Originally Published 2015-02-04 00:00:00 Published on Feb 04, 2015
Russia's troubles are unlikely to vanish soon. With the Central Bank forecasting a 4.5 per cent drop in GDP in 2015, a downgrade is a certainty. The budget deficit, forecast to be larger than 0.6 per cent of GDP in 2015, will prove to be another cause of misery.
Russia - the Bric that came apart

The $3.5 trillion economy of Russia has witnessed a lethal combination of deep recession and runaway inflation in recent times. With hydrocarbons contributing over half the federal budget and two-thirds of exports, the country is heavily dependent on its oil-and-gas firms.

With oil prices plummeting, Russia has lurched toward a currency crash. This has also resulted in pushing up inflation as the country imports large amounts of food, high-tech equipment and cars for which it has to pay more. This encourages people to buy dollars in order to protect their earnings, further adding pressure on the rouble.

Here is a crisis

Central bank data showed that a blitz of currency interventions depleted reserves by $26 billion in the two weeks leading to December 26, the fastest pace of erosion since the crisis in Ukraine erupted early last year. The country saw a fall in total reserves from $511 billion to $388 billion in a year.

Credit default swaps saw a surge by 100 bps to 630, before falling back slightly. This has resulted in a financial crisis, parallel with its 1998 crash. The crisis has spread to other assets as well. Russia accounts for about $11 billion in rouble-denominated debt and $60 billion in dollar debt. The yields on these have risen to 15 per cent and 8 per cent respectively, higher than in Greece.

Shares of French and Austrian banks which are exposed to Russia have also suffered. Because of volatility in rouble, many foreign businesses are finding it impossible to operate in Russia. Even as Russia is taking steps to defuse the currency crisis, the country's oil-dependent economy faces three key problems: Falling oil prices, trade sanctions and a continuing flight of investment capital.

The interventions by Russian Central Bank -- of buying rouble, hiking interest rate by 650 basis points and allowing Russian banks to circumvent accounting rules to conserve hard currency -- proved to be in vain.

What awaits

Russia's troubles are unlikely to vanish soon. As Russian President Vladimir Putin said: "The hardships we are facing are not only external, they are caused not only by the sanctions restrictions or by restrictions linked with the international situation, they are also caused by our mistakes that have been made over the years".

With the Central Bank forecasting a 4.5 per cent drop in GDP in 2015 a downgrade is a certainty. The budget deficit, forecast to be larger than 0.6 per cent of GDP in 2015, will prove to be another cause of misery.

The Brics comprising Brazil, Russia, India, China and South Africa, represent almost 40 per cent of the world population. As of 2014 Brics represented 18 per cent of the world economy with combined foreign reserves of $4 trillion.

With the onset of the currency crisis in Russia, the country looks disconnected and divided to stock investors.

While China and India saw their benchmark equity indices go up 40 per cent in 2014, Brazil and Russia witnessed a drop of 4.2 per cent. From a cyclical point of view, China's growth is slow but enviable; India is likely to pick up; Brazil has seen decline in its fourth quarter as well; Russia is facing inevitable recession and in South Africa growth is almost negligible.

The Bric grouping's growth will be dragged down by a 1.8-per cent contraction in Russia and less than 1 per cent expansion in Brazil, according to Bloomberg News. India being one of the potential markets for Russia's energy exports is likely to be affected because of the weakening of rouble.

The crisis has also hit share prices of many Indian pharmaceutical companies with major markets in Russia, because of the expected impact on exports.

China, which has developed a strategic relation with Russia and has projects lined up in energy, industries and other spheres with Russia, is also likely to be affected as the crash might delay the implementation of such projects. Russia's crisis will also hit the new Brics development bank.

According to Jim O'Neill, the former Goldman Sachs economist who coined the acronym Brics, if the economies of Brazil and Russia fail to revive, it will be the job of the IC - India and China - to hold the BRICS together.

(The writers are with Observer Research Foundation, New Delhi)

Courtesy: The Hindu Business Line, FEbruary 1, 2015

The views expressed above belong to the author(s). ORF research and analyses now available on Telegram! Click here to access our curated content — blogs, longforms and interviews.