Talk vs. Action: Russia’s Currency Dilemma Continues

I’m a few days behind on this as I’ve been busy with other parts of this website, but there have been a number of developments since my post last week regarding how Russia discusses its currency maneuvers. The specific language used here is VERY important, so bear with me as I get nitpicky.

First, the facts as reported by various news outlets whose links are embedded within each bullet point:

• Bank Rossii officials announced a plan to swap $10 billion worth of US Treasury holdings.for the equivalent in the proposed IMF bond issue expected in the fourth quarter of this year.

• Brazil and China also expressed interest in buying $10 billion and $50 billion, respectively, of IMF bonds.

• AlexeiKudrin said Russia has full confidence in the dollar, there are noimmediate plans to switch to a new reserve currency and thefundamentals of the dollar are still in good shape.

• JapaneseFinance Minister Kaoru Yosano said Japan’s confidence in U.S. debt is”unshakeable” and that the currency’s global status is safe.

• Thedollar suffered an immediate decline following the announcement of thevarious plans to buy IMF bonds but then bounced back on Yosano’scomments.

• TheU.S. government auctioned off 10-year debt with slightly lower thanexpected demand, followed the next day by an auction of 30-year debtwith higher than expected demand.

• Whileall of this was happening, Russia’s central bank also announced that inthe month of May, it bought 449 million (with an M) euros and $18.6billion (with a B) dollars.

• Over the weekend, G8 Finance Ministers met in Italy. Here’s Alexei Kudrin:

“We are not going to significantly change the structure of ourinvestments. Ten billion is not a significant change (in currencyreserve holdings). A serious change is when we used to invest $100billion in Freddie Mac and Fannie Mae, but no longer do. In the nearestfuture, I do not see major changes in our policy in relation to thedollar.”

• And here’s IMF Chief Dominique Strauss-Kahn:

“I don’t see the dollar as being weak, I think the dollar has beentoday correctly valued by the market. We see a dollar which today isstronger than one year ago….so I don’t see today a weak dollar and Idon’t forecast that we would have to expect many changes in the comingtime.”

Now for some additional items buried deeper in the above stories that are worth noting:

• Luis Costa, Emerging Market Debt Strategist for Commerzbank in London, essentially echoed my comments on this topic last week:

“Asusual the market takes everything at face value and thinks everythingwill be implemented tomorrow. I don’t believe this will be done on asignificant magnitude over the next six to twelve months. It’ssomething they have in mind in the long term.”

• Maxim Oreshkin, OAO Rosbank’s Research Chief, agreed:

“Thecentral bank has never stood out for making fast moves with itsreserves. If it changes certain groups it will happen smoothly.”

• Russia’s total central bank reserves currently stand at about $409 billion, of which 90 percent is split approximately evenly between dollars and euros,with the remainder in sterling and yen. Of the 45 percent in dollars,or $180 billion, $120 billion of this is in US Treasuries, with theremaining $60 billion presumably in cash.

• China and Japan hold SIGNIFICANTLY higher portions of dollars, both in cash as well as US Treasuries. Forthose of you who want to dig further, 12 months’ worth of trailing datathrough 2009Q1 on foreign holders of US Treasuries can be found here.

Here’s what did NOT happen regarding the currency issue while all of this was going on:

• Therewas no confirmation of which currency IMF bonds will be denominated inbut preliminary indications point to Special Drawing Rights (SDRs). Ifit winds up being US dollars, this will do nothing to further diversifyany central bank’s foreign exchange reserves allocation. If the bondswind up being denominated in SDRs, not only are the amounts discussedso far too small to make a significant impact on relative distribution,but the US dollar will still be indirectly supported, duein large part to the United States’ overwhelming quota subscription inthe IMF’s funding structure, which in turn dictates SDR pricing.

• Nouriel Roubini, whose prescience regarding the current global economicdownturn has gained him household name recognition, offered hisprognosis for the dollar’s status as the world’s primary reservecurrency. And much like his consistently bearish outlooks for the pastnumber of years, he avoided naming a date or quantitative threshold forthe dollar’s pending doom. As the old saying goes, “even a broken clock is right twice a day.”

• Nobody to my knowledge has directly addressed any principal actor’sulterior political motives in expressing support for the dollar. At alater date, I will take up this particular aspect of Russia’s currencydilemma in greater detail.

• I have not posted any quotes from any principal actors who think thedollar will lose primary reserve currency status in the immediatefuture because I cannot find any but am absolutely open to any suchcommentary out there. “Principal actors” in this case meanspolicymakers or market participants.

Finally, some concluding comments and observations of mine:

Recent history is riddled with examples of unfulfilled promises fromgovernment officials owing to a variety of reasons. When it comes toeconomy-related promises, the current state of affairs is such thatwith new information needs being revealed daily, if not morefrequently, the value of any promise or intent is only truly realizedupon delivery. The more colloquial way of saying this: Talk is cheap.

Interpreting that notion in the Russian context is entirelysubjective. The Russian government may go back on its promise to buyIMF bonds; it may go back on its outlook of having full confidence inthe dollar; it may do some combination of both. Either way, it appearsvery likely that what government officials truly want for the Russianeconomy will not be executable from a practical standpoint. To theextent that this is the case, no matter what the government does toaddress the broad array of economic challenges it faces, it willinevitably fall short of getting it 100 percent right. But regrettableoutcomes can be minimized if the right questions are asked and coursesof action are determined more on the basis of rationality than oncatering to semi-informed politically palatable outbursts.