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The East: Private Capital Flows Down Again For Region

  • Robert Lyle

Washington, 26 April 1999 (RFE/RL) -- The world organization of commercial financial institutions says it expects private capital flows into the larger nations of Central and Eastern Europe to drop more than 14 percent this year.

The Institute of International Finance (IIF) says private capital, in the form of direct and portfolio investment and bank lending, will decline to $36 billion in 1999, down from nearly $42 billion in 1998 and nearly $70 billion in 1997.

The IIF says the continuing drop reflects the effects of the Russian financial crisis -- investors and lenders remain adverse to the risks and are increasingly differentiating among economies on the basis of their economic management and structural reforms.

That is why the more advanced Central European nations of Poland, Hungary and the Czech Republic are, according to the IIF, expected to have sufficient external financing available to allow them to further build reserves.

For Romania and Russia, however, says the IIF, financing is likely to fall well short of the amounts needed for smooth servicing of external debts.

Capital flows to Russia are expected to be about 8,000 million dollars this year, but those are mostly what are called involuntary lending -- forced by the country's unilateral rescheduling of many of its government lending instruments and growing arrears on previous debt.

The Chief Financial officer of Netherlands-based ING banking group, Cees Maas, who is an executive board member of the IIF, told a Washington press conference Sunday that investor and business confidence in Russia was heavily damaged by the government's restructuring of its bonds and by the collapse of the Russian banking system.

It is a difficult situation and will it take a long time to restore that confidence, says Maas:

Maas said: "There will not be much restoration of capital flows into Russia. Fortunately, there are still companies that continue with direct investments -- fortunately so, on a lower level but nevertheless they do -- because in their vision, and I think correctly so, Russia has an enormous potential -- it is of course a very rich country as far as natural resources is concerned. The people are skilled. And so there is potential.

"But the restructuring will take long. They have a history of 70 years of not being open to any market forces and therefore it will take time before the international community will have restored the confidence and will invest in the country as they did before."

One thing that figured in both the Asian and Russian financial crises was the heavy use of short-term borrowing - loans which were quickly called, helping to precipitate the more serious aspects of the crises. The chairman of the IIF, who is also chairman of Britain's HSBC Holdings, John Bond, says the only long-run solution is for Russia to quickly adopt the laws and structure necessary for a market economy:

Bond said: "If you're going to have long-term lending into a country, then you've got to have long-term recipients and you need long-term market in the host country and that's what's absent in some of the countries and that's why part of the Institute of International Finance's position is to encourage host governments to put in place the infrastructure that allows longer-term lending to take place." Interestingly, equity investments into the region are projected to rise from $12.5 billion last year to $15.5 billion. Most of that is expected in portfolio equity investment. The largest drop is that of private lending, with the IIF projecting that commercial banks will cut their loans by half to the region this year while nonbanks will cut their lending by about 19 percent.

Net official capital flows, such as from the International Monetary Fund (IMF) and the World Bank, are projected at a negative $1.3 billion for the region this year because repayment of past loans will exceed new credits.

Globally, the IIF projects that net private capital flows to emerging market countries this year will remain about the same as last year, $141 billion compared to $143 billion in 1998.

Significantly, says Charles Dallara, Managing Director of the IIF, foreign direct investment -- where companies actually purchase or build production facilities or the like -- has remained solid throughout both the Asian and Russian crises:

Dallara said: "The sustained high level of foreign direct investment in the range of $100 billion, coupled with the impressive rebound we anticipate in portfolio equity, from an almost flat level last year of $2 billion to over $20 billion this year, demonstrates the power of spontaneous market reaction to sound policies. It demonstrates the willingness of many investors to look long term in spite of the short term turbulence. We are encouraged by these trends but it is important to recognize that confidence is still in the process of being rebuilt."

The IIF includes Bulgaria, the Czech and Slovak Republics, Hungary, Poland, Romania, Russia and Turkey in its definition of Central and East Europe.