Russian Financial Markets in response to Sactions imposed for the invasion of Ukraine

Authors:

Logan Rosell

Noah Ferguson

One of the main world events which has taken place recently, is the Russian invasion of Ukraine, which has caused disturbances not only in diplomacy around the world, but has placed considerable strain on the Russian economy. The reason for such strain, is that nations around the world, rather than provoking world war by providing military aid, are placing harsh economic sanctions on the Russian government as a potential deterrent to the continuation of the Ukrainian invasion. One of the major sanctions announced by the United States and its allies is around the ability for “Russia’s central bank to support the country’s currency” (Gibson, 2022). After sanctions began to be released against Russia and its currency, the value of the ruble fell 30%, being worth less than 1 cent against the US dollar. In light of this sudden decrease, bank runs are becoming a more frequent occurrence as payment methods such as Apple Pay and Google Pay are no longer available for usage, resulting in the need for cash. In an attempt to combat the rapid fall of the ruble value, Russia’s central bank has raised interest rates from 9.5% to over 20%. While this may initially be able to stave off the effects of these sanctions in the short-term, such interest rates will result in drastic increases in the prices of goods and services which are essential for the survival of Russian citizens. A major potential lifeline, however, for the Russian economy is the People’s Bank of China, who has the ability to provide a “lifeline” in a sense to Russia by supporting the ruble and the rest of Russia’s economy. However, this seems highly unlikely as any potential aid provided to Russia by China or the People’s Bank of China could result in additional sanctions being levied against the Chinese. This could be disastrous for the world economy because of the widespread influence which China has production-wise around the world. 

There are a couple of interesting points in regards to Russia financial markets in this story. 

1. Russia had previously built up a massive $600 plus national reserve of assets including foreign currencies within their central bank prior to invading Ukraine. 

2. Demand for Russian currency has plummeted in recent days, however this is not the first time this has happened even recently. 

Russia is not alone in their expansion of international reserves relative to their GDP since the 1990s. As noted in a 2010 paper published in American Economic Journal: Macroeconomics, “Since 1999, reserve accumulation has accelerated sharply. Asian and some Latin American emerging markets, Japan among the industrial countries, and oil exporters (notably Russia) have been the primary drivers of this trend.” However, the magnitude of Russia’s reserve may be an outlier. Taking a rough figure of Russian GDP in 2020 form the World Bank to be $1.48 Trillion and using a very general estimate of Russian reserves to be about $600 billion we find their reserves to be about 40% or annual GDP which is exceptionally high. That would be like the US holding about 8 Trillion dollars in foriegn reserves. Why then would Russia hold such large reserves? The authors of the same 2010 paper conclude that “We therefore build on the view that a primary reason for a central bank to hold reserves is to protect the domestic banking sector, and domestic credit markets more broadly, while limiting external currency depreciation.” As reported in our news article, Russia is currently trying to protect its major banks from runs and collapse and international sanctions apply pressure to these insitutions. As we talked about in class, Russia could theoretically use these massive holdings to buy up government, corporate, and bank bonds to inject liquidity into the financial markets which is desperately needed at the moment. However, Much of these foreign held assets are being frozen as part of sanctions by the West so it remains to be seen whether the Russian central bank will be able to act on this strategy. 

The situation which is occurring in Russia with the devaluing of the ruble is important not only within the financial markets of Russia, but also in financial markets in different areas of the world. In regard to world markets being affected, many countries choose to invest in the currencies of other countries. The financial markets within Russia are currently in shambles as the Russian central bank tries to stave off inflation by raising interest rates to over 20% from its previous 9.5% as mentioned above. Such an increase in the interest rate will have a negative impact on firms within Russian markets as their share prices and earnings will decrease as a response to this interest rate increase. Additionally, because of the freezing of many financial assets within the Russian markets and in their holdings abroad, it is forcing Russians to resort to the usage of cash or other liquid assets. Because of this, it may further decrease the value of the ruble and could result in hyperinflation within Russian markets, resulting in the potential collapse of the Russian economy.

Works Cited:

Blanchard, O., & Johnson, D. R. (2017). Chapter 3. In Macroeconomics. essay, Pearson. 

Gibson, K. (2022, March 1). Russian people may not be able to withstand "economic siege," experts say. CBS News. Retrieved March 3, 2022, from https://www.cbsnews.com/news/ukraine-russia-economy-ruble/ 

Obstfeld, M., Shambaugh, J. C., & Taylor, A. M. (2010). Financial Stability, the trilemma, and international reserves. American Economic Journal: Macroeconomics, 2(2), 57–94. https://doi.org/10.1257/mac.2.2.57 

World Bank. (2022). GDP (current US$) - russian federation. Data. Retrieved March 3, 2022, from https://data.worldbank.org/indicator/NY.GDP.MKTP.CD?locations=RU