Money alone is useless

The Russian state and Russian companies would like to service their debts. But Western sanctions make that almost impossible. The technical state bankruptcy is approaching.

Because of the international financial sanctions against Russia, the country will probably no longer be able to service its debts in the near future. That would mean that Moscow would be technically bankrupt. But it is a new form of bankruptcy. Because unlike in such cases, the debtor has the money to service the debt and he also wants to pay it. But he can’t.

In recent years, Russia has borrowed around 150 billion dollars on the international capital markets by issuing bonds. Not only is the government in Moscow in debt to foreign creditors, but also corporations such as Gazprom, Rosneft, Norilsk Nickel and the country’s major banks. However, servicing these debts is becoming increasingly difficult. Because the financial sanctions of the USA and Europe against Russia are increasingly cutting it off from the international financial market. As a result, Russia loses access to dollar and euro loans from abroad. This is bearable, however, as sales of commodities are estimated to bring in $320 billion in cash this year. One problem, however, is that the sanctions are gradually excluding the country from international payments.

First, most Russian banks have been decoupled from the Swift system, which is essential for processing cross-border transactions between banks. This makes it increasingly difficult for Russian addresses to send or receive money abroad. In addition, the USA in particular uses the fact that its major banks act as correspondent banks in the international payment system: Since most credit institutions in the world are not directly connected to each other, large correspondent banks serve as international intermediaries between the banks of the world. And these central nodes are institutions such as Citigroup or JP Morgan, which process payment orders for banks from other countries.

Moscow: “Commitments fully met”

Western banks are no longer allowed to serve many Russian addresses. And even for those addresses whose payment orders can still be processed, the banks initiate lengthy verification processes to ensure that they are not violating the sanctions. Because the penalties are high.

The first consequences are noticeable for Russia. For example, the metallurgy company Severstal was unable to transfer an interest rate payment to the creditors on time because Citigroup blocked the payment for fear of violating the sanctions. Interest payments from transport company Russian Railways JSC and fertilizer producer EuroChem were also caught in bank scrutiny.

Since the beginning of April, the situation has also worsened for the country’s central debtor, the state. Because the Treasury Department in Washington has tightened the sanctions and stopped all transfers from Russian accounts at US banks. Since Moscow could no longer pay the interest due in dollars, it instead paid the creditors in rubles and transferred the sum to a special account for foreigners at the Russian National Settlement Depository, a state institution. Thus, according to the Ministry of Finance in Moscow, one has “fulfilled its obligations”.

But this is legally controversial: According to the Bloomberg financial service, the bond agreements in question do not allow the currency to be changed from dollars to rubles. Moscow, on the other hand, referred to a Russian law that allows this.

What would happen in the event of bankruptcy?

According to rating agencies Fitch and S&P, the ruble payment was invalid. Russia now has 30 days to make the transfer in US dollars – if this does not happen, the payment default is officially declared, commonly known as state bankruptcy. The situation is similar for other government bonds over 100 million dollars on which interest payments are due these days. A 30-day grace period applies here as well. The actual default of the loans would therefore not take place until April.

Moscow’s bankruptcy is only a matter of time, especially since an exemption from Washington that allows certain US and foreign investors to accept Russian interest payments expires at the end of May.

What happens in the event of bankruptcy? Defaults on payments normally shake the confidence of creditors on the financial markets in the debtor state. The rating agencies downgrade his creditworthiness and he may lose access to the international capital market for a long time. In addition, such bankruptcies can shake up the financial markets and drive up interest rates for bad debtors, which can produce crises.

But in the present case, the situation is quite different. As a result of the financial sanctions, Russia is already largely cut off from the international capital market, and investors regard it as a pariah. The rating agencies Fitch and Moody’s had already lowered their Russia ratings to junk status in March – in the meantime they have completely stopped assessing Russia’s creditworthiness due to the legal uncertainty.

Open legal questions

Unlike usual, there is no risk of bankruptcy in the case of Russia because the debtor has no money to service the debt. Although around two-thirds of Russia’s foreign exchange reserves of around $600 billion have been frozen by the West, the remaining reserves and earnings from exports would suffice. In addition, Moscow is also willing to make the payments – unlike after the Russian Revolution, when the Bolsheviks refused to service the Tsar’s bonds. But the West prevents this with its sanctions: Russia is not allowed to pay. Whether this will officially be classified as a state bankruptcy is also an open legal question.

Thus, as in the case of its lost foreign exchange reserves, which ultimately consist of Russian loans to the US and Europe, Moscow is feeling that financial assets and debts are nothing more than rights to payment. And those rights are only as good as the power to enforce them.

–