Page 37 - RusRPTMar23

a large share of it being floating rate bonds, tied in some way to interbank rates, with more than 90% being purchased by large local banks. However, the Central Bank reported that the share of auctions bought by large banks in January dropped to 60% as the majority of placements were fixed-rate bonds that carry more interest rate risk for banks.
“Large bond issuance alongside a reluctance by banks to hold debt have pushed up bond yields and caused a marked steepening of the yield curve – the benchmark 10-year local currency government bond yield is now 11.0%, its highest rate in the past 20 years or so outside of major periods of stress in Russia’s financial markets (2008/09 financial crisis, 2014/15 ruble crisis and 2022 sanctions). The 350bp spread over the short-term policy rate (7.50%) is the largest since 2009,” says Liam Peach, an emerging market economist with Capital Economics.
The Russian government is now issuing a substantial amount of bonds to finance its budget deficit, and the price at which it is selling those bonds has risen significantly since the start of the war.
Despite concerns over Russia's economic stability, the country's risk of experiencing acute fiscal strains remains low. There are various ways in which the government can address the deficit, according to a recent report by Oxford Economics. In addition, Russia's ability to finance its budget deficit domestically offers further reassurance.
One way the government can plug the deficit is by raising taxes on the energy sector, which has already been implemented. The Finance Ministry is considering linking oil taxes to Brent crude oil, rather than Urals, which currently trades at a $30pb discount. This could lead to a significant reduction in the government's financing needs, but would come at the expense of energy firms' profits. Finance Minister Siluanov has also indicated that the government intends to stick to its deficit plan of 2% of GDP this year, and is expecting to receive RUB300trn (0.3% of GDP) from a "voluntary" tax on business profits.
Russia can also finance its budget deficit domestically. Firstly, the government can run down assets in the National Wealth Fund, which amount to $150bn. This can realistically be drawn down for two more years before being exhausted, but the Finance Ministry is likely to avoid this. Secondly, the Finance Ministry can continue to issue bonds on the domestic market and exert more influence on financial institutions, especially the large state-owned banks, to hold more debt.
Finally, the government can issue new bonds and pay higher interest rates, which is not a significant concern for Russia. The government's debt-to-GDP ratio is only 16%, and its debt interest costs are low compared to other countries, with Russia spending just 2% of its revenue on interest costs per year. Even if Russia issues all of its debt at an interest rate above 10%, there would be a gradual decline in the government's debt service capacity over time. Although some major banks may reduce their bond purchases, Russia's financial system is large enough that many financial institutions would step in.
“The deficit will remain wide for the foreseeable future. Energy tax revenues are likely to be 2% of GDP lower this year than in 2022 and military spending will probably increase as stocks of military equipment are drawn down. We expect a budget deficit of 2.5% of GDP this year,” says Peach.
37 RUSSIA Country Report March 2023 www.intellinews.com