What Does Russia's Junk Rating Mean?
Standard & Poor's announced today that it downgraded Russia's sovereign debt to junk status. Here is a Q&A on the significance of the move.
QUESTION: What is the immediate impact of S&P's action?
ANSWER: S&P said Russia's weaker economic prospects justified the decision to cut the credit rating to below investment grade. The action on sovereign debt will be followed by many other downgrades of Russian corporate bonds and banks. In addition, it is likely other rating companies will follow S&P's lead.
By excluding investors who are restricted from buying junk bonds -- such as investment-grade only corporate funds and some core bond investors -- the immediate impact of the downgrade will be to narrow the universe of buyers of Russian debt, especially if other agencies follow suit. The downgrade could also force some existing holders to sell, limiting the appetite of high-yield investors and buyers of distressed debt to step in despite the attraction of wide spreads.
Q: What does this mean for Russia?
A: It will worsen the country's economic and financial implosion.
The Russian economy is already battling the combined impact of sharply lower oil export revenues, Western sanctions and domestic economic mismanagement. The downgrade is likely to lead to further currency depreciation, capital flight, and could advance the timetable for import and capital controls.
Q: Are there broader economic implications?
A: Potentially, yes. Much will depend on the reaction of President Vladimir Putin.
The hope is that intensifying economic and financial pressures will convince Putin to reverse course on Ukraine and engage in a more constructive dialogue with the West. The risk, however, is that he will do more of the same – namely by continuing to pursue regional adventures and interference as a means of diverting the Russian public's attention from the imploding economy. That could trigger further Western sanctions on Russia that, in turn, would prompt Russian countersanctions (including on energy supplies to Central and Western Europe). The result would be deeper economic and financial turmoil in Russia, and a return to recession for Europe -- both of which would contribute to a higher risk of global financial instability.
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