Friday, March 04, 2022

Central bank sanctions strike at the foundations of Russia’s economy

March 4, 2022

The writer is a research fellow at the Hoover Institution, Stanford University

Of all the sanctions the west imposed on Russia last week, sanctioning Russia’s central bank is by far the most fateful. “We will cause the collapse of the Russian economy,” said Bruno Le Maire, France’s finance minister. This is not hyperbole. And if managed smartly by the west, these sanctions can also stop the war in Ukraine and beyond.

The possibility stems from an unsung feature of any modern central bank. The Russian central bank is, like others, not only the lender of last resort to commercial banks in its domestic currency, the rouble, but also the lender of last resort in foreign exchange. FX reserves support the exchange rate and the value of the rouble, ensure the stability of the banking system and its deposits, prevent runs on banks, bail out the foreign debt of state and private corporations and manage the sovereign wealth fund.

Western sanctions strike at these foundations of the Russian economy. And this has become possible because of the digitalisation of international finance.

Unlike in times past, most components of FX reserves are not physical certificates of government bonds or piles of cash in dollars, euros, pounds and yen. In the 21st century, they are electronic book entries on the computer ledgers of the Federal Reserve Bank of New York, the European Central Bank, European national central banks, the Bank of England, the Bank of Japan and Swiss commercial banks.

This digitalisation separates ownership and control of FX reserves. Russia owns them but western issuers and computerised holders of these assets control access to them. At the end of February, they collectively closed Russia’s access to these assets, froze them and banned all private transactions with the Russian central bank so that it cannot sell securities and cannot withdraw cash from western banks. From a source of economic strength during peacetime, FX reserves turned into the source of a crash during war.

Within a fateful 24 hours, the Russian central bank and Russians lost access to 60 per cent of FX reserves, $388bn out of a total $643bn. They lost access to entire arrays of assets: securities and deposits in western central banks ($285bn) and in western commercial banks and brokerages ($103bn). The Russian central bank is left with $135bn worth of gold in its vaults, $84bn of Chinese securities denominated in renminbi, a $5bn position in the IMF and a residual $30bn in actual cash, dollars and euros. (These are my calculations from central bank data).

With 60 per cent of FX reserves out of commission, Russia has to rely on the remaining 40 per cent, but there is no freedom to operate there either. The central bank cannot sell gold for dollars and euros because all transactions with it are prohibited and foreign bankers and dealers do not want to invite western wrath. The IMF reserve position is untouchable. Some $84bn in Chinese securities could, hypothetically, have been sold back to China, with a discount, to be paid in dollars, cut to $50bn, but China’s state banks have already refused financial deals with Russia. Which leaves only $30bn in cash — too little to prevent financial and economic ruin.

The rouble is already in freefall and the run on banks in full swing. Russian corporate and individual depositors have $280bn in dollar and euro denominated account balances with Russian commercial banks. Banks cannot have that much foreign cash on hand and the central bank doesn’t have cash to save them. Now people want to withdraw rouble deposits, not because they are afraid that next time the roubles won’t be there but because they expect that next time their bank won’t be there. The Russian people saw bank failures during the default of 1998 and expect no less.

The final implosion will be over supply chains. Businesses will demand dollars for payments. The successful part of the economy, producers of natural resources and high-value goods, will operate in dollars. The rest will have to resort to barter and endure supply interruptions, work stoppages and unemployment. The government may ban foreign currency transactions and demand that businesses trade only in roubles. This is unenforceable. The economy will break and a GDP contraction follow.

These developments will weaken the Russian war effort but, alas, may not be sufficient to stop the war. But something else may. The west can offer the Russian government a deal: cash for peace. This is akin to the IMF practice of conditional loans. The west has frozen $388bn in Russian assets. We can offer to unfreeze assets in tranches, say, $50bn a piece to save their economy in exchange for withdrawing forces from Ukraine, pledging not to ever use nuclear weapons and, generally, starting a return to humanity.

Source: Financial Times

European Deals Worth $300 Billion Left Exposed by War in Ukraine

Dinesh Nair and Ruth David
Thu, March 3, 2022


(Bloomberg) -- Russia’s invasion of Ukraine has left dealmakers in Europe unsure about if and when roughly $300 billion of mergers, acquisitions and listings will go ahead.

Fresh volatility in the market, rising energy prices and worries about a drawn-out war are pushing corporate boards and previously free-spending private equity firms into wait-and-watch mode. That’s raising questions about an M&A pipeline with some high-value transactions in the works.

They include Walgreens Boots Alliance Inc.’s sale of its international Boots drugstore unit, Novartis AG’s potential disposal of its Sandoz generics arm and National Grid Plc’s efforts to offload a stake in its gas transmission business.

These alone represent about $45 billion of deal value, according to Bloomberg News reports, and have the potential to boost a slowing market for M&A in Europe.

Even before the invasion, the deals boom had started to show signs of fatigue in the region as gloomy economic and geopolitical forecasts soured sentiment. European deal values were down 22% year-on-year through Wednesday, data compiled by Bloomberg show.

Another roughly $50 billion of possible deals could come from German national railway operator Deutsche Bahn AG selling or listing its logistics arm, KKR & Co.’s pursuit of Telecom Italia SpA, and any sale by Reckitt Benckiser Group Plc of its infant nutrition unit. And then there’s the potential for a blockbuster sale or spinoff of GlaxoSmithKline Plc’s 50 billion-pound ($67 billion) consumer health unit.

Elsewhere, Russia’s military attack on Ukraine has effectively shut the market for initial public offerings in Europe.

Among the big IPOs set to kick off in the coming months in Europe are Thyssenkrupp AG’s electrolysis plant business Nucera, Eni SpA’s renewables division Plenitude, Olam International Ltd.’s food ingredients and EQT AB’s skincare business Galderma. These IPOs have the potential to create listed companies with a combined value of about $50 billion.

Volkswagen AG, meanwhile, continues to explore a blockbuster IPO of Porsche that could value the sportscar brand at more than $95 billion.

It’s unlikely big offerings will go ahead in the next few weeks. Volatility in the short to medium term could also hurt the IPO ambitions of private equity firms including CVC Capital Partners and Ardian SAS.

Most Read from Bloomberg Businessweek

Russia's financial "fortress" falters under the West's sanctions


Kate Marino
Thu, March 3, 2022


Re-created from the Atlantic Council's GeoEconomics Center; Chart: Axios Visuals; Does not include gold held domestically. *This value also encompasses smaller financial institutions. The status of these reserves is unclear.

Russia spent seven years building a financial “fortress” that could help it withstand the impact of sanctions imposed by the West — and the keystone was $630 billion in central bank foreign exchange reserves.

Driving the news: Presumably, Russia didn’t expect the G7 nations to go so far as to freeze those reserves, which they did this week — a move nearly unprecedented in scope.

Why it matters: That fortress isn’t so strong after all if Russia can't use its billions to support its war efforts and fund domestic spending.

The G7 has locked up nearly $400 billion of that money, according to estimates by the Atlantic Council's GeoEconomics Center.

Backstory: Since March 2014, Russia has cut its foreign assets held in the U.S. and Europe, while increasing those in China and Japan, as well as its domestic gold holdings, the FT reports.

The big question: How will China handle Russia's yuan assets? China's not expected to freeze them — but faces a dilemma in how to aid its strategic partner, Russia, without running afoul of Western sanctions, Bloomberg writes.





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