- The Washington Times - Wednesday, September 17, 2008

MOSCOW (AP) — As Russia fights to reassert influence abroad, the Kremlin is suddenly dealing with a crisis at home: the crumbling of its financial powerhouse built on high oil prices and a growing stock market culture.

Russian stocks, already hurting before U.S. investment bank Lehman Brothers went bankrupt and the Federal Reserve took over insurer AIG, have suffered heavy losses during a week of turmoil on world financial markets, while its banking system has run alarmingly short of cash.

Russia’s primary stock indexes, MICEX and RTS, edged up in early trading Wednesday, but then resumed their decline, plummeting to the lowest points in nearly three years. Since May, the RTS has fallen by more than 55 percent.

The Kremlin — which still sits on massive reserves from its oil earnings — raced to restore confidence in its banking system with a wave of emergency loans, and the financial markets watchdog suspended stock trading for the rest of the day to halt the slide and give officials breathing space to cobble together further measures.

“There’s the potential for major disaster if this is not handled properly,” said Chris Weafer, chief strategist at Moscow-based UralSib bank. “Russia has the financial resources to weather this, but if they don’t use those resources properly or deal with the issues properly, then it doesn’t matter how much money they have, we could still certainly have a crisis. And that’s why the market is down.”

As Russia navigates its way through the crisis, there are concerns that it could have a longer-lasting impact, not least on its oil-fueled economy. Under Vladimir Putin’s eight-year rule, many Russians have benefited from the oil boom and stronger growth. To a large extent, that underpins the popularity of Putin, now prime minister, and his protege and successor as president, Dmitry Medvedev.

At the same time, the boom has helped restore national pride wounded by the chaos and economic and political weakness after the collapse of the Soviet Union. The government has tried to stamp its authority on what it considers its own backyard with last month’s invasion of neighbor Georgia, and by attacking U.S. plans for a missile defense system in Poland and the Czech Republic.

Some analysts say Russia isn’t likely to pull back and could emerge even stronger than before.

In large part, Russia’s equities have nosedived as a result of events not of its own making. Russia could only watch as oil plunged from a high of $147 per barrel in July to hover around $92. As stock markets fell, investors have been forced into selling shares in the wake of so-called margin calls, where brokers require clients who have borrowed money to buy shares to put up more collateral.

The squeeze on equities has contributed to a squeeze on the banks, which are facing one of the toughest periods in years as they repay loans from the Central Bank, and approach the quarterly tax payments due in October.

The government has responded through the central bank’s twice-daily “repo” auctions, which have increased in size by the day. The Finance Ministry on Wednesday also pledged to loan 1.13 trillion rubles ($44.2 billion) to the country’s three largest banks for at least 90 days in the hope that the money will filter down to the smaller banks.

The country’s stock markets have been falling since May on the back of wider fears about the revival of a political risk premium. A high-profile shareholder struggle at Anglo-Russian oil venture TNK-BP raised concerns about the government’s involvement in the dispute as it was subjected to a barrage of probes by government agencies.

Another shock came in July when Putin publicly attacked Mechel, a steel and coal company, for alleged price-fixing, reviving memories of Yukos, the oil company brought down in a politically tinged investigation.

Then, when an emboldened Russia invaded Georgia, more than $7 billion in net capital was whisked out the country in just a couple of days.

“If this crisis develops into something more serious that perhaps weakens Russia’s financial position and weakens the economy, then it would obviously weaken Russia overall and have an impact on its political leverage, and Russia would perhaps become more dependent on the rest of the world,” said UralSib’s Weafer.

“But … if they come through this crisis and can stabilize the situation, they might even be a little bit stronger.”

Russia is much stronger financially than it was in 1998, when a financial collapse wiped out banks and the savings of many ordinary Russians. Analysts pointed out that small banking customers are now partially protected by deposit insurance and the government is sitting on huge reserves that enable it to prevent a devaluation of the ruble and rescue banks.

“Is this a repeat of 1998? Definitely no,” said Kingsmill Bond, a strategist at Troika Dialog. “In 1998, the government had a lot of debt and very limited reserves. Today the Russian government has no debt and huge reserves.”

First Deputy Prime Minister Igor Shuvalov on Wednesday called on everybody “to calm down,” urging them to have faith in the government’s ability to resolve the problems.

Still, fears have mounted that the building crisis of confidence among investors and bankers could spread to ordinary Russians, prompting a run on banks.

“This is the most important question,” said Nataliya Orlova, chief economist at Moscow-based Alfa Bank. “At the current moment it’s fine because Russians are not deeply involved in the financial markets, but I think this is the risk. … This would be much worse than a confidence crisis between the banks.”

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