Credit risk

Credit risk depends on the design of tougher sanctions

The cumulative impact of existing and potentially stronger future sanctions is a concern for the country’s credit outlook (rated BBB+/Stable outlook by Scope Ratings).

A comprehensive set of sanctions has the potential to disrupt Russian exports, further discourage foreign and domestic investment, which the country needs for sustainable economic growth, and drive up government borrowing costs – at least at the moment. margin.

A deal among Western allies to cut Russia off from the SWIFT international payment system would potentially be the most damaging action. Such a move would have serious consequences for Russian investment and exports despite the economy’s increased resilience thanks to reduced dependence on the dollar and foreign funding in recent years, as it faced existing sanctions.

Russia has reduced its exposure to the dollar in the face of new sanctions risks

Source: Bank of Russia

Russia is heavily dependent on SWIFT, as most Russian oil is still traded in dollars. The share of Russian exports of goods and services sold in USD accounted for 54% of the total in the third quarter of 2021 (see table above), but down from almost 70% in the 2016-2018 period. Russia currently conducts more trade with China in euros than in dollars, with the euro being the currency of settlement for about half of Russian exports to China, compared to a third for the USD.

One measure under consideration is US approval of secondary trading of Russian sovereign bonds

Another move being considered is US approval of secondary trading in Russian government bonds. This would have a more tangible impact on financial room for maneuver than the April 2021 sanctions on the issuance of government debt in the primary market. Such action would make it harder for Russian state banks to replace lost US and non-US foreign demand in the primary market and to sell Russian government bonds to foreign banks in the secondary market. The share of non-resident holders in the Russian treasury bill market is still high, around 19%, despite a recent reduction.

Such a measure would also further discourage foreign investment. Inward foreign direct investment increased from an annual average of USD 55 billion over the period 2010-13 to around USD 20 billion over the period 2018-21.

A knock-on effect could then be an acceleration of local private capital outflows, which have already reached USD 72 billion in 2021 in net terms, compared to USD 50 billion in 2020, as well as a further sale of Russian bonds by holders non-residents. High oil prices may not be able to fully offset these capital outflows, especially if foreign investors and Russian companies start to price in worse scenarios related to the Ukrainian conflict.

Rising energy prices shield Russia from the full economic impact of the crisis

Rising energy prices insulate Russia from the full economic impact of the diplomatic crisis and any future sanction measures – at least in the short term, even without the Nord Stream 2 gas pipeline in operation. The government has forecast an oil price of 62 USD/barrel in 2022. The average oil price in the Urals was around 86 USD/barrel in January.

But regardless of the design of any new sanctions, geopolitical tensions have helped push energy security higher up the political agenda of the EU, Russia’s largest trading partner, whose imports of oil and Russian gas and related products amount to about 90 billion euros per year. . We are likely to see an acceleration of EU efforts to diversify oil and gas sources, which could reduce European demand for Russian energy exports in the longer term.

Many uncertainties surround the application and design of future sanctions

Admittedly, there is a great deal of uncertainty surrounding the application and design of any future sanctions. A new status quo of heightened geopolitical tensions without further escalation, and therefore without justification for additional sanctions, could also emerge. Even if the crisis worsens, it is not yet clear what combination of measures the United States and the EU could then impose.

The sanctions are also not free for the United States and the EU. Exemptions to allow energy transactions with Russian banks, even under a sanctions scenario involving SWIFT, could therefore be a possibility. Similarly, sanctions could also accelerate Russia’s reliance on domestic financial markets in potential conjunction with partners such as China, thereby limiting longer-term financial damage.

Longer term, however, sanction risks significantly cloud Russia’s investment and growth prospects. Even excluding the potential impact of additional sanctions, the moderate medium-term growth potential of the economy is estimated at around 1.5-2.0% per year, despite relatively low per capita income and significant growth potential. economic catch-up. This remains a key credit constraint.

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Levon Kameryan is a Principal Sovereign and Public Sector Ratings Analyst at Scope assessments GmbH. Matthew Curtin, Editor at Scope Ratings, contributed to this commentary.