October 9, 2008 / 4:17 PM / 10 years ago

Russia to face tough FX choice if oil falls further

MOSCOW (Reuters) - Russia is battling to keep its currency stable and prevent the stock market panic spreading to the streets but a further decline in oil prices could trigger a change in course.

With almost $550 billion accumulated in reserves, the world’s third largest, Russia’s authorities have enjoyed a certain degree of comfort in defending the ruble since foreign investors fled, spooked by the confrontation with Georgia that erupted in August just when global risk aversion was ramping up.

“The central bank will hold the (currency) level for as long as it can. Otherwise it may spread panic among the population,” said Nikolai Kashcheyev, analyst at MDM Bank.

But even such a sizeable cash pile, accumulated thanks to oil revenues, might not be enough to sustain currency interventions requiring billions of dollars every day after the government pledged to spend $210 billion — including $70 billion from reserves — on rescuing the financial sector and bailing out struggling banks.

Traders say the bank has spent around $14 billion or 2.5 percent of reserves on interventions so far this week alone in a fight to prevent the currency from weakening beyond the 30.41 level against a euro-dollar basket.

Douglas Busvine, a Russia analyst at Medley Global Advisors, said reserves were still sufficient to cover the entire foreign debt, both public and private, of $527 billion at mid-year.

“That should enable the authorities to finance the current bailout and maintain the stability of the ruble,” he said, but added: “The biggest risk to ruble stability would be a slide in oil prices below $70 per barrel at which the budget balances next year.”

TAMING PRICES

Russia’s leaders have powerful motives to defend the ruble.

Ordinary Russians have largely overlooked a 65 percent collapse in the stock market since May, as few hold shares, but sharp weakening of the ruble could have a big impact on confidence as memories of painful savings losses of the 1990s and the Soviet times are still relatively fresh.

The central bank sold a net $17.2 billion in interventions in September, preventing the ruble from weakening beyond 30.41 versus a euro-dollar basket, and reported a $16.7 billion fall in reserves last week alone to $546.1 billion.

The ruble has appreciated rapidly in recent years — despite complaints from Russian export-oriented industries — because it was the key tool in the fight against inflation.

Capital inflows also contributed as Russian firms borrowed record sums abroad. But everything turned around in August.

The fall in oil prices — from a peak above $147 a barrel in July to around $86 on Thursday — combined with the virtual closure of capital markets and investors’ exodus from emerging markets to turn the previous one-way appreciation bet into almost a one-way ruble depreciation bet.

But when inflation at 15 percent is double this year’s initial target, the central bank is in no mood to surrender.

SCOPE FOR SLIPPAGE?

It says it can spend unlimited sums to deter speculators although analysts at banks Unicredit and UralSib warn a sharp fall in reserves could trigger a sovereign rating revision.

“In the past, from time to time they have given up the line of defense and then created another one,” said Ulrich Leuchtmann, FX strategist at Commerzbank in Frankfurt.

“This might be a strategy that they could employ in the future if the selling pressure on the ruble remains.”

Tatyana Orlova from ING said stable ruble was one of the key drivers behind Russia’s economic growth and sacrificing it would derail policies of Prime Minister Vladimir Putin.

“If the ruble were allowed to weaken this would deal a severe blow to household confidence, and probably trigger a run on bank deposits,” she said.

However others noted that ordinary Russians have already felt the pinch of the weakening ruble as they don’t know about the basket and track their savings through the ruble/dollar rate, which weakened to 26 rubles per dollar from 23.5 in August as the euro strengthened on global markets.

Leuchtmann says the central bank could still decide to let the ruble slip to 30.60-30.80 to the basket: “That would still mean they would only allow very gradual depreciation and that should not affect confidence too much.”

Public confidence aside though, there could be benefits to letting the ruble weaken. Troika Dialog said such a move would boost domestic manufacturers, and that the currency would bounce back once the global situation improves.

Reporting by Andrei Ostroukh, Toni Vorobyova and Dmitry Zhdannikov, Writing by Dmitry Zhdannikov; Editing by Ruth Pitchford

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