Russia faces an “imminent” default that exposes the rapid deterioration of its economy

Russia’s economy is facing a recession unprecedented in the country’s recent history. The West’s voluptuous sanctions are hitting its markets with violence and will soon hit its economy as well, if they aren’t already. So much so, that the rating agencies foresee a default impending Russian debt despite the fact that its level of leverage is relatively small compared to that of developed countries. Russia is about to fall into a recession that could leave the one suffered during the covid or the debt crisis of the 90s in ‘nothing’.

Fitch has been the latest agency to give a clear touch to Russia. This Tuesday the rating agency has lowered Russia’s sovereign debt note six more steps to ‘C’. The table that Fitch publishes on its website reveals that this rating is synonymous with default inminent with little prospect of recovery (imminent non-payment with little chance of recovery).

A few days ago, the rating agency Moody’s downgraded the sovereign credit rating of the Russian Government to ‘Ca’ due to the expectation that the capital controls of the Central Bank of Russia will restrict cross-border payments, including servicing the debt of government bonds. “The downgrade to ‘Ca’ is driven by major concerns about Russia’s willingness and ability to pay its debt obligations,” the agency said in a statement, indicating the country’s outlook remains negative.

Foreign currency inflows into Russia have been cut short in the face of international repudiation of goods and services manufactured in the country. The massive attack on Ukraine It has generated great animosity at a global level that is having its reflection in commercial and financial relations with Moscow. Even gas exports to Europe are in danger despite the enormous dependence on the Old Continent.

While the inflow of foreign currency has slowed down, capital is trying to flee Russia, avoiding the controls imposed by the government of Vladimir Putin. As a consequence, the ruble has already dropped more than 40% against the dollar since the invasion began.

CDS are shot

The situation is critical for the Russian economy. the cds (Credit Default Swap) of the five-year Russian bond have skyrocketed and have almost reached 3,000 points. This means that to insure 1,000 euros (nominal of a bond) of Russian debt, almost 300 euros (30% of the nominal) must be contributed. For example, to insure a five-year Spanish bond, it would only be necessary to contribute 0.46% or 46 euros, in case the nominal amount was 1,000 euros as well.

The rating agency indicates that by presidential decree it could force a redenomination of sovereign debt payments in foreign currency to local currency for creditors in specific countries. In other words, Moscow could convert some of its debts in dollars or other currencies into rubles, which would mean a more than notable loss for the country’s creditors. Not even the sharp rise in rates by the Bank of Russia has served to stop the bleeding that the ruble is experiencing.

“The increase in sanctions and proposals that could limit energy trading increase the likelihood of a political response from Russia that includes at least the selective default of its sovereign debt obligations,” the rating agency said in a statement.

a historic recession

JP Morgan economists last week assured their clients in a report on Friday that they expect a 7% contraction in GDP this year, while Bloomberg Economics it forecasts a drop of around 9%. Remember that the economy shrank 5.3% in 1998 in the midst of the debt crisis. It must be remembered that the GDP contracted just over 3% in Russia during the covid crisis in 2020. So the recession that the Russian economy will experience this year could be closer to the great crisis that this territory experienced during the breakup of the Soviet Union between the late 1980s and early 1990s.

In the short term the blow is being intense, but in the long term the situation does not seem better. The intense flight of international companies and the freezing of their investments will be a burden on the country’s productivity and, above all, on innovation and development that are so dependent on foreign direct investment and the transmission of knowledge that occurs through this investment type.

Russia’s economy will also have to deal with runaway inflation that will intensify as the ruble’s collapse makes imports of goods and services more expensive in relative terms. It has already been seen recently how the collapse of the Turkish lira has triggered inflation in Turkey.

next payments

On March 16, Russia must pay 107 million in coupons through two bonds, although it has a grace period of 30 days to make the payments, the experts of the rating agencies doubt the ability (or will) of the country to pay these obligations.

From the Scope Ratings agency they also warn of the difficult situation facing the Russian economy and the creditors who have lent it money. The severe and reinforced economic and financial sanctions by the US, the EU, the UK and other international partners in response to the rapid and protracted escalation of Russia’s military intervention in Ukraine, are seriously undermining Russia’s credit fundamentals and its ability to guarantee timely debt service.

The sanctions have other adverse implications for Russia’s economy and financial stability, causing the country is more vulnerable to banking crises and short-term liquidity. The sharp loss of investor confidence is reflected by the withdrawal of Russian securities from major stock indices, including the MSCI Emerging Markets and the FTSE Russell, they say from Scope Ratings.

The economic, financial and political consequences of the current crisis will seriously undermine the medium-term macroeconomic outlookfinancial stability, institutional credibility and Russia’s already weak investment conditions, which will lead to severely restricted access to foreign capital and financial markets, increased capital outflows, tightening of financial conditions and a weakening of financial reserves.