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Expert: Russian external debt poses no great threat to Kremlin economy

08:20 | 26.06.2015 | Analytic

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26 June 2015. PenzaNews. The issue of Russian external debt that certain foreign experts imagine to be the herald of the upcoming country-wide financial crisis has been exaggerated, concludes Richard Connolly, Associate Fellow of Russia And Eurasia Program at Chatham House, in his article “Russia’s finances are not as vulnerable as they appear” published in the foreign press.

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In his opinion, the winter of 2015 has clearly shown the vulnerabilities of the Russian economy, including its dependency on oil, that led to great depreciation of its currency.

“However, one of the principal causes of the ruble’s poor performance in the final quarter of 2014 was not directly related to the falling price of oil. Instead, a spike in external debt repayments also created downward pressure on the ruble. Because of financial sanctions imposed by Western states, access to Western capital markets was effectively closed to a large number of Russian corporations, and not just those directly targeted by sanctions,” the analyst writes.

Because of that, large Russian firms were forced to repay their debts according to original schedule due to being unable to refinance them, he points out.

“As a result, Russia’s total external debt fell from around $728 billion in January 2014 to $597 billion at the end of 2014. This sharp reduction of over $130 billion in the stock of external debt was due to a combination of repayments (primarily to Western banks) and a reduction in the dollar value of ruble-denominated debt,” Richard Connolly notes.

From his point of view, these factors indirectly caused a surge in outflow of net private capital that attracted the attention of economists all over the world in late December of the previous year.

“[The surge in net private capital outflow] estimated to have reached $154 billion in 2014 […] This in turn contributed to the reduction in Russia’s foreign exchange reserves as rubles were exchanged for foreign currency to service external debt obligations. Over the course of 2014, Russia’s international reserves dwindled from $510 billion at the beginning of the year to $388 billion at the end of the year. Today, they stand at $356 billion,” writes the Chatham House researcher.

This situation led to a series of pessimistic forecasts from several Western financial analysts, he adds. In particular, Anders Aslund, senior research fellow at the Atlantic Council and Peterson Institute for International Economics, suggested in December 2014 that a combination of decreasing reserves and great external debt may pave way towards a full-scale financial crisis. According to the Swedish economist, two factors may lead to such outcome: insufficient liquidity of Russian international reserves, and big foreign debt obligations that exceed the readily available stock.

However, Richard Connolly thinks both claims may be easily countered with the facts in public domain. In particular, he quotes an article by Ben Aris, editor of Business News Europe, that says 80% (as of April 2015) of Russia’s international reserves, including gold, US treasury bills and International Monetary Fund debt obligations, have sufficient liquidity, and their share in the reserve is still growing.

Speaking of the second factor, the analyst points out that the Russian external debt does seem to be worrying.

“According to data publicly available on the Bank of Russia website, a little under $75 billion of external debt repayments are scheduled to be repaid over 2015 (a further $45 billion was scheduled for repayment between January and May 2015), and $68 billion over 2016. That means that between now and the end of 2016, over $140 billion is currently scheduled to be repaid. Set against around $350 billion in international reserves, this looks like a substantial and worrying amount,” the analyst states.

At the same time, he stresses that most of the country’s external debt consists of obligations to banks or other corporate bodies either owned by or linked to the Russian debtors, a fact practically unmentioned in the foreign media.

“In other words, there is significant ‘intra-group’ debt, where Russian firms borrow from closely-linked entities registered offshore for the purpose of ‘tax efficiency’, for example. Such debt can be easily rescheduled and does not constitute a ‘hard’ debt obligation,” writes the Chatham House Russia and Eurasia Program researcher.

In his opinion, such obligations make about a fourth of the whole foreign debt obligations of Russia.

“But even more importantly, it accounts for around half of the repayments that are scheduled for 2015 and 2016. This means that the total ‘hard’ external debt repayments over the next 18 months amounts to a figure nearer $70 billion than $140 billion. Given Russia’s still substantial international reserves, and the fact that many firms continue to generate large volumes of foreign currency revenues, this amount will not worry policy-makers in Russia,” the analyst concludes.

According to his forecast, the country will show a decrease in its overall external debt, with a growing share in “intra-group” debt due to rescheduling of past repayments.

“This should mean that the headline short-term debt figure will grow and perhaps appear disconcertingly high. But, as this note shows, a careful reading of the data should lead to a less alarming conclusion,” the author stresses.

As a result, he concludes that a full-scale financial crisis occurring in Russia is currently minimal.

“Of course, another sudden and sustained decline in the price of oil would cause problems. But in a relatively benign baseline scenario of stable oil prices, it is unlikely that onerous external debt repayments will cause a dramatic financial crisis like the one Russia suffered in August 1998,” Richard Connolly writes.

However, he notes that the country’s economy is still in a very tough situation, as several indicators show.

“For example, inflows of foreign direct investment (IFDI) in Russia have fallen to worrying levels. In the second half of 2014, IFDI was negative. While this is not unprecedented, the fact that it accompanied a wider contraction in investment indicates that the prospects for investment in Russia appear bleak,” the author states.

According to him, IFDI is important, because it directly relates to technology and know-how level in a country, and the Russian government must act quickly or face great issues in industry and innovations field.

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