Rouble gains amid continued distress for economy

Moscow: The Russian economy is sliding into a recession. Consumers are retreating. Corporate profits are suffering.

But the rouble is having a strangely successful year. Since January, the rouble has been the best performer of any currency, up 21 per cent.

The rouble has risen so robustly that the central bank on Thursday reversed a long-running policy of propping it up. Under a new plan, the central bank will buy foreign currencies to replenish its reserves, a move that will effectively weaken the rouble.

It represents a stark turnabout. Last year, the central bank spent billions defending the currency, which sank to a post-Soviet low as Russia was hit with the dual blow of sanctions over the Ukraine crisis and the weakness in oil prices. The rouble was the second-worst performing currency in 2014, just behind the Ukrainian hryvnia.

The underlying economic prospects for the country have not changed. Russia is headed into a deep recession, and Western trade and financial sanctions are still biting into consumer confidence. But the markets, at least, are finding a glimmer of hope.

“Certainly sentiment has improved for Russia,” said Boris Erenburg, a portfolio manager with the Spinnaker Capital Group in London. “A lot of things have been working so far this year.”

Oil prices have bounced off their lows. Russia’s economy is heavily dependent on energy exports, and the fate of the rouble has historically followed the price of a barrel. Tensions, too, are easing over the Ukraine crisis, even if sanctions have not. The threat that the crisis will blow up into a major war in Europe seems to be diminishing.

Even a diplomatic thaw now looks possible. Secretary of State John Kerry met with President Vladimir Putin of Russia.

It also helps that the dollar is weakening on worries that the American economy is losing momentum. As the dollar’s rally has faded, currencies around the world have surged. The euro, which early this year was flirting with parity to the dollar, reached a three-month high Thursday.

“It’s a broader dollar move that we’re seeing in the light of the disappointing data out of the US,” said Phyllis Papadavid, a senior foreign exchange strategist at BNP Paribas in London. “This isn’t a euro move.”

Given the confluence of events, investors have been broadly more optimistic about the opportunities in Russia.

The benchmark Russia index, the Micex, is up more than 20 per cent this year, although it has given up some of its gains in recent weeks. Yields on Russian bonds have been falling over the last few months, reflecting increased demand from investors.

On Thursday, the rouble hit 50 against the dollar. At its lowest point last year, it traded briefly around 80.

“Everyone is saying it has been developing surprisingly better than expected,” Vladimir Miklashevsky, an economist at Danske Bank, said of the rouble’s rise. “You have a better equation for your profits.”

So far this year, Danske Bank’s two Russian stock funds are the best in the bank’s portfolio, taking into account the appreciation of the rouble. The bank’s broad stock fund is up 47 per cent year to date, and the small capitalisation fund is up 45 per cent.

Russia’s central bank’s new plan, though, may put a crimp in the currency. The central bank said it intended to buy $100 million to $200 million a day on Russia’s currency market.

In doing so, Russia will restock its foreign currency reserves. Since the start of the Ukraine crisis in January 2014, those reserves have dropped by $143 billion (Dh525 billion), as the central bank tried to prop up the rouble.

While not the central bank’s stated goal, the move will also limit the rouble’s rise. It has good reason to do so.

An overly strong currency hurts exports and could tip the budget into a deficit. Revenue from its biggest export, oil, is taxed in roubles, while the commodity is priced in dollars.

Weakening the currency, said Miklashevsky, ensures the government will have sufficient revenue to avoid cuts to pensions and the military this year. If the rouble were allowed to appreciate, both outlays might have been reduced in rouble terms.

Yaroslav Lissovolik, chief economist for Russia at Deutsche Bank, said the weak rouble policy was also intended to prop up domestic industry and agriculture in these geopolitically uncertain times, albeit at the cost of leaving inflation high.

“There’s still the hope a weaker rouble will still deliver import substitution,” a switch to buying domestic products from some imports, she said. “The weaker rouble creates these conditions for an easy life for local enterprises, so they don’t have to engage in active restructuring and actively try to increase productivity and efficiency.”

The rouble’s value — and helping to stabilise those industries — is especially critical at this economic juncture.

The European Bank for Reconstruction and Development predicts Russia’s economy will contract 4.5 per cent this year. The World Bank predicts a 3.5 per cent drop.

In short, Russia is facing a recession. Although the Russian government predicts the economy will return to growth in 2016, both groups expect the downturn to continue next year.

“We’re not at the bottom of the crisis,” Miklashevsky said of the central bank’s shift on Thursday. High inflation and interest rates, only now made worse by the bank’s intervention, are still “murder for the real economy.”