What Caused the Russian Ruble Crisis?

Russia's Ruble Crisis and Its Implications

Five Thousand Ruble Notes
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The Russian economy was the eighth largest in the world by nominal gross domestic product (GDP) valued at $2.1 trillion in 2013. Between 2000 and 2012, the country experienced rapid growth in its economy, driven by higher energy prices and increased arms exports. International investors were confident that Russia was turning a corner and foreign direct investment was flowing into the country.

A year later, Russia’s economy was on the brink of a crisis with the ruble falling to record lows against currencies like the U.S. dollar. The Russian central bank’s decision to hike interest rates by a massive 6.5 percent failed to stem the tide, as investors lost confidence in the currency. While the currency recovered to some extent in 2016, it still hadn't regained its prior strength in 2019.

Falling Oil Prices

Russia’s economy has always been dependent on the price of crude oil and natural gas, as commodities account for a significant portion of the economy. In 2013, exports of crude oil and related products accounted for more than two-thirds of the country’s total exports and more than half of the government’s total revenue, meaning that lower prices could have a huge impact on the economy.

In 2014, crude oil prices fell by around 50 percent due to lower demand in Europe, Russia’s key market, and increased production in the United States. However, the biggest catalyst behind Russia’s problems was probably when the Organization of the Petroleum Exporting Countries (OPEC) indicated that it would not cut its production to boost prices in late 2014. While the organization eventually cut production, crude oil prices still haven't recovered to their highs.

Crude oil prices are likely to remain depressed for the foreseeable future. OPEC compliance is less than 50 percent by many accounts if you exclude Kuwait and Saudi Arabia, who cannot be responsible for maintaining cuts on their own. U.S. shale production has proven to be flexible in response to falling crude oil prices, as production levels have continued to recover in 2018.

Political Risks

Russia’s second problem relates to its foreign policy. After invading Ukraine back in late-February 2014, the United States and European Union imposed a number of financial sanctions that have made it difficult for Russian firms to borrow abroad. These sanctions were intensified after the country's alleged interference in the U.S. and European presidential elections in 2016 and 2017 and its military interventions in Ukraine and Syria.President Vladimir Putin has openly admitted that these economic sanctions are severely harming the economy. Over the long term, there are signs that these sanctions may be discouraging families from having more children, which could have devastating long-term effects.

In 2018, out of fears that U.S. sanctions would freeze a significant portion of the country’s international reserves, Russia reduced its U.S. Treasury holdings from $96 billion in March to $14 billion in September.

Dollar Debt

The third big problem deals with Russia’s U.S. dollar-denominated debt. In 2017, with holdings of about $11 billion in ruble-denominated debt and $60 billion in dollar-denominated debt, the country would likely need to pay more in rubles to pay off its debt in U.S. dollars.

To deal with this problem as well as increasing economic sanctions, Russia is working on implementing a plan to become less dependent on the dollar, such as increasingly executing trade deals in rubles and other currencies.

A Look Back

The Russian ruble crisis had many different causes that contributed to the sudden crisis of confidence, including falling energy prices, heightened geopolitical risks, and increasing demand for the U.S. dollar. With the ruble still trading near its lows with the U.S. dollar in 2018, the country continues to suffer from these same problems that caused the crisis.

International investors may want to take caution when investing in Russia, given the ruble crisis and its aftermath. Dollar-denominated debt could become difficult to service in rubles, while equities could suffer, thanks to deteriorating spending power among consumers and businesses. These trends could eventually lead to a similar crisis or recession down the road.