Speech by Bank of Russia Governor Elvira Nabiullina at the plenary session of the State Duma of the Russian Federation on 9 June 2017 on the Bank of Russia Annual Report

Mr Chairman and deputies of the State Duma,

Before I proceed to the Bank of Russia’s 2016 Annual Report, I would like to thank you for your invaluable cooperation with the Bank of Russia in amending legislation. Last year alone, you adopted more than 40 laws important for the development of the financial market. This year, you have adopted 10 laws crucial for the financial market’s development.

Economic development was at the forefront of the Central Bank’s efforts in 2016.

We focused primarily on ensuring stability. Sustainable growth is impossible without (price and financial) stability. Stability is the backbone of growth. The indicators of price stability, i.e. inflation, more than halved in 2016. Financial markets were also largely stable.

Second. we continued to pursue a policy of banking sector resolution. This is a difficult task that can take years. Based on the work we have accomplished so far, we can expect that, in two or three years, we will officially complete the so-called ‘big clean up’ of the banking sector. Subsequently, we will be able to proceed to the usual practice of maintaining cleanliness and order.

And third, the key line of our work is to facilitate the development of financial markets, and, above all, set up critical elements of infrastructure. The sanctions exposed our vulnerability. We seem to have been heavily reliant on global markets, and had to rapidly set up crucial infrastructure our financial market was short of.

The Report describes the specific steps we took. My speech will be focused on the most important measures. We had very fruitful discussions with different fractions, committees and ad hoc working groups and we remain open to dialogue.

The discussions touched upon pressing issues. We realise that these are issues which concern your voters, our citizens. Therefore, we are ready to respond to them and put forward our arguments.

Let me start with a brief overview of the economy. The Russian economy has turned to growth. Industrial production and investment have been on the rise for several quarters. Inflation is steadily decreasing.

Today, economists frequently note that ‘indicators have returned to pre-crisis levels’ when describing the current situation. Indeed, the same holds true for many indicators. Moreover, inflation fell below pre-2014-2015 levels. We will do our best to keep inflation consistently low. This will allow us to cut interest rates and make loans more affordable.

The current objective of economic policy is to bolster growth rates and spur economic expansion above 1.5-2% inertial growth. This is achievable only through modernisation of production and growth in labour productivity, but they call for investment. Investment, in its turn, calls for low inflation. Therefore, the key objective of monetary policy is to make a transition from bringing inflation down to the target level (as we did in 2016 and do now) to permanently maintaining low inflation. Both households and businesses could benefit from consistently low inflation, as rates on loans would fall and their maturity rise.

A few words about the effect of the floating exchange rate of the ruble on the economy. This question was asked at every meeting we had with deputies. Let me remind you that the Bank of Russia switched to a floating exchange rate regime in late 2014 amid a massive drop in oil prices and the imposition of financial sanctions. The economy lost almost $200 billion or one third of total foreign exchange revenues. The exchange rate could not remain unresponsive to such external shocks.

A floating exchange rate balances interests of exporters and importers. Some of them need a strong ruble, while others prefer a weak one. Market participants may have diverse interests and a floating exchange rate balances them. The Bank of Russia firmly believes in the advantages of a floating exchange rate. We find attempts to impact the exchange rate, shifting it to one side or the other in defiance of market factors, utterly useless for the Russian economy. Regular surveys among businesses attest that exchange rate predictability and volatility is more important than the ruble’s strength or weakness. We realise that exchange rate fluctuations are a concern for our economy. There is nothing good about high volatility. Though the ruble’s volatility is lower now than it was two years ago and lower than the volatility of oil prices (you are witnessing the oil price fluctuations ) and it is comparable to [the exchange rate movements in] our peer countries, volatility remains elevated for the real economy. Therefore, we support the introduction of a fiscal rule that would reduce fluctuations of the ruble’s exchange rate triggered by the external environment and oil prices.

The second line of our activity is banking sector development.

The year 2016 marked the banking sector’s return to normal performance. Year-end profits totalled 930 billion rubles. That is, indeed, quite a large amount. However, it is still 30% below the 2013 readings in real terms. Capital grew 4.2% and growth of overdue debt came to a halt. All of this means that banks are now fully able to step up lending. Positive trends are increasing this year as profits rise. Lending to the economy grew considerably in April (1.2%) and the trend continued through May. The fastest growth is registered in lending to the agricultural sector, primary industry, transport and communication companies. Significantly, lending to small businesses, which shrunk disturbingly over the last year, has turned to recovery. Rates on bank loans are lowering on the back of falling inflation and have almost returned to pre-crisis levels, with rates on mortgage loans falling even further. Rates on mortgage loans are now close to their all-time low.

The Bank of Russia conducts an effective supervision policy. We are strongly convinced that there is no excuse for the market presence of banks which have lost their stability or serve the shadow economy, rob their customers and lead their credit institution to bankruptcy. We have been cleaning up the banking sector for several years, and the benefits of this policy are evidenced by the resilience of the banking sector during the difficult period of 2014-2015. By that time, we had already removed many weak actors, and many banks, realising that they might lose their licence if they did not conduct business in a prudent manner, improved their risk management. Therefore we avoided a domino effect, which could have transferred a few banks’ problems to other banks.

Stronger supervision does not, however, exclude new cases of misconduct. The year 2016 saw so called off-balance depositors become a pressing issue, when banks accepted funds from their customers ’under the counter’, without recording them in their books. In simple terms, they were stealing money from their customers. When we revoked the licences of these banks, it turned out that their liabilities to depositors were not taken into account.

We have joined forces with the DIA and the banking community to elaborate additional measures to protect depositors and develop a specialised deposit database that would allow us to track, handle and monitor this problem. However, this is not enough. We believe that not only bank owners and management should be held responsible, but also every employee involved in the theft of customers’ money, because we can see that they bring these schemes from one bank to another. We are also cooperating with law enforcement agencies to make opening off-balance sheet deposits a separate offence in the Criminal Code.

The rebound in the banking sector and, due to active supervision, the decline in the number of ‘bad’ banks have enabled us to plan an expanded deposit insurance system for small businesses. Many deputies touched upon this issue during our meeting. We are cooperating with a special-purpose committee of the State Duma to elaborate a mechanism for extending deposit insurance to SME to the same extent as that of households.

Last year, a number of notorious licence revocations were linked to bankruptcies caused by banks financing their owners’ business. Banks raised depositors’ funds and invested it in businesses controlled by the banks’ owners. Therefore, these banks always turned a blind eye to the risks associated with such projects. This sort of business model was largely our reason for revoking licences. Therefore, we have introduced special ratios to limit risks on owners’ businesses and will monitor them very closely.

We do not revoke licences from all the banks experiencing problems. Many of them reform and, if they are performing effectively and their business models are not based on criminal schemes, we resolve to reorganise them. Currently, 27 banks are undergoing resolution. I would like to thank State Duma deputies for adopting a law that amends the resolution mechanism. It has been in place for ten years and has already proved inefficient in the new environment. From this year on, we are launching a new resolution mechanism in compliance with the recently adopted law.

Several years of our intensive work have revealed internal problems with supervisory organisation in the Bank of Russia. Therefore, we are taking serious steps to reshuffle the supervisory function and, in order to boost the professionalism and accountability of employees engaged in supervision, we have established the Risk Analysis Service and are centralising current supervision.

I would like to mention another important area of work we have been pursuing since 2013. This has been countering dubious transactions so that the banking sector stopped to service them. We can see that illicit overseas money diversion has shrunk more than nine-fold over the past four years. Illicit overseas money diversion amounted to 1,700 billion rubles in 2013, whereas the latest estimates show that in 2016 they totalled 183 billion. This figure was shrinking as of the first quarter of this year and we are going to further pursue this policy. The same holds true for cash-out transactions. They have declined 2.5-fold over four years and we are continuing to combat them.

A few words on the Bank of Russia’s function as a mega-regulator. We prioritise the development of all sectors of the financial market rather than of the banking sector alone, thus ensuring financial inclusion for households and businesses, as well as long money for the economy.

As I have mentioned, our country relied heavily on global financial markets until 2014 in terms of reinsurance, payment cards and ratings. Financial sanctions forced us to speed up the creation of missing elements of our financial infrastructure.

In 2016, we established a reinsurance company. The Central Bank capitalised it and it is already operating successfully in our market. We have relaunched the rating industry and, starting from this July, national ratings will be applied for regulatory purposes. We are motivated to make our rating agencies trustworthy for investors and information users.

We have launched the National Payment Card System. Let me remind you that in 2015 we transferred all domestic transactions made through international payment cards (VISA and MasterCard) to processing inside the country. They are now processed domestically. The year 2016 was dedicated to development of a payment structure for the MIR national card. Now, almost all ATMs and POS-terminals process MIR cards. The year 2017 is our deadline for the mass issue of MIR cards. Let me remind you that only two million cards were issued by the end of 2016, and now the number has grown to eight million. Our current objective is to smoothly transfer public sector and social payments to MIR cards.

Moreover, we have been responding to acute existing problems in the non-bank financial sector, primarily that of OSAGO. You all know how pressing it is. OSAGO policies have become unavailable in many regions. We introduced a single insurance agent in the 16 most affected regions. We think that OSAGO accessibility is growing because of the introduction of an e-policy that insurers must issue. As a result, the issue of e-policies increased more than five-fold (5.2-fold). A law stipulating repairs as a first-priority remedy was adopted. We will monitor that it functions appropriately and the rights of car owners are duly protected.

In 2016, we finished shaping the pension savings assurance system, and 41 funds out of 89 applicants were accepted to the system. The selection process was rigorous. The funds admitted to the assurance system improved their asset management structure, among other things. We test the stability of the system using stress tests currently under development for non-governmental pension funds.

Another innovation we are discussing with deputies is the introduction of so-called fiduciary responsibility, i.e. the responsibility of non-governmental pension funds to invest savings in such a way that they bring the highest profits and bear responsibility for the loss of profit if they fail to chose the best assets.

We are particularly focused on non-governmental pension funds as, in the new demographic environment and given demographic trends, the possibility to ensure decent retirement pensions is a source of long money. Therefore we proposed the concept of individual pension capital and hope that it will be enacted into law.

We are putting the market of microfinancing and microloans in order. This is also a sensitive issue. We introduced marginal interest arrears on microloans, which, in our view, civilises the market and allows us to further pursue this policy.

To conclude I would like say a few words on the future of the financial market and new technologies. We can see that new financial technologies are transforming not only finance but also customer relations and lifestyles, as financial services become available irrespective of customer location. Of course, this is developing unevenly and primarily in big cities. It is important to ensure the basic financial inclusion of small towns as well. We are closely monitoring this situation and the Central Bank’s approach is aimed at encouraging our companies to introduce financial technologies with an eye on risks, because financial technologies carry risks. As you know, risks, cyber-risks and cyber-attacks are on the rise. Therefore we have established a special centre to cooperate with market participants to prevent cyber-risks.

In conclusion I would like to say that the Central Bank has many objectives. Ever since we became a mega-regulator, we have more than 20,000 organisations under our supervision. We realise that our performance impacts both economic growth and the well-being of Russian citizens. Therefore, we take our objectives very seriously, so that financial stability and the development of financial markets contribute to the country’s sustainable development.

Thank you for your time!

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