All Economists Are One-Handed When It Comes to Ruble Free Float

  • Free-floating currency is a positive for Russia, analsysts say
  • Central bank policy was called into question by debate in July

U.S. President Harry Truman famously complained about economists who offer “on the one hand, on the other hand” solutions. When asked about Russia’s free float, they’re all one-handed.

The central bank’s policy of allowing the market to set the exchange rate, in place since late 2014, is a long-term positive for Russia, according to all 18 analysts surveyed by Bloomberg. The onus is on the government to respond to President Vladimir Putin’s frustration with ruble strength at a time of oil volatility, with most economists saying it needs to cut spending and expand the list of state-owned companies being sold.

“It’s always better to have a free float,” said Ilya Golubov, head of research at Evrofinance Mosnarbank in Moscow. “The economy faster adapts to a new reality.”

The exchange rate was thrown into the spotlight at the end of last month. Putin called the free float into question by asking the prime minister to monitor the ruble’s movement as it traded out of step with oil. The central bank was forced to repeat it’s committed to the policy after a Kremlin adviser followed the president by warning the currency’s strength relative to oil endangered the budget and the competitiveness of local companies.

Oil Mismatch

The ruble’s 3.1 percent drop in July hasn’t kept up with the decline in Brent, which plunged more than 14 percent the same month. Such a mismatch hurts the budget because the government receives fewer rubles per barrel of oil sold for dollars abroad. The Russian currency strengthened for a fifth day, trading 1.5 percent stronger at 64.5775 against the dollar as of 8:04 p.m. in Moscow.

Brent crude, which is used to price Russia’s main export blend Urals, was at 2,929 in ruble terms on Monday. That’s more than 7 percent below the 3,165 average Urals price used for this year’s budget.

“Aiming for a weaker ruble to boost budget revenue from the sale of gas and oil is a short-term tactic that hurts long-term prospects,” said Nerijus Maciulis, chief economist at Swedbank AB in Vilnius, Lithuania. “To attract foreign investments, Russia needs a stable or even strengthening currency and a credible, independent central bank.”

Governor Elvira Nabiullina has said the Bank of Russia has no plans to influence the exchange rate and credited its free float for helping soften an economic contraction that’s extending into the second year. At its last meeting to review borrowing costs, days after Putin’s comments, the central bank held its benchmark unchanged, leaving Russia with the world’s second-highest real interest rates.

Currency Lifeline

While Putin has stood by central bank policies, the president praised a weaker exchange rate for throwing a lifeline to struggling domestic producers, which also offset budget losses from the collapse in energy prices.

“The free float helped to absorb the external shocks,” said Zsolt Kondrat, an economist at OGResearch. “The weaker exchange rate induced import substitution and helped the export sector.”

Putin’s comments on July 19 sent the ruble to its biggest tumble against the dollar in almost a month and the currency is down about 3 percent since then as oil fell into a bear market. The ruble’s current level is already sufficient to pave the way for Russia to a full economic recovery and growth of 4 percent in the medium term, according to 11 of 17 economists in the survey, which was conducted July 26-27.

Shock Absorber

“The ruble’s free float allows the Russian budget to absorb oil shocks and save reserves,” said Nataliya Shilova, chief analyst at B&N Bank PJSC in Moscow.

Without central bank interventions to smooth the ruble’s swings, the correlation between the currency of the world’s biggest energy exporter and a barrel of crude reached a record earlier in 2016. It’s since dropped to an almost one-year low.

The ruble’s three-month historical volatility, a measure of price swings, has dropped near 18. While that’s well below last year’s peak of 59, it’s still the second-highest among its emerging-market peers after the South African rand, according to data compiled by Bloomberg.

Ruble's volatility
Ruble's volatility

A collapse in demand for foreign goods as a result of the ruble’s weakening was pivotal in allowing Russia’s economy to adjust, according to Sergey Narkevich, an analyst at Moscow-based Promsvyazbank PJSC, which was the second-best ruble forecaster in the fourth quarter of 2015. The decline in total imports last year resulted in a five percentage-point increase in gross domestic product, he estimates.

“Correcting the nominal exchange rate is a convenient tool for rebalancing the economy in the most efficient way,” Narkevich said. “It was vividly demonstrated by the dramatic changes in the Russian trade balance in 2015.”

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