President Obama might have a future as a credit rating analyst. During his State of the Union, you might remember, he took a victory lap of sorts when he declared that, as the price of its aggression, Russia's economy was "in tatters." Well, S&P agrees: the rating agency just downgraded Russia to junk.
Now, normally I wouldn't pay any attention to what a credit rating agency says about a government. That's just, like, their opinion, man, and often a poor one at that. But this time is, well, different, because if Russia is rated junk, then its companies will be too—which will increase the borrowing costs on their existing debt. It could also trigger earlier bond repayments, which, together with the higher interest rates, could, according to one official, cost them as much as $20 to $30 billion.
And that's $20 to $30 billion it really can't afford. Russia, as I've said before, doesn't have an economy so much as an oil-exporting business that subsidizes everything else. But it can't subsidize much when prices are only $50-a-barrel. That leaves Russia in a world of bad, worse, and Dostoevskian choices. Cheaper oil, you see, means that Russian companies have fewer dollars to turn into rubles, which is just another way of saying that there's less demand for rubles—so its price is falling. But it can't fall too much or Russian companies, who have a lot of dollar debts they can't roll over due to Western sanctions, won't be able to pay back what they owe. Even worse, Russia banks could face a run on their foreign currency holdings, as people try to turn rubles they think will lose value into dollars that won't.
Russia can't wake up from this economic nightmare, though, because they're not asleep. This is their reality. After falling in almost perfect tandem with oil for most of the year, the ruble started free falling in December. In under a week, it went from 55 to 75 rubles per dollar—a 36 percent decline—and the panic got so bad that the bank run turned into an Apple and Ikea run. People decided that if they couldn't ditch their rubles for dollars, then they'd settle for the latest smartphones and assemble-it-yourself furniture instead.
Faced with this catastrophic loss of confidence in their currency, Russia did the only thing it could do: everything. First, it jacked up interest rates from 10.5 to 17 percent to try to get people to hold their money in rubles that would pay them a lot of interest rather than dollars that wouldn't. Then it started spending its $400 billion-ish war chest of reserves to prop up the ruble directly. And when that wasn't enough, it, well, "convinced" exporters to sell their dollars for rubles and made oligarchs bring their overseas money home to pay taxes. In Putin's Russia, this counted as kinder, gentler capital controls. After all, as one official explained, "there were no threats of sending anyone to Siberia."
The result, as you can see below, was a short-lived ruble rally that has since dissipated. The problem, as Lars Christensen of Danske Bank told me, is that the ruble "should" be worth 75 per dollar as long as oil is around $50-a-barrel. What makes that even trickier, though, is that a currency doesn't fall to its fair value, but rather to the point at which it's expected to move up to its fair value. Markets overshoot, in other words, because nobody wants to buy rubles right before they hit bottom. That means, absent Russian intervention, the ruble would probably be trading around 80 or 85 per dollar, and maybe even lower.
So the Russian government can keep spending its dollars and forcing its companies to do so too, but whatever boost the ruble gets will fade away as long as its fundamentals are weak. Low oil prices, you see, are like gravity pulling the ruble down. It just the S&P downgrade to remind everyone of that, as the ruble fell another 7.5 percent on Monday.
It's an economic catch-22 called "Not Enough Dollars." Russia, you see, hasn't had to just bail out the ruble. It's also had to bail out its banks, including, it looks like, another one on Monday, that have been hit hard by the ruble's decline and declining earnings. And, after it made its companies sell their dollars, it's had to bail them out with new dollars too, so they can pay back their dollar debts, a financial shell game meant to hide how much of its reserves the government is really spending. Finally, though, the government might have to bail itself out. Its budget could go from surplus to deficit now that oil revenues have halved, and it can't borrow what it needs because sanctions have cut it off from international credit markets. It's no wonder, then, that Russia's reserves are already down to $379 billion from $414 billion a few weeks ago. That's a pretty high burn rate.
And it's only going to get worse. Russia's economy, its central bank says, will shrink 4.5 to 4.7 percent this year as long as oil stays at $60-a-barrel. It's under $50-a-barrel now. And its sky-high interest rates will only add to that by keeping people from borrowing. So will its oil-induced austerity, as the government announced it will cut all non-defense spending by 10 percent. But the biggest negative for them, aside from still-cheap oil, is that the EU is getting ready to introduce new sanctions after Russian-backed rebels attacked again in Ukraine. That'll put even more pressure on Russia's companies to pay back what they owe, which isn't easy when the collapsing ruble is making foreign currency debts more expensive and the collapsing economy is making the rest more expensive too by crushing earnings.
Russia, in other words, is doomed as long as oil is cheap and sanctions are in place. It could survive either alone. But together, they destroy Russia's economy and its ability to borrow to cover that up. And unlike, say, 2008, when oil prices rebounded rather quickly, this crisis could last awhile. After all, if you think Putin is going to back down in Ukraine anytime soon, well, think again: he's already pushed pro-peace oligarchs who've lost a lot of money the past year to his outer circle, if that.
The government, for its part, is trying to put a brave face on this bleak economic picture. One Kremlin official went so far as to say that the Russian people are prepared to "eat less" to support Putin. Maybe that's why Putin doesn't allow real elections—because that's not much of a slogan.