Belarusian policymakers can talk a very good game. When Euromoney visits Minsk in early February, politicians and central bankers are eagerly touting a new reform package that they claim will not only put the country’s ailing Soviet-style economy back on its feet but also attract a much-needed influx of hard currency and investment from the west.
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It is our absolute priority to repay all our debts on time Alexander Zaborovsky, |
Spending, they promise, will be slashed. Wages in the public sector, which in Belarus still account for more than half the economy, have been frozen – a big step in a country where annual increases of 50% are not uncommon and where presidential elections are looming later this year. “In a situation where we are expecting a small shrinkage of GDP, there is no fundamental justification for wage increases,” says first deputy economy minister Alexander Zaborovsky, austerely.
Support for state-owned enterprises (SOEs) will also be reduced, while all government projects that are less than 80% complete have been put on hold. Still more strikingly, for a country that maintains Soviet traditions of full employment, headcount requirements at SOEs have been scrapped in favour of targets that prioritize profitability and financial results. “We recognize the need for restructuring of these companies in order to make them globally competitive,” says Zaborovsky.
Whatever else may be cut, however, debt servicing – including the redemption of a $1 billion Eurobond that comes due in August – will be sacrosanct. “It is our absolute priority to repay all our debts on time,” adds Zaborovsky, “and even in a worst-case scenario we are confident we will have a sufficient budget surplus and the tools to do this.”
Policymakers are equally confident of their ability to raise as much as $2.5 billion of new funding in the Eurobond market this year at “reasonable” yields – meaning well below the 20% quoted on the sovereign in the Eurobond market this year. “We might look to come to market in the spring or after the repayment of our maturing Eurobond, depending on when we see a good window,” says central bank first deputy chairman Taras Nadolny.
On the monetary side, meanwhile, officials describe a new policy of irreproachable orthodoxy. Restrictions on credit growth, policymakers’ preferred tool for combating galloping inflation in recent years, have been replaced with an approach based on broad money targeting via the supply of liquidity to the banking sector. “We believe this is the most efficient way to manage the inflation rate,” says Nadolny.
Official interest rates have also been hiked and limits on bank rates lifted to reduce pressure on the Belarusian rouble, while the currency itself has been unhitched from its peg to the dollar and linked to a trade-weighted basket that also includes the euro and the Russian rouble. Much-criticized emergency measures introduced in December to prevent contagion from Russia’s currency crisis, including a 30% tax on FX transactions, have mostly been abandoned.
Above all, policymakers insist, the main focus for Belarus’s government will be to reduce the country’s dependence on Russia for funding, investment and exports. “In this time of world and regional turbulence we believe the key to economic development is diversification of trade and capital flows,” says Zaborovsky. “This is the only way to reduce Belarus’s vulnerability to possible external shocks and is the core of our strategy.”
State's stranglehold
It all sounds just what the IMF ordered – yet outside government circles in Minsk, and among western Belarus-watchers, there is deep scepticism that such pronouncements herald any real change.
This is partly because most of it has been heard before. Authoritarian president Alexander Lukashenko has promised to reform Belarus’s command economy many times during his two decades in power but repeatedly reneged on his commitments. Most recently, in 2010, he signed up to a slew of measures designed to open up Belarus’s economy in return for a $3.5 billion loan from the IMF – yet more than four years later, the state’s stranglehold on the economy remains as strong as ever.
Privatization, a key tenet of the 2010 agreement, has been almost completely ignored. The only big sale of state assets in the past decade involved the purchase by Russian energy firm Gazprom of the remaining 50% of local pipeline operator Beltransgaz. A commitment in 2013 to raise $4.5 billion from the auctioning of 88 state companies also came to nothing and today the government seems to have given up even promising to privatize.
Zaborovsky insists that privatization is “not a taboo” but says conditions are currently unfavourable. “The optimal time for privatization is when the economy is growing and when there are no politically motivated sanctions in place,” he says. More than 200 Belarusian individuals, including Lukashenko, and 18 companies are blacklisted by the EU for persistent human rights violations and anti-democratic activities.
Policymakers also argue that privatization would threaten Belarus’s famous social contract, as conceived by Lukashenko – political repression in return for stability and living standards – and point to neighbouring Russia and Ukraine as awful warnings.
“Our eastern partners have been able to mitigate the negative impact of privatization thanks to revenues from natural resources but we don’t have that luxury,” says Zaborovsky. “Currently some of our manufacturing enterprises might have room to improve their efficiency and implement best practices but they still make a significant contribution to our economy, employment and innovation.”
There is no question that privatization of SOEs would entail widespread restructuring. Locals report that Belarus’s boasted 0.5% unemployment rate is largely achieved by sleight of hand, with many employees working only two or three days a week. Claims of social responsibility, meanwhile, are undermined by reports that long periods of enforced unpaid leave are common, as well as heavy penalties for registering as unemployed.
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The idea is to define areas where we can talk and Rodolphe Richard, EU delegation |
Non-governmental sources point to vested interests as a more cogent reason for avoiding privatization. “In many ministries there are quite progressive forces who are in line with international thinking,” says Minsk-based Daniel Krutzinna, managing partner at regional consultancy Civitta. “However, there is also strong resistance to this within the SOEs and in a number of ministries, from forces who will do their maximum to sabotage any reform system.”
Restructuring of SOEs without privatization, meanwhile, is seen as extremely unlikely, given the government’s habit of making managers take the rap for anything that goes wrong. A local banker notes that any modernization in state firms is done by “manual management” – a favourite Belarusian phrase that means the president’s administration is involved in every aspect of the process. “There is not a lot of initiative in Belarus because if you fail you may be punished,” he adds.
This also helps explain Belarusians lack of enthusiasm for insurance products, according to another local finance professional, who says: “I asked one manager at a state-owned firm what would happen if his factory burnt down and he wasn’t insured. He said, ‘In that case I’ll be in jail so I won’t care.’”
'Naive days'
The idea that Belarus will be able to sell Eurobonds this year is dismissed as fantasy by most market participants. For one thing, say syndicate officials, policymakers will struggle to find banks prepared to put their name on a mandate for a sovereign whose president is under western sanctions.
Admittedly, some sanctions were already in place when Belarus sold its inaugural dollar bond in July 2010 and even more so when it did a follow up deal in January 2011, barely a month after a violent crackdown on opposition supporters in the wake of rigged presidential elections. As one London bond banker puts it tactfully, “those were more naïve days”.
The approach now is much more cautious. “These days you have to be somewhat self-regulating,” he says. “Acting for Belarus might not violate the letter of the law but it doesn’t really abide by the spirit of it, which is what today’s compliance culture is all about.”
Bankers also point to the potential for reputational risk for bookrunners on a Belarus bond if this year’s presidential elections – due to be held by mid-November – are again marked by unrest and repression. Certainly a request for proposals, put out by Belarus in mid-January, was widely reported to have met with little enthusiasm among western banks. One syndicate official puts it bluntly: “No bank is going to put their neck on the line to sell a Belarus deal.”
Even if banks were willing to take on the mandate, he adds, paying agents and trustees might be less accommodating, not to mention clearing houses. Belarusian government bonds are barred from the Euroclear system as part of the EU’s sanctions regime – a restriction that would also cover a proposed debut deal of up to $1 billion from state-owned Development Bank of Belarus, which has announced plans to follow the sovereign into the market this year.
Bankers agree, however, that if a sovereign or quasi-sovereign bond did make it to market it would be likely to find buyers. As one points out: “Investors have much lower thresholds when it comes to compliance issues and these days any deal that offers a substantial yield pick-up will see interest from speculative accounts.”
Whether the Belarusian government would be prepared to meet investors on price, however, is open to question. As Gunter Deuber, head of CEE research at Raiffeisen Bank International (RBI), points out: “There would have to be an understanding that Belarus is considered as a high risk credit, which would imply some concessions on the price regardless of the current very supportive global yield environment.”
At the moment, the two sides seem a long way apart. In February, yields on Belarus’s January 2018 bond were hovering around 20%, a level which Zaborovsky insists does not reflect the real risk of the Belarusian economy. “We are seeing very uncertain yield dynamics due to turmoil on the Russian market, so we are not prepared to make new issuance at these levels,” he says, “and thanks to our sound macroeconomic policy we can afford to wait until the market is more favourable to our placement.”
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Central bank first deputy |
Given that one policymaker suggests 6% as an acceptable level, the wait for a new issue could be a long one. Even without one, though, and despite the fact that Belarus’s FX reserves fell below $3 billion in January, the market consensus seems to be that Belarus will deliver on promises to redeem its Eurobond in August.
Deuber notes that the government has a track record of repaying its external debts, even in challenging situations. “There seems to be a good understanding among at least some policymakers that if they don’t service their Eurobond debt they will be shut out of international capital markets for a long time.”
They should also have the means to do so, thanks mainly to a rebate from Russia on oil export duties that came into force in January with the creation of the EEU. That alone should more than cover the $1 billion bond redemption, while the government also expects to raise $300 million from increased export duties on potash and $500 million from the sale of foreign currency bonds on the local market.
Nadolny insists that even in the central bank’s worst-case scenario, consisting of oil at $40 a barrel and the dollar-Russian rouble exchange rate at 80, Belarus will be able to pay its external debts without external financing. “If necessary,” he adds, “we are ready to make further adjustments to our budget and our tax policy in order to restore macroeconomic stability and meet our external obligations.”
Belarus watchers agree that avoiding further instability will indeed be key for policymakers in the run-up to elections, given that Lukashenko will likely hope to manage the poll so as to achieve western recognition of the result and a relaxation of the sanctions regime.
Rodolphe Richard, head of the political section of the EU delegation in Belarus, says policymakers have been disappointed that this has not already been implemented as a reward for Lukashenko’s backing for Ukraine in its conflict with Russia and role in mediating the crisis. “There were expectations that there might be an immediate change of policy towards Belarus on behalf of western governments, institutions and investors,” he says. “But the sanctions are there for other reasons, and as long as those reasons are there the sanctions will be too.”
Favourable hearing
Nevertheless, there has been some rapprochement between Europe and Belarus over the past year and a half. Even before the start of the Ukraine crisis, the EU had launched an “interim phase” in its relations with Minsk. “Before that the situation was one of increasing tension and communication was limited to human rights issues,” says Richard. “The idea is to define areas where we can talk and on which we might be able to cooperate with Belarus while keeping a critical approach.”
Policymakers are also hoping for a favourable hearing from IMF representatives when they arrive in Minsk in March for the country’s annual Article IV review. “We have shown an interest in entering into a new programme and we will discuss this during the March meetings,” says Nadolny at the NBRB.
The consensus is that 2015 will be a challenging year for Belarus with big downside risks for the economy – as was shown by the market’s readiness to believe in a sovereign default scenario when Lukashenko got his restructurings and refinancings muddled in his annual press conference at the end of January. Yields on Belarus’s 2018 bonds hit distressed levels on his comment and failed to fully normalize even after a clarification was issued.
Bond investors have good reason to be nervous. Even the Belarusian authorities say recession is likely this year and local bankers are forecasting a GDP contraction of as much as 5%. December’s balance of payments crisis was the third in the country in four years and even after a devaluation of 40% since the end of November independent analysts say the Belarusian rouble is still overvalued, pointing to further potential currency pressures.
And bankers warn that the potential for asset quality deterioration in the country’s banks is high. System-wide non-performing loans stand at only 4.4% of the total, partly due to the transfer in recent years of most government-linked “directed lending” from state-owned banks – which account for more than two-thirds of the market – to the Development Bank. Around 12% of these transferred loans are non-performing, according to the bank.
Policymakers boast that even in the wake of the financial crisis NPLs never accounted for more than 5.5% of the total – however, the IMF warned in a July 2014 report that official figures are flattered by persistent evergreening and reporting weaknesses. Meanwhile, local bankers report signs of deteriorating asset quality. “We are seeing a substantial increase in NPLs in both corporate and retail, and we expect this to continue,” says an executive at a Russian bank subsidiary in Minsk. “There will be huge pressure on the whole sector in the near future due to rising bad debts.”
Further reading |
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The strong presence of Russian state-owned banks in the Belarusian market is in itself raising concerns, given the challenges the parent groups are already facing in both their home market and Ukraine. The subsidiaries of Sberbank, VTB, VEB and Gazprombank – all of which are under western sanctions – account for nearly all of the 30% of the banking sector that is not owned by the Belarusian government. The only major western player in the market, Raiffeisen, has a market share of less than 5%.
Bankers at one Russian subsidiary say they are already facing liquidity issues, with requests for any amount larger than $1 million having to be referred to head office in Moscow. “There’s just not a lot of hard currency liquidity available at the moment so the message that has come down to us is that we need to be self-supporting,” says one. “There is no funding available for growth.”
Nevertheless, he is confident that the Russian parent will continue to provide support to its Belarusian operation in times of stress – particularly as the amounts involved pale in comparison with those in the home market.
As one banker in Minsk says: “We only need a few billion dollars. It’s not much if the Russians want to have a very good neighbour.”
