Should Putin Let the Ruble Bottom Out?
The Russian president is just the latest in a long line of national leaders with a sentimental, ill-fated attachment to propping up their countries’ currencies.
One can almost excuse Vladimir Putin for trying so hard. This is a man, after all, who famously built his public image in part on feats of derring-do: riding shirtless across Siberia, hang-gliding with migrating birds, and releasing a caged leopard into a natural reserve. So perhaps it isn’t surprising that the Russian president would leap with similar brashness into his country’s economic crisis, precipitated by tumbling global oil prices and Western sanctions. Why not use sheer financial force to wrestle the depreciating ruble back to safety?
At 1 a.m. Moscow time on Dec. 16, Russia’s central bank announced a massive hike in the country’s interest rate, from 10.5 to 17 percent. Early indicators of the government’s move were mildly positive, with the ruble opening the next morning up 10 percent against the dollar. Within hours, though, the weight of the foreign exchange market reasserted itself, hammering the ruble to less than half its starting value in 2014 and raising the dual specters of inflation and recession. Over the following weeks, Putin and his lieutenants proved almost wholly incapable of controlling the two economic forces that mattered most to them: As of mid- January, spot prices for Brent European crude oil hovered near the historically low level of $46 a barrel, and the ruble was stubbornly slumped at 65 to the dollar.
It’s clear why falling oil prices and a declining ruble would strike fear into even the leopard-friendly Putin. The Russian economy remains overwhelmingly dependent on oil and natural gas, which in 2013 accounted for 68 percent of the country’s export revenues and 50 percent of its federal budget. Diminishing global energy prices could lead to a 4.5 percent GDP contraction in 2015, according to the country’s central bank. A declining ruble would similarly wallop the country’s holders of hard-currency debt, $130 billion of which come due this year.
What’s not clear is how Putin and his colleagues could realistically have expected to achieve anything by hiking the interest rate. Unless the increase was intended to attract foreign capital — a very unlikely event — it could only have led to higher inflation and greater downward pressure on the ruble. The country’s international debt was destined to become harder to service; the prices of imported goods were likely to rise; and Russian holders of foreign debt were going to face difficulties in accessing foreign currencies.
Yet Putin is hardly the first national leader to chase a stronger currency at the risk of a weaker economy. In the 1920s, Winston Churchill drew down his country’s reserve holdings to bolster the British pound, long after the nexus of global financial power had shifted from Britain to the United States. The result was a marked decline in British industrial competitiveness and a sagging economy that contributed to the unfurling of the Great Depression. Half a century later, U.S. President Richard Nixon struggled to maintain the dollar’s position as the world’s reserve currency despite the growing financial cost to the United States of doing so. And Mexican President José López Portillo pledged to “defend the peso like a dog” shortly before being forced by his country’s collapsing economy to let the currency float, and plunge. In all these cases and many others like them (Russia in 1998, Indonesia in 1997, the United Kingdom in 1992), intervention led solely and inevitably to malaise: higher inflation rates, slower growth, rising unemployment, and capital flight.
Why such a long line of clearly ill-fated policies? Probably because, like many of their citizens, national leaders often seem to feel a physical, sentimental attachment to their currencies. It’s an odd vestige, arguably, in a world marked by increasing cross-border flows of foreign exchange, but a powerful one nonetheless. In theory, the value of any currency is an impersonal, apolitical fact — the result of supply and demand in the open marketplace. In practice, though, leaders often associate strong currencies with national strength more generally and thus view declining currencies (and particularly rapidly declining ones) as insults to their prowess.
As a result, in the optics of intervention, a national leader is seeking to convey a certain element of power-broking — to display muscle and an implicit promise that the state is not being abandoned to ruinous outside forces. Think again of Churchill, who in 1925 risked Britain’s gold to prop up the beloved pound. The economic wisdom was clear: Intervention would not work. That same year, economist John Maynard Keynes had warned that returning Britain to the gold standard at an artificially inflated rate would lead inevitably to unemployment, class conflict, and prolonged strikes. Yet Churchill proceeded, unwilling to let the pound fall below what he considered its rightful level.
For Putin, too, sitting by as the ruble declined was probably never an option — and still isn’t. He likely will keep indulging in efforts to pump up the ruble and draw down Russia’s hard-currency reserves accordingly. (In a surprise move, the central bank cut interest rates in late January — but only by 2 percentage points.) Because neither of these measures will do anything to redress the country’s underlying economic woes, however, Russia will probably be consigned to muddling through until global oil prices eventually rise again.
What Russia should do is diversify its economy away from anything that involves extracting resources out of the ground and selling them at volatile, internationally set prices. The country should follow the Norwegian example of isolating energy revenues in a sovereign wealth fund, investing the proceeds for the long term, and insulating its broader economy from dependence on commodity markets. It should consider strategies like those employed in Chile, where copper revenues are carefully invested in a broader range of industries and where export earnings during booms are reliably saved for less felicitous days.
Until that happens, Russia and its chest-thumping leader will be caught in a cage of their own making, acting symbolically but without any real effect. And the country will remain on the long list of states making policies based on nostalgia rather than sense.
Illustration by Matthew Hollister