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Friday, 12 August 2011

When the oil market sneezes, Russia catches a cold: Why a falling oil price matters more for Russia than a falling Ruble.

Currently, there is a lot going on at the international stock exchanges; not only in Europe and the United States. Also in Russia, there have been some turmoil on the markets.
Last weekend, Russian newspapers were reporting on the quickly dropping exchange rate of the Russian ruble. The following snips are from the Russian online newspaper and these are translated by Google and edited by me.

Experts say that there is still much room for the ruble to devaluate

On Friday, the market is not only selling the full range of stocks, but also large amounts of rubles that were in hands of foreign investors. According to analysts, the ruble is poised to continue to decline against foreign currencies. 
This Friday, trade in the MICEX currency section showed a true exodus of the ruble.

Sales of the Russian currency are hot, because investors are abandoning risky assets at a massive scale: first, capital flowed out of the equity markets, then out of oil futures, and at last out of the ruble.

As a result, the official dollar rate set by the Bank of Russia today, for the first time in two weeks, crossed the bar for 28 rubles to stop at 28.338 RUR / USD, a rise of more than 50 kopecks (Russian cent). This was a bigger increase than during last week in total.

Also the exchange rate of the Euro rose to 40.10 RUR / EUR. However, the official exchange rate ended just under 40RUR/EUR: 39.9625 RUB / EUR.

"The current exchange rate of the dollar is advantageous for exporters, but we can not rule out further weakening of the ruble, due to the growing uncertainty in the world markets and the falling prices for commodities", according to analysts of VTB Capital.

Head of Treasury of the Russian bank Metalinvestbanka, Selim Agarzaev said that the market volatility has increased, largely due to massive selling of the ruble by non-residents of Russia. But, according to Agarzaev, the ruble is still very strong. Perhaps it would even be useful when the economy weakens slightly. "The market situation is not catastrophic yet, but that might be so if the oil prices would further drop," said the expert.

Although Russia is a member of the BRIC-countries (Brazil, Russia, India and China), that are considered to be economically strong, it is different from the other BRIC’s.

It’s manufacturing industry, (financial) services industry and the economy as a whole are lagging, compared to the other BRIC-countries. The only industries that are clearly flourishing are the oil and gas industry and the exploitation of precious metals and other commodities. This makes that there is a very strong correlation between oil prices and Russian wealth.On top of that, Russia was the largest oil exporter in the world in 2010, according to Bloomberg, larger even than Saudi-Arabia:

Russian Oil Output Hits Post-Soviet Record in 2010

Russia, the world’s largest oil producer, set a post-Soviet record for yearly crude output in 2010, even as the country’s production in December slipped from the previous month.
Russian output last year rose 2.2 percent to 10.15 million barrels a day, the highest annual average since the collapse of the Soviet Union in 1991, the Energy Ministry’s CDU-TEK statistics unit said in a statement today. Russia produced 9.93 million barrels a day in 2009.
Output in December fell 0.6 percent to 10.18 million barrels a day compared with 10.24 million barrels a day in the previous month, according to the statistics. By comparison, Saudi Arabia produced 8.25 million barrels a day in December.
OAO Rosneft, Russia’s largest oil producer, began pumping in August from the Siberian Vankor deposit, the country’s largest new project. Rosneft’s Vankor unit produced over 255,000 barrels a day in December, the ministry’s statistics unit said. Prime Minister Vladimir Putin said on Oct. 28 in the central city of Samara that Russia can produce 10 million barrels a day for at least a decade.
In the Soviet-era, Russian crude output peaked in 1987 at 11.48 million barrels a day, according to BP Plc data.
Therefore the expert of Metalinvestbanka, Selim Agarzaev, is totally right: a further, limited weakening of the ruble is not very problematic, but further dropping oil prices are.

To show you how problematic these dropping oil prices could be for Russian GDP, I took a YTD chart on WTI Crude and multiplied the 2010 Russian production of 10,15 mln barrels with the four price levels that I point out in this chart.

Doing this, I understand that price levels are never stable and I use these therefore only for demonstration purposes.

Chart courtesy of click to enlarge

It becomes clear from this calculation that the difference between the highest and lowest oil price in 2011 is a theoretical yearly revenue of $126 bln. And it becomes also clear that when the oil price structurally drops under $79,32, Russia has a serious revenue problem.

Therefore you could say that when the oil market sneezes, Russia catches a serious cold.

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