Is Russian finance system resilient to external shocks?

Main thesis of the Financial Stability Review released by the Bank of Russia states that "the financial system turned out to be resilient to external shocks" and "in the current circumstances repetition of the situation created in December 2014 remains unrealistic..."

In 2014, the Russian economy got through a powerful external shock which aggravated domestic problems and imbalances formed amid exceptionally favorable foreign economic environment. Following the currency crisis which peaked in December 2014 when during a month the Russian ruble devalued by 40.6% against the US dollar and by 34.1% against the euro. In Q1 2015, the situation on the Russian currency market stabilized. Intermonth volatility of the exchange rate of the Russian ruble against the US dollar in May-June fell to 2% when in December 2014 it reached 7%.

Savings activity of the population is recovering: following the fall by 2.5% in 2014 (with adjustment to currency reevaluation), in January-May 2015 deposits of the population increased by 6.1% in similar estimates. Positive trends are forming on the Russian stock market: the RTS index rates gradually increased and in May 2015 reached 1082 points. In comparison, in mid-December 2014 RTS index fell below 630 points which equaled its value in March 2009.

Russia's financial system gradually adjusts to the new reality. The closure of access to the international capital markets turned out to be the most painful. Not so urgent was the necessity to attract additional financial resources which were reduced by the ongoing for over three years weak business activity in Russia, as the need to refinance external borrowing which became one of major fundamental factors of destabilization of Russia's currency market in H2 2014.

During this period, the Bank of Russia significantly widened the set of instruments of monetary policy including at the expense of introduction of "non-standard instruments." Special mention should be made of the new for the Russian economy mechanisms for providing currency liquidity. In late October-early November 2014, the bank of Russia launched REPO operations in foreign currency first for a period of one week and 28 days and later for a year. Adjusting to the growing demand for foreign currency, already in December 2014, minimum interest rates were cut at auctions for all periods. In late December 2014, the bank of Russia started lending in foreign currency collateralized by receivables for the period of 28 and 365 days.

The Bank of Russia started to gradually exit the anti-crisis regulatory measures solely as the situation on the currency market stabilized in 2015. In March 2015, rates on operations with liquidity were raised and from 1 June 2015, auctions on provision of most prolonged loans in foreign currency up to 365 were dropped.

We would note the Bank of Russia's decision to renew currency interventions adopted in mid-May 2015 against the raise of Brent crude above $60 per barrel and after the peak external debt repayments. Although the size of international reserves of the Bank of Russia exceeds world standards of their sufficiency, this will allow the regulator to replenish reduced currency reserves and increase sustainability and measurability of the Russian economy.

On the whole, in our opinion, a complex of regulatory measures implemented by the bank of Russia in H2 2014 – early 2015 represented an adequate although sometimes not always consistent answer to external shocks. For instance, transition to a floating currency exchange implemented prior to the announced dates deepened negative processes in late 2014 by creating panic sentiment among economic agents. However, currently flexibility of the exchange rate formation mechanism represents the principal factor which facilitates adjustment of the Russian economy to external shocks. At the same time, one should bear in mind that in the framework of the floating exchange rate strengthening of the national currency will undoubtedly be replaced by its depreciation and visa versa.

Exchange rate volatility is an inherent part of a national currency formed under the impact of market factors including in the framework of floating exchange rate mechanism. The highest levels of volatility and magnitude of the exchange rate variation are true of currencies of the developing countries which are characteristic not only of high degree of dollarization of the economy but of underdevelopment of financial markets. In these circumstances precisely flexibility of exchange rate mechanism is a significant buffer of external shocks.

In view of this, taking account of accomplished transformation by the Bank of Russia of exchange rate mechanism, repetition of the situation created in December 2014 is highly unlikely. In our opinion, the Russian economy has already adjusted to external sanctions and the regulator significantly widened the potential and measurability of the monetary policy. At the same time, negative consequences of price reduction on the energy resources which resulted in contraction of the revenues to the budgetary system will be neutralized by the corresponding depreciation of the Russian ruble.

Anna Kiyutsevskaya – researcher