In this paper we look at a number of factors surrounding the sharp increase in lending in Russia.

• First of all, we discuss the sources of loan growth and factors that have triggered rapid loan growth.

• Second, we consider the loan portfolio quality, singling out Sberbank and other state banks which could be prone to directed lending and could be subject to lax supervision.

• Third, we address the potential problem associated with the high exposure of banks to large borrowers and related parties, and concentration of loans to the oil and gas industry.

Our analysis shows that rapid loan growth was preceded by strong economic growth and is accompanied by increased investments in fixed assets. In 2003, loan growth was further boosted by the rise in cross-border lending and international bond issuances. The short-term nature of this foreign debt is one of the sources of vulnerability for the Russian banks. The quality and the structure of the loan portfolio has improved significantly in the last years, but the real risk may be hidden because of the negative real interest rates, high growth of loans and lack of transparency. Future loan growth will mainly depend on the success of the current banking reform.