Thursday, April 17, 2008

Loans for shares scheme may be upon us

Zimbabwe’s current situation closely mirrors that of Russia in the mid to late 1990s in many respects. Of particular importance President Mugabe finds himself in a situation similar to where President Boris Yeltsin found himself in 1996. Panic struck the Yeltsin team when opinion polls suggested that the ailing president could not win; members of his entourage urged him to cancel presidential elections and effectively rule as dictator from then on.



The president's inner circle assumed that it had only a short time in which to act on privatization “empowerment”: it therefore needed to take steps that would have a large and immediate impact, making the reversal of reform prohibitively costly for their opponents. The team quickly devised a plan to co-opt potentially powerful interests, including enterprise directors and regional officials, in order to ensure Yeltsin's re-election.



When Zimbabwe was implementing ESAP in the 1990s Russia followed similar trade liberalization policies as well . The process of liberalization would create winners and losers, depending on how particular industries, classes, age groups, ethnic groups, regions, and other sectors of Russian society were positioned. Some would benefit by the opening of competition; others would suffer. Among the winners were the new class of entrepreneurs and black marketeers that had emerged in the early 1990s.The trend is very similar to the various empowerment schemes that have been implemented in Zimbabwe over the last few years.



The new capitalist opportunities presented by the opening of the Russian economy in the late 1980s and early 1990s affected many people's interests. As the Soviet system was being dismantled, well-placed bosses , career politicians and technocrats in the Communist Party, the KGB, and the ruling party Youth League were cashing in on their Soviet-era power and privileges. Some quietly liquidated the assets of their organization and secreted the proceeds in overseas accounts and investments. This development could yet be replayed in the Zimbabwean scenario .Others created banks and enterprises in Russia, taking advantage of their insider positions to win exclusive government contracts ,tenders, exclusive licenses and to acquire subsidised loans and supplies at artificially low, state-subsidized prices in order to transact business at high, market-value prices.



During the same period, a few young people, with limited much social status, but with lots of entrepreneurial spirit, saw opportunity in the economic and legal confusion of the transition. During the period 1987 and 1992, trading of abundant natural resources and foreign currencies, as well as imports of highly demanded consumer goods and then domestic production of their rudimentary substitutes, rapidly enabled these pioneering entrepreneurs to accumulate considerable wealth. In turn, the emerging cash-based, highly opaque markets provided a breeding ground for a large number of racket gangs. Its clear Zimbabwe has followed a similar path. The black market has become the dominant market for all basic items. Whilst this has created opportunities for enterprising individuals it has left the state coffers bleeding during to the limited ability to tax such activities. The problem is worsened that some state enterprises have become main actors in black market activities especially in the case of foreign currency.



By the mid-nineties, the best-connected former leaders accumulated considerable financial resources, while on the other hand the most successful entrepreneurs became acquainted with government officials and politicians. The privatization of state enterprises was a unique opportunity, since it gave many of those who had gained wealth in the early 1990s a chance to convert it into shares of privatized enterprises. Zimbabwe has had its on start -stop privatization programme which has occasionally been put on the back burner. However in its place Zimbabwe developed its own unique empowerment model from the land reform to farm mechanization to subsidised funding .Whilst the intentions are noble what has been queried in both countries is the after effect results plus the skewed distribution of the beneficiaries.



The Yeltsin government hoped to use privatization to spread ownership of shares in former state enterprises as widely as possible to create political support for his government and his reforms. This presents a clear similarity with the Zimbabwean land reform. The government used a system of free vouchers as a way to give mass privatization a jump-start. But it also allowed people to purchase shares of stock in privatized enterprises with cash. Even though initially each citizen received a voucher of equal face value, within months most of them converged in the hands of intermediaries who were ready to buy them for cash right away.



As the government ended the voucher privatization phase and launched cash privatization, it devised a program that it thought would simultaneously speed up privatization and yield the government a much-needed infusion of cash for its operating needs. Under the scheme, which quickly became known world wide as "loans for shares", the Yeltsin regime auctioned off substantial packages of stock shares in some of its most desirable enterprises, such as energy, telecommunications, and metallurgical firms, as collateral for bank loans.

The scheme had at least three desired outcomes. Firstly to make any policy reversal very expensive and complicated for Yeltsin’s rivals should they win power .Secondly to raise cash for a cash strapped government which was running out of sources of money after printing money had caused massive inflation and currency collapse. The third desired result was to extend patronage , buy loyalty and support from the new and fast developing capitalist class.



Whilst the initial transaction is disguised as a loan it is in fact a deeply discounted outright disposal of a valuable state asset at a fraction of its value. This is clear since the state is in fact bankrupt which is why it is engaging in such a transaction. And it well known upfront that the state can not repay the loan and as such the security for the loan (shares) are already exchanging hands permanently.



When the rumour mill went into over drive speculating that one of Russia’s most well known billionaires was in Zimbabwe ahead of a crunch election one should be forgiven to think Zimbabwe was just about to unveil its own mini version of loan for shares scheme.

In exchange for the loans, the state would hand over assets worth many times as much. Under the terms of the deals, if the Yeltsin government failed to repay the “loans” by September 1996, the lenders would automatically acquire title to the shares and could then immediately on-sell the stock or take an equity position in the enterprise.



The first auctions under the loans for shares scheme were held in late 1995. The auctions were usually structured in such a way so to limit the number of banks bidding for shares and thus to keep the auction prices extremely low. By summer 1996, major packages of shares in some of Russia's largest firms had been transferred to a small number of major banks, thus allowing a handful of powerful banks to acquire substantial ownership shares over major firms at shockingly low prices. These deals were effectively giveaways of valuable state assets to a few powerful, well-connected, and wealthy individuals.



This trend creates very powerful interest groups who have to be co-opted into any change in the status quo agenda.Zimbabwe has some valuable assets which could end up going this route. In addition under the recently passed 51% local ownership law the requirement to cede or sell a stake to the state can easily end up feeding such a scheme. This would be possible since the certain businesses would be forced to sell or give up stakes to the state .The state would in turn liquidate such acquired stakes through its own version of loans for shares scheme.

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