Russia Sanctions

DANIEL LACALLE is chief economist at hedge fund Tressis and author of “Freedom or Equality,” “Escape from the Central Bank Trap,” and “Life in the Financial Markets.” Daniel Lacalle

The Russian Ruble’s ‘Strength’

The central bank of Russia is averting collapse through two channels

There are numerous headlines showing the surprising recovery of the Russian ruble against the U.S. dollar and the euro. By the first week of April, the Russian currency had recovered all the losses against the greenback and the euro area currency.

Obviously, there’s an important difference that needs to be considered. Massive capital controls were implemented in Russia after the heavy sanctions of the West and no Russian citizen or business can sell rubles to buy dollars, euros, pounds, or yen. It’s impossible to know what would have happened to the Russian currency if capital controls hadn’t been implemented, but we know that no Russian citizen can exchange local currency for international ones and very unlikely at the official rate.

In essence, the Russian ruble “traded” price doesn’t reflect an abrupt change in demand, just the effect of capital controls.

We don’t know what exchange rate is used in the underground market, but we can safely assume that the free-market exchange rate of the ruble is significantly lower than the official rate. According to Business Insider, there’s an underground market using Telegram and other social media chats where citizens can buy or sell foreign currency, with some messages showing prices for rubles that are 30 to 50 percent lower than the official rate.

Apart from the reality of the exchange rate, there are two channels with which the Russian central bank is avoiding collapse: China and the export of energy to Europe.

Russia continues to export natural gas to Europe, which means hundreds of millions of euros of inflows of international reserves. The Russian central bank is conducting daily auctions with energy exporters to channel liquidity and avoid default.

Russia has recently threatened to cut gas supplies to Europe if the euro area customers don’t buy their gas in rubles. This would force European nations to sell euros and buy rubles at the abovementioned debatable official rate, which would pump up the Russian domestic currency. This measure is easier said than done, as take-or-pay contracts can’t be redenominated at one party’s will, and the Russian energy suppliers such as Gazprom require the inflow of international reserves nonetheless.

Forcing importing customers to buy the local currency is much more difficult than we may believe. If it was that easy, countries such as Venezuela, Iran, and Argentina wouldn’t have such poor global demand for their domestic currency. Russia is a stronger economy, but not that massive to enforce such a measure successfully.

Digital currencies, on the other hand, have been a modest relief for Russian citizens to preserve the purchasing power of their savings and the ability to make a living, but it’s very small. I find it amazing to read that European Central Bank head Christine Lagarde is saying that cryptocurrencies are being used by Russian oligarchs to avoid sanctions when the reality is that inflows from European imports in euros and the support of the Chinese financial system are the real drivers of the small lifeline against sanctions.

China is a channel for international reserves into the Russian central bank through exports and the use of Hong Kong and mainland China trading platforms to maintain the financial inflows and avoid a total collapse of the Russian system. India is taking advantage of the unprecedented discounts offered for Russian Ural oil to purchase more cheap crude in a difficult inflationary environment. The strong foothold of Chinese financial entities in Africa and emerging markets is also generating a lifeline for the inflow of reserves into Russia from Venezuela, Syria, and other nations.

This doesn’t mean that the sanctions aren’t hurting the Russian financial system or the real economy. They are, and very much. What this basically shows is that there’s virtually no way to financially isolate a nation completely, let alone one that remains such an important trading partner for so many others.

We have entered a very dangerous currency war with unexpected consequences. The winners are unlikely to be fiat currencies managed by governments, but rather alternative and decentralized systems.

What this basically shows is that there's virtually no way to financially isolate a nation completely, let alone one that remains such an important trading partner for so many others.