Russia's central bank decided to drop a bombshell on the Russian forex market on November 5, after the country opened for business following two days of national holidays.
The bank announced that it would limit its support of the ruble to $350 million a day. In its official statement, it gave two reasons: to make the exchange rate more flexible and to prevent speculation against the currency. The bank also said that it would perform additional interventions if Russia's financial stability came under threat.Given the current environment — a rapidly depreciating ruble — this effectively means that the central bank has stated its maximum available amount for ruble defence in November: $5.95 billion. This is five times less than the $29.3 billion officially spent in October.
Almost half of that money was spent in the last week of October as the market was betting on the central bank easing its intervention policies on October 31. Though speculators were slightly wide of the mark (the central bank only announced a rate hike), they were not fooled.
Bets against the ruble were back on within minutes come October 31, and ruble bears went in for the kill on November 5 after the bank's announcement. The official ruble rate was down 5.8% to 44.4 against the US dollar and down 5.5% to 55.6 against the euro. It seems, ultimately, that the market managed to remain at least a few steps in front of the central bank, rather than other way around.
Official rates for USDRUB and EURRUB, as set by the Central Bank of Russia
If the macro (dollar strength, oil weakness) and geopolitical (Ukraine) situations do not improve, the market may begin testing the Russian currency, looking for the level at which the central bank officially considers the financial system to be under threat.
In other words, investors would essentially be inquiring as to what exchange rate, if any, the bank would be prepared to defend with ad hoc FX interventions (and how quickly the market will figure it out). Such tests could also determine at what point a political decision would have to be made to support the ruble by other means (such as the dreaded capital controls).
Another problem for the central bank is the pace of ruble depreciation. If it accelerates from current levels, it might cause panic buying. If this happens, the bank might end up spending more to support the ruble (and stemming deposit flight) than it did under the old regime.
Even without the panic, the ruble's volatility might be too much to stomach for the Russian economy, leading inevitably to calls for some kind of control over the exchange rate.
Continued currency volatility may lead Russians to call for some degree of a freeze on the exchange rate, which is currently kept in a floating band. Photo: Anna Kravets iStock
The Russian central bank has so far been using orthodox monetary tools and policies under the most difficult circumstances. It seems to believe that the Russian currency (and economy) is robust enough to withstand an on-schedule transition to free-float. If this works (which is possible, if unlikely), it would be hailed as a remarkable achievement.
If it does not (reserves depleted, capital controls introduced), however, the central bank would doubtlessly come under fire.
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