Through international sanctions against Russia resulting from the invasion against Ukraine in February 2022, the ruble has hit a record low valuation, leading to a crisis of international interdependence. The floating exchange rate, which was administered in Russia before the depreciation of the ruble, is defined as a system in which the exchange rate is determined by market forces, with the forces of supply and demand controlling the exchange rate as with any other good or service in a free market, but always expressed relative to another country. The ruble faces an economic concept known as depreciation, an increase in the supply or a decrease in the demand for a currency. International sanctions against Russian banks, and ultimately, isolation from the Global Financial System, has led to depreciation and reduced ability for interdependence.
The key concept present is interdependence, related to Russia’s reduction in the “dependence on the global financial system.” Through sanctions against Russian assets and exports, and exclusion from international financial systems, the interdependence that Russia has on financial systems and sanctions has led to a significant depreciation of the ruble, and an economic crisis within the country. Russia’s necessity for interdependence through foreign investment in order to return the depreciated ruble back to equilibrium means that deescalation is necessary.
Figure 1
The equilibrium exchange rate, which was visible in the market for rubles before the sanctions, is represented at the level at which the quantity of rubles demanded equals the quantity of rubles supplied, determined by the forces of supply and demand without government intervention, at (Qe,Pe).
Figure 2
Figure 2 represents a demand shift to the left in the exchange rate of the ruble from a decrease in the demand for the currency, causing a depreciation. The equilibrium exchange rate of the ruble has therefore shifted from the intersection point (D1,S) to (D2,S), which leads to a depreciation represented in the fall from e1 to e2 on the Y axis.
The central bank has aimed to counteract this falling exchange rate through monetary policy aiming to create a backwards effect on the exchange rate of the ruble and reduced interdependence, as depreciation within the economy has specific consequences on the economy in the short and long run. Depreciation in the short run should increase net exports, as exports are less expensive for foreigners due to the ruble being less valuable against other currencies than before, increasing aggregate demand and real GDP. As sanctions largely prevent the foreign importation of Russian goods, the benefits in the short term associated with depreciation are essentially minute without the potential for increased exports, and means that interdependence is obsolete within international demand for Russian exports. As well as this, higher costs of imports associated with the depreciation of the ruble can lead to cost-push inflation in the short run, as domestic producers that are reliant on imported goods for production will face larger costs of production, and a consequent leftward shift in SRAS, and a fall in real GDP.
In the long run, with the inability to balance out the depreciation given a lack of official reserves to buy back rubles to balance out the depreciation, sanctions have frozen reserves held in foreign bank accounts. Sustained depreciation in the long run leads to existing Russian reserves running out. Increases in interest rates, which is a form of contractionary monetary policy, aims to attract foreign investment to a specific currency, therefore increasing the demand of the currency. Russia has doubled interest rates from 10% to 20%, aiming to increase demand for the ruble, however with the absence of international interdependence, Simon Harvey states that there is currently “an international market that no longer exists.” Even with an increase in interest rates, foreign investment has not shifted, therefore having no effect on the valuation of the ruble. Rather than appealing to foreign investors with a higher rate of return of investment with the 20% interest rates, due to sanctions preventing foreign investment, “Russia’s sky-high interest rates are advertising to Russians within the country who are trying to ditch rubles.”
In conclusion, the effects that the depreciation of the ruble have had on the Russian economy mean that the benefits of depreciation, such as increased exports, which consequently increases real GDP in the short term, are absent with the international sanctions. Means of adjusting the depreciated ruble by the central bank have been unsuccessful, as the reduction of interdependence resulting from sanctions mean that foreign investment is inelastic to changes in interest rates from the central bank. Russia must adapt to different strategies of monetary policy to rebound the depreciation of the ruble in the long run, and as well as this, in order to limit the negative affects associated with international interdependence.
Works Cited
Ben Achour, Sabri. “Russia is trying to prop up the ruble.. but it’s not working.”. MarketPlace., 2 Mar 2022. https://www.marketplace.org/2022/03/02/russia-is-trying-to-prop-up-the-ruble-but-its-not-working/ . Date Accessed: 11 Mar 2022.