Russian banks ended 2023 with a record RUB3.3 trillion ($33.3bn) in profits (adjusted for dividends), up by about half from the 2021 result, the last year of normal operations, according to the Central Bank of Russia (CBR). (chart)

Thanks to a banking sector clean up that was launched by CBR governor Elvia Nabiullina when she took over in 2013 and is largely finished now, Russia's banking sector went to the war in robust health and has been able to shrug off the multiple external shocks that the sanctions regime delivered.

The collective West was hoping to induce a financial crisis in Russia with the first round of extreme sanctions that were imposed in the first week of the outbreak of war almost two years ago, including the SWIFT sanctions that were largely unexpected, but fast action by the CBR to stabilise the situation headed off any disaster.

With the domestic market running hot, unemployment driven down to a record low of 2.9% and real incomes rising thanks to the military Keynesianism bump, conditions for banks were good in 2023 as they continued to work normally.

Banks earned monthly profits of around RUB250bn consistently throughout the year (chart), although those profits fell to only RUB64bn in December, due to a range of one-off factors including dividend and end of year bonus payments, recognizing losses on old problem corporate loans and a traditional year-end increase in operating expense, which were up 38% to RUB352bn.

“Profits were driven by the recovery of core income, significant reduction in reserve expenses, and substantial income from currency revaluation,” the CBR said in its monthly report for December. “However, this result should not be viewed in isolation from the weak results of 2022 when the sector earned around RUB0.2 trillion. The average profit of the sector for 2022-2023 was RUB1.7 trillion, which is 27% lower than in 2021.”

The main headwind the sector will face in 2024 is high inflation which was running at 7.5% at the end of 2023, but the recent weekly inflation results suggest that a CBR 100bp rate hike in December is already having its desired effect and annualised weekly inflation in the last week of January was already down to 7.2%.

At the end of the year, the number of profitable banks reached 292 (90%) with a share in the sector's assets at 99%, significantly higher than in 2022.

Loans

The corporate lending growth rate was 1.8% in December, down from 2.0% in November, but still relatively high for December, according to the CBR.

“One of the reasons for this is the need for companies to secure funds for their ongoing operations, as budget payments at the end of the year were not disbursed to all government contract performers and remain in the Federal Treasury,” the CBR said.

Overall, corporate loans grew by 20.1% in 2023, significantly exceeding the 2022 result of 14.3%, due to financing of current operations as well as implementation of new investment projects as part of Russia’s sanction-induced economic transformation.

One of the surprises following the imposition of the extreme Western sanctions was instead of reducing production and conserving resources, Russian companies largely chose to aggressively invest into retooling their production to address new realities of supplies.

Financing of transactions involving non-residents exiting Russian assets (approximately RUB0.5 trillion) and continued external debt substitution around RUB2.5 trillion, mostly in the first quarter of last year, was ongoing.

The volume of foreign currency loans have naturally decreased after Russia was cut off from dollars in 2022, but has now fallen to very modest levels; FX loans volumes were a moderate $3.1bn compared to a reduction of $30.2bn in 2022.

“However, there was a trend towards an increase in foreign currency lending in 4Q23 (up RUB401bn rubles in ruble equivalent), primarily issued in currencies of friendly countries,” the CBR said. One third of currency loans in Russian banks’ portfolios is now yuan-denominated, the CBR says.

After fearing the emergence of the consumer loans bubble, consumer lending is expected to have decreased by 0.1% in December, due to the impact of macroprudential restrictions by the CBR and rising interest rates following the rate hike in December. “Banks have significantly tightened borrower selection criteria,” the CBR reports as a result of the tightening of criteria.

“Overall, consumer loans grew by 15.7% in 2023, following the low results of the crisis-ridden 2022 (+2.7%), but this is only slightly below the 2021 result (+20.1%). In general, it can be said that the tightening of monetary and credit policies and macroprudential regulation contributed to cooling down consumer lending to a moderate level after active growth from May to August (+1.7-2.4% monthly),” the CBR said.

Nevertheless, the mortgage loan market remains buoyant, partly thanks to the Kremlin’s decision to extend a subsidy programme. In December, RUB785bn ($8.7bn) of mortgage loans were issued, a moderate increase of 8% compared to RUB726bn rubles in November.

Mortgage lending is being used by the Kremlin to indirectly support the banking sector, the construction sector and so, indirectly, the economy. (chart)

The main contribution to mortgage lending came from loans with government support, with banks disbursing RUB655bn, up 21% y/y, compared to RUB540bn in November. Both the "Discounted Mortgage" (increasing to approximately RUB280bn from RUB233bn in November) and "Family Mortgage" (rising to approximately RUB284bn from RUB241bn rubles) saw increased disbursements. Market-rate mortgages, on the other hand, decreased significantly by 30% compared to November, totalling RUB131bn.

In November, the share of non-performing loans continued to decrease in almost all lending segments thanks to the improving health of the economy. In the corporate portfolio, it decreased from 5.4% to 5.1%, in unsecured consumer loans from 7.9% to 7.8%, and remained at 0.6% in the mortgage segment. The reduction in NLPs was also due to the tightening of macroprudential regulations, and in the corporate segment, it's related to the resolution of significant problem debt, the CBR said.

Deposits

In December, the growth rate of corporate deposits doubled compared to November to RUB2.7 trillion ($77.4bn), up 5.2%, largely driven by inflows from budget expenditure financing connected to the war effort.

Overall, in 2023, the increase in company funds reached 14.7%, which is nearly one-third lower than the result for 2022 (20.6%).

The main growth was observed among oil and gas, mining, and metallurgical companies who are also benefiting from export generated revenues.

During this period, ruble balances increased to RUB7.1 trillion, up 18.2% y/y, while foreign currency balances decreased $3.2bn , down 2.7%.

There was also a significant seasonal increase in household deposits in December by over 6.9% to RUB2.9 trillion, comparable to the growth in December 2022 (+7.6%), driven by the traditional advance payment of January pensions and Christmas bonuses.

Liquidity

Given the robust loan growth, falling NLPs and strong deposit flows, the liquidity in the banking sector remains healthy and remains an important pool of cash that the Ministry of Finance (MinFin) can tap should it need to increase domestic borrowing to finance the deficit. Currently, the CBR estimates the liquidity pool in the banking sector is a whopping RUB18.7 trillion ($208bn) or more than double the liquid part of the National Welfare Fund (NWF), Russia’s rainy day fund that can be used to cover budget shortfalls.

The reserve of ruble liquid assets (comprising cash, claims on the Bank of Russia, and unpledged market collateral) increased by RUB1.9 trillion rubles in December. In particular, balances at the Bank of Russia grew by RUB1.4 trillion rubles due to a significant inflow of customer funds.

While the system is flush with ruble assets, the reserve of foreign currency liquidity decreased noticeably, from $48.9bn to $44.7bn, mainly due to reduced balances in accounts held by non-resident banks, as a result of the increase in foreign currency lending and the reduction in foreign currency customer funds the CBR reports.

Access to dollars remains a problem for Russia and in the first months of the SWIFT sanctions the liabilities due to just the population were vastly greater than the dollars in the banking system; the CBR slapped strict withdrawal restrictions and capital controls to limit access to dollars. However, after two years the pressure has eased thanks to the yuanization of the banking sector.

Nevertheless, Russia remains short of dollars and the Kremlin recently re-introduced mandatory foreign exchange surrender requirements on selected state-owned companies that export and earn dollars to ensure a supply.

Russia is currently earning around $180bn a year from oil exports alone and some of this money is flowing back to Moscow that is a source of dollars. However, much of this money is not showing up in the national accounts. In 2023, the current account surplus is expected to finish the year at around $50bn, down from over $250bn in 2022, despite the fact that Russia’s oil exports have almost entirely evaded sanctions. It seems that oil companies are not repatriating all their cash to Russia and a significant slush fund, currently estimated to be worth some $140bn, is accumulating in offshore bank accounts under the control of the oil companies. It is assumed that the Kremlin is tapping this dark pool of money to fund Russia’s ongoing imports of technology and other banned goods.