Russia central bank attempts rouble crisis circuit-breaker

Sid Verma, Solomon Teague
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Analysts support the Central Bank of Russia’s (CBR) response to the collapse of the rouble, arguing it will shift market expectations and could stabilize the currency in the medium-term. In an interview with Euromoney before the move, a CBR official discusses the opportunities and challenges in the regime shift.

Ksenia Yudaeva 600
Ksenia Yudaeva, CBR first deputy governor

The circumstances surrounding the rouble sell-off are different to those around typical emerging-market (EM) currency crises – not least Russia’s strong government and current account, and its net foreign asset and FX reserves – but, to some analysts, there are also uncomfortable similarities.

"The rouble devaluation is running in line with prior major EM currency crises," warns Chris Turner, head of FX strategy at ING, highlighting the enormity of the rouble’s 30% fall against the dollar this year.

"If history is any guide, the rouble could fall for another three to four months and an average decline could actually see USD/RUB trade to the 55/65 area."

EM FX performance vs USD, during exits from managed regimes
EM FX performance
Source: EcoWin, ING

The CBR has acted decisively in recent weeks, bringing forward plans to abandon its failing band with the dollar and allowing the rouble to float. This will not arrest the currency’s decline overnight, but it will at least avoid the CBR repeating the $30 billion expenditure of the last month, defending the price band.

"Moving to a floating currency and inflation targeting is a solid, good idea – especially for a commodity exporter," says Marcus Svedberg, chief economist at East Capital. "It can still intervene when it perceives a threat to its stability, but the market can only guess when that will be and the size of the intervention.

"It means it will be potentially much more costly speculating against the rouble."

While market participants are almost universally positive about the decision to float the rouble, some have expressed surprise at the timing of the move.

"It is extraordinary it has abandoned the band now," says Svedberg. "There are so many excuses for delaying this move, including the geopolitical tensions and the tapering. There have been so many disappointments from Russia in the past when it comes to structural reform, but on these monetary … reforms they are pressing ahead."

He believes this commitment is evidence of the competence of the Russian authorities, proving they understand the importance of these measures.

Long-awaited shift

A month earlier, on the occasion of the IMF annual meeting in Washington DC, Ksenia Yudaeva, CBR first deputy governor, signalled that a long-awaited shift in the monetary regime – inflation-targeting and a free-float – could take root next year. However, the crisis has clearly forced the CBR’s hand.

"Politically, you could say, [a regime] is never appropriate," she said. "And governments will always complain. But we think we are broadly on track – especially, with internal capacity, monetary instruments, communications and forecasting – though we might not be fully there yet.

"We won’t do FX interventions that depend on some level. We can say we will be ready for an inflation-targeting regime by the beginning of the 2015. We will intervene occasionally to the FX for financial stability."

The former chief economist at Sberbank was concerned, however, about the ability of the market-makers, broker-dealers and retail-deposit-taking institutions to prepare for the shift and adopt instruments accordingly.

"We need to continue [to educate] banks and the financial system so they understand the changes," she said. "Inflation-targeting requires education. There is a market with derivatives, but, of course, it needs to be used more developed."

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Yudaeva flatly suggested capital controls would be approved by the CBR – "there is no debate about capital controls" – and added: "This time we have more coordination with fiscal policy. The recent budget was more pragmatic. What is needed is more effort structural reforms are needed to make the economy more-competitive."

Russia incentive to implement difficult reforms has an inverse correlation to the oil price, and oil-price surges back to $100-per-barrel levels could further delay fiscal efforts.

The second plank of the CBR’s strategy for dealing with the rouble crisis will see it hold an auction on Monday for $10 billion-worth of new one-year repos to provide this liquidity to the market.

The usual market mechanisms for distributing dollar liquidity in the Russian financial market have broken down as banks and corporates have hoarded dollars, forcing the CBR to find new ways to distribute dollars to the Russian market.

Where previously the only repos available had been for one or four weeks, with rates of 2.1% and 2.4%, these longer duration repos are set at the market rate of 2%.

"The FX repo tool was the right strategy," says Oleg Kouzmin, economist for Russia and the CIS at Renaissance Capital (RenCap). "My only criticism would be it should have offered this liquidity at the same time as abandoning the dollar band. Instead it waited for weeks, which added to the volatility."

It will be some time before any judgement can be made about whether the move has worked, but one benchmark of its effectiveness will be Russia’s ability to meet the approximately $15 billion of external debt due in Q1 next year.