Russian banks recently passed the central banks stress test with flying colours, according to the central bank, indicating the sector is sufficiently stable if the economy grew by 5% this year.
However, promised liberalization reforms have not materialized, with the $1.6 trillion sector still dominated by just five banks, four of them state-run, which account for 80% of deposits.
As Russias economy transitions from the high-growth era of the Noughties into a new normal of low growth, the key challenge, analysts say, is a lack of capital spending and business investment, responsibility for which lies with the banks and the countrys difficult business environment.
Russia has a substantial gap between national savings as a percentage of GDP and economic investment. According to IMF figures, during the period 2000-2012, Russia had a savings-to-GDP rate similar to that of Korea about 30% but while Korea re-invested almost all of it, Russias investment rate was only about 20% of GDP.
There is a problem with recycling savings into investment, says Neil Shearing, chief emerging markets economist at Capital Economics. One legacy of Communist central planning is that Russia has almost a thousand small banks, which is about 700 too many for a country of its size.
Despite the number of banks, theres little competition and certainly none from the private sector which is an impediment to capital being allocated efficiently.
The prevalence of small banks, often lacking in risk-management expertise, creates a system biased towards small, short-term loans that makes it difficult for smaller companies to obtain the credit they need to grow, says Shearing.
The 2008 financial crisis was the trigger for some cleaning up of the banks and consolidating, but that has now stalled, he says. The government talks a reasonably good game in terms of reforming the sector, but in practice theres not much progress.
There are also issues concerning the quality of lending, levels of governance in banks and risk-management problems. [For example], one of the largest Moscow banks had to be rescued because of dodgy loans to the property sector in the capital.
The Bank of Moscow received an unprecedented $14 billion bailout in 2011 after $9 billion in bad loans were uncovered after a hostile takeover by the countrys second-largest bank.
Shearing says while he is bearish on economic growth, there is less immediate risk to the Russian banking system absent a sharp fall in oil prices than there is for China or Brazil, which have seen booms in corporate and consumer credit respectively.
Rising oil prices have gifted Russia an oil windfall of about $1.5 trillion during the past 10 years, according to Capital Economics that has meant it has avoided funding spending through debt as in many emerging markets.
The run-up in the oil price from about $20 per barrel in 2000 to $140 per barrel in 2008 also helped Russian GDP grow by an average of 7% a year in the previous decade.
However, with oil and gas accounting for at least 20% of the economy directly, another 20% indirectly and 50% of the federal budget, according to Fitch Ratings, Russia is vulnerable to falls in the price of oil. Its oil-dependency is arguably the single biggest issue facing the economy.
Up until 2007 the government saved most of its tax revenues from oil exports, building up foreign exchange reserves of $533 billion. However, since splashing out to mitigate the effects of the financial crisis, it has been spending on wages, pensions and welfare transfers, sustaining consumer spending.
With oil prices falling, possibly as low as $90 per barrel in 2014, Russia might be facing a squeeze on its public finances just as the dividend from its other drivers of growth market reform and utilizing Soviet-era spare capacity is fading.
Economic growth in the second half of 2012 and the first half of this year has been quite disappointing and Russian banks have struggled as a consequence, says Julian Rimmer, a trader in Russian equities at CF Global Trading in London. The smaller banks are really struggling because of the economic environment.
He says he is not convinced by forecasts for growth to improve in the second half and expects to see increased polarization in the sector, with the largest majority state-owned bank with almost half of all retail deposits consolidating its dominance.
From an equity standpoint, most foreign investors coming to Russia seeking banking exposure want liquidity first and foremost because theyve been burned in the past, so they want to buy things they can get in and out of, and that really only leaves the number-one bank, says Rimmer.
Banking reform is probably going to continue at a glacial pace and I dont think international investors are going to believe in it until they see it because of past experience.
Rimmer says Russia needs to diversify its economy but that only a crisis, such as an oil price shock, would compel it to change. As long oil stays above $100, the hydrocarbon sector will continue to attract too much capital away from the rest of the economy.
He concludes: Theres lots of talk about reforming all across the Russian market in every sector. Unfortunately, they always tend to over-promise and under-deliver.