Russia's central bank hikes interest rates as rouble nosedives

Russia’s currency and its assets are getting hammered and the ripple effects are being felt more widely.European stock markets opened down, shares in airlines and banks which have exposure to Russia and its economy have fallen sharply.It’s chaotic but it’s hardly meltdown. There’s no way of knowing how the next few days will play out. Some of the possible outcomes are unthinkably horrendous but, in that context, the market moves this morning have been quite measured.The epicentre of the upheaval is in the East. The rouble has nose-dived, Russia is in trouble.Russia’s central bank hiked interest rates this morning in an attempt to persuade investors not to dump Russian assets. It’s a classic move in a currency crisis and history suggests it isn’t always very effective.

Russia is in serious financial trouble, as Economics Editor Joel Hills explains

BP and Norges are cutting their losses and getting out, others are likely to follow. Once investor confidence evaporates there’s not much you can do to restore it quickly.

Exhibit A: the European Exchange Rate Mechanism.A year ago $1 bought seventy roubles, this morning it buys you a hundred.

Increasing the key interest rate from 9.5% to 20% is a desperate, emergency response. It will cause huge problems for many ordinary Russian households and businesses whose borrowing costs will surge.An enfeebled currency also turbocharges the risk of rampant inflation as imports become more expensive.Governments can, in theory, print money as prices rise, Russia’s people become instantly poorer.

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Anyone in Russia who has borrowed in Euros or dollars will find themselves deep underwater. The risks here are of corporate failure and bank runs if people withdraw money from the banking system in large numbers.This is a dangerous moment for Putin’s government in Russia, the situation could quickly become unstable.Sanctions have been designed to exert pressure on the Russian government. The objective is policy change and de-escalation, not social breakdown and disorder.Russia has options. It has accumulated substantial foreign currency reserves - in Euros and dollars, in particular - but it’s not clear how sanctions have affected the central bank’s ability to access them.Russia might decide to impose exchange controls to prevent the sale of rouble denominated assets. It could attempt to create a parallel market for the rouble by fixing the value of the currency at a higher rate.But sanctions targeted at Russia hurt the UK, the US and the EU too.Italian, French and US banks are heavily exposed to the Russian economy.Russia is a massive produce of fossil fuels. The market price of crude oil and natural gas - which power the global economy - has jumped and remains extremely high.Inflation was a painful problem across advanced economies before Russia invaded Ukraine. In places, prices are rising at their fastest pace for thirty years, they look set to further accelerate.