The Solution to the Russian Problem is Largely Political

The Solution to the Russian Problem is Largely PoliticalThe Central Bank of Russia announced on Wednesday, December 17, a series of measures to “support financial system stability,” put to the test by a historic collapse of the ruble earlier this week.

This list of seven technical measures presented in a statement aims in particular to facilitate access to foreign currency and to protect the banks’ accounting losses that could weaken the economy. The ruble that had already rebounded before these announcements, accelerated its progress.

This stabilization does not mean that Russia is out of the currency crisis or emerging countries have turned the page after the shock wave that had hit them in recent days. The decryption is provided by Ludovic Subran, chief economist of Euler Hermes, the worldwide leader in credit insurance.

The fall of several currencies (Turkish lira, Indonesian rupiah, etc.) in the wake of the collapse of the ruble recovery causes fears about possible contagion from the Russian crisis to the rest of emerging currencies. Is this a real risk?

The major emerging currencies actually face three problems: the state of domestic demand, the drying up of liquidity and correction – huge – for commodity prices. Investors have become much more demanding. This club of five that were the BRICS – Brazil, Russia, India, China and South Africa – had left dangling the possibility of the rapid emergence of a middle class and new consumer markets. This is what implied to the image of China; they change their business model and growth is increasingly driven by domestic consumption of households and businesses, as well as exports.

This transformation was more difficult and takes longer to set up than they had imagined. In other words, the major emerging countries have failed to reassure investors about the state of domestic demand. And when they try to do so, through their monetary or fiscal policy, it works less well than in advanced countries because the economic adjustment to the poor. We saw this recently with China, which has decided to stop further growth and to ask its economic agents to deleverage. But it did it too fast, too abruptly, and production fell. Stimulating domestic demand in emerging economies requires learning a certain finesse in monetary and fiscal policies.

Is there a real risk of drying up of liquidity?

Liquidity risk exists. It should not be underestimated. Investors are more selective, and rising still ahead of US interest rates may lead to less direct foreign investments, mergers and acquisitions or joint ventures in emerging economies, which benefited greatly in the 2000s; it would be a form of return to sender. A number of countries have depreciated their currencies to boost their exports. But their businesses today have accumulated high debts in euros or dollars, which creates a lack of liquidity pockets.

The depreciation of local currencies increases the risk of default and credit channels are less dynamic and less productive, it lacks the oil in the economic engines. The drying up of liquidity is particularly problematic in emerging countries with high current account deficits, such as Brazil, South Africa, India and Turkey.

Does the end of the commodity boom consistently undermine emerging economies?

What is certain is that the price of raw materials decreased in considerable proportions. Raw materials are the last actives to be corrected after sovereign debt and equity markets. Initially, investors adjudicated between different asset classes. But these trade-offs are coming to an end and at some point, there’s just less money available to households and businesses, less cash in circulation.

In Europe, according to some estimates, some 2.000 billion are missing, equivalent to the gross domestic product of France. Oil overproduction is also evaluated to 1 million barrels per day. There is no reason why oil prices rise without real effort by Saudi Arabia to reduce its production. The number of emerging countries affected by the drop in oil prices is important. Those whose economic resilience came directly from the oil money are in big trouble.

What about political risk?

Large multinational companies are afraid of a surge of protectionism in emerging countries on their strategic assets. China, Brazil, India and other countries, such as Indonesia, which has banned the export of raw nickel in China, have failed to convince investors or companies they really are attractive territories.

Volatility is really back and it is very difficult to say which emerging will be tempted to take refuge in a retreat into protectionism to shelter their production facilities or protect against the current turmoil. We lack a strong international governance, reinforcing volatility, increasing friction in the markets for goods, services and capital, and disturbing the value chains of global trade, as well as weighing on growth.

What is the specificity of the Russian crisis?

Russia combines all shocks – political, financial, oil, psychological – with growth that wanes at full speed and the beginning of panic in the population accompanying the plunge of the ruble. Threat of a recession in 2015 five times (- 4.7% – 4.8%) more than had been anticipated, Russia is going through a real crisis in the balance of payments, which the sudden rise in interest rates of the central bank that intervened Monday is not able to answer.

Foreign exchange rationing, after the example of Argentina, will not be more satisfactory because it ruins the reputation of the countries that implement it. There remains the possibility of strengthening of capital controls repatriated by investors and multinationals in their home country. Malaysia did that during the eight years following the Asian crisis of 1997-1998 and the policy had worked. For now, Russia is not there. Although its reserves shrank by $100 billion in one year, it still has one year before it reserves to cope with the crisis.

Nobody is interested in this country becoming another Iran or a new Venezuela. But the solution to the problems Russia is also largely political. The West can intensify sanctions or remove them, Russia may fail as in 1998 or decide to assume a protective role for its companies. In the opinion of Mr Hermes, there is a third way, that of the Russians themselves who, tired of the bad image of their country and its impact on their daily life, would make their opinion know to Vladimir Putin.

Is the decrease in the oil price to blame for the fall of ruble?

Among the reasons given for the precipitous decline of the ruble in recent months the sustained decline in oil prices is largely featured. Over the last six months, oil prices and the ruble against the dollar followed an almost parallel curve.

The observation of the course of the currencies of other major oil exporters, however, shows the peculiarity of the Russian case, also influenced by the conflict in Ukraine and the economic sanctions imposed by Western countries. If the Norwegian krone fell by 20% in six months against the dollar, it is far from the 45% depreciation of the Russian ruble.

Despite the fall in oil prices, Iran, Algeria and Iraq remains on the average of the Japanese yen or the euro, which also lost ground against the dollar (-10% in six months).

Unexpected effects of the fall of the ruble

Ricochet effects of the slide of the ruble, which fell for several days, affect both individuals and the large Russian fortunes as iPhone. Consequence of the oil drop and sanctions imposed by the European Union because of the Ukrainian crisis, the ruble, Russian currency, experiencing bouts of weakness against major currencies on the foreign exchange market. Among the ricochet effects of this slide, here are three that will astound you.

50 billion

If we take the 15 richest people in Russia, we see that their cumulative losses exceed $50 billion (€40 billion), according to data compiled by Bloomberg.

One of the Kremlin’s concerns is the capital flight; the failure of the central bank to curb the ruble collapse was back on the table the idea of administrative restrictions, for example by limiting the movement of capital. It could be done by capping convertible foreign currency amounts or transfers. For now, the authorities reject these solutions. However, they have already proposed a “total amnesty” for those who wish to repatriate their capital in Russia.

43,432 rubles

This was the price of an iPhone in Russia 6 until today, the equivalent of 560 euros, the lowest prices in Europe – and its price is 700 euros in France. Already increased by 25% last month, the price does not reflect the ruble value of the product, said Apple, which has simply decided to suspend its online sales in the country.

The company cannot adjust to the minute price fluctuations of the ruble and is therefore exposed to significant losses on its local sales. Many tourists enjoying their trip to Russia to bring copies of the smartphone find it to be much more expensive in other countries.

Other ricochet effects for international companies of the fall of the ruble, for the second time in a month, is the aircraft ticket prices that increased (14%), as well as the Nissan vehicles (3% to 5%).

+ 5 euros

On Euronext, a tonne of wheat has gained up to 5 euros in the end of January to 198.50 euros. Wheat has seen its course inflate by a quarter since September. The backwash of the Russian currency is largely responsible for this surge in grain price.

“The impressive fall of the ruble causes a spike in food prices in Russia with strong retention on the sale of producers, which translates into a mechanical rise in rates,” says consulting firm Agritel.

The Russian authorities said Monday to exclude a ban on wheat exports. But Moscow could increase the prices at which it purchases the grain produced in Russia to compete with foreign buyers.

According to experts in Russia, phytosanitary services began to control the grain loads and delay documents. A form of disguised embargo to push the Russian producers to sell in the domestic market and limit inflation.

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