Leonid Bershidsky writes: The failure of an emergency rate hike to stop the ruble’s decline against the dollar increases the probability that Russia will introduce capital controls. President Vladimir Putin, who sees Russia’s economic woes as the consequence of a Western plot, must be increasingly amenable to the recipes that worked in another country ruled by an anti-Western authoritarian leader: Malaysia in 1998.
The Russian central banks’ surprise key rate hike to 17 percent, from 10.5 percent, announced at 1 a.m. Moscow time, seemed at first to have its desired effect: Short sellers paused at the increased expense. Other players, stunned by the boldness of the increase, were forced to consider whether it might not be a good idea now to hold Russian assets. And the ruble bounced back 10 percent against the dollar.
The Russian state oil company Rosneft, run by Putin’s friend Igor Sechin, raised 625 billion rubles ($10.8 billion) recently: Rosneft borrowed at 11.9 percent. The Central Bank did nothing yesterday, potentially allowing Rosneft to pump some of the money into the foreign exchange market. Then early today it raised the rate, causing Russian bond yields to rocket. The current 10-year sovereign bond yields more than 14 percent, compared with 13 percent 24 hours ago.
This is not a situation in which even a 17 percent interest rate makes holding ruble assets appealing: The ruble’s downside potential is too high.
That’s also what happened in Malaysia in 1997. Four years later, Harvard University’s Ethan Kaplan and Dani Rodrik told the story. Malaysia controls
When the Asian financial crisis hit, Malaysia’s position looked a lot like Russia’s today: It had big foreign reserves and a low short-term debt level, but relatively high general indebtedness if households and corporations were factored in. At first, to bolster the ringgit, Deputy Prime Minister Anwar Ibrahim pushed through a market-based policy with a flexible exchange rate, rising interest rates and cuts in government spending. It didn’t work: Consumption and investment went down, and pessimism prevailed, exerting downward pressure on the exchange rate..
That old economic debate is suddenly relevant again. In 1998, following the Asian crisis, Russia’s economy collapsed. The country lived through debt default, devaluation, a failed IMF bailout and capital controls all at the same time. Now, Putin must be tempted to control the damage while it’s still possible.
His anti-Western advisers are evidently holding up the Malaysian example. “What can [Central Bank Governor Elvira] Nabiullina do within the market model if she is forbidden to sell too much foreign currency and some of the world’s biggest financial players have been ordered to play against her?”
Naturally, the specter of capital controls now hangs over the foreign exchange market, pushing investors to get as much money as possible out of Russia. If Putin is worried about public discontent following the ruble’s decline, he may follow the advice within days. If he’s betting on Russians’ patience, Nabiullina’s orthodox policies — rate hikes and other measures to squeeze ruble liquidity — will be allowed to continue, with breaks for emergency aid to Putin’s friends.
