Antecedents and Outcome of Russia's Currency Crisis Although the former Soviet Union has collapsed, losing much of its territorial possessions, Russia is still the largest country in the world and what happens to the Russian economy can have a profound effect on the rest of the world as witnessed during its currency crisis in 1998. This paper reviews the relevant literature to identify the antecedents of this most recent financial crisis compared to previous financial crisis in the country to identify similarities and differences. Finally, a summary of the research and important findings concerning these issues are presented in the conclusion.

Contemporary Episode

The most recent currency crisis that Russia experienced occurred beginning in August 1998 (Robison 246). In this regard, Chiodo and Owyang report that, "A currency crisis can be defined as a speculative attack on a country's currency that can result in a forced devaluation and possible debt default. One example of a currency crisis occurred in Russia in 1998 and led to the devaluation of the ruble and the default on public and private debt" (7). Some indication of the severity of this most recent currency crisis can be discerned from its impact on Russia's gross domestic product (GDP) as illustrated in Figure 1 below.

Fig. 1. Russia GDP: 1990 to 2013

Source: http://kushnirs.org/macroeconomics/gdp/gdp_russia.html

As can be readily seen in Figure 1 above, the Russian GDP experienced a major decline beginning in 1998 that continued through the fin de siecle before rapidly increasing thereafter. The percentage GDP growth rate of the Russian economy was even more striking in its severity as depicted in Figure 2 below.

Fig 2. Percentage Growth Rate of GDP in Russia: 1991-2013

Source: http://kushnirs.org/macroeconomics/gdp/gdp_russia.html

Taken together, it is clear that the Russian economy was initially devastated by this most recent financial crisis during a period when the global economy also experienced a downturn, but to a far less extent. According to one financial analysis, "At the time, the crisis marked a turning point in the development of the Russian economy. In its immediate aftermath there was some expectation that it would be the prelude to . . . a long and painful period of insolvency and crisis [that] would lead rapidly to another, more severe, financial crisis" (Robison 246). As can also be discerned from Figures 1 and 2 above, these dire predictions of yet another major financial crisis in Russia have not borne out, and the Russian economy has experienced a sustained period of growth. In fact, rather than causing further financial crises, the period following the August 1998 episode has been characterized by continued growth, disrupted only slightly by the global economic downturn in 2008 resulting from the subprime mortgage crisis in the United States (Robinson 247). For instance, Petro and Kovriga point out that, "It is widely acknowledged that the [2008] global financial crisis was triggered by a shortfall in the liquidity of the U.S. banking system. Major banks securitized highly profitable, but very risky subprime mortgages" (27).

Notwithstanding the negative effects of the 2008 financial crisis, the Russian economy managed to weather the storm and even prosper thereafter. For instance, Robison emphasizes that, "The power of the Russian state has grown since 1998 and Russia has experienced a near uninterrupted economic recovery since 1999 with GDP growth averaging 6.8% per annum from 1999 to 2005" (247). Other major indicators of sustained growth of the Russian economy include a 7% per annum growth in industrial production, a reduction in unemployment from 13.2% in 1998 to 7.7% by 2005, and an increase in average wages from $108 a month in 1998 to $301 a month by 2005 (Robinson 247). In sum, then, the overarching effect of the 1998 currency crisis in Russia was positive (Robinson 246).

The main origins of the 1998 currency crisis were primarily attributable to low foreign reserves and large deficits, factors that have also been responsible for financial crises in other countries as well (Chiodo and Owyang 8), including the East Asian crisis in 1997/1998 (Hill and Jongwanich 2). In this regard, Hill and Jongwanich report that beginning in the early 1990s, foreign reserve levels in East Asia began growing rapidly, but began a sharp decline by the late 1990s as a result of the East Asian economic crisis; however, these levels rebounded after 2000 (Hill and Jongwanich 3).

Moreover, Sieron also notes that there were other factors that contributed to the 1998 Russian currency crisis, including a number of systemic weaknesses such as an unsustainable debt accumulation. In fact, by 1998, interest payments on the Russian debt accounted for fully 43% of the total government revenues (Sieron 4). Beyond these systematic weaknesses, a number of external factors also contributed to the 1998 currency crisis...

dollar for the official rate.
August 1996 -- August 17, 1998

Dual Market

Pre-announced crawling band around U.S. dollar for the official rate.

August 17, 1998 -- November 1999

Freely falling/Dual Market

The band was widened on August 17 and eliminated on September 2. On June 29, 1999 the two rates are unified temporarily.

December 1999 -- December 2010

De facto crawling band around U.S. dollar/Multiple exchange rates

Band width +/-2%. In principle it targets a U.S. dollar-euro basket. Band appears to widen to +/-5% starting October 2009.

Source: Ilzetzki, Reinhart and Rogoff 2010

The relatively sustained economic growth that has been experienced by Russia following the 1998 currency crisis has also been the result of a combination of factors, including most especially the decision to no longer devalue the ruble which is now allowed to float. For instance, Cassidy notes that, "The Russian Central Bank, after being forced to devalue the currency during a financial crisis in 1998, no longer does this. The ruble floats" (3). The Russian leadership has implemented this financial policy in part to avoid further devaluations of the ruble that could be caused by future downturns in global oil prices, a major component of the Russian economy (Cassidy 4). In addition, since 1998, the Russian Central Bank has managed to accumulate a significantly larger stock of foreign exchange reserves (Cassidy 5).

Despite this progress, there are still some fundamental issues that remain salient with respect to Russia's future economic development, including most especially its heavy dependence on oil revenues. For instance, according to Sieron, "There is a significant positive correlation between ruble and oil prices (which are affected to a large extent by a strong U.S. dollar)," a process that can be seen in Figure 3 below.

Fig. 3. Real Broad Effective Ruble Exchange Rate and Brent Oil Prices: 1994-2012

Source: Sieron 5

In sum, to the extent that oil prices decline in the future will likely be the extent that the demand for rubles will fall, thereby introducing additional pressures on the Russian government to maintain a viable exchange rate (Sieron 5). Certainly, the trends depicted in Figures 1 through 3 above are taken in isolation from other important economic factors that bear on the viability of a nation's economy, but they do provide some indication of the economic trends that are taking place in Russia today. As Galbraith points out, "The distribution of economic earnings is built up in any given national economy out of deeply interlaced institutions, firms, occupations, industries, and geographic regions. That being so, consistent observation of the movement of these entities, taken at their average values and compared to each other, is often sufficient to reveal the main movements of the distribution as a whole" (30).

Although the Russian economy continues to enjoy sustained but intermittent growth, avoiding future currency crisis will require the concerted effort by the Russian Central Bank (Sieron 5). As Sieron emphasizes, though, "Unfortunately, after the infamous Rosneft's case, its credibility has been called into question, as investors fear that it will be printing more money to help oligarchs' banks and businesses. Without a credible monetary policy and structural reforms, the Russian economy is going to slump into recession, which will last as long as oil prices do not rise again" (6).

Past Episode

The 1998 currency crisis was in stark contrast to the economic crisis faced by the former Soviet Union during the early 1970s when productivity was abysmally low and incentives for increased production were virtually nonexistent (Watkins 2). These issues were major contributing factors that resulted in the collapse of the Soviet Union where the economy was centrally planned and not yet fully integrated into the global economy (Russian economy 2). As one anonymous Soviet worker characterized the situation in the early 1970s, "They pretend to pay us and we pretend to work" (cited in Watkins 4). Other factors that exacerbated the financial situation for the former Soviet Union during this period…