What Disasters Lie Ahead In Moscow?

Rash policies could mean a hard winter--and social unrest

A new joke is making the rounds in Moscow: "For too long we have been standing at the edge of the precipice," it goes. "Now we are taking a great leap forward."

That's surely how things look to holders of Russian debt. Barely a month after defaulting on $40 billion in domestic Treasury bills, the Kremlin may be only weeks away from defaulting on payments on $150 billion in hard-currency sovereign debts. By the end of December, Russia must pay interest and principal totaling more than $3 billion on Eurobonds, restructured Soviet-era debt, and loans from international financial organizations. An additional $19 billion falls due next year--about three-fourths of it owed to foreign creditors.

Where is Russia going to get the money? Finance Minister Mikhail Zadornov says the government will tap its $12.5 billion in hard-currency reserves to make this year's payments. But reserves won't cover next year's due bills and the International Monetary Fund has sworn off any further assistance for now. The prospect of bigger losses for investors grows more likely by the day. Here's a look at how deep Russia's crisis could go.

How real is the threat of default?

Very real. The Russians would have trouble paying their debts even if the economy were growing, and it's shrinking fast. Tax receipts have dropped by nearly 50% since July, to about $450 million in September. Already, the Kremlin has had to beg for an extension on $600 million in interest payments on Soviet-era debt due to Western governments. Russia's hard currency debt is now rated the riskiest in the world.

What does Russia have to lose from more defaults?

Defaulting on foreign-denominated sovereign debt would have grave consequences. Apart from destroying Russia's chances to return to international markets, a default could prompt creditors to make use of foreign courts to seize Russian property, including assets of energy companies such as Gazprom. Lehman Brothers Inc. recently won court orders freezing $128 million in the British units of three Russian banks that failed to honor foreign exchange contracts. But Russia is eager to stay current on its outstanding $16 billion in Eurobonds. Most analysts predict that the government will dig into its reserves to make its Eurobond payments, which total nearly $1.9 billion through the end of next year.

What about other debt holders?

The best they can expect is restructuring. The Kremlin is likely to seek a restructuring deal on Finance Ministry bonds covering the debts of the old Soviet state bank. These bonds have been popular with institutional investors. The government has never missed a payment, but there's little hope it can come up with the $1.3 billion principal on a bond that matures next May. Other creditors include the French and German governments and the IMF, which is owed more than $5.4 billion over the next 15 months.

If Russia can restructure its debts, couldn't it muddle along for some time?

No. Russia is in the eye of a financial hurricane. Central Bank Chairman Viktor Geraschenko is printing money. He plans to nearly double the money supply by Dec. 31. The government itself acknowledges that the inflation rate could reach 200% by yearend.

What is the government planning to do, besides print money?

One of its first moves was to reestablish the state liquor monopoly. The government will also force exporters of oil, gas, and other commodities to convert more of their hard currency earnings into rubles. But after four weeks in office, Prime Minister Yevgeny M. Primakov still hasn't offered a comprehensive plan to pull Russia out of its economic morass.

So what happens next?

Many analysts think Russia is heading for a winter of economic hardship so severe that Primakov's Cabinet--and possibly the Prime Minister himself--could be discredited and forced from office in a few months. Optimists say Russia might then agree to tough monetary measures. Surprisingly, ordinary Russians might not mind. A recent poll shows that only 25% of Russians support printing money to pay back wages, while 57% oppose it as inflationary. But pessimists worry that political instability could lead to social unrest, or worse.

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