Elvira Nabiullina’s speech at joint meeting of State Duma dedicated committees on Bank of Russia’s 2021 Annual Report
Good afternoon, dear colleagues
Today, I present the Bank of Russia’s Annual Report for 2021. Mr Aksakov has already mentioned some results, we have presented the report in detail, and you all have probably got it. If you don’t mind, I would address the aspects of the Bank of Russia’s activity over the past one or several years directly influencing our capabilities to respond to the crisis and the measures we are now implementing to protect the financial system and the economy.
The main results of last year are the recovery of the economy after the coronavirus pandemic and even its growth somewhat above the potential. Nonetheless, both Russia and the world in general continued to face supply-side constraints and services problems which were also caused by the coronavirus. Consequently, inflation exceeded the targets in both Russia and the majority of advanced and emerging market economies. The financial sector also recovered, and banks had a large profit and capital cushion actively expanding retail and corporate lending. Of course, we were happy with high economic growth rates. However, such trend involved risks of overheating in certain sectors. For instance, subsidised mortgage lending caused a rise in housing prices. Moreover, retail lending was also expanding too fast. In view of this, the Bank of Russia took appropriate measures not to miss the moment and to prevent bubbles in the market.
We were gradually tightening our monetary policy, while maintaining it accommodative. We used the so-called macroprudential instruments to prevent bubbles in retail lending. Thus, our policy promoted the gradual return of the economy to a balanced growth path. This was one of the factors helping preserve the stability at the moment of the shock effect of foreign sanctions.
Other important factors maintaining the stability are the consistent multi-year policy for the diversification of gold and foreign currency reserves and the dedollarisation of the banking sector’s balance sheets. Specifically, we have been increasing our reserves in gold and Chinese yuan since 2014 when the first geopolitical risks arose, so as to have a sufficient safety cushion directly in the case of a geopolitical crisis. Concurrently, we maintained an adequate amount of reserves in US dollars and euros as these two currencies are used most often in foreign trade (2/3 of imports and 85% of exports) and to denominate liabilities, loans, and bonds of the government, companies, individuals, and businesses. From the end of 2013 by the end of 2021, the portion of US dollars in Russia’s reserves decreased nearly four times, namely from 41.6% to 10.9%, whereas the portion of gold edged up 2.5 times — from 8.3% to 21.5% and that of Chinese yuan — from zero to 17.1%.
As a result of such reserve management policy, we were able to effectively counteract volatility in the foreign exchange market in 2018 and during the crisis of 2020 — you can remember the tremendous decline in oil prices during that period. As regards the dedollarisation of banks’ balance sheets, including both loans and deposits, as I have many times reported in the State Duma, we had been implementing a policy for decreasing the foreign currency share in the banking sector, which in turn also reduced the banking sector’s exposure to sanction risks. For instance, banks held 35% of their assets and 39% of their liabilities in foreign currencies in early 2016, whereas these shares declined to 19% and 24%, respectively, as of the beginning of 2022. In the first place, the sanctions imposed against Russia affected the situation in the financial sector, spurred the demand for foreign currencies, and caused fire sales of financial assets, a cash outflow from banks, and surging demand for goods. Furthermore, risks to financial stability increased.
To mitigate these risks, the Bank of Russia employed a broad range of measures: first, a higher key rate; second, capital controls; third, the suspension of exchange trading; fourth, regulatory easing for financial institutions; fifth, support of banks’ borrowers; and sixth, subsidised lending programmes for small businesses launched simultaneously with the key rate increase. Accordingly, the Government implemented a wide range of preferential programmes as well.
I would like to address each of the areas of our measures in greater detail.
In the first place, these are our monetary policy decisions and the processes that are currently unfolding in the economy.
The rise in the key rate helped prevent risks to financial stability and return households’ funds to the banking system: as you know, deposit rates surged and those people who had been withdrawing more cash from banks in early March than even in spring 2014 or December 2014 started to actively return their money to banks. I would like to emphasise that the recovery of banks’ liabilities, that is, households’ and companies’ funds in accounts is a fundamental condition for a further expansion of lending. Therefore, in our extreme situation, a high key rate protected, rather than undermined banks’ capacity to provide lending to the economy in the medium term.
The rise in the key rate also helped promptly suppress the spike in inflation observed in March. This is why we have been able to cut the key rate to 17% by the moment.
I would like to say a few words about how we see a further development of the economic situation and, accordingly, our monetary policy tasks.
Indeed, our economy is entering a challenging period of structural shifts associated with the sanctions. In the first place, the sanctions have affected the financial market, but now they will start to impact the real economy increasingly more significantly. The main problems will be associated not so much with the sanctions against financial institutions, but rather with the restrictions on imports and logistics in foreign trade and, further on, with possible restrictions on Russian exports.
You certainly know that manufacturing in the modern world is organised so that almost any product has a greater or lesser portion of imported components. This is the way of manufacturing of a large number of products. Even if such portion is small in total output, an enterprise may be critically dependent on a certain part or component. By the way, we could see this during the coronavirus pandemic when a deficit of a limited number of components caused adverse consequences in a wide range of sectors.
Of course, due to the restrictions on imports and logistics, Russian manufacturers will have to search new partners and new logistics routes to deliver their products and to switch to domestic components. Besides, the situation in exports is similar as companies will also have to search new partners and logistics alternatives. We are all very well aware that this will take a certain time. Currently, this problem might be not as acute because the economy still has inventories, but we can see that the sanctions are being tightened almost every day, including the restrictions on Russian goods transportation and the operation of Russian carriers. However, the period when the economy can get along with stocks is limited. Already in the second quarter — the beginning of the third quarter, we will actively enter a period of structural transformation and the search for new business models for many enterprises. As the Central Bank, we perfectly understand that this period might be accompanied with a surge in prices for individual products. Hence, inflation will exceed the target. Therefore, it is essential to comprehend that such a rise in inflation above the target will be largely caused not by high demand, but directly by supply-side restrictions, that is, low supply. This is why we will not try to lower inflation at any cost, as this would hinder the adjustment of businesses for which the recovery of supplies of required imported components is more complicated and expensive, and this will inevitably affect prices for end products. However, we need to go through this period of adaptation by all means. Nonetheless, we do understand that we must prevent uncontrollable inflation that would devalue households’ savings and incomes. To this end, we will pursue a monetary policy that will return inflation to the target within a reasonable foreseeable period, but not too sharply — we expect to bring inflation back to approximately 4% in 2024.
Why do we consider it important to give an idea of when inflation will return to the target? In our opinion, the market should continue to comprehend that the economy still has an anchor in finance, which is a low inflation rate, and that our policy will aim to gradually bring inflation back to the target. This is an essential factor influencing expectations about the path of interest rates. We can see this already now in interest rates on federal government bonds. The fact that long-term rates are currently below short-term ones as they are today evidences that market participants are confident in the effectiveness of inflation targeting and the attainment of the inflation target over our forecast horizon. Without this confidence, long-term interest rates which are important for investment projects and in mortgage will not go down. Credit will not be affordable without low inflation. However, an artificial reduction in the key rate amid high inflation will, to the contrary, decrease the affordability of credit. We could observe this earlier throughout our history.
The second area is the most important stabilising mechanism, that is, the introduction of capital controls. After western countries imposed sanctions against the Central Bank, we can only use about a half of our reserves, but these are gold and Chinese yuan and they do not enable us to promptly respond to the situation in the domestic market. This is the reason why we introduced capital controls immediately after the sanctions were announced. Actually, we were dealing with the problem of stabilising the foreign exchange market in an alternative way by limiting the possibilities to withdraw foreign currency from the country, namely by setting limits on individuals’ foreign currency transfers abroad and fees for foreign currency purchases via brokers. As for banks, they addressed this issue through spreads between exchange rates for purchase and sale and limits on legal entities’ foreign currency transfers (currently, they are mostly permitted to pay for imports as this is essential, whereas all other transfers are subject to a decision by the competent government commission). This is precisely why we introduced the requirement for exporters to sell 80% of their foreign currency revenues.
At the first stage, our restrictions were tougher. Today, we are accurately cancelling a part of them, namely the fee for foreign currency purchases via brokers, and easing others. Additionally, we are considering the possibility for making foreign currency sales by exporters more flexible. By acting this way, we are promptly responding to the level of risks and, as they stabilise, lowering the barriers for enterprises in foreign trade.
The third objective of our measures was to prevent the financial sector from plummeting and to instantaneously reformat its operations in order to return it to its normal functioning as the situation stabilises. On 25 February, the MOEX Russia Index plunged by 24% over one day. To prevent substantial losses for the financial system and traders, we prohibited short-term sales and closed additional sessions. After foreign states imposed large-scale sanctions against our country and the Bank of Russia raised the key rate, we closed trading in the stock market, the forward market, and the standardised derivatives market because, without that, such a dramatic change in the situation, as well as powerful stimuli for foreign investors to quickly exit the Russian market would have induced excessive volatility that would have caused a series of defaults and a domino effect. This is exactly why we took these measures to prevent such events.
Nonetheless, we left open those market segments that were needed for foreign trade and banks’ foreign exchange transactions, that is, the foreign exchange and repo segments. The Bank of Russia managed almost manually the trading mode in order to limit volatility and calm down market participants.
Later on, we started to gradually reopen the sections one by one, first keeping some positions and buyouts unavailable, and then reopened them completely. Moreover, after the reopening of trading, the Bank of Russia continued to control the situation. We used smoothing methods, namely discrete auctions and changes in the time of trading sessions, etc. Before the reopening of the federal government bond market, we announced that we were ready to purchase government bonds if their price plunged below a certain threshold. This somewhat comforted the market community psychologically and helped avoid losses. Finally, the reaction of the market to the new environment was certainly smoother than we could have even expected. As a result, we used only a rather small amount.
The next objective was to maintain the banking sector’s stability in these conditions and, which is most important, preserve the potential for lending to the economy. Although the pandemic crisis was just a short while ago, the Russian banking system is solid and capable of surviving serious shocks. In 2020, when the crisis affected the real sector directly, banks were able to offer significant support owing to their accumulated capital cushions and stability. You can all remember loan restructuring and loan repayment holidays granted by banks. Furthermore, in 2021, in addition to loan restructuring, banks supported the fast rebound of the economy by expanding lending. Mr Aksakov has already mentioned the figures in lending and its growth rates last year. As a result of such expansion in lending, which is the development of business for banks, they earned significant profit last year, specifically 2.4 trillion rubles of net profit that was mostly used not to pay dividends, but to increase capital. Capital supports lending as well.
Finally, by early 2022, the capital cushion, taking into account various buffers, including macroprudential ones, approximated seven trillion rubles, which is even more than a half of overall capital. This amount is sufficient to cover up to 10% of loan losses, whereas 10% of loan losses is about two or three times more than annual losses over past crises. In other words, the safety cushion is significant, but it is distributed extremely unevenly across the banking system, and we will need to consider this factor when developing appropriate support measures.
As I have already said, the imposed sanctions triggered dramatic market volatility, which was a considerable challenge in itself, but this was certainly exacerbated by people’s anxiety. As a result, the outflow of households’ funds in late February—early March totalled 2.4 trillion rubles. These are large numbers. The measures promptly implemented by the Bank of Russia, including the expansion of banks’ opportunities to raise liquidity from the Bank of Russia, the increase in the key rate and, accordingly, very attractive deposit rates, as well as cash we provided to support banks in order to prevent people’s doubts about the accessibility of their funds, helped gradually return households’ funds to the banking system. We can see that deposits increased already by 1.6% over the first ten days of April.
Households also demonstrated high demand for cash in both rubles and foreign currencies. In the conditions when the inflow of cash in US dollars and euros into Russia terminated, we were forced to set the limit on cash withdrawals in foreign currency in the amount of 10,000 US dollars. I would like to stress that balances in 90% of households’ accounts do not exceed this amount. In other words, we thus protected the interests of the absolute majority of foreign currency depositors. Any amounts above this limit may be withdrawn from foreign currency accounts and deposits in rubles at the exchange rate set as of the withdrawal date.
The next area to help banks adjust to the new environment was temporary regulatory easing. As you know, we granted such easing during the previous crises of 2014 and 2020 as well, in order to enable banks not to assert claims on their corporate and retail clients immediately, but to allow them to adjust to this situation. However, today’s scale of the regulatory easing is unprecedented to adequately address the problems we have faced.
We allowed banks to fix the exchange rate and securities prices on balance sheets and the previous level of assigned ratings for regulatory purposes. This helped avoid a considerable reduction in banks’ capital and enabled them to adjust to the new environment without terminating lending abruptly.
The next area is the launch of a whole range of subsidised lending programmes, that is, the increase in the key rate to 20% certainly required the introduction of subsidised lending programmes. We actively cooperated with the Government with regard to subsidised lending programmes and other subsidies.
In particular, these were programmes for systemically important enterprises, trade companies, and the agroindustrial complex.
Of the programmes that are currently being discussed and, in my opinion, still need to be discussed further, these are programmes to promote imports of equipment, raw materials and goods needed in domestic production for those companies that do not have Russian alternatives.
The Bank of Russia, on its part, jointly with the RSMB Corporation also expanded subsidised lending programmes to support lending to small businesses that can be most vulnerable in crisis conditions. Such credit facilities total 675 billion rubles.
The subsidised mortgage lending programme available to a wide range of households was adjusted to the current situation, and its parameters changed as well. We expect that disbursements under subsidised mortgage lending programmes may reach two trillion rubles this year.
Besides, we consider it crucial to support borrowers during this turbulent period. Loan repayment holidays were resumed. Currently, the demand for them is comparable with the first month of this programme during the 2020 lockdown. The percentage of approvals for small businesses is approximately the same as in 2020, while for households it is a little lower. For businesses, approved applications make 90%, whereas this figure for individuals is nearly 40%, according to recent data, which is mainly because banks do not get any confirmation of the established eligibility criterion, namely a 30% decline in incomes. Nonetheless, we believe it critical to comply with this requirement as, in the first place, support should be provided to those who need it the most.
The last thing I would like to say about banks. Last year, we sold the Asian-Pacific Bank after its financial resolution through the Fund of Banking Sector Consolidation Asset Management Company at a really good price. This was a very important moment for us as such sale shows that financial resolution is effective and banks do not simply become stable, but also get efficient business models that are interesting to investors. The next step should have been the sale of Otkritie, and we had been actively preparing for this transaction. However, deepening geopolitical tensions at first and, later on, the fact that Bank Otkritie itself was subject to blocking sanctions forced us to suspend the preparations for the sale. We will need to adjust our view of divestment from this bank’s equity depending on how the situation will be unfolding.
Now, I would like to just briefly address the measures implemented in other sectors.
As regards insurance, it was necessary to promptly provide reinsurance capacity sufficient for the Russian economy. I would like to remind you that, after the events of 2014, the Bank of Russia established a reinsurance company for us to have our own company. Due to the sanctions, foreign reinsurers are cancelling their agreements with Russian companies. Hence, we have increased the guaranteed capital of the Russian National Reinsurance Company tenfold to 750 billion rubles. This will give sufficient reinsurance protection.
The national payment infrastructure has become especially important today, and I believe this was obvious. It ensures the continuity of payments inside the country, and the Bank of Russia has been working for several years to arrange such independent and self-reliant infrastructure in Russia. We have been actively cooperating with other states, with partners to create opportunities for cross-border money transfers.
All card payments have been processed inside Russia for seven years already. Accordingly, if the exit of international payment systems, such as Visa and MasterCard, had happened seven years ago, it could have become a huge problem. I would like to remind you that 90% of cards then were Visa and MasterCard cards and all card payments were processed abroad, whereas today they are processed inside Russia. This is why, their exit was almost seamless for payments made inside Russia. Moreover, Mir cards are actively used. As I have already said, we have been working with other countries, and Mir cards are now used in ten countries as well. We will continue this work, but a lot will certainly depend on whether our partners are ready to accept these cards — we have been mostly working in the destinations preferred by our tourists.
For several years, we have been observing a strong upward trend in the portion of cashless payments. Seven—eight years ago, cashless and cash payments accounted for 30% and 70%, whereas today these figures are 75% and 25%, respectively. It is essential for us to preserve stimuli in the economy for cashless payments without any fake excuses about a malfunctioning card reader. Therefore, we have introduced a temporary limit on acquiring fees for socially important goods and services. We will be monitoring the effect of this measure as it can cause implications when banks close their cashback programmes and so on. We will be closely monitoring the situation.
The Faster Payments System (FPS) has become the main tool to reduce costs for businesses. As you remember, we have been actively developing this system. Its fees for businesses are
When the threat of the disconnection from SWIFT first emerged in 2014, the Bank of Russia developed its Financial Messaging System (FMS) operating according to the SWIFT standards to make it convenient for companies as this did not require any changes in the standards. The absolute majority of Russian banks have joined this system. Furthermore, those foreign market participants who are interested in cooperation with Russian partners are also joining the FMS. Today, 52 foreign organisations from 12 countries have connected to the FMS.
The sanctions have cut us, all our economy, banks off from settlements in reserve currencies. In view of this, we need to develop payments in national currencies. We are developing such bilateral projects with a number of countries. These are actually individual projects with each of these countries, as they all have their specifics in regulation and infrastructure.
In the conditions of the sanctions, a digital ruble will play a special role as it will support the opportunities for settlements and payments, as well as later on — for cross-border payments. We carried out public consultations, including here in the State Duma. In spring 2021, we adopted the concept of a digital ruble and then, over seven months, designed a digital ruble platform prototype (for reference, China needed two years to create a prototype). By the moment, we have started its testing with banks. Five banks have become active participants, and seven more banks are making internal adjustments and will join the tests in the next few months. At the current stage, we are testing the issue of digital rubles, the opening of digital wallets by individuals, as well as P2P transfers.
Simultaneously, we will be working on amendments to laws needed for the deployment of a digital ruble, and we hope for support from the State Duma in this regard.
I would like to say a few words about consumer protection.
Last year and in previous years, we implemented multiple measures, including legislative ones, to protect consumers’ rights. However, today, this is no least important and, possibly, even more important as we should prevent people from wasting their money on products they actually do not need and, even more so, from getting involved in any risky schemes with non-transparent and too complex products. We place a special emphasis on the quality of informing consumers about the specifics of a product, costs to be incurred by a consumer entering the financial market, the improvement of the calculation of the total cost of credit for it to include all additional fees, other payments, etc., and the improvement of the conditions of a cooling-off period when a consumer may refuse services.
Last year, we also continued our efforts towards more efficient protection of individuals against fraudsters. The Bank of Russia received the powers to apply to the Prosecutor General’s Office for prompt extrajudicial blocking of fraudulent websites. Currently, such decisions are made just in a few days. We believe that this practice should be expanded this year to fraudsters’ accounts in social networks. We will continue to counteract social engineering and other types of fraud, cooperating with law enforcement agencies, on the one hand, and expanding the scope of our financial literacy programmes, on the other hand.
I would like to thank the State Duma once again as we needed a lot of legislative decisions in the conditions of large-scale sanctions, we prepared them together with you, and this has helped implement appropriate measures very fast in order to stabilise the situation.