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The Quasi-Default

Since the beginning of the war, the international community has used a slate of sanctions to punish Russia for its invasion of Ukraine. This option of financial warfare is thought to be the best alternative to outright physical warfare, as no one wants to see World War III. For a long time now, the question has been when, and not if, these sanctions would cause Russia to default on its international debt. As of Monday, Russia has officially failed to make payment on its international debt; the grace period has run out.

After initially missing a 27 May deadline to pay about one hundred million euros of debt owed in USD and EUR, Russia failed to make its payments within a month. This was expected, of course, since sanctions have isolated Russia and blocked payment routes. The strange thing about this default is that it is not quite an official default. No rating agency has declared such a default because sanctions block them from reporting about Russia. Another key body – the Credit Derivatives Determinations Committee, which is comprised of a panel of investors who decide whether to pay securities tied to defaults – has yet to make any statement.

Public Perception

Even before Monday’s news, Russia’s finance ministry had been running a PR campaign against the supposed default. According to them, Russia has met its obligations by paying its debts to investors in rubles, but the vast majority of Russia’s international debt only allows for payments in USD and EUR. So, even though international media outlets are reporting about the default, Russia’s state news agency claims that the government does not consider itself to be in default.

Whether the country is in default has profound implications going forward. It is very likely that the Russian government will claim that it is not in default since it has attempted to pay, even if those attempts are not compliant with contract terms. Its ability to access and distribute foreign currency reserves has been restrained completely by international sanctions, so Russia is really doing the best it can do given the circumstances. But the circumstances are entirely of Russia’s own doing, hence why there is little sympathy. If a true default is ever declared, then that allows investors to demand early payments. Currently, given the battle over whether it is a true default, investors will not likely have this right.

I have zero sympathies for Russia facing the consequences of its actions, but at the same time, it is hard for me to consider this a real default. Real defaults occur when governments run out of money and therefore cannot make payments because they lack the funds. Russia, unfortunately, does not lack the funds; Putin has a considerable war chest (600 billion USD) of foreign currency and gold reserves that they have been building since the invasion of Crimea. This quasi-default is a sanctions-based default, not a real one. Part of the reason Russia does not want to be considered in default is that it has worked very hard to foster a reputation as a reliable borrower. But default or not, their international reputation has been tarnished forever.