Paying off foreign debt: Russia’s fight against sovereign default

Status: 05/30/2022 3:40 p.m

According to Finance Minister Siluanov, the Kremlin intends to use Russian banks to service its debts to foreign creditors, based on the scheme used for gas payments. But can that work?

Russia wants to introduce a ruble-based system for servicing government bonds denominated in foreign currencies. Russian Finance Minister Anton Siluanov told the Russian daily Vedomosti. To do this, investors who hold Russian debt securities and whose payments are to be made by Russia in euros would have to open a foreign exchange and ruble account in a Russian bank.

According to Siluanov, the system should work like gas payments. Russian gas customers in the west have had to open an account with Russia’s state-owned Gazprombank since April, by order of Kremlin chief Vladimir Putin. There they then pay in euros, after which the sum is then exchanged for rubles and goes to Gazprom. “The settlement mechanism for the Eurobonds will work the same way, only in the opposite direction,” Siluanow said. In this way, Russia will be able to bypass the western payment infrastructure.

Technical bankruptcy is imminent

The finance minister recently declared that his country would do everything in its power to defend its reputation as a reliable debtor. With the new payment system, the impending technical bankruptcy of Russia is apparently to be averted. However, it is unclear whether this can be achieved without violating sanction rules.

The mechanism appears to be working on paper, commented Carl Wong, senior fixed income specialist at Hong Kong-based Avenue Asset Management Bloomberg. The decisive question, however, is when Russia will end the war and – if the country is not ready – how Moscow can prevent the collapse of the financial system, according to the expert.

USA allows exemption to expire

The US brought Russia closer to the brink of default last week. The Washington government has expired an exemption that has allowed Russia to continue making payments to US creditors of its sovereign debt despite sanctions over the war in Ukraine.

Default on at least some of Russia’s $40 billion international bonds now seems inevitable. By the end of the year, Russia still has to send almost two billion dollars abroad. Failure to do so would bring Russia closer to default and thus to the brink of bankruptcy. Russia’s foreign exchange reserves are blocked by the West because of the war in Ukraine.

Russia’s last default came in 1998 as a result of falling oil prices and the Asian crisis, but at that time it only affected internal debt in rubles. Should the country fail to pay its bills to international creditors, it would be the first time since the Russian Revolution in 1917 that its foreign debt would default.

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