The price of oil finally bounced on Friday, with US light sweet crude trading for $75.88 a barrel, as I’m writing this, up $1.67. The 2.3% gain should make Russian President Vladimir Putin breathe a sigh of relief.
The day didn’t start out propitiously. Putin saw a “catastrophic decline in oil prices,” he told the state-owned TASS news agency during an interview (Business Insider). That scenario was “entirely possible, and we admit it,” he said.
The plunge in oil prices (about 27% since June) comes on top of the ruble’s downward spiral (about 30% against the dollar since the beginning of the year).
Global oil consumption is expected to fall by 1% in the first quarter of 2015 from the current quarter, the International Energy Agency estimated. OPEC members are in no mood to seriously cut production; like everyone else, they need all the moolah they can get. Production is soaring in the US, and no one here is any mood to cut production either, with new money flooding into the sector. Something has to give.
But Russia would be OK, according to Putin.
“A country like ours finds the situation easier to cope with,” Putin explained. “Why? Because we are producers of oil and gas and we handle our gold and currency reserves and government reserves sparingly.” Emphasis mine. “Our reserves are large enough, and this allows us to be sure that we will meet our social commitments and keep our budgetary processes and the entire economy within a certain framework.”
So how large are these in currency reserves? Turns out, they were $480 billion in October 2013. They have now been whittled down over 20% – in just 12 months! – to $383 billion. That’s what Putin meant with “sparingly.” Five years of this, and the foreign exchange reserves will be zero.
But wait… Oil prices just began skidding a few months ago. The drain on these reserves has other origins, such as the total lack of confidence by Russians in the ruble, in their banking system, and in their legal system, and this lack of confidence created a tsunami of capital flight that the Russian government has been unable to check.
Russians are dependent on imports for a big part of their consumer goods, and they still remember what happened to the ruble in the 1990s when prices were marked in dollars because the value of the ruble was plunging so fast no one could keep up with it. So when things get iffy, they check exchange rates on a daily basis. When the ruble drops, they see their spending power dropping, and they try to save what they can by dumping their rubles and buying dollars and euros. It makes perfect sense.
The Central Bank of Russia, in trying to counteract this and prop up the ruble, or at least manage its decline, was buying these rubles and selling euros and dollars. But on Monday, it too must have taken a gander at the chart below. Worried of where this might lead, it decided to preserve Russia’s foreign exchange reserves and let the ruble float wherever it may.
Because this chart of Russia’s currency reserves from 2009 through October 2014 – specifically the 20% decline in just the last 12 months, to $383 billion – should give them the willies:
— Holger Zschaepitz (@Schuldensuehner) November 14, 2014
Putin was right, though. Russia will make it through this phase in better shape than some other countries. But that doesn’t say all that much: OPEC member Venezuela, for example, is nearing hyperinflation, accompanied by shortages of all kinds, an increasingly unpopular political regime, potentially explosive social unrest, and a very high probability of default – not within the next ten years, but within 12 months. Some of this has been in the works for a long time, but the current price of oil is pushing the country relentlessly and rapidly toward a financial cliff.
That’s probably the kind of comparison Putin was referring to when he said, “a country like ours finds the situation easier to cope with.” But it will be tough, and if the price decline lasts long enough and goes deep enough, it will be very tough. For oil producing countries whose governments are dependent on oil revenues, the price of oil can be a nasty mistress.
It is possible that a miracle intervenes at any moment now and that the price of oil bounces off and zooms skyward. We’ve seen stocks perform these sorts of miracles on a routine basis. But when it comes to oil, miracles have become rare. Read… How Low Can the Price of Oil Plunge?