Russian Deputy PM: Cyprus haircut was surprise to all

 

How much money did Russians lose in Cyprus? Who wanted the 'haircut' to happen and why? Will it kill the island's economy? And what is the future of offshore havens? This and more in our talk with Russia's Deputy Prime Minister Arkady Dvorkovich on SophieCo.

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Sophie Shevardnadze: There were several media reports, saying that there were from 5 to 30 billion euros of Russian money in Cyprus, most humble estimate comes from man who knows, the head of Cyprus central bank. So, from 5 to 30 billion euros - what’s your number?

Arkady Dvorkovich: I hate to play with numbers. Nobody knows exactly as some people put money in a straightforward way using their own names. Other people used friends in Cyprus or legal entities to hide names. I think the number is pretty big, certainly higher than 20 billion dollars. 30 is probably the right number, but again nobody knows exactly.

 

Sophie Shevardnadze: Why was there so much Russian money there?

Arkady Dvorkovich: Well Cyprus was convenient as a warm and friendly island not far away from Russia, easy to travel, jurisdiction is good, taxes are low and also banks are quite good and convenient to operate with money, to proceed with transactions across the world, to transfer money, to pay for services. And the rules of the game were known to everyone. Not just for Russians, many British people, Americans were using Cyprus as well. But again for Russians it was a close and convenient jurisdiction.

Sophie Shevardnadze: And it’s fair to say that Cyprus was the most popular offshore for Russia…up till now?

Arkady Dvorkovich: Yes.

Sophie Shevardnadze: Okay. Do you know how much Russia lost, approximately?

Arkady Dvorkovich: Few billion, but nobody will know until the whole story ends. So everyone who has money in Cyprus understands that most of the savings will be lost, but the percentage that people will be able to take away at the end is still unclear.

Sophie Shevardnadze: 30 billion is a lot of money. Why wasn’t Russian government more proactive in securing their assets in Cyprus?

Arkady Dvorkovich: Russian government protects savings that were made within Russia. Government should not care about savings that people made abroad.

Sophie Shevardnadze: But it was not just private savings though?

Arkady Dvorkovich: Most of the savings are private. State-controlled banks have subsidiaries in Cyprus…

Sophie Shevardnadze: Like VTB bank.

Arkady Dvorkovich: Like VTB bank… And the government was very active in protecting the property of VTB, as government is the main shareholder of VTB.

Sophie Shevardnadze: But did Russian government lose anything at all with this whole Cyprus story?

Arkady Dvorkovich: No. Russian government did not lose anything.

Sophie Shevardnadze: I mean the signs of this crisis were looming before March, and everyone really knew about it.

Arkady Dvorkovich: That’s correct, but the key thing that changed the situation drastically was the Greece bailout, as all European countries had to participate in saving Greece, and Cyprus as well. It was a burn in Cyprus balance sheet. And after that it became clear that Cyprus is in huge debt. Russia was actually helping with debt resolution for Cyprus, giving it quite a big loan and actually after the crisis in Cyprus we took the decision to improve loan conditions for Cyprus so that Cyprus could repay it in an easier way in a few years.

Sophie Shevardnadze: Did you personally see the signs of this looming? Did you think it was going to happen the way it happened?

Arkady Dvorkovich: All European countries are under stress. Southern Europe is under bigger stress. Nobody believed that Europe will take the decision to pressure Cyprus to withdraw part of deposits, I think it was not expected by anyone, by any economy, by any normal government. But major European governments decided that they don’t want to help Cyprus anymore. Cyprus should resolve its own issues. I would say for Russia it was completely unexpected - that solution for Cyprus will be to cut a share of deposit base there.

Sophie Shevardnadze: So no one was warned that it’s going to happen behind the scenes?

Arkady Dvorkovich: No.

Sophie Shevardnadze: But there was the Russia-EU summit in Russia in December or January or something like that… no one told you that it’s going to happen?

Arkady Dvorkovich: We knew that Cyprus is under stress. Cyprus government was requesting support from Russian government on a number of occasions. But we thought that Cyprus issue will be resolved in a similar way as the Greek issue.

Sophie Shevardnadze: When this whole thing was going on, Angela Merkel in particular was very adamant that Cyprus does not talk to anyone else but EU members - and particularly does not talk to Russia about this problem. Which was really weird, because how do you expect Cyprus not to talk to Russia when it holds 30 billion euros in Cyprus banks. So therefore – there is that conspiracy theory that EU was going to do it anyway, but with Russia having so much money in Cyprus there was an additional reason to do it - because it will also hit Russian money.

Arkady Dvorkovich: I know the arguments of such nature. But I think all the arguments were taken into account when the decision was taken so I would not exclude that German politicians or French politicians were thinking about Russia as well when they were taking the decision. But I don’t think it was the main argument. The main argument was: Cyprus is hurting the mainland of Europe by taking part of money that could go to Europe; and as Cyprus is a haven for big amounts of money Cyprus should resolve its problems on its own.

Arkady Dvorkovich: I think that Russia factor was not big.

Sophie Shevardnadze: Russian factor was icing on a cake.

Arkady Dvorkovich: Yes.

Sophie Shevardnadze: You heard so much talk in the media about ‘dirty Russian money’, ‘dirty Russian money’ being you know…

Arkady Dvorkovich: I think politically for Europeans it was important to mention ‘dirty Russian money’. But I don’t think it was the key argument. It was a good argument to present publicly, but not for pragmatic decision-making.

Sophie Shevardnadze: Here is a graph also we are going to take a look at – because there are a lot of speculations in western media that the top top Russia’s rich had their money saved in Cyprus.

“Money laundering is facilitated by generous provisions for rich Russians to gain Cypriot citizenship. Some 80 oligarchs have gained access to the entire EU in this way. In 2011 alone, some 80 bln flowed out of Russia and much of that money had been channeled through Cyprus”. A lot of people, I guess, in Russia felt like it was an additional vindictive reason …

Arkady Dvorkovich: Right, but I’m sure that most of the funds were conducted to Cyprus in a legal way. It was not money laundering, it was not dirty money. Rather dividends paid by legal companies, public companies to the owners of these companies, to Russian “oligarchs”. But it was not about money laundering. It was about better taxes. It was legal.

Sophie Shevardnadze: But what’s funny – you mentioned British money – it’s about quarter of the foreign investment in Cyprus … they did not make such a fuss about their money being cut off - why is that?

Arkady Dvorkovich: They were acting in a quiet way. But they were doing things as well

Sophie Shevardnadze: Do you think Cyprus is setting a line how Europe will act in future?

Arkady Dvorkovich: I think if Europe acts in a similar way in other countries it will lead to a disaster for their banking system.

Sophie Shevardnadze: Well, for Cyprus especially – they are trying to save its economy, but considering that 80% of their economy is based on financial services…

Arkady Dvorkovich: It is a disaster.

Sophie Shevardnadze: Who is going to put money in Cyprus now?

Arkady Dvorkovich: Nobody – for many years.

Sophie Shevardnadze: But also – I’m thinking globally - for Europe in general – could that be the reason for cash outflow from Europe in general?

Arkady Dvorkovich: Certainly – except maybe for German and Swiss banks – yes, Europe will be hurt, European banking system will be hurt by those actions since people will believe that if this happened in Cyprus it’ll happen in Spain, Portugal, Italy – why not?

Sophie Shevardnadze: On top of that Russian Prime Minister Dmitry Medvedev has proposed to create Russia’s own offshore. What’s the thinking behind it? Who is going to put money in a Russian offshore? Obviously Russians prefer to save money somewhere else…

Arkady Dvorkovich: The idea is that Russia can become one of the global financial centers or at least – one of regional financial centers. It was on the table long before the Cyprus crisis. When the crisis started in 2008 across the world and regulations in Europe, in the United States after the action by G20 started to get tougher, we saw that maybe Russia can actually be transformed into a better financial jurisdiction for the money that are not being held in Europe and the United States. And we started to draw regulations that will be more convenient for banks, for investment companies, for people. We started to reduce taxes on financial transactions, on savings and on dividends and it worked. The inflow of capital started in 2010, and we had pretty good situation. Then money started to go back, last year and this year, in a big outflow of capital. And we thought maybe after Cyprus we can make the case that Russian banking system is one of the safest.

Sophie Shevardnadze: Can we make that case?

Arkady Dvorkovich: I think so. I think that Russian banks have better capital position than many banks in Europe and the United States right now.

Sophie Shevardnadze: Explain.

Arkady Dvorkovich: Basically Russian banks were more conservative than most banks in the world. Our companies are always saying that it’s very difficult to get loans, get credits, interest rates are very high. That’s one side of the story. For banks that means that they are not putting money in risky transactions; and for people who save money in Russian banks picture’s bright and banks are not risking the depositors money.

Sophie Shevardnadze: Ok, who would be our clients? Because when you put your money in banks in America or Europe, you think that these are established economies, and nothing drastic can really happen tomorrow. When you think Russia’s economy globally, you don’t think that’s the safest, the most stable economy in the world. People who simply don’t understand much about banking system, they first think, I’d rather have my money saved with a bank in a stable economy. Do you know what I mean?

Arkady Dvorkovich: I think we should be pragmatic, nobody, I think, is thinking seriously, including prime-minister Medvedev that the whole Russia can become an offshore zone for the whole world. But Russia can become one of the convenient countries to work with capital. With 13% percent income tax, the key factor for individual investors, the low person income tax, Russia can serve as extra jurisdiction that can be used by investment banks and universal banks as well. Also we were thinking about making Far East one of the centers for money that have been invested in Asia Pacific region – as in Hong Kong and Shanghai right now. We took the decision to reduce corporate taxes in the Far East to make it easier, but again nobody is thinking seriously about transforming Russia into a huge offshore country.

Sophie Shevardnadze: Is it work in progress, are you working to make Sakhalin an offshore?

Arkady Dvorkovich: we will try to do this, but we are not trying to prioritize financial services in Sakhalin. Our goal is to make Sakhalin and Kuril Islands and Primorsky Krai, Vladivostok, Russkiy Island convenient for investments.

Sophie Shevardnadze: I wonder what Japan will say about that.

Arkady Dvorkovich: I think in the end, Japan will start cooperating with us even in Kuril Islands. From a pragmatic point of view, not a political point of view, going closer to Kuril Islands means putting money into Kuril Islands, rather than trying to take Kuril Islands from Russia.

Sophie Shevardnadze: Right. Here’s another graph. Let’s take a look at that. This graph actually shows that Western European countries generate more offshore wealth than anyone else in the world. It’s clear that EU wants offshores down and out of existence, right?

Arkady Dvorkovich: I think, offshores are part of normal life, and nobody is saying that offshores should be liquidated. Global economy will stop, if offshores cease to exist. The idea of international decision-makers is to make offshores more transparent, rather than to liquidate all offshores.

Sophie Shevardnadze: Right, but the feeling was that Russia and EU want to de-offshorize  the whole thing. That’s a wrong idea? They don’t want to close down offshores?

Arkady Dvorkovich: I think people who believe we can easily close offshores and things will go better… I think everyone should understand that if we you do this, you should reduce taxes domestically for the economy to grow. Economic growth is supported by offshores as taxes are lower, and people are investing huge amounts of money from offshores into mainland of their own economies and it supports the economic growth. If taxes will be put at the level they are in the mainland - like in Russia; we have 20% corporate income tax, 18% VAT, etc., - If the taxes across the world are at the same level, economic growth across the world will be much lower. But again, it doesn’t mean we should support existing offshores, we should treat them as normal way to put money in, but we need more transparency, we need to understand what’s going on.

Sophie Shevardnadze: What’s the future of offshores?

Arkady Dvorkovich: I think offshores will be used in a less intensive way, will be more transparent, governments will know who’s holding money in offshores and will try to tax more domestically to compensate for the losses. But governments will not try to liquidate all the offshores.

Sophie Shevardnadze: So this whole Cyprus operation we were talking about was carried out to actually keep the Eurozone going, to save the euro. What’s going to happen to them? Do you personally buy euros, for example?

Arkady Dvorkovich: Part of the savings across Russia are in euros, it’s normal, and part of our family savings, most of my wife’s savings – and it is known from our financial accounts, that are completely transparent – are in euros as well. That’s normal diversification of money, but most of our savings are still in roubles, not in euro.

Sophie Shevardnadze: Is euro safer than dollar at this point?

Arkady Dvorkovich: About the same. Exchange rates go up and down, but as far as quality of the currency is concerned, about the same. US economy is bigger, and US Federal Reserve is stronger than European Central bank. That’s clear, that’s why financial transactions across the world are in dollars. But euro is the second strongest currency. And we have rising currencies in Asia. And as China is lifting capital control step by step, year by year, yuan is getting stronger and will eventually become one of the reserve currencies across the world.

Sophie Shevardnadze: Currency wars is another huge topic, but I’m going to have you on another program to talk about that. What I want you to talk about shortly is BRICS. So BRICS is trying to create its own bank, because they figured that IMF and the World Bank are not dealing the way they should be dealing with their business. We spoke to Jacob Zuma, President of South Africa, recently when he was in Sochi and here’s what he had to say. Listen to that.

Video of Jacob Zuma, President of South Africa: This is a human cry from the developing countries that the established banks today or financial institutions are very discriminatory. They are not allowing parts of the world to participate. There’s been a lot of debate upon the need to transform financial institutions. They are resisting to transform. And the manner in which they are dealing with those who need to be helped, they’re using the rules that we established decades and decades ago. The world has changed, these institutions haven’t changed with the world. They are still dealing with matters in a manner they used to do. There will be very few countries, if there will be any, that would say as a result of them approaching these institutions they were able to grow and get out of trouble.

Sophie Shevardnadze: So first of all do you agree with what he’s saying?

Arkady Dvorkovich: In general yes, but for a number of years  BRIC countries were saying that we need a better World Bank, better IMF, better management in those Bretton-Woods institutions. The progress is very slow. Then the idea of creating BRICS financial institutions came to the table. I’d like to stress that the terms of references for these potential strong institutions are not ready and we don’t know what it will look like and when it will be really created.

Sophie Shevardnadze: Alright, but they’re talking about it – they’re talking about where it’s going to be set up, it’s actually a work in progress. It’s something viable.

Arkady Dvorkovich: But again, the nature of the institution and what it’s going to do is the most important thing – not the place where it will be located.  Certainly people are preoccupied with things like where it’s headquarters will be, etc. – I’d like to stress again – we don’t know.

Sophie Shevardnadze: Do you know how much Russia will contribute to it? No, we don’t know that either.

Arkady Dvorkovich: No.

Sophie Shevardnadze: So it’s a really far-off perspective.

Arkady Dvorkovich: Not far – but not ready yet.

Sophie Shevardnadze: But I mean, conceptually, do you see how it will be different from IMF or the World Bank?

Arkady Dvorkovich: The key differences are two things. One is focus on the developing world, and countries that BRICS countries are cooperating with.

Sophie Shevardnadze: So you won’t be helping Cyprus or Greece.

Arkady Dvorkovich: Well, maybe participating, but not really. And the second is the different kind of management with prevalence of professionals from new countries rather than US or Europe.

Sophie Shevardnadze: Would you be setting your own economic or political rules like IMF or World Bank usually do – they go into a country, they help them but they say “you need to change this, this and this in order for us to help you”.

Arkady Dvorkovich: The Russian position is that we should not put any political rules into the system – the reality is always more complex, and I cannot exclude that some political considerations will be taken into account, but again, for financial institutions I think it is not efficient to use political arguments within the decision-making process.