Vladimir Putin has finally encountered two foes he can’t bully or bomb: the global currency and capital markets.
In a humiliating turn of events, the ruble has lost about half its value against the dollar so far this year. In Tuesday trading alone, it plunged by more than 20 percent against the U.S. dollar. The ruble’s sinking value comes despite a series of increasingly desperate moves by Russia’s central bank to bolster its currency, including a sharp increase in interest rates on Monday night.
Russia’s economy was already suffering, thanks to sanctions imposed by the West after Moscow annexed Crimea and invaded east Ukraine, and thanks to the plummeting price of oil (Russia’s chief export and source of hard currency). Now, with overnight lending rates hitting 17 percent and inflation rising, Russia’s economy is likely to be thrown into a deep freeze. Russia’s central bank Tuesday said the $2 trillion economy may shrink 4.5 percent next year.
What a reversal. For the last several years, the global economy, international institutions, and powerful countries have generally provided little resistance to Putin’s Russia as it sought prestige, power, wealth, leverage, and other people’s territory.
Putin’s successful statecraft has alternately consisted of bullying and defiance (Western Europe, the U.S.), invading neighbors (Ukraine, Georgia), depriving others of energy resources (Ukraine again, Eastern Europe), winning prestigious events through the promise of large investments (the 2014 Winter Olympics, the 2018 World Cup), forging relationships by offering sweetheart resource deals (China), or currying favor by allowing oligarchs to funnel huge quantities of money into real estate and banks (England, Turkey, Greece.)
The currency markets can’t be bought off though. They are faceless, merciless, and swift. Every day, they are in effect passing judgment on regimes around the world. Russia’s caving ruble doesn’t just make Putin look bad, but it has real and instant effects at home. It raises inflation, since you need more rubles to buy imports. (Russia’s inflation rate was running at an annual rate of 9 percent in November. It’s about 2 percent in the U.S., by comparison). Inflation degrades savings and lowers standards of living. Inflation gives foreigners more purchasing power.
Most importantly for Putin’s rich buddies, inflation sharply inhibits the ability of individuals to get money out of the country.
When people make fortunes in Russia, the first thing they do is convert their money into euros or dollars, and then use those funds to buy safe assets like New York condos or London townhouses. They do that when things are going well, but when when things are going poorly, the activity picks up in what’s known as “capital flight.” Before the ruble’s implosion, some $124 billion worth of rubles were expected to fly away, according to Russian central bank estimates in November.
Currency problems are procyclical, which is to say that they create their own momentum. When the underlying fundamentals of an economy weaken, as they have in Russia due to the combination of falling oil prices and sanctions imposed after the Ukraine crisis, the currency tends to weaken. That tends to encourage large and small holders alike to consider turning their weakened rubles into other currencies. Capital flight tends to weaken a currency further –when lots of people want to exchange rubles for dollars at the same time, holders of dollars will demand more rubles.
Markets and traders both sense and aggravate this weakness. And when desperate efforts by the government to fight off the evident weakness – the central bank raising rates, or intervening in the market by using a big chunk of its huge foreign currency stash to purchase rubles – don’t work, the currency tends to get even weaker. A lack of confidence begets action that in turns begets further lack of confidence when it doesn’t work.
That is precisely what has happened in the past few weeks. Essentially, the concatenation of hedge funds, financial institutions, individual investors, companies, and central banks that make up the vast foreign-currency exchange market turning against Putin. They’re not punishing Russia because they don’t like the country’s geopolitics. They’re doing so because they don’t like the underlying trends that dictate the relative value of the ruble.
This is a clear example of markets performing a type of function that governments can’t. For the currency markets don’t respond to the same sent of incentives and fears that corporate and government leaders do when it comes to dealing with Putin. They don’t fear Putin’s bluster, since traders are generally anonymous and most foreign institutions now have the excuse of sanctions to avoid doing business in Russia. They don’t need Russia’s natural gas and oil supplies to keep the lights on—Con Edison does a perfectly good job powering New York’s financial markets. They don’t fear his military, since Russia can’t very well invade the Hong Kong Stock Exchange. And they’re generally impervious to the types of blandishments that a regime like Russia can offer to institutions that play nice.
In fact, in recent months, financial investors have made tons of money by betting against Putin.