Russia: The mother of all macro risks

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The growing likelihood of an economic crisis in Russia will have a major impact on global markets in 2015.

When asked if he could give three key risks that would scupper his bullish expectations for the year ahead, one senior equity capital markets banker at a US firm simply says: "Macro, macro and macro".

While such a response is a fine example of ducking a specific question, it is true that global markets will once again play hostage to a litany of macro risks this year, just as they have in the last several years.

With snap Greek elections looming, the talk as 2014 ended was on a familiar note of the possibility of a Grexit from the EU in the year to come. Investors naïve enough to buy Greek bonds yielding less than 5% earlier in the year were left nursing losses of at least 40 cents on the dollar.

But if there is one risk in particular that markets will be watching closely, it is the increasing certainty that Russia faces a financial crisis.

The country may have managed to add 0.16% to its landmass last year, but its economy has been hammered by western sanctions and falling energy prices. The figures already paint a bleak picture. The rouble’s value has collapsed on the back of a plummeting oil price and the impact of economic sanctions. The economy looks likely to enter a severe recession. 

Moreover, rising geopolitical tensions and falling oil prices have led to a myriad of worrying developments in the Russian economy: private capital has been fleeing the country; the country’s international reserves have fallen by almost $100 billion in about 12 months; many Russian banks were left facing the near-collapse of their dollar deposits.

Russian corporates have been similarly impacted. The country’s financial institutions and companies face being shut out of the capital markets in a year when about $100 billion of foreign currency debt needs to be refinanced.

Depending on the scale of the coming crisis, Russia’s foreign-owned banks could yet prove more vulnerable than they look. Even ruling out a complete market meltdown, which would likely see runs on every bank but Sberbank, it is not hard to envisage a scenario in which foreign subsidiaries could come under pressure. To date, the Russian regulator has maintained an admirably non-discriminatory approach towards western lenders, but that could change if domestic banks start to show serious signs of stress.

Policy options could then include encouraging companies to shift deposits to domestic banks and refusing liquidity support to foreign subsidiaries, not to mention making use of some of the more subtle tools at the disposal of the Russian authorities.

If the situation were to deteriorate sharply, parent groups of foreign banks in Russia could face a very tough decision over whether or not to continue to support their Russian subsidiaries. Providing more capital and funding to an economy on the verge of collapse would be unlikely to find favour with either shareholders or home regulators.

With western sanctions having a big impact on Russian institutions’ ability to roll-over debt in international debt markets, this could fuel further capital outflows. While rating agency Moody’s has argued that "most [Russian] companies have sufficient liquidity to enable them to meet their 2015 debt maturities", they think the numbers for 2016 and 2017 are a concern. And in financial markets, a 2016 problem can swiftly become a problem for 2015.

Russian authorities may claim they have the tools to deal with these pressures, but the broader economic and geopolitical situation might constrain their actions, especially any continued fall in the oil price. Estimates suggest that Russia needs an oil price of $90 a barrel to avoid recession and balance the budget. At the end of 2014 the price was well short of that, at just above $60.

Another dynamic in play is what Putin could do with his rising popularity for the annexation of Crimea. Some analysts warn he might look to distract from a struggling domestic economy with further foreign adventures in 2015.