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Russia’s Rouble Woes: Economic Challenges and Policy Responses

Last week, the Russian rouble faced a significant setback, slipping below 100 to the American dollar—a value lower than a solitary cent. This marked its lowest point since the immediate aftermath of the Ukrainian invasion. Alongside other struggling currencies like the Argentine peso, Venezuelan bolivar, and Turkish lira, the rouble stands as one of this year’s worst performers in the global currency market.

Responding to this crisis, Russian monetary policymakers took action on the following day. In an emergency meeting, the Bank of Russia opted to raise interest rates by 3.5 percentage points, reaching a new level of 12%. Despite a modest recovery upon this announcement, the rouble’s value continued to decline, remaining far cheaper compared to its value of around 60 against the dollar a year prior. However, it’s worth noting that interest rate adjustments alone may not provide an immediate remedy for the currency’s decline, which bears implications for President Vladimir Putin’s strategic decisions.

Unlike conventional currency collapses fueled by international investor apprehension, the rouble’s case exhibits a unique trait. Sanctions and capital controls have relegated Russia to a degree of isolation within the global financial system. Consequently, the currency’s behavior aligns more closely with classic economic theory, mirroring the ebb and flow of exports generating foreign currency against imports necessitating payment through these earnings.

A pivotal turning point occurred when the G7 nations capped the price of Russian oil at $60 per barrel in December. The impact became evident through the decline in export revenues. Russia’s earnings in dollars from January to July decreased by 15% compared to the same period the previous year, partially attributed to the lower global oil prices. Simultaneously, the government’s military activities have triggered a surge in imports, causing the current-account surplus—indicative of a nation’s foreign currency inflows exceeding outflows—to plummet by 86% to $25 billion within the first seven months of the year.

This situation poses a twofold dilemma. While a weaker currency augments the rouble-denominated oil revenues for the government, it concurrently inflates import costs. In June, Deputy Prime Minister Andrei Belousov indicated that an exchange rate of 80-90 roubles per dollar was optimal for the country’s budget, exporters, and importers. Yet, the narrative has shifted from confidence to concern, especially with Maxim Oreshkin, an adviser to Putin, attributing the currency’s decline to the central bank.

The recent emergency rate hike displayed limited impact, with gains quickly reversing. As Russia’s isolation curtails the attractiveness of higher interest rates to speculative funds, attention now shifts to domestic capital flight. While reinforcing capital controls could help, it would take time to manifest. Additionally, direct intervention in currency markets remains an option. The central bank has already scaled back foreign currency purchases, though a strategic shift occurred on August 9th when the country abandoned its rule of exchanging roubles for other currencies to build reserves. Nonetheless, approximately $300 billion of these reserves are currently frozen due to Western sanctions.

With this backdrop, the Russian government faces a pivotal choice. Reducing spending, even within the armed forces, might curb imports. Alternatively, it’s probable that the civilian economy will bear the brunt. The trajectory of Russia’s economy will not hinge on international financiers’ evaluations, but rather on the extent of Putin’s aggressive actions. It’s a challenging conundrum that underscores the country’s economic vulnerability.