Saturday, December 20, 2014

20/12/2014: Remembering that Debt Pile on Our Shoulders

Three charts to illustrate the extent of Ireland's debt problem... that's right, the one that has not gone away with all the recovery talk.

Let's start in the happy days of 2007, when Irish Government's sustainable debt per capita was running at EUR10,775 and we ranked 11th most indebted nation (on per capita basis) in the today's EA18.

And fast-forward to 2014, when, based on the IMF projections, our Government debt per capita will amount to an eye-watering 'sustainable' EUR42,469 ranking us a run-away 1st in the debt load:

Needless to say, this record should have propelled us to the top of the league of EA18 nations in terms of debt increases during the crisis. And it did:

In Census 2011 (see here:,5,Households,and,Families,full,doc,sig,amended.pdf) the average household size in Ireland was 2.7 persons, implying that Government debt alone amounts today to EUR114,666, before the mortgage and other debts kick in. And when I say before, I mean it : the Government has priority over all other claims on income, including food and shelter.

So how do you feel now when you think of the Budget 2015 measure to ease the burden of DIRT on families saving for the downpayment on house purchase? Lavished by the warmth of a caring Government, undoubtedly...

20/12/2014: Russia's Black Monday: The Debate is On

It is a hazardous task to attempt to explain fast spikes in Forex markets pressures during the ongoing currency crises. And hence few attempt. One very interesting - and I suspect rather correct - try is by Sergei Guriev

Guriev directly links the Russian Ruble's Black Monday (and I would add Black Tuesday too) on Rosneft debt redemption that takes place this weekend.

He is right on all points, including, probably, the suspicion that CBR delayed rate hike to allow Rosneft debt deal to go through, with a caveat.

The hike of November 11th (see my note on this here: was weak. Weak by all fundamentals metrics, save one and a very important one: CBR knew at the hike time that the industrial activity was tanking and investment was starting to lose steam (if anaemic growth in investment to-date can be called that). So CBR delayed hike most likely for two reasons:

  1. Rosneft deal; and
  2. The fact that raising rates are hammering the economy (Governor Nabiullina clearly stated as much on several previous occasions and Professor Guriev might be reading too much into the statement by the Minister of Economy, Alexey Ulyukaev - Ulyukaev is locked into a long-term battle with CBR - see here: In fact, earlier this year, the Ministry was openly critical of CBR for the Bank lifting rates without 'coordination' with the Ministry).
Another point ignored by Guriev (predictably for an economist) is the dynamics-driven algos and shorts rebalancing that most likely came quickly into the market late Monday and continued to hammer Ruble on Tuesday.

But, on the net, the point that Rosneft debt is costing Russia dearly is on the money. And it will continue doing so into 2015 when the company debt redemptions are likely to hit 1/5th of the total corporate and banks' redemptions.

Do note, more granular analysis of the redemptions, putting to challenge some of Guriev's statements, is here:

20/12/2014: Russian Crisis: Longer-Term Issues and Short-Term Risks

Earlier this week I was asked by Portuguese Expresso ( to comment on Russian crisis developments. Here is the full transcript of my comments in English:

1) Why this recent crisis in the FX market? What are the main drivers?

The main drivers of the Russian Ruble crisis are, in order of declining importance:

1) Rapid decline in oil prices since August 2014,
2) Accelerating capital outflows in Q4 2014, relative to Q2 and Q3,
3) Sanctions restricting Russian banks and companies access to the international funding markets, thus precipitating a significant rise in demand for foreign currency needed to repay hard currency debt maturing in Q4 2014 and Q1 2015, and
4) The effect of Ruble switching from a tightly managed rate to free float, triggering both speculative and algorithmic trading re-adjustments.

2) Which of the drivers of the crisis is more important: sanctions or oil?

With oil prices above USD90 per barrel, Russian companies and banks would have little difficulty funding debt redemptions coming due in Q4 and Q1 2015. However, at oil prices around USD60 per barrel, foreign exchange inflows are severely constrained, triggering a spike in demand for dollars due to restricted cash flows. This demand had to be funded by borrowing rubbles and converting these into dollars, which, in effect represents a double squeeze on the Ruble: not only demand for Rubles falls relative to Dollars, but simultaneously the supply of Rubles rises due to borrowing.

Sanctions play an important role only in so far as they underpin the demand for dollars required for redemption of maturing debt. In a sense, President Putin was correct in estimating the effect of sanctions amounting roughly to 25-30 percent of the overall crisis re-pricing of the Ruble.

3) Who are the losers and the winners of this recent crisis? Especially, in terms of the crisis impact on Russian people?

There are no winners in this crisis when it comes to either Russian citizens or the residents. Turkey and China, as well as a number of other countries, including Kazakhstan, Armenia, Belarus, Uzbekistan, Tajikistan and others are gaining through increased flows of trade and investment via-s-vis Russia. China is gaining geopolitically and economically.

In terms of losers, countries heavily reliant on remittances from the migrants residing in Russia, including some of the above mentioned CIS countries, plus Ukraine and Moldova, are feeling the pain from collapsed Ruble valuations. Ordinary people in Russia, especially those who tend to hold Ruble deposits (such as retirees), as well as people reliant on foreign (imported) medicines and those living below the poverty line, are seeing large-scale destruction of their purchasing power and savings. A small number of Russian residents have purchased homes in recent years using mortgages denominated in foreign currencies. While before the crisis these mortgages carried lower interest rates, since the devaluation, the real cost of servicing these loans rose. Many businesses lease commercial real estate based on rents expressed in foreign currency. They too will face steep increases in the cost of servicing their offices and stores. Roughly one half of Moscow's retail properties are leased using contracts in dollars.

One category of Russian population is unlikely to lose signifcantly as the result of devaluations - the super rich. While their income-generating assets are based in Russia, much of their wealth resides outside Ruble zone.

This explains why the vast majority of Russians see sanctions as a Western attack on their own well-being, rather than a pressure on oligarchs or the Government.

4) Can we talk of a syncronization between the ruble and the oil prices?  

There is a very strong correlation between Russian GDP (in levels, not growth terms) and oil prices, so it is natural to think of a strong positive correlation between Ruble and oil prices. This correlation has been reinforced by the crisis, as economic growth in Russia shows considerable structural slowdown, thus only increasing the economy's dependence on oil.
5) Does the Dutch Disease represent the main structural problem with the Russian economy?

Yes, Russian economy is a classic example of the Dutch Disease or the Curse of Oil, with major and structural over-emphasis on energy and extraction sectors as generators of exports and foreign exchange earnings. However, Russia still retains a large and relatively diversified domestic economy. In effect, imports substitution under the current sanctions and counter-sanctions regimes is driving this diversification up, while low oil prices are reducing the link between oil and economic activity in terms of investment and output.

6) What can we expect in 2015: stagflation or outright recession? 

My forecast is for a significant recession in 2015 for the Russian economy, in the region of -3 percent, with positive scenario implying a recession of roughly 1% and the downside scenario predicting a recession of ca 4.5 percent. This is based on the following considerations. Firstly, the core drivers of this week's run on the Ruble are still present and cannot be addressed in the short run. Secondly, structural slowdown in growth that started manifesting itself in 2012 and came into full view in 2013 is still present. Thirdly, absent robust recovery in Europe and facing a slowdown in growth in China, Russia is poorly positioned on the exporting side and investment side.

On inflationary side, I expect Russian CPI to run above 10 percent in Q1 2015, rising in Q2 2015 before moderating in the second half of the year. Much will depend on the quality of 2015 crop, as well as on geopolitical developments.

7) Is there a risk of a new 1998 triple crisis, coupling the FX, debt, internal default and banking?

From fundamentals point of view, there is no risk of the repeat of 1998. 1998 crisis was triggered by a combination of large debt overhang from the 1980s and 1990s, funded at ever-escalating borrowing rates, a wide fiscal and current account deficits running over a number of years, the economy undergoing huge disruptions relating to transition, and the political crisis within the ruling classes. None of the above conditions are present today. However, one cannot rule out the risk of default due to a set of reasons very distinct from the driers of the 1998 crisis. Chiefly, the risk of default arises today from the possibility of a repeated and more prolonged run on the Ruble. Added uncertainty comes courtesy of the oil prices, which are currently simply unpredictable in the medium term. If oil prices do average over 2015 around USD80/bbl as consensus forecasts in the markets suggest, then the risk of default becomes negligible for the sovereign and the majority of larger banks and companies.

8) More hikes of key interest rates ahead for the CBR? Or 'nuclear options', like capital controls, moratorium in the FX reserves outflows? Other measures from the CBR?

Over the last couple of days, Ruble enjoyed significant rebound, thus reducing the risk of Russian authorities deploying capital controls or other drastic policy measures.

However, if the crisis returns with the intensity of December 15-16th, capital controls in conjunction with a holiday on debt redemptions for sanctioned entities cannot be ruled out.

Over the medium term, the prospect of capital controls also depends on the rate of foreign exchange reserves depletions in supporting Ruble and the speed of capital outflows. In 2015, Russia is facing foreign currency debt redemptions of some USD101 billion. All but USD2 billion of this relate to banks and corporates. We need to see oil rising toward USD80 mark and Ruble stabilising at around USD50 mark for the risk of capital controls to recede significantly.

The above debt maturity is a serious challenge. If recessionary dynamics place a substantial cap on corporate revenues and banks balance sheets, we can see some isolated, but larger scale corporate defaults. Otherwise, some less significant localised defaults can take place, especially in the weaker, lower tier of Russian banks. The latter will be benign and the CBR can facilitate orderly sector restructuring.

9) With a break-even price of oil at an annual average USD107, as set in Budget 2015, is the Kremlin facing a risk of fiscal collapse?

Not in the short run.

Russian budget is expressed in Rubles-denominated price of oil. Hence, as long as Russian Ruble moves in line with the price of dollar, the budgetary pressures remain minor. For example, currently, Russian federal budget is in surplus despite the massive decline in Dollars-denominated revenues. And Russian Current Account is posting strong surpluses on foot of collapsed imports. However, over the longer term, Russian budgetary spending will have to rise to offset the effects of inflation and devaluation. When the pressure to do forces the Government to adopt some inflation-related adjustments in the budget, fiscal position will deteriorate. I do not expect this pressure to be insurmountable, however, over the next 12-24 months.

In addition, President Putin mandated the government to amend November Budget, cutting federal expenditures in real terms by 5% a year in 2015–2017. Three sectors are excluded from the cuts: defense, national security and social welfare. New targets will re-balance public sector wages from slight growth planned in previous Budget to a cut in real terms.

The longer-term issue is the ruble-oil price link up. As ruble devalues, short-term, federal budget remains balanced. But in the longer run, devaluation triggers inflationary pressures. So the challenge in the second half of 2015 will be balancing the books while inflation is expected to be running at above 10 percent mark. This is more critical than the shorter-term issues.

10) Do you expect Russia to push for an agreement on oil production cuts or a full “war” with OPEC?

OPEC is a non-homogeneous entity. Some members of OPEC are currently suffering similar fate to the Russian economy and some oil exporters outside the OPEC are feeling severe pressures as well.

It is clear that the immediate strategy for Saudi Arabia is to push for lower oil prices and higher output. This strategy is based on two considerations.

First, and foremost, Said Arabia is attempting to protect its market share in the face of the rising output of shale oil. Although shale is more expensive to extract, once production is put into place, there is significant margin that can be traded down in terms of oil prices before, over time, shale output declines. Saudi Arabia wants to weather this period and force, using lower prices, some shale production declines in the medium term.

The second, far less important consideration from the Saudi's persecutive is the effect of low oil prices on its key geopolitical challenger - Iran. The flash point here is Syria and Iran's (and Russian, to lesser extent) support for the regime there that is being opposed by the Saudis.

This leaves Russia in a weak position to bargain change vis-a-vis the OPEC. Instead of a 'war' with OPEC, Russia is adopting a response of shifting markets for its oil and gas East, toward Asia Pacific. This strategy is about the only one that is feasible in current circumstances and Russia has been pursuing it very pro-actively.

11) China is the “saviour” economy for Russia to avoid crisis?

As Russian exports and investment flows re-orient East, China is becoming a major trading and investment partner for Russia with huge play in Eastern and Southern Siberia. Geopolitically, closer links between Moscow and Beijing are of benefit to both sides, but economically, Russia is making a bet that growth slowdown in China will not reduce the space of the bilateral cooperation in trade and investment that has been developing between them.

This bet is, probably, short-term risky. China is going to run slower growth in years to come, and thus lower growth in demand for oil and gas. On the other hand, China will have to switch away from much less efficient coal in energy generation mix toward less polluting gas. The former is net negative for Russia, the latter is net positive.

20/12/2014: ECB, Inflation Expectations and Oil

There is much hype about the ECB not actively gunning for re-inflating the economy around. Which is understandable... as the fears of deflation are real. But it is also partially misplaced, as deflationary causes are a bit more complex and changing over time.

The main cause of the longer-term deflation is stagnant demand. This provides support for low level inflation base off which any negative shock to prices risks triggering a deflation. Here, in my opinion, ECB can do some helping, but not much.

The second cause, the shock to the downside, is oil price. And here ECB should do absolutely nothing, simply because lower cost of energy is neither caused by the monetary drivers, nor is hugely detrimental to the economy. If anything, lower cost of energy helps business margins and household budget, partially offsetting the stagnant demand.

Here's the link between Euro area inflation expectations and oil prices, courtesy of @ReutersJamie:

Yes, ECB is way off-target on its monetary policy: although the above begs a question if we really do want to see ECB balancesheet expanding so dramatically once again. Yes, ECB off-target on inflation. But no, ECB balancesheet growing is not a solution to the core problem holding European demand under water. Debt is, followed by lack of investment. And ECB can't help much with either. At least it cannot help by expanding it balancesheet.

Friday, December 19, 2014

19/12/2014: Lots of Talk, More Plans, Little Action: ECB Balancesheet Expansion

Couple of interesting charts, courtesy of @Schuldensuehner on the ECB balancesheet expansion:

First the target to be reached over 2015-2016:

Do notice the flat-lining of the balancesheet from the start of H2 2014 on, despite the deflationary pressures building up and ECB rhetoric pushing forward balancesheet expansion as being the 'silver bullet' rising proportionally.

Next, Nomura's estimates on how the target of leveraging up ECB balancesheet can be reached:

 (click on image to enlarge)

19/12/2014: Some links on Russian Crisis

Several interesting news this week on Russian corporate front.

One of the longer-running deal, the swap of assets between German BASF and Russian Gazprom was finally killed off on foot of sanctions. The deal collapse is one of the first spillovers to Europe from the Ruble crisis and the overall deterioration in Russian markets. Details here: Key quote from the point of macro analysis: "BASF attributed the breakdown in the agreement to “the currently difficult political environment.” “We will continue our joint ventures in Europe and Russia,” the company said in a statement. “The facts clearly show: Europe and Russia need each other also in the future.”"

Russian Duma approved the bill to recapitalise the banks, injecting some USD16.5 billion worth of funding into the banking system. Details:

This, amidst the already rolling contagion from Russian financial services to Europe's: as Ruble devaluations help drive Raiffeisen Bank International's overall capital ratio one percentage point down. Austria has the largest exposure of to Russian banks - see

And for the last bit, here is the latest polling from Russia:

19/12/2014: Russian Banks: Contagion exposures for Europe

From a different Deutsche Bank note, a handy chart plotting exposures of various Western banking systems to Russia.

Do keep in mind, same banks' exposure to Ireland was probably of a magnitude of 1/5th of their exposures to Russia, yet Irish banking system was deemed to be systemically important when it came to assessing the potential contagion from Anglo failure back in 2008.

19/12/2014: The Plight of Russian Banks Overhype?

Deutsche Bank note from earlier this month covering Russian banks is telling as to the nature of the problems.

Per DB: "A tighter funding situation and weak economic growth will dampen credit expansion, although Russian banks’ dependence on external funding is not strong. Rising NPLs will negatively impact profitability, but the government’s capacity to provide support to systemically important banks remains strong."

So in summary, few illustrations of the above.

There is a weak credit impulse in Russia through Q2 2014 (this is likely accelerated in Q3-Q4), especially on foot of hikes in CBR rates:

But credit growth remains elevated, albeit it is subdued relative to historical averages:

DB conclusion on growth potential is cautious: "Russian banks are facing several challenges. As economic growth is projected to remain weak and the banks’ external funding situation has tightened given EU and US sanctions, real credit growth is expected to slow down from the current 11% yoy (October data referring to total domestic credit)."

Still, "overall asset quality remains adequate (NPLs at 6.7% of total loans as of September), but it is likely to deteriorate over the coming months as the economy is close to recession and consumer indebtedness is growing. Moreover, rising loan loss provisions (with provisioning levels currently at 70% of total NPLs) and higher funding costs will have a negative impact on profitability over the next few quarters.

Capitalisation levels are moderate, with the ratio of core capital to risk-weighted assets standing at 9.4% in September. The Central Bank has started preparing Russian banks to meet Basel III capital requirements. But it recently delayed the implementation of the Basel III liquidity requirement by six months to July 2015, taking into account difficulties in obtaining long-term funding."

Worth noting that the delay is no longer: Russia introduced new bank recaps this week:

Amazingly, Russian banks overall are not as reliant on foreign funding as one would have expected: "…a closer look at the funding structure of Russian banks shows that they are not overly dependent on external funding, which accounts for less than 20% of total debt liabilities. The share of the potentially most volatile funding sources (foreign interbank funding, syndicated loans, Eurobonds) has decreased since the financial crisis in 2008/2009. Non-resident deposits account for half of the USD 209 bn external bank debt outstanding. Moreover, only USD 44 bn of external bank debt will fall due within the next 14 months (see figure 5), with the largest 30 financial institutions holding an FX buffer of USD 32 bn (difference between FX liquid assets and FX liabilities maturing in the next five quarters)."

Two charts to illustrate:

Few caveats: "…when assessing the external debt of Russian banks, two contrasting data specification aspects have to be kept in mind. On the one hand, part of banks’ external borrowing is inter-company lending, which tends to be rolled over and thus mitigates external funding risks (figure 6 shows a proxy for this lending). On the other hand, bank external debt might be underestimated by the CBR using the “residency” and not the “nationality” concept of the borrower. Figure 7 shows that banks’ international debt securities falling due are significantly higher when using the nationality rather than the residency concept (USD 16.4 bn vs. USD 1.3 bn)."

But the key, so far, is the non-performing loans:

Clearly, Russian banking pressures from NPLs are, for now, benign. DB warns: "we expect NPLs to increase in Russia and Ukraine given the bleak economic outlook and currency weakness (against the background of relatively high levels of FX- denominated loans, especially in Ukraine)." Question is: what about provisioning cushions? Well, Russian banks seem to be fine here too:

On the net, DB warns that tough times are still ahead for Russian banks. I would agree. This week's changes in mark-to-market accounting rules and repo collateral quality requirements, as well as recpaitalisation of the banks are strengthening the system buffers to deal with shorter term aspects of the crisis. Higher policy rates (17% for key rate) are net positive for deposits, but negative for mortgages and credit. So where the balance of these changes lies is anyone's guess at this point in time.

Wednesday, December 17, 2014

17/12/2014: Russia: Running Out of Euros and Ikea Kitchens?

While Russians are converting dollars into rubles to buy Ikea furniture to store cabbage, shortages of which are imminent... or maybe converting Ikea kitchens into dollars to buy spare parts for Ladas door handles... there's a panic... allegedly.

In one city, some banks have run out of dollar kitchens and euro handles... even at the rate of 110 RUB/1EUR, though the main banks remained fully stocked with hard currency:

Funny enough, the reporter spotted a queue for currency only in one branch of one bank, where EUR was selling for 92 Rubles instead of 110... There is a rich behavioural economics paper sitting somewhere between the Russian retail currency exchanges margins...

Another behavioural adjustment was made today - by the Central Bank of Russia which suspended mark-to-market valuations of its own portfolio: The CBR also suspended mark-to-market valuations of credit institutions and banks. To offset asset base volatility, or in plain terms, to reduce impact of volatile exchange rates on assets and liabilities valuations.

And more households' behavioural 'antics': despite rapid rise in interest rates, demand for credit has sky-rocketed: Households seem to be stocking up on short term credit while interest rates are still creeping up.

17/12/2014: Winners and Losers in Russian Crisis

My effort at explaining some of my thinking on Russian crisis in an interview with Expresso (in Portuguese and paywalled) here:
and in English here:

17/12/2014: Russian Industrial Production & Investment

Russia's industrial output fell 0.4% in November after two months of relatively strong growth, expanding 2.9% and 2.8% in October and September. Core drivers were:

  • Manufacturing sector contracted at 3% in November, having expanded 3.6% in October. The latest change, if confirmed over the next few months, might signal wearing off of the imports substitution effects from Russian counter-sanctions.
  • Natural resources exploration sector expanded output by 2.5% in November
  • Production of heat and electricity rose 7% in November
  • Pipeline production grew by 30% in October, gas turbines manufacturing rose 91%. The $400 billion gas contract with China, signed in May was the reason, as Russia started construction of the 4,000 km Power of Siberia pipeline in September.

Note: November Manufacturing PMIs were up signalling that things might improve in December data.

On a no-surprise side, fixed capital investment was down in the first nine months of 2014 and in Q3 2014 - declining by around 2% or well below expectations. SMEs investments declined, while investment by larger companies rose. Oil refining investments remain the largest contributor to manufacturing sector investments, per BOFIT. Food sector investments also were robust. Q3 also saw reversal of negative growth in total investments in machinery & equipment by large and medium-sized firms.

BOFIT: "Growth in investments of large firms reflects the government’s goal, reinforced at the start of this year, of getting large state-owned enterprises to increase investments
despite the hard times. The economy ministry indicated in November that investments of so-called natural monopolies, which represent some of the biggest state-owned enterprises, will grow even more notably next year."

Another handy chart via BOFIT:

17/12/2014: Some Ruble-Heavy Reading: Contagion, Reserves & Fundamentals

Some interesting set of articles on the topic I mentioned earlier on Irish radio and in the post here:  - the topic of contagion from the run on Russian ruble to the global economy:

As an aside to the menu of options available to Russian Government, here is one of a 'limited capital control': aka de-dollarisation of the retail deposits. Surely, that would just amplify pain for ordinary savers.

And another aside: in-depth analysis of the reserves position and demand for debt redemptions for Russia here: Key quote from the article:

"We notice that the strong depreciation of the Rouble corresponds to a peak in repayments, but that the situation will loosen up in early 2015. It is sure therefore that the exchange rate will reverse its tendency in the first semester of 2015. The question is, up to what point? If the Rouble stabilizes around 50 roubles for 1 USD, inflation will be strong next year and could reach 12%. If we witness a rise in oil prices and the Rouble stabilizes around 40-42 roubles for 1 USD, the inflation rate could amount to merely 10%. Still, this implies that the Central Bank of Russia keep an eye on such establishments which could be tempted to speculate on the exchange rate, dragging it farther down than it should normally be. Explicit threats were made by President Putin at the occasion of his declaration of general policies before the chambers of parliament on December 4th. However spectacular it has been, the depreciation of the Rouble by no means puts into question the financial stability of Russia. The trade balance remains in excess, with an amount outstanding of 10 billion dollars a month. This is largely sufficient to face up to coming payments. The budget is actually profiting from this depreciation, which should allow the government to spend a little bit more in 2015. Russia will therefore remain one of the least indebted countries in the world, which is not necessarily an advantage and goes to show that, provided it takes up debts internally, the country wields over a strong potential for investment and development."

Another update: a must-read from Bloomberg's @Bershidsky on why sanctions are at best secondary when it comes to the run on the Ruble: