28.10.2008 Russia, Moscow. A currency exchange office.
Photo: Sergey Kiselev
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Economic Prognosis
December is here, and Vlast economic weekly is making its economic prognosis for the coming month as usual. Experts will answer the following questions: what will happen to the dollar on the Russian currency market, how consumer prices will change, what world oil prices will be and how the dollar and euro will fare on the world currency market. But first, a look at the major economic event of November.
The major event of November was the decrease in the ruble exchange rate, which caused extreme concern with the public. The month started with an official exchange rate of 27 rubles/$, and throughout November the U.S. currency cost more than 27 rubles.
One can recollect that the dollar hit the 27-ruble mark for the first time at the end of December, 1999, almost reaching 28 rubles in January, 2000. The thing is that after the financial crisis of 1998 the dollar promptly went up. Before the crisis it cost 6.2 rubles, and at the end of 1998 – already 21 rubles. In early October, 1999 it rose by 1 ruble within a week and hit the 26-ruble mark. The dollar’s records did not surprise anybody. It was clear that inflation was extremely high in the country; the Central Bank issued a lot of rubles; speculators were determined to play against the Russian currency; and the Government could hardly sap the dollar’s growth with currency interventions. Even the relatively expensive oil was of no help (in 1998 it cost $9 for barrel, and in February, 2000 – over $30 for barrel). The ruble continued to fall. In 2000 the dollar rose from 27 rubles to 28 rubles; in May, 2001 it hit 29 rubles. A temporary fall of the world oil prices after 9/11 (at that time its cost dropped 25% within a month, falling below $20 for barrel) affected the ruble badly. It became obvious that the ruble will not be always backed by the inflow of petrodollars to Russia. At the beginning of 2003 the dollar cost 32 rubles already. But then it stopped growing and started to plunge; at the end of 2003 it cost some 29 rubles. It was not explained only by the fact that the oil world prices had a growth potential. The Russian Central Bank chose the strategy of strengthening the national currency, having saved up considerable reserves (in 2003 they exceeded $60 billion, which is quite big funds). An increase in the national currency exchange rate was considered to show the economy’s recovery and the effectiveness of market reforms. In addition, the Government would emphasize all the time that strengthening the ruble was an anti-inflationary tool. Finally, the Central Bank noted that Russia became attractive for foreign short-term investments. All in all, there were a lot of dollars in Russia and it was necessary to save the foreign currency, rather than the Russian one, from depreciation.
Given such a position of the Russian Government, speculators’ sentiments changed: they were not sure any longer that it would be sound to bull the dollar. Ordinary people’s behavior also changed: a real “de-dollarization” of the economy took place when people began selling out dollars (if they had any). The situation was really odd; all money depreciated in the country: rubles – because of the monstrous inflation, dollars – because of the Government’s policy in the currency market.
Last month the state of affairs returned to what it was in 1999. The dollar cost over 27 rubles and everyone in Russia thought its rise was most likely, not depreciation. Foreign experts shared that view. For example, in November Merrill Lynch released the following forecast: at the end of the first quarter, 2009 the dollar will cost 29.34 rubles, and at the end of the second quarter – 32.68 rubles, the third quarter will end with 31.87 rubles/$, and the fourth quarter – with 31.09 rubles/$. The European Bank for Reconstruction and Development (EBRD) made a statement that provided a decrease in the world prices for Russian raw materials and the economy’s insufficient diversification, weakening the ruble would be pointless. According to EBRD experts, weakening the ruble was a sound measure as such, but major weakening could cause problems because of the considerable foreign currency debts Russian companies have.
Apparently, nothing supernatural was going on. The Government made no secret of the fact that strengthening the ruble will not last forever. At a certain point the steadily growing import will lead to a fall in the balance of payments surplus, resulting in the ruble’s becoming weaker. The plummeting of oil prices, which started in July, bode ill for the ruble’s strengthening – indeed, why should it become stronger when the petrodollar inflows dwindled? In the world market, the dollar ceased to fall against the euro long ago – moreover, it began growing steadily. In fact, the dollar’s behavior in the Russian market was expected to reflect the global reality. Foreign investors started leaving the Russian stock market in summer already – they got disappointed at Russia.
People perceived the dollar’s behavior in November (and in a couple of previous months) as something extraordinary. Some people, who hadn’t sold out all dollars they had, even rejoiced. However, the apprehension of a crisis was in the air. For some reason, people did not believe (as they usually do in other countries) that a weak currency is beneficial to the economy. They know by experience that in Russia the dollar grows when the situation is bad and is going to deteriorate.
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1. What will happen to the ruble exchange rate?
In our forecast for November we assumed that the world financial crisis was not over, so, given the dollar’s fluctuations in Russia, the U.S. currency will definitely cost over 25.5 rubles. Our assumption proved to be correct: the crisis did not end, fluctuations were obvious, and in November (as well as in October) the dollar cost more than 27 rubles: on November, 27 the official exchange rate was 27.35 rubles/$.
The Central Bank found itself in an awkward position. Both Russian and foreign experts share the view that it does not mind the ruble’s falling now. Therefore speculators are certainly unwilling to bull in the Russian currency market. When everyone bears, it is not that easy for the Central Bank to restrain the “ardor” of players, especially given that it has already confessed that it spends considerable sums to sap the dollar exchange rate; and speculators can presume that some day the bank will prefer not to waste its reserves any more.
Ordinary people, who are not experts in the Russian market, see the ruble’s weakening in currency exchange offices, which is why they are buying up currency: according to official information, only in September $6 billion was bought, and in October, according to preliminary data, even more. In November they bought much as well. People will not be surprised at the ruble’s further depreciation, they will only note that they made the right decision when started buying currency. In general, everyone regards the dollar’s growth as something natural, which does not depend on the Central Bank.
Our prognosis: In December the dollar exchange rate may surpass the 28-ruble mark, and the Central Bank can explain it with the world crunch.
2. What will happen to consumer prices?
In our forecast for November we underscored that consumer enthusiasm hasn’t abated in Russia, so in November the rise in prices will exceed 0.5%. We were right: according to Rosstat’s preliminary data, in November prices grew 0.7-0.8%.
Thus, inflation in Russia has already totaled 12.5%. However, the Russian Government moved this question to the background – this year’s anti-inflationary plan was repeatedly overhauled and the threat of this plan not being met worries few people now. All blame can be attached to the global financial and economic crisis.
In western countries inflation growth accelerated ahead of the crisis. Coupled with the economic recession, which developed into a true economic decline, it generated the apprehension of an economic crisis, reminding of the 1970s, when “stagflation” – a combination of the absence of production growth with a fast rise in prices – became the most popular word. However, when the gravest financial crisis settled, with nationalization of banks, a paralysis of the credit market, and dismissals of employees, inflation somewhat slowed down. People felt at once that it was not the right time to spend money. In their turn, dealers understood that with such consumer moods it was important to sell at least something, instead of frightening people with soaring prices.
In Russia, where many people remember the Soviet deficit, sentiments are opposite. The frightened people are ready to overpay, and dealers are ready to raise a bid.
Our prognosis: Since no one knows what will happen tomorrow, consumer prices will grow more than 1% in December.
3. What will happen to the oil world prices?
In our forecast for November we noted that market players do not believe in expensive oil and its price will hardly reach $80 for barrel. Indeed, in November market players believed in cheap oil only, and on November 26 it cost $54.4 for barrel.
There were considerable fluctuations in the oil market. For example, on November 26 the oil price surged $3 because speculators played on the actions of the European and Chinese governments, as well as OPEC’s ability to reduce oil production again. In general, in November the oil price sometimes fell abruptly, plunging below $50 for barrel. Therefore, oil has depreciated threefold since July, when it almost reached $150 for barrel, and twofold – since September.
So, pension and investment funds, which are the major players in the world oil market and which accounted for the unprecedented records of oil prices, took out assets from oil futures. During the crisis, oil got $100 cheaper within four months; curiously, some time ago $100 for barrel was considered a terrible price prospect.
Our prognosis: Since oil is still in demand, in December it will not cost less than $40 for barrel.
4. How the dollar and euro will fare?
In our forecast for November we argued that crisis sentiments in the world currency market will outweigh everything else and the euro will not cost more than $1.35. The forecast turned out completely correct. The dollar remained relatively strong, although it got a bit cheaper from time to time: on November 25 the euro cost $1.30.
The world oil price continues playing an important role in the dollar’s fate. As the oil price plunged drastically, the dollar grew, which is natural. This year’s formula proved to be true: oil rises in price – the dollar becomes cheaper, and vice versa. Currency speculators do not try to find explanation of this correlation any longer: they just know that it works. (Earlier various reasons were given: oil-producing countries were accused of the dollar’s depreciation, because they allegedly needed to diversify their currency reserves.) The dollar exchange rate is still influenced by central banks’ interest rate policy. Currency speculators expect a decrease in interest rates in the Euro zone, regarding the euro as the depreciating currency – thus, they sell it for dollars. But it is the financial crisis that plays the key role in the dollar’s fate. When the crisis broke out, it became evident that the dollar is not the weak currency of the country experiencing economic hardships – rather, it is really the world’s only value, which is even more important than gold.
However, the dollar’s crisis story is peculiar in one more respect. Rescuing the U.S. and the dollar, the U.S. Government throws away so much money (which the budget actually lacks), boosting its debt, that investors and speculators do not rule out the possibility of the U.S. default under Treasury securities. Obviously, it does not help the dollar.
Our prognosis: Since speculators have already eliminated all factors that bode well for the dollar, in December the euro will not cost less than $1.23.
Sergey Minaev
All the Article in Russian as of Dec. 01, 2008
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