Desperate times precipitate desperate measures by Kiriyenko

 

Yesterday morning, Mr Sergei Kiriyenko, Russia's diminutive prime minister, strolled nonchalantly into a press conference in the government headquarters in Moscow's White House and announced a complete reversal of his cabinet's monetary policies.

Just three days after President Yeltsin stated unequivocally that the rouble would not be devalued, the Russian government has abandoned its existing foreign exchange rate regime and will in effect allow the rouble to be devalued by 34 per cent by the year-end - assuming a mass panic does not sweep it even lower.

In an additional move that has alarmed Russia's creditors, Mr Kiriyenko said he would also freeze the domestic debt (GKO) market and then forcibly restructure short-term bonds into longerterm maturities.

Strict capital controls have also been imposed on Russian banks and companies, which may help keep their hard currency within the country but will also prevent them from meeting their foreign debt obligations.

Mr Kiriyenko described these measures as tough, radical, and inevitable in the light of the slide in world oil prices, the continuing financial instability in Asia, and the collapse of the Russian government debt market last week.

"Desperate times require desperate measures," said Mr Charles Blitzer, director of emerging market research at Donaldson, Lufkin & Jenrette, the US investment bank. "The government had a choice between a devaluation, currency controls, or a restructuring of the domestic debt and they chose them all."

Several economists praised the government's boldness in trying to pre-empt the worsening of its financial crisis by adopting such radical measures. But the critical question, of course, is whether the government will now be any better off after taking these drastic steps than it would have been had it attempted to tough out the financial situation. On that score, there is considerable room for debate.

Mr Anatoly Chubais, Russia's chief financial negotiator, said the package was intended to address two main problems - to resolve the problems of the budget and to help support the Russian banking sector, which is suffering a severe liquidity squeeze and appears to be on the verge of collapse.

Mr Chubais has argued many times before that Russia did not have a debt problem, but only a debt servicing problem due to the bunching of redemptions on its short-term debt.

The forcible rescheduling of the GKO market should now enable the government to get its cash flow under control and buy it time to pursue further fiscal reforms designed to put its public finances in order.

But the great danger is that the government will simply ease off on its attempts to raise additional revenues, as it has done so often in the past. Already pressure is building up on the government to use "savings" from not redeeming its domestic treasury bills for other purposes and to relax its spending squeeze.

But by cutting off access to external sources of funding, the government has committed itself more firmly than ever to running a budget surplus. The IMF, too, will insist on the government adhering to strict budget policies if it is to continue to attract its support.

The IMF seems unlikely to approve of the government's measures for helping resurrect the banking market, believing lossmaking banks should have suffered the consequences of their commercial recklessness.

The 12 largest banks now intend to form a banking "pool", to discuss ways of meeting their collective obligations to foreign creditors and means of easing the liquidity crisis in the inter-bank market. The central bank has said it is prepared to stand by some of the biggest banks, which hold large household deposits, to prevent depositors from panicking and withdrawing all their funds.

Yet the danger here is that the government will ultimately assume responsibility for the banks' dollar borrowings and in effect "nationalise" their debts.

The most worrying interpretation of the government's actions is that they were designed primarily to keep the country's politically powerful financial-industrial groups afloat and will do little to encourage the development of a responsible banking sector.

Mr Augusto Lopez-Claros, chief Russian economist at Lehman Brothers, the US investment bank, and the IMF's former resident representative in Moscow, said it was a "mystery" to him why the government had changed tack so abruptly without first exploring all the other alternatives, such as renegotiating its agreement with the IMF.