(ESTIMATED PUB DATE) SOVIET-OWNED BANKS IN THE WEST

Created: 10/1/1969

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DIRECTORATE OF INTELLIGENCE

Intelligence Report

Soviet-Owned Banks in the West

CIA HISTORICAL REVIEW PROGRAM RELEASEAS8

CENTRAL INTELLIGENCE AGENCY Directorate of Intelligence9

INTELLIGENCE REPORT

Soviet-Owned Banks in the West

Introduction

The rapid growth of East-West trade since the3 and the concomitant rise in requirements Cor convertible currency to finance it have beenin the expansion of Soviet banking activities and institutions in the West. This report examines the role of Western-based Soviet-owned banks in the financing of East-West trade, their operations in Western money markets, and the growth of these banks in recent years.

is report uas produced solely by ClA. I* wasy th* Office j; Eaoncmio Research.

-is

Background and Recent Growth

1. Since the return to convertibility in Western Europeoviet-owned banks in the West have played an increasingly important role in theof East-Westhich increased from7 billion toillion in the. Moscow Narodny Bank (MNB) in London and Banque Commercialeurope du Nordn Parisoth relatively small in the pre-world War II erahave developed into large and diversifiedinstitutions. MNBranch in Beirut Another bank, Wozchodas added in Zurich* The total assets of the Soviet-owned banks exceededillion at the endompared with0ecade earlier (see the table).

Assets of Soviet-Owned Banks in the West

Million

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of the USSFt, Bulgaria^ Czechoslovakia, East Germany, Hungary, Poland, and 'Romania aith the non-

CEII ie commonly knoun by ite cable address,

s so-Iranian Bank in Teheran had already been established It is net concerned vith East-West trade psr se. escription of its history and functions, see Appendix A.

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The handling of nast-West trade could bo left entirely to Western banks, but the presence of these Soviet-owned banks in the West offers certainto the USSR. Their successful development, for example, has enhanced the ability of the USSR to gather commercial intelligence, to enter the foreign exchange and Eurocurrency markets, to tap outside sources of funds, and toegree of secrecy in its convertible currency dealings. Moreover, in recent years MNB and BCEN have been profitableeachoturn on capital ofercent or more. Profits of the Soviet-owned banks combined exceeded S4 million In addition, these banks, in their capacity as overseas representatives of the USSR, give the Sovieteasure of control over the credit made available to other Communist countries and even to some less developed countries.

The State Bank of the Soviet Union <Gosbank) and the Foreign Trade Bank of the Soviet Union (VneshtorgbankJ are the major shareholders of the Soviet-owned banks in the West, and the general policies of the Western-based Soviet banks are under the direction of Soviet authorities. Soviet citizens generally occupy the key top posts, but the banksare staffed by local nationals who aretheir banking expertise rather than ideological The bank managements adhere to the laws and customs of the countries in which they are incorporated and are largely autonomous in operational matters, especially in fields where their activities areby commercial considerations or accepted Western practice .

These banks provide banking services and financing of Western trade for the USSR and other Communist countries (particularly in Easterno an increasing extent they have become involved in financing trade of r. or.-Communist countries as well. Aside from foreignade activities they act as agents for Soviet tand occasionally East European) gold sales in the West, handling gold contracts and deliveries. The Soviet-owned banks also offerservices to local customers, including theof current and time deposit accounts and the provision oftans to private companies.

Some of the activities of the Soviet-owned banks may be ascribedesire for their own institutional growth and profits rather than the promotion of East-west trade, but by expanding and diversifying their operations these banks have enhanced their ability to provide financing and banking services for East-West trade and have helped to build the financial reputation of the Communist countries. By developing local customer relations, these banks have increased their deposits of Western currencies and have expanded the possibilities for the profitable use of their funds.

Moscow Narodny Bank

was originally established in Londonas an agency of the Moskovskiy Narodny Bank fter the revolution, iteparate legal entity. NBofillion and branch officesBerlin, and New York. With theWar II, and finally the cold war,fell off, branches were closed, and As lateNB's assetsillion, and its business was to remaina few more years. tshave expanded rapidly and its activitieson new dimensions.

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assets at the end8omeimes greater thanwo-thirds* of its assets consist ofloans; less than one-third are in the formheld with banks and correspondents. Thein MNB's resources over the years haslargely through the increases in balancesit by banks and correspondents, both Western

and Communist.*" These balances,omprised almostercent of MNB's total resources, and about half are Communist held. MNB's resources also have been supplemented by the

Based'/ data, the latest year for uhich detailed data are available. h'or further- details, see Appendix 3.

aeorrespondents in SO cauntnes.

use of rediscount facilities in London, where MNB acceptances command the most favorable rates, and from successive increases in capital and reserves, which increased fron less thanillion8 toillion Net profits also have risen, reaching almostillion8 compared with0

in addition to promoting and financing East-West trade, MNB provides some financing for Western exports to less developed countries. MNB also is active in foreign exchange and Eurocurrency markets, as both borrower and lender. NB hasrincipal in the sale of Eurodollarof Deposit (CD's) and,f sterlinq CD's .

InNBranch in Beirut, Lebanon. The primary motive for the move into this important financial center evidently was the need to facilitate banking operations in an area where Communist trade was growing rapidly. The emphasis in the Beirut branch, according to its head office, is

on the financing of East-West trade, said to be the largest single type of finance extended by the Beirut office. It is also involved in foreign exchange, operations. The London office claims that the Beirut branch is "foremost among che banks operating in Lebanon." Its assets (included in the total for MNB) may0 million or more. There is no recent information on its profits, but they probably have grownhen they were stated to be0 .

Banque Commerciale pour 1'Europe du Nord

was founded in Paris1 by awealthy Russian emigres, who sold out toin Unlike MNB, BCEN experiencedin the immediate post-World War II period. BCEN had assets of less thanercent of MNB's total assets at the time.

By BCEN's assets had reachedight times those of MNB. This more rapid growth apparently was related to the confidence that

Moscow had in the BCEN manager at that time, Charlesrompting it to make funds available to (and channel business through) BCBN rather than MNB.

bcrn's assets at the endata are not available)4 million, roughly the same as MNB and about four times thoseb. MNB, the largest proportionalmost 80 of BCEN's assets were in the form of cash, mainly deposits with banks andnly about one-fifth were allocated to advances and loansthat ia, for the direct financing of trade. On the opposite side of the ledger, virtually all of BCEN's resourcesmore thanercontame from deposits by banks and correspondents, moat of the remainder from capital and reserves. BCEN's net profit1 million7 compares favorably with MNB's profit ofillion

The high proportion of cash on the assets side and the correspondingly small proportion used for commercial loana and advances indicates that BCEN does relatively little direct trade financing. Instead,

it hasumber of its Western correspondent banks to provide such trade credit. onsiderable proportion of BCEN's deposits with its Westernhave served to secure lines of credit at these banka, primarily for Ccaanunist imports from the country in which the Western bank is located. basicallyinancial intermediarys opposed to the direct financing of East-West tradeBCEN is probably even more actively involved in Eurocurrency markets than is MNB.

Wozchod.

ozchod Handelsbank,of tha Soviet-owned banks in the West, was

* Hilsum,aturalized Frenchman of Russian origin, vis slosely associated vith zhe French Communist Party.

See Appendix 8. BCEN has

established in Zurich, Europe's chief financial center. One of the major motivations for Wozchod's establishment may have been the Soviet desire toew and major source of Eurocurrency funds; another motive may have been the greater secrecy in monetary operations, including sales of gold, in Switze land.

Handelsbank has grown rapidlyestablishment Its initialillion increased to aboutillion in

By the end of8 the bank's assetsperccnt increaseozchod's net profitsere three times those

Role of the Banks in East-West Trade

The primary stated function of the Soviet-owned banks in the West is to facilitate Soviet trade with Western countries. The charters of BCEN and Wozchod Handelsbank specifically state that their purpose is to develop Soviet trade with France and Switzerland, respectively. MNB, however, refers to itself more generally by its "secondthe Bank for East-West Trade." In practice all three banks provide their services to other Communist countries, including Yugoslavia, as well as to some of the less developed countries. The services are the same as those generally provided by Western banks specializing in international payments and include 3uch items as making and collecting payments, direct financing, rediscounting, and processing trade documents. The Soviet-owned banks also provide the Communist countries with general commercial intelligence, particularly that pertaining to East-West trade. Through their credit departments and contacts with their Western correspondent banks, they can obtain current credit information on Western Importers and exporters that normally would not be available to Communist foreign trade firms and banks.

The trade financing offered by the Soviet-owned banks is similar to that offered by any large western bank handling lr.-crr.atior.a] payments. loans are primarily cor periodssix months or less, some longer term financing is offered, especially

for trade in capital equipment. Because of their limited resources, however, the Soviet-owned banks are largely restricted to short-term financing. the USSR and East European countries have had to turn increasingly to Western sources to obtain the medium- and long-term loans required for their expanding imports of machinery and equipment from the West. Over the past decade they have borrowed several billion dollars from the Westchiefly in the form of government-guaranteed supplier credits and other tied loans. According to NATO sources. East European medium- and long-term indebtedness to the West is now about S2 billion. Soviet indebtedness is estimated at0 million.

credit facilities available to theEastern Europe do not, however, provide forDuring the past decade the hardpayments positionsumber of thesefrom time to time required some of them toon imports of equipment and materialsindustrialization programs and, in the case of

the USSR, have resultedevere drain on gold reserves. The current interest being shown by the USSR and other European Communist countries in the International Monetary Fund (IMF) might .indicate that they are seeking the additional flexibility in international payments that membership in IMF would provide. The likelihood of their seeking membership under prosent conditions is virtually nil,f only because these countries would be loath to reveal data on their financial reserves, such datatate secret.

Involvement in Western Money Markets

and BCEN (and presumably Wozchodbeing located in the leading Europeanare active participants in both foreignand Eurocurrency markets. BCEN becameEuropean foreign exchange markets beforebecause of its earlier post-Worldizable international bank andVfi relations with Western correspondents,

many of which provide trade credits in foreign MNP began to play an active role in the

-SECRin'

IB. MNB and BCEN were among the first European banks to become involved in Eurodollar transactions, in thas. At first they wero primarily lendersa result of the unwillingness of their Communist correspondent banks (Gosbank, Vneshtorgbank, and the central banks of special foreign trade banks of tho Communist countries) to hold more than working balances in US banks, apparently feeling that if East-West relations deteriorated, their Western currency balances in European banks would be safer {that ia, less likely to be blocked by government authorities) than balances held in the United States. The Communist countries, however, wero unwilling to exchange their dollar balances for the then less convertible Western European currencies. esult, Soviet and East European banks began to hold some of their dollar balances in MNB and BCEN, which in turn lent them at profitable rates of interest in the Eurodollar market. The liberalization of exchange controls in Europe8 increased the flexibility of the Eurodollar operations and allowed the development of active markets in European currencies as well as US dollars.

19. The position of MNB and BCEN in Eurocurrency markets gives the USSR and East European countries additional flexibility in financial relations wiph the West. By building up their credit standing,'MNB and BCEN have been able, when necessary, to become net borrowers in Eurocurrency markets. 'The ability to borrow in these markets serves both to augment the trade credit otherwise obtainable in the West and to cushion the disruptive effects of large emergency withdrawals by communist or Western corrospondents. In addition, the excellent reputations that MNB and BCEN have established in Western currency markets enable them to attract Eurocurrency deposits at prime ratesa factor of great importance for profitable operations. By building these reputations, MNB and BCEN have also been instrumental in establishing the credit-worthiness of the Communist countries and institutions associated with them. Wozchodthe newest Soviat entry in the Western banking world, undoubtedly will share in the confidence earned by MNB and BCEN.

Gold Sales

20. In addition to normal banking duties, banks in the West act as agents forand, occasionally, for other Communistsales of gold in the West. In the past,the major gold market in the world because ofrole of the Bank of England both in theand in acting as agent for sales of South Accordingly, most Soviet gold was soldwith smaller quantities sold inParis. Because the central banks of theTen maintained the price of golderUSSR had to accept this price to be able tolarge lota. Smaller marketsfor example,Hong Kong, with their higher priceswouldbeen able to absorb Soviet sales. Undertwo-tier system, the USSR caner ounceon the free goldlarge lot sales might depress the price ofthe old system the USSR receivedbut that price was guaranteed. Now theit desired to sell gold, would have to beand sell smaller amountsinParis, and Beirut""to avoid puttingpressure on the

Initiatives for New Banking Facilities

21. Over tho last four or five years, Soviet banking officials have indicated an interest in the establishmentanking facility in New Vork. Tha present volume of US trade with the USSR clearly does not calloviet bank in the United States, the present business being handled by US correspondents of Soviet banks. Certain advantages would accrue to the USSR, however, if it were toanking facility in the United States. It could, for example,

mall markup on farvard tales. ** The major world gold markets are, in order of importance, Zurich, Londoi, Paris, Frankfurt, Beirut, and Hong Kong-Macao.

make use of the New York money marketupplement or alternative to the Eurocurrency market. This market also couldource of additional dollars should Soviet dollar-financed trade, say with Latin America and Africa, be expanded. In addition, there is the prestige ofank facilityity which, many experts believe, will become the financial center of the world. Finally, there is the additional secrecy which would be imparted to the USSR's banking operations in the United States with funds being channeled through its own facility ratherS bank

late7 the establishment of abranch of MNB appeared imminent. filed, directors were named, and officialpermission was expected. An impassehowever, and the branch office wasthus ending negotiations which hadthe works for several years. ovietin Frankfurt would provide the USSRmoney market to tap, as wellocation

in the only major world gold market where it does not now have one. while past efforts for the placementank in Frankfurt have not been fruitful, the possibility of an eventual establishment of such a* facility should not be written off.

j

Conclusions

banking facilities in theflourished in the past decade with theEast-West trade. These banks have developedbanking institutions and togetherin excess ofillion. Throughto sound Western banking practiceprompt payment of obligations, theyto build their financial reputation. Todegree, this reputation has enabledattract Western deposits. Those barfks havecorrespondent relationsargeWestern banks as well as with banks of thecountries. The growth in the financialthe Soviet-owned banks has come in large part

from the deposits of banking correspondents both western and communislather thanrowth in equity capital provided bv tho ussr.

chief function of the Soviet-owned banks

is to facilitate East-West trade and, in this capacity, they collect and make trade payments and provide trade financing, largely short-term. MNBarge volume of short-term credits, but BCEN provides only limited short-term financing of trade, holding most of its resources as deposits with correspondenthare of these deposits with Western correspondents serves to secure lines of credit provided to BCEN by these banks for the financing of East-West trade. The Soviet-owned banksumber of other functions, including the provision of banking services to local customers. They also act as agents in the sale of gold by the USSR and other Communist countries.

Soviet-owned banks are activethe foreign exchange and Eurocurrencythey are both borrowers and lenders. AccessEurocurrency market provides additionalfurnishing funds to the banks' CommunistSoviet-owned banks are largely restricted tofinancing,mall amount of longerhas been made available to Communistpurchase machinery and equipment. To obtainand long-term financing required forof capital equipment, the Communisthad to go to Western sources. Overthe USSR and East European countriesseveral billion dollars from the Westgovernment-guaranteed supplier creditshave an outstanding indebtedness of abouto

S3 billion. The demand of these Communist countries for credit reflects chronic difficulties in their hard currency balance of payments. The current interest being shown by the USSR and other European Communist countries in the IMF might indicate that they are seeking the additional flexibility inpayments that membership in the IMF would provide.

recent years the USSR has shown somein opening banks in Frankfurt and in Newtwo remaining major Western financialthere are no soviet-owned banks. Theopening branches at these locations would beas for the others. Having its own facilities

in the West has provided certain advantages to the

USSR, including the ability to gather commercial intelligence, to tap outside sources of funds, to engage in and profit from foreign exchange andmarkets, and toegree of secrecy in its financial transactions.

The Russo-lranian Bank (RIB) was established under joint Soviet-Iranian ownership in Teheran 4 the USSR assumed complete ownership, with Vneshtorgbank holdingpercent interest and Gosbank holding the remainder. Originally, RIB was called the Banque Russo-Persane and had branchesIran. Thiaeriod of extensive Soviet-Iranian economic cooperation. IB was ono of the largest banks in Iran,apital of about S5 By way of comparison, the National Bank of Persiaaid-up capital of slightly morealf-million dollars in that year. RlB's capital9 had grown toillion.

No information is available on RIB'a assets in this early period, but the size of its capital suggests that it was at least as large as MNB, whose total assets (not merely capital) were valued atillionefore its business began falling off. With the cessation of Iran's foreign trade during World War II and later during the cold war period, RIB's capitalizationnd presumably its business, toofell.

4 RZB's capital was valued1 it stood at For aboutears, little was reported about tho bank'sor existence. InIB's total assets were valuedillion and its paid-up capital was valued3 million. ByIB's total financial resources increased todue primarily to the tripling of equity capital which grew to almostillion. The increase in the bank's equity capital coincides with the return to closer Sovict-lrar.ian economic relations, and RIB may wellore active role in the financing of future Soviet as well as East European trade with Iran.

RIB maintains correspondent relations with the

Deutsche bank in Hamburg and with the Irving Trust

Company and the Chase Manhattan Bank in New York. Chase

Manhattan hasorresoondent since at least the earlys.

Balance Sheets of Moscow Narodny, Limited, and Bangue Comnerciale pour c:rd as ofecembera/

US S Percent

Million US S Percent

Capital Reserves

Correspondent and

other deposits Bills rediscounted other

Assets

Cash and banks a/ Advances and loans Securities Other

a. categories are not entirely conparable.the mn3 balance sheetategory called "short-termnot included in the bcf.li balance sheet. this category is lumped into "cash and banks."

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