Russian troops surround Ukraine’s main cities on the ground, but international sanctions are already besieging the Russian financial system. Unprecedented so far, the measures led by the European Union and the United States are already beginning to short-circuit Russia’s finances.
“It’s a matter of strangling the central bank”explains Alicia García Herrero, chief economist for Asia-Pacific at Natixis bank. “It’s a really dramatic situation. Many people have complained that there are no sanctions on gas. It’s that with all these measures you corner Russia financially.”
Moscow has held on to two handholds to avoid a flash crash. First, double your interest rates. After raising them on February 14 to 9.5%, the Central Bank of Russia has placed them this Monday at 20%the sharpest movement in almost two decades.
Second, a capital control. “What the Central Bank has done is ask its intermediaries not to satisfy the sales of Russian debt. If some clients want to sell, the Russian bank will reject that sale order. It is a normal capital control. And the next thing will be a playpen. They are going to have to freeze deposits without a doubt in the face of the flight of the ruble,” adds García Herrero.
Fear of a playpen
For Raymond Torres, director of the situation at Funcas, “The main threat is that internal corralito”. “This Russian financial collapse, with non-payment to citizens as they cannot withdraw cash, can demoralize citizens and not so much the oligarchs, who in the end have many of their money outside of Russia. The population faces a situation very difficult,” adds Torres.
The ruble has plunged to record lows against the dollar, reaching more than 100 rubles per dollar in the markets. To keep the currency afloat, the Finance Ministry has ordered Russian companies to sell 80% of their foreign currency profits on the domestic market to revive demand for the ruble.
In the streets of cities such as Moscow and Saint Petersburg, the long lines at cashiers of Russian citizens who, in some cases, have spent days trying to get as much cash as possible. The Central Bank of Russia has tried to send a message of calm and has maintained that the credit risk is “limited”.
“Financial panic is spreading among individuals, going to ATMs and withdrawing their deposits in foreign currency. The Central Bank is facing international sanctions and does not have all the colossal reserve cushion it has. There may be more inflation and collapse of the economy,” says Torres. For García Herrero, this means talking about a “war economy.”
Blow to the main Russian financial shield
The penalties also hit the main shield that Russia relied on to cushion the costs derived from the war with Ukraine: its international currency reserves, the fourth largest in the world, valued at some 630,000 million dollars (about 562,000 million euros).
Without access to that part of the buffer located in US and European domains, the Kremlin’s financial defenses are left somewhat more helpless. According to the head of EU diplomacy, Josep Borrell, about 40% of the total would be blocked. A third of Russian reserves are in euros, 14% in US dollars and 20% in gold, according to data from the beginning of February.
In a report by the Institute of International Finance (IIF), Brussels and Washington still have room for action: “they can further restrict the access of Russian banks to dollars and euros, expand the blockade on SWIFT (the platform that enables international payments) to more institutions, extend the sanctions on Russian sovereign debt to the secondary market and cut off imports of gas from Russia.
García Herrero (Natixis) warns that, although it seems soon, you have to “think about the exit”. “It’s going to take a waist. This isn’t going to be a permanent situation,” he adds. Believe in the power of overreaction of Vladimir Putin seeing himself “cornered” after a few rounds of “very powerful” sanctions.
The impact of these measures will not only be felt in Russia. The deterrent effect of sanctions will push many companies to withdraw investments and suspend purchases linked to Russia when in doubt and even knowing that they are not sanctioned, according to market sources.
This situation also places the central banks of the United States and the euro zone in a new dilemma: reinforce the rise in interest rates in the face of possible further upward pressure on prices if Russian gas supply suffers after sanctions; or delay those increases and add monetary stimulus in the face of the economic impact of a longer war in Ukraine and the financial effect of sanctions on Russian banks.
Proof of this, the “probable” fall of the European divisions of the largest Russian state bank. The European Central Bank has warned that Sberbank in Slovenia, Austria and Croatia “will go bankrupt or is likely to go bankrupt”.