merging market storm spreads to Russia as rouble wobbles
Russian central bank vowed “unlimited” intervention to defend the rouble after it fell to a record low against a basket of currencies
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Moscow has already burned through $7bn of reserves since early January Photo: AFP
8:47PM GMT 30 Jan 2014
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The simmering crisis in emerging markets has spread to Eastern Europe, forcing
Russia and Romania to defend their currencies against capital flight and
triggering a sharp rise in Hungary’s borrowing costs.
The Russian central bank vowed “unlimited” intervention to defend the rouble
after it fell to a record low against a basket of currencies.
Moscow has already burned through $7bn of reserves since early January. Yields
on Russia’s two-year “cross-currency swaps” – closely watched by traders for
signs of a liquidity crunch – rocketed by 60 basis on Thursday to 7.6pc.
They have risen by 140 points in the past three weeks.
Two-year swap yields showing liquidity crunch
While there is no single cause for the emerging market sell-off, the backdrop
is a combined monetary squeeze by the US and China that is draining
liquidity from the global system.
Russia’s central bank governor, Elvira Nabiullina, said she would not allow a disorderly rouble slide or risk widespread damage to the financial system, backing away from earlier pledges to free the exchange rate. “We are not planning to quit intervention,” she said.
James Lord and Meena Bassily, from Morgan Stanley, said Russia faces an invidious choice, since any move to defend the rouble automatically tightens monetary policy, pushing up borrowing costs. Russia learnt a hard lesson in 2008-2009 when it spent $200bn of reserves defending the currency but in the process caused a collapse of the money supply and destroyed part of the banking system. Yet it cannot risk a policy of benign neglect at a time of stubbornly high inflation and capital outflows that reached $63bn last year.
Tatiana Orlova, from RBS, said there is a risk of “a run on the currency” unless the authorities take decisive action.
In Hungary, 10-year bonds have jumped 60 points over the past week amid reports that the central bank will be forced to ditch plans for rate cuts to shore up the economy. The bank said it is watching the forint “very carefully” after a 7pc slide this month, a drop seen as “too big” for safety.
“Central and Eastern European currencies are starting to wilt. Hungary is trading on very thin ice, but even Poland is vulnerable,” said sovereign bond strategist Nicholas Spiro.
The fresh ructions came after Turkey’s “shock and awe” move to double interest rates on Tuesday failed to restore confidence in the lira, leaving it unclear what the country can feasibly do next. A less drastic move by South Africa had equally meagre results.
“Our concern is that this could lead to a new phase of the crisis,” said Neal Shearing, from Capital Economics. “These countries are caught between a rock and a hard place.”
Analysts say Turkey has ended up with the worst of both worlds. The rate shock will shatter growth and could trigger recession but the authorities have used up their last credible tool for defending the currency.
Lars Christensen, from Danske Bank, said: “Everybody knows that Turkey cannot raise rates by another 500 basis points and nor can they sustain the current rates for long because it will kill the economy.
“I fear the only way out of this may be capital controls, though it would be disastrous if the world goes down that route. These countries should stop trying to defend quasi-pegs and just let their currencies fall. We now have a very risky situation where several central banks are responding to weakening growth in China by tightening policy, which makes it worse.”
Turkey’s finance minister, Mehmet Simsek, denied that there are any plans for capital controls but admitted that the issue “had come up” and was being studied. It has been widely reported in the Turkish press that premier Recep Tayyip Erdogan favours such curbs as less damaging than a monetary squeeze.
Dominic Byrant, from BNP Paribas, said Turkey is the country most at risk, punished for a current account deficit above 7pc of GDP and external debt equal to almost 180pc of exports. But any state with a trade deficit, sticky inflation that also depends heavily on exports to China, is at risk. “Brazil and Indonesia stand out as obvious candidates: 20pc of Brazil’s exports go to China,” he said.
Kingsmill Bond, from Sberbank, said Russia should be sheltered from the latest storm since it has a big current account surplus and oil is still at $105 a barrel. “It gets hit whenever there is an emerging market shock because 70pc of the free float of the Russian equity and bond market is held by foreigners.”
He said there are concerns that oil prices could start to track the slump seen in other commodities as Iran, Libya and Iraq step up production, although Russia has a “rainy day” fund worth 8pc of GDP to cover shortfalls for a while. “We think oil would have to fall below $80 to become a serious issue,” he said.
The International Monetary Fund said it in its annual health check that Russia’s growth potential has collapsed, exhorting the country to reinvent itself to escape the middle income trap. “Russia needs to embrace a new growth model. The previous model of high growth on the back of rising oil prices cannot be replicated,” it said.
The emerging markets are now at a critical juncture. There have been record redemptions this month from mutual funds that invest in these countries but big insurance companies and sovereign wealth funds have held firm.
“Any sign that institutional money is starting to flee would mark a much more severe escalation of the sell-off,” said Mr Spiro.
Russia’s central bank governor, Elvira Nabiullina, said she would not allow a disorderly rouble slide or risk widespread damage to the financial system, backing away from earlier pledges to free the exchange rate. “We are not planning to quit intervention,” she said.
James Lord and Meena Bassily, from Morgan Stanley, said Russia faces an invidious choice, since any move to defend the rouble automatically tightens monetary policy, pushing up borrowing costs. Russia learnt a hard lesson in 2008-2009 when it spent $200bn of reserves defending the currency but in the process caused a collapse of the money supply and destroyed part of the banking system. Yet it cannot risk a policy of benign neglect at a time of stubbornly high inflation and capital outflows that reached $63bn last year.
Tatiana Orlova, from RBS, said there is a risk of “a run on the currency” unless the authorities take decisive action.
In Hungary, 10-year bonds have jumped 60 points over the past week amid reports that the central bank will be forced to ditch plans for rate cuts to shore up the economy. The bank said it is watching the forint “very carefully” after a 7pc slide this month, a drop seen as “too big” for safety.
“Central and Eastern European currencies are starting to wilt. Hungary is trading on very thin ice, but even Poland is vulnerable,” said sovereign bond strategist Nicholas Spiro.
The fresh ructions came after Turkey’s “shock and awe” move to double interest rates on Tuesday failed to restore confidence in the lira, leaving it unclear what the country can feasibly do next. A less drastic move by South Africa had equally meagre results.
“Our concern is that this could lead to a new phase of the crisis,” said Neal Shearing, from Capital Economics. “These countries are caught between a rock and a hard place.”
Analysts say Turkey has ended up with the worst of both worlds. The rate shock will shatter growth and could trigger recession but the authorities have used up their last credible tool for defending the currency.
Lars Christensen, from Danske Bank, said: “Everybody knows that Turkey cannot raise rates by another 500 basis points and nor can they sustain the current rates for long because it will kill the economy.
“I fear the only way out of this may be capital controls, though it would be disastrous if the world goes down that route. These countries should stop trying to defend quasi-pegs and just let their currencies fall. We now have a very risky situation where several central banks are responding to weakening growth in China by tightening policy, which makes it worse.”
Turkey’s finance minister, Mehmet Simsek, denied that there are any plans for capital controls but admitted that the issue “had come up” and was being studied. It has been widely reported in the Turkish press that premier Recep Tayyip Erdogan favours such curbs as less damaging than a monetary squeeze.
Dominic Byrant, from BNP Paribas, said Turkey is the country most at risk, punished for a current account deficit above 7pc of GDP and external debt equal to almost 180pc of exports. But any state with a trade deficit, sticky inflation that also depends heavily on exports to China, is at risk. “Brazil and Indonesia stand out as obvious candidates: 20pc of Brazil’s exports go to China,” he said.
Kingsmill Bond, from Sberbank, said Russia should be sheltered from the latest storm since it has a big current account surplus and oil is still at $105 a barrel. “It gets hit whenever there is an emerging market shock because 70pc of the free float of the Russian equity and bond market is held by foreigners.”
He said there are concerns that oil prices could start to track the slump seen in other commodities as Iran, Libya and Iraq step up production, although Russia has a “rainy day” fund worth 8pc of GDP to cover shortfalls for a while. “We think oil would have to fall below $80 to become a serious issue,” he said.
The International Monetary Fund said it in its annual health check that Russia’s growth potential has collapsed, exhorting the country to reinvent itself to escape the middle income trap. “Russia needs to embrace a new growth model. The previous model of high growth on the back of rising oil prices cannot be replicated,” it said.
The emerging markets are now at a critical juncture. There have been record redemptions this month from mutual funds that invest in these countries but big insurance companies and sovereign wealth funds have held firm.
“Any sign that institutional money is starting to flee would mark a much more severe escalation of the sell-off,” said Mr Spiro.
