On February 22, 2001, a joint International Monetary Fund and World Bank mission, a team of experts who specialize in banking issues, arrived in Moscow to study Russia’s banking system. Their arrival was preceded the previous week by an IMF mission which stated that progress in banking reforms was particularly important to support macroeconomic stabilization.
One month before the default and devaluation of August 17, 1998, we published an article in the Wall Street Journal entitled “How to Reverse the Upcoming Russian Bust.” The article was acknowledge by the IMF in a press release. In July 1998, we also published Fixing Russia’s Banks. In the book, we constructed a comprehensive balance sheet of Russia’s commercial banks and its financial system (combining the Central Bank of Russia with the country’s commercial banks). We showed that previous attempts by the IMF and international accounting firms had failed in their efforts to construct accurate, comprehensive balance sheets.
In two previous articles posted on this site, “Russia Has No Real Banks” and “Russia’s Banks are Corrupt and Unreformed,” we noted that Russia“s prime minister had acknowledged that Russia had no real banks, that the banking system was not working, and that banks were simply financial companies or financial departments of big groups that served themselves. The failure to reform Russia“s banks, said Russian officials, was hampering the development of a vital source of financing for restructuring Russian enterprises.
The same people, the IMF and its supportive foreign advisers, who repeatedly missed the boat all during the 1990s, are once again going to advise Russia on how to reform its banks. Is there reason to suppose that they will be any more successful this time? Do they have the expertise and competence to perform this task?
The February 23–March 1, 2001, issue of The Economist, reported that PriceWaterhouse Coopers (PWC), the world’s biggest accounting firm, had been involved in two of the most controversial audits in Russia. One, of the Central Bank, failed to find anything wrong in the shunting of large portions of Russia’s foreign currency reserves to an obscure offshore company, FIMACO. We published a comprehensive balance sheet of the Central Bank in September 2000, “How Big are Russia’s Foreign Exchange Reserves,” which highlighted some creative financial reporting in 1999 to mask the then low level of Russia’s reserves. A second PWC audit, of Gazprom, missed the fact that it was doing $1 billion a year of business with a little-known intermediary called Stroytransgaz, largely owned by relatives of Gazprom’s top management.
The article concluded: “Western auditors of Russian firms with listings in New York risk lawsuits there from investors who claim that Russian companies’ cozy links with related parties have been negligently ignored.” [emphasis added]
In a companion article, The Economist reported that Lukoil, Russia’s largest oil company, missed another promised deadline for publishing Western-style accounts. Lukoil’s repeated failure to publish meaningful accounts, in The Economist’s words, “is now a standing joke among Moscow financiers.”
When it comes to Russia, the International Monetary Fund has yet to demonstrate its ability to construct an accurate financial survey balance sheet. After the default, first deputy managing director of the Fund, Dr. Stanley Fischer, stated “We have been lied to.” This statement amounts to an admission of incompetence on the part of auditors and the IMF itself, which is required to accept audits as a routine part of its programs. Nor have leading accounting firms demonstrated their ability to perform accurate audits of Russian enterprises and banks. The international accounting firms set up Moscow subsidiaries and then typically close their eyes to the problems in completing comprehensive, accurate audits.
Chapter 2 in Fixing Russia’s Banks presented, side-by-side, what we called the standard balance sheet of Russia’s commercial banks and our own revised, comprehensive balance sheet. The side-by-side comparison revealed the inaccurate, incomplete, and wrongly classified assets in the standard balance sheet as of January 1, 1996, according to acceptable IMF conventions. Chapter 3 did the same for the commercial banks as of December 31, 1997, and also constructed a full monetary survey of the Central Bank and the commercial banks as of January 1, 1995, 1996, 1997, and 1998. We have yet to see evidence that the IMF or international accounting firms can remedy their previous shortcomings.
On March 1, 2001, leaders of the IMF said that they were creating a unit to anticipate and head off financial crises in countries to which the fund makes loans. The IMF wants to predict, but it ignores predictions available in the intellectual market in the public domain, as the one previously cited above in the Wall Street Journal article.
We might note in passing that the IMF failed to achieve macroeconomic stabilization in Turkey. Having urged, for several years, a crawling peg for the exchange rate of Turkey’s currency as the means to bring Turkey’s inflation rate into convergence with the average inflation rate in the euro member countries, the IMF recently reversed course. It urged Turkey to let its currency float, and then announced it would be necessary to prepare another macroeconomic stabilization plan, the latest in an unending series of stabilization plans, all of which have failed.