilding and Ocean Industries Association (VSM), new ship orders declined by more than 90% between 2007 and 2009 and many unspecialized German shipyards were driven out of the market, unable to face the competitive pressure coming from Asian shipbuilders. However, Russian investors have stepped in and bough up ship yards in Northern Germany and have been turning them round. Only recently have ship orders picked up once more, mainly through ocean-going vessels of which 97 percent are exported. A recent study commissioned by VSM and the five German states of Bremen, Hamburg, Lower Saxony, Mecklenburg-Western Pomerania and Schleswig-Holstein now show that in such an export-dependent situation the prospects offered by the fast-growing Russian market could provide the critical growth engine and “long term planning

security” German producers so desperately need. For the German export sector, the German shipbuilding industry is key, employing approximately 100,000 people and generating a total revenue of €5.1 billion. A thorough exploration of new market opportunities is therefore imperative, as VSM Chairman Harald Fassmer recognizes: “The crisis requires companies to adapt quickly to changing conditions.” This also involves becoming acquainted with new foreign customers. Russian Railways to issue RUB50bn shares to fund Siberian projects State-owned monopoly Russian Railways will issue RUB50bn worth of preferred shares for the National Wealth Fund to receive money for the reconstruction of the TransSiberian Railway (Transsib) and the Baikal-Amur Mainline (BAM), Senior Vice President Vadim Mikhailov said, Prime reported. The Transsib and BAM project must provide minimal profitability of 23% starting from the sixth year of their implementation. The monopoly must receive RUB50bn this year. According to Prime, the total value of the project is estimated at RUB562bn.


ECM Outlook for Russian equity positive 2013 was Russia’s annus horribilis due to a combination of the soggy global recovery outside the country and the collapse of confidence inside the country that hurt investment in particular. However, simply because 2014 is starting from such a low base portfolio investors are expecting positive growth in 2014. Russian shares were trading at a 25% discount to their emerging market peers as of the end of 2013, which is actually an improvement from the 50% discount shares were marked down to in the depths of the crisis in 2009. At the year started Russian stocks had the cheapest valuations among 21 emerging-market economies monitored by Bloomberg, with shares on the benchmark trading at 4.5 times projected 12-month earnings compared with a multiple of 10.4 for the wider benchmark MSCI Emerging Markets Index. Even at the end of the year there were signs that a recovery is on the way. Bne sources report that while there was light buying of Russian equity by institutional investors in 2013, all the major funds have started to look at Russian stocks again. The report below shows that most institution funds are already overweight in the best Russian names.

The RTS index started the year at 1390 and forecasts for the full year are modest ranging between 16001700. However, the rule of thumb valuation for Russian stocks has historically been the current oil price times 20: this implies a fair value for the RTS index of 2000. The market has also returned at least 20% for 13 out of 15 years (that were no crisis years) and this also implies that the analysts estimates are erring on the cautious side. IPOs revive in 2013 One of the signs that has lead to the slow growth of optimism is the IPO market reopened in 2013 with several important companies managing to list their stocks. All in all a total of $7.9bn was raised via five IPOs ($3.2bn) and four Secondary Public Offers (or SPOs for $4.7bn). “That is better than the $3.7bn raised in 2012 but a long way from the record IPO/SPO year of 2007 when $33bn was raised,� says Chris Weafer of Macro Advisors. Online payment system QIWI, mobile phone operator Megafon, online retail credit bank Tinkoff Credit Systems, international software engineer company Luxoft and several others managed to list and saw their stock prices rise dramatically. Another nine companies said they have definite plans to list in 2014, given good market conditions (see table below).


“The best performing Russian stock was QIWI which rose 229% from its May IPO listing price, followed by another new listing, Luxoft which finished the year up 118%. The top five performers were all in the IT/Media sector and all US listed,” says Weafer. All said and done the outlook for Russian equity remains uncertain. The two big unknowns are when the US Federal Reserve will start to unwind its quantitative easing program, which will affect the liquidity in the market, and the rate Russia’s economy will grow, which will affect corporate earnings. Germany’s Metro considers IPO of Russian subsidiary The German company Metro says it want to IPO its Russian subsidiary and raise up to EUR1.7bn with a listing on the LSE. The Russian subsidiary Metro C&C could be floated in the first half of this year. Up to 25% of the Russian subsidiary could be offered to international investors on the LSE. The Russian business is valued at EUR7bn by the bank managing the IPO, which implies a value of EUR1.7bn for the 25% stake. The EUR7bn market capitalization implies a 2014E EV/EBIT of 12, which is a substantial discount to the leader in Russia's food retail sector, Magnit, which is traded at 19.3; however, it is in line with X5 Retail Group, which is traded at a 2014E EV/EBIT of 12.

This year, Russia's largest retailer of children's goods, Detsky Mir, and the hypermarket chain, Lenta, are also seeking to tap the equity market through public offerings. Metro's IPO, if successful, should reignite global investor interest in the Russian food retail sector and could trigger additional inflows of money to stocks in the sector Government Wants Dividend Payout Based on International Accounting Standard State-owned companies will be obliged to calculated their profit using IFRS from this year that will significantly increase their dividends payouts. Currently most Russian companies use Russian Accounting Standards (RAS) where profits are calculated significantly lower. Banks are the exception as they already have to report using IFRS. The state is on the hunt for revenue and is forcing all stateowned companies to pay 25% of their net profit as calculated under international financial reporting standards as dividends. The issue revolves around filling government coffers. Last year the Finance Ministry proposed that state owned companies pay 35% of profit as dividends, but other government agencies said that was too much. The Finance Ministry is satisfied for now with the 25% payout but the idea of paying 35% remains, said a source at the ministry. "Dividends from 2015 set to feed the 2016


budget are already calculated at that rate," he added. The Economic Development Ministry said in its proposal that dividend contributions to the federal budget have grown significantly, from RUB10.4bn in 2002, to RUB213bn in 2012. Who owns Russia’s free float? Sberbank CIB did a big study into who owns Russian shares. Turns out that 70% of listed stocks are owned by foreign investors. And surprisingly most of them are overweight thanks to the cheapness of Russia’s stocks. GEM-focused funds have 43% of institutional assets, and global funds have 30%. EMEA funds have just 12% of assets and Russiafocused funds have 13%. Over the past three years, the share of institutional assets owned by Russia and EMEA-focused funds has fallen by nearly a third. This implies a declining focus on illiquid stocks, as global and GEM funds hold one fifth the number of stocks. Around $50bn is benchmarked to MSCI standard indexes. We calculate that $4.4bn of passive money and $36.1bn of active money is benchmarked to the MSCI standard indexes in Russia. We add to this an estimated $10bn of funds for which the benchmark is not disclosed. Fund managers are more overweight Russia than is commonly perceived. Active MSCI

GEM investors, with $22bn in AUM, are 0.75% overweight Russia, and it is the third largest overweight in GEM. Investors are very overweight in growth stocks. Tech companies -Yandex, Magnit, and Mail.ru Group -- are the largest overweights for those active fund managers benchmarked to the MSCI standard indexes. The most overweight sectors are internet, retail and mobile. Investors have large underweights in oil and gas. Investors benchmarked to the MSCI standard indexes are 13.5% underweight Gazprom, and 23% underweight oil and gas as a whole. Large off-index bets. Investors benchmarked to the MSCI standard indexes have nearly a quarter of their assets in non-index stocks, led by Yandex, Mail.ru Group, Eurasia Drilling Company, X5 Retail Group and Globaltrans. Passive funds are one sixth of the assets. We identify $17bn of passive funds in Russia, or 16% of the disclosed institutional assets. More passive funds are benchmarked to FTSE indexes rather than to MSCI indexes. The share of the market owned by passive funds has tripled since 2008. Most foreign investors in Russia are from Europe. One third of active institutional funds in Russia are from the US, one third from continental Europe, and one quarter from the UK.


Foreign ownership of the Russian market. We show that foreign

investors own around 70% of the Russian market free float.


Significant new listing rules, new assets at the Moscow Exchange from April Reforms covering the exchange, listing rules and assets listed launched in 2010 will be put in place in April. The main objective of the reform is facilitation of the existing listing system and the structure of lists whose number will be reduced from six to three, she said. A practise of expert opinions will be established. Earlier, these issues were submitted to the Federal Financial Markets Service

(currently the Bank of Russia's Financial Markets Service) and settled through changes in regulations. Now the regulator has transferred a large part of this responsibility to the Exchange directly. A two-year transition period is provided for issuers of shares included in quotation lists. Since the requirements changed, they are given some time to be able to bring their activities into line with the changes. A transition period set for issuers of bonds is even longer - until the end of maturity.


The new listing rules and new lists of securities are expected to become effective over a period April 21-28, 2014. There will be a few additional barriers to transition to a new listing. In particular, micro-lenders will not be included in quotation lists.

The purpose of the reform is to align the listing rules with international standards, make a quotation list system easier and enlarge the supreme quotation list to attract conservative institutional investors.

DCM Euroclear to enter Russian corporate bond market on January 30 International depository Euroclear will enter the Russian corporate and municipal bond market on January 30, the company and the National Settlement Depository, which is the country’s central depository, said in their joint statement. Russian sovereign bonds (OFZ) have been clearable via the international clearance and settlement system since Febraury 2013, but now the high yielding corporate bonds will be added to the mix. Eddi Astanin, CEO of the National Settlement Depository, said that Clearstream will also get access to corporate bonds before April. The sovereign bond purchases soared after being added to Euroclear in 2013, with Russia taking in $20bn of investment against the $5bn it was expecting.

The last thing to be added will be equities which will probably be included in the system this summer – a year earlier than originally planned. Bond issues down 4% in 2013 In 2013 size of Russia's debt securities offering (including state papers) decreased by 4% to $74.3bn as compared with a record-high volume in 2012 ($77.2bn), according to Thomson Reuters, and the number of ruble bonds fell faster by 6% to $32.1bn. However, local agency Cbonds said that the number of issues was up by 58% to RUB3.8 trillion (about $115bn) excluding state securities, as is evident from Dealogic estimates - they include federal loan bonds (OFZ) and growth amounted to 37% to $48bn. Thomson Reuters includes only bonds with maturities of more than 12 months and sums over $50m, whereas Cbonds includes shorterterm and smaller sum bonds. Top-3 book runners include stateowned and quasi state-owned


banks: VTB Capital, Gazprombank and Sberbank CIB (according to Dealogic and Cbonds estimates, top-3 is the same). In 2012 Citi ranked third, Gazprombank - fifth, Sberbank CIB - second.

Second, debt growth was mainly a result of company borrowing. In 2012, companies increased foreign debt by $35bn vs. $39bn growth in banking debt (these figures were $73bn and $13bn in 2013).

Russia's corporate foreign debt grows by $86bn in 2013 vs. $74bn in 2012

Third, as of end-2013, state foreign debt was $79bn (vs. only $46bn at start-2012), reflecting the large inflow of foreign investors to the local debt markets over the last two years.

The CBR yesterday reported foreign debt accelerated to reach $86bn in 2013 vs. $74bn in 2012, increasing pressure on debt service payments on the current account, but failing to improve net capital outflow, which remained at $63bn.

The corporate and state debt figures suggest Russia's increased vulnerability to changes in sentiment on the global financial markets.

Sectors Rosoboronexport sold a record $13.2bn in 2013 Russia’s state arms exporter Rosoboronexport sold a record $13.2bn of weapons in 2013, but expects no short-term growth, its director said in an interview published Monday. Russia’s pharmaceutical production rises 23% on year December Russia’s output of pharmaceutical products increased by 23.1% on the year and fell 0.3% on the month in December, the Federal State Statistics Service said. In 2013, the country’s output of medications rose by 11.4%.

The production of packaged antibiotics increased by 7.2% to 117m packs. The output of bottled antibiotics grew by 2.4% to 391m units. The production of packaged medicines for cardiovascular diseases fell by 13.6% to 391m units, and the production of bottled medications decreased 9.1% on the year to 231m units. The output of packaged cancertreating medications rose 50.5% to 14m. The output of bottled medicines fell 59.8% on the year to 1.239 units. Russian harvest expect to rise by 2m tonnes in 2014 Russia had a good grain harvest in 2013 but is expecting it to increase in 2014 to 93-95m tonnes this


year, Deputy Russian Grain Union’s President Alexander Korbut said . “I believe that the grain harvest will stand at about 93-95m tonnes, if winter crops do not let us down and nothing worsens. There will be no problems for the country, consumers, people and export,” he said. Russian car output falls to 2.192m in 2013 Russia’s car output fell to 2.192m units in 2013, preliminary figures show, or down 1.8%. However, as in other sectors December returned strong sales up 4% according to the AEB. this is better than crisis low of 1.4m, and on a par with the peak production in 2008 of about 2m. According to Rakhmanov, companies produced 1.93m cars, 168,430 light commercial vehicles (LCVs), 77,290 trucks, 14,660 buses. There was a growth of 3.4% only in the LCV segment, he said. To support the industry, the government may prolong the reduced rate car loan program beyond the current April deadline until 2015, Deputy Prime Minister Arkady Dvorkovichsaid. “We will monitor the situation in the first quarter and if we see that it is not stable without such measures, that there is no

improvement, then we will suggest prolonging the program for the entire of 2014.” Russia worlds third largest military spender Russia is now the world’s thirdlargest military spender after the United States and China, pushing the United Kingdom into fourth place. Russia is due to increase its defense spending by more than 44% in the next three years, from $68bn in 2013 to $98bn in 2016, an annual defense budget review by IHS Jane’s showed. Spending increases are the highest in Russia, whose estimated military budget for 2014 of $78bn reportedly rose by 13.5% on 2013, as it modernizes its forces despite a slowdown in economic growth, while spending on health and social care was reduced. Global military spending is growing for the first time since 2009, having decreased over the past five years. That decline was largely influenced by cuts in the US defense budget resulting from the country’s withdrawal from the Iraq and Afghanistan wars, Guy Eastman, a senior analyst, was quoted in the report as saying. The defense budgets of Russia and China combined will exceed total defense spending by the EU by 2015, the report said. The US remained the world’s biggest spender last year with an


estimated $582.4bn, followed by China with $139.2bn. China, already the second biggest spender on defense, will spend more than the UK, France and Germany combined by 2015, a senior IHS analyst, Fenella McGerty, said in the statement. Russia to remain world top fuel exporter by 2035 Russia will keep its position of one of the world’s largest fuel exporters in the next two decades and will cover 4% of the global demand, oil giant BP in January. “Asia will become the dominant energy importing region. Russia will remain the leading energy exporter, and Africa will become an increasingly important supplier. While it will remain a key energy player, the Middle East is likely to see relatively static exports,” BP said. Russia’s fuel consumption will rise by 20% and the development by 21% by 2035, while its share in the global fuel development and consumption will stand at 9% and 5% respectively. The current country’s share in the global fuel development is 10%. The liquid hydrocarbon development will reach 11 million barrels daily, and Russia will rank third by the amount of development after Saudi Arabia and the U.S. Hard-to-recover oil will account for 7% of the total output.

Gas output will stand at 79 billion barrels daily, while shale gas will account for 5% of the total output. Nuclear power consumption will increase 72% and hydropower energy by 34%. Private Sector Seen as Solution to Run-Down Social Services While the need to draw private business into the provision of Russia's often dilapidated and underfunded social services is now widely recognized, a road map for doing sohas been drawn up and work on the plan will start this year.


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