Semester 4 International Business & Cross Culture Management Assignment 1

Prof. Pooja Gupta

Russian Economic Crisis 1998 & The Role of IMF

Presented & Submitted by - Group 4 Jayesh Dubey: PRN 09020842010 Lakshmi Kedaraman: PRN 09020842013 Rahul Ranjan PRN 09020842028 Ram Prakash Singh: PRN 09020842033 Ritesh Kesharwani PRN 09020842034 Roopa Kushtagi PRN 09020842035

22nd May 2011

Agenda
1. Economics & Finance 2. IMF The Institution 3. Russia The Country 4. Case Facts 5. Analysis of the measures 6. Role of IMF 7. Impact on other CIS Countries 8. Conclusion

Economics & Finance

Economics & Finance

Economics & Finance

Determinants of Foreign Exchange Rates
Parity Conditions 1. Relative inflation rates 2. Relative interest rates 3. Forward exchange rates 4. Interest rate parity

Is there a well-developed and liquid money and capital market in that currency?

Spot Exchange Rate

Is there a sound and secure banking system in-place to support currency trading activities?

Asset Approach 1. Relative real interest rates 2. Prospects for economic growth 3. Supply & demand for assets 4. Outlook for political stability 5. Speculation & liquidity 6. Political risks & controls

Balance of Payments 1. Current account balances 2. Portfolio investment 3. Foreign direct investment 4. Exchange rate regimes 5. Official monetary reserves

IMF The Institution

IMF The Institution

Created in 1944, at the Bretton Woods conference to prevent the kinds of chain caused world currencies to collapse like in the Great Depression of the 1930s. Commenced operations in 1947 Membership: 187 countries Executive Board: 24 Directors representing countries Staff: Approximately 2,500 from 160 countries Total quotas: US$340 billion (as of 1/31/11) Headquarters: Washington, D.C. Member Countries

Additional pledged or committed resources: US$600 billion Loans committed (as of 1/31/11): US$254 billion, of which US$190 billion have not been drawn Biggest borrowers (credit outstanding as of 1/31/11): Romania, Ukraine, Greece Surveillance consultations: Consultations concluded for 120 countries in FY2010 and for 88 countries in FY2011 as of 02/11/11 Technical assistance: Field delivery in FY2010192.5 person years Transparency: In 2009, over 90 percent of Article IV and program-related staff reports and policy papers were published

IMF The Institution

1. Roles Exchange rate stability, Global trade promotion, Payment facilitation 2. Activity Economic Resources Surveillance (Bilateral and multilateral), Tech assistance, Fin assistance 3. Nature of Financial assistance 3 major ones A. Standby Arrangements For Short Term BOP deficits of a cyclical nature Tenor up to 18 months. Drawings periodic and conditional cascade of tranche release Purchase of member country currency/sale of another to support its parity Repurchase after 4-5 yrs B. Extended Arrangements For Medium Term Structural BOP problems Purchase based support. Repurchase max 10 yrs C. Structural Adjustment facility Loans not purchases for typically LDCs. Drawls semi annual Designed to address Long Term structural imbalances in BOP situation Easier terms. 0.5% Int. 10 yr Tenor. 1st Semi-annual repayment 5.5 yrs

IMF The Institution

IMF The Institution

The Executive Board meets three times a week, maybe more. The Board has a voting system: - The larger the economy, the more voting power it has - But, most decisions are based on consensus

IMF Operations, Policies & Other Aspect

IMF The Institution

Monitoring economic and financial developments and policies, in member countries and at the global level, giving policy advice to its members based on its more than fifty years of experience. Lending to member countries with balance of payments problems, supporting adjustment and reform policies aimed at correcting the underlying problems. Providing the governments and central banks of its member countries with technical assistance and training in its areas of expertise. IMF looks at the performance of the economy as a whole (macroeconomic performance) Focuses also on the financial sector policies Ex: regulation and supervision of banks and other financial institutions. Pays attention to structural policies that affect macroeconomic performance. Ex: labor market policies (affect employment and wage behavior)

IMF The Institution

IMF The Institution

IMF's main resource: Subscriptions (quotas) Quotas Determine the amount of financing that each country can receive from the IMF Are the main determinant of countries' voting power in the IMF. Broadly reflect members' relative size in the world economy Countries pay 25 percent of their quota subscriptions in Special Drawing Rights (SDRs) or major currencies IMF can call on the remainder, payable in the member's own currency, to be made available for lending as needed The United States of America, the world's largest economy, contributes most to the IMF, 17.5 percent of total quotas

Members with Ten Largest Quotas

IMF The Institution

Direct Effect of the IMF Policies Helping countries out of poverty; methods: Guiding the countries to pursue sound policies and good governance More effective international support By providing technical assistance, the IMF helps countries in: Strengthening their monetary and financial sectors Designing strong fiscal policies and management Budget formulation, expenditure management, and the management of internal and external debt Compiling, managing, and disseminating statistical data and improving data quality Drafting and reviewing economic and financial legislation Indirect Effect of the IMF Policies Strengthening the International Monetary and Financial System by working with its member governments, and with other international organizations, regulatory bodies, and the private sector. Globalization has increased the risk of financial crisis. These crises exposed flaws in the international financial system. IMF covers that. Reducing the risk of future financial crises Promote the speedy resolution of those that do occur.

IMF The Institution

The Other Aspect
The structural adjustment is undemocratic and inhumane: Causing social problems Foreign corporations and investors take advantage of local cheap labor, but have no regard for the environment The gap between the rich and the poor is getting bigger? Example of Argentina Has the IMF has become a tool of the USA? For years, the Fund has set severe loan conditions that in many cases have led to the deepening the crises. There is widespread belief regarding the Asian and Latin American crises that the IMF went too far on imposing policies such as: Control on government spending Higher taxes Higher interest rates Liberalized markets Fewer state controls

RUSSIA The Country

Russia - History
945. Treaty of Igor with Byzantium (Constantinople) establishes first claim to government in the many lands of Russia, known as the many "Russias." 1237. Mongol tribesmen, invading from the East, conquer Russia and impose foreign rule for over 240 years. 1802. Formation of the first government ministries, establishing a strong principle of government control of the private economy. 1906. First Duma (parliament) established; first written constitution adopted following the defeat of Russo-Japanese war 1985. Mikhail Gorbachev becomes communist party leader, calling for economic reforms (perestroika) and greater openness (glasnost). 1991. On 19 August, a group of Communist Party hardliners announce takeover of the Soviet government. The takeover fails. Boris Yeltsin emerges as the most popular politician. 1991. On 21 December, 11 high leaders of USSR meet in Alma-Ata, Kazakhstan, to sign the "Alma-Ata Declaration" ending the USSR and establishing the "Commonwealth of Independent States" (CIS). 1992. On 2 January, Russian prime minister frees prices; Rouble value plummets; prices skyrocket. 2000. Vladimir Putin is elected president and prudently managed the economy.

Russia - Demography
Population : 139 million (2011) Population Growth Rate : -0.47% Age Structure
0 -14 years : 15.2% (1.06 male(s)/female ) 15-64 years : 71.8% (0.92 male(s)/female ) 65 yrs and above : 13% (0.44 male(s)/female)

Birth Rate : 11.05 births/1000 Death Rate : 16.05 deaths/1000 Life Expectancy at birth
Total population : 66.29 years Male : 59.8 years Female : 73.17 years

Russia - Demography
Population Density : 8.4 people/sq km Densely Populated City Moscow (9 mn) Net Migration Rate : 0.29 migrants/1000 0.9% Urban Population : 73% 1.1% Annual Rate of Urbanization : -0.2% 1.1% Literacy Age > 15 who can read and write 2.0% 3.8% Total Population : 99.4% Male: 99.7% , Female: 99.2% Universities : 48 Education Expenditure : 3.9% of GDP (2002) Religions Russian orthodox : 15 -20% Muslims : 10 -15% Other Christians : 2%

Ethnic Groups
0.8% 10.3% Ethnic Russian Tatar Ukrainian Bashkir Chuvash 80.0% Chechens Armenians Others

Russia - Economy
GDP PPP : $2,229 bn (2010) Real Growth Rate : 4.1% (Mar 2011) Inflation Rate : 9.6% (Mar 2011) Interest Rate : 8.25% (Mar 2011)

Russia - Economy
Exports : $337.6 bn Export Commodities
Petroleum and petroleum products, Chemicals Natural gas, Metals, Wood and wood products Civilian and military manufactures

Imports : $237.3 bn Import Commodities

Machinery and equipment, Vehicles, Consumer goods, Medicines, Meat, Grain, Sugar, Semi-finished metal products.

Labor Force : 75.55 mn (2010) Labor Force by Occupation and GDP Composition Agriculture : 10% GDP : 4.2% Industry : 31.9% GDP : 33.8% Services : 58.1% GDP : 62% Average Monthly Wage : $697.8 Industrial Production Growth Rate : 8.3% Unemployment Rate : 7.6% Population Below Poverty Line : 13.1% (2009)

Russia - Economy
Current Account Balance : $65.85 Bn (stronger because of high oil prices) Reserves of Foreign Exchange and Gold : $483.1 Bn External Debt : $480.2 Bn Stock of Direct Foreign Trade At Home : $306.8 Bn Stock of Direct Foreign Trade Abroad : $260.5 Bn

The Russian Crisis 1998 Case Facts

The Case Facts

Post collapse and dissolution of Soviet Union in 1991, Russian government implemented reforms aiming to have a dynamic market economy Price controls ended in January 1, 1992 which led to price surge and higher inflation (3,000 % in 1992) Factors contributing to spike in inflation: Prices held at artificially low levels Shortage of basic goods led to higher cash reserves Government subsidy in operations of money-loosing establishments Printing more money Tumbling Ruble: January 1992 Late 1992 Late 1993 Oct 1994 Apr 1995 July 1995

$ 1 = R 125 $ 1 = R 480 $ 1 = R 1,500 $ 1 = R 3,926 $ 1 = R 5,120 $ 1 = R 4,559

The Case Facts

In 1996, on request from Russian Government, IMF sanction loan of $ 10 billion !! In return, Russia agreed for: Limiting growth in money supply Reducing public sector debt Increasing government tax revenues Pegging Ruble to Dollar Debased Ruble, new R 1 = old R 1,000 IMF Help: Stabilized economy initially in 1997 However: o Public sector debt remained o Government continued to spend more o Taxes remained lower due to Falling oil prices Underground economy Complicated tax systems with loopholes

The Case Facts

CRISIS: Unable to meet targets of IMF, payments suspended in 1998 Interest rates up in overnight loans IMF bill directing government to take concrete steps was shot down by antigovernment forces leading to Stock markets plummeted and Ruble sales accelerated To maintain value of Ruble, foreign exchange was bled In response to crisis, on August 17, 1998, PM became indifferent to IMF and announcedRestructuring of domestic debt market Transforming short-term debt to long-term debt 90 day moratorium on the repayment of foreign debt This resulted in Increase in price of goods by 20% Currency exchange points sold Dollars @ 9 Rubles / Dollar Russian government debt lost 85% of its value

The Case Facts

AFTERMATH IMF left Russia to manage its own mess Government steps Slashed spending Reformed tax systems Rise in commodity (such as oil, natural gas, metals etc.) prices post 1998 STATUS OF RUSSIA POST 1998 CRISIS (in 2004): Large current account surplus of $ 46 billion Between 1998 and 2004, economy grew at average annual rate of 65% Foreign debt declined to about 28% from 90% Foreign reserves up 10 fold to $ 120 billion January 2005, repaid entire obligations of IMF ahead of time

The Case Facts

PERSISTING WEAKNESSES Economy dependent on commodity prices. Poor banking and manufacturing systems Large, deep rooted corruption Mistrust in institutions of government Reduced foreign investment

The Russian Crisis 1998 Analysis of the Measures

Analysis of Measures
Slashed Government Spending Reduced Public Debt Reduction in Real Exchange Rates Budget Deficits are reduced Inflation Checked Interest Rates Come Down Repayment of Debt Tax System Reforms Tax Payment became cheaper than the means to avoid tax/ Leakages stopped Budgeted/ More than that, tax collection resulted Revenue Targets are met Inflation is checked/ Financial Markets Stabilized Interest rates come down Budget Deficit is reduced Repayment of Debt

Analysis of Measures
Commodities prices increased Higher Revenue Collected Reduction in Balance Of Payment Foreign Exchange is saved Repayment of Debt

The Russian Crisis 1998 The Role of IMF

Role of IMF
In 1996 Feb, released a $ 10 Bn Debt Put harsh measures to implement and repay the debt instead of strengthening the institutions, putting checks and balances and proper processes. Arm twisted Russians to agree to its conditions and released additional $640 Mn. Approved additional $ 11.2 Bn loan to stabilize Ruble by CBR (Central Bank of Russia) intervention. Held back $ 800 Mn of the $ 5.6 Bn (First Tranche) once the reform bill fell in Russian Parliament. Russian Government was forced to default on its Debt commitments. This resulted in Ruble declining further and Russian Debt holders had nothing left with them. Further IMF withdrew completely without releasing any loan for restructuring. Instead of stabilizing the economic situation of the country, IMF because of its single track approach made the crisis management even more difficult in Russia.

The Russian Crisis 1998 Impact on Other CIS Countries

Impact on CIS Countries

1. Russian crisis affected Baltic countries more than was expected. Estonia, Latvia and Lithuania sank into recession. It has since become clear that sidestepping the effects of the Russian crisis was impossible. 2. The figures for 1999 showed a heavy decline in Baltic's exports to Russia and a significant decline in the growth rates of these economies 3. Food and beverage as well as processing industries as a whole have suffered the most. 4. In Baltic interbank markets, interest rates rose after the crisis, but returned fairly quickly to lower levels. 1. Moldova received an IMF special mission advising the government on how to cope with the effects of the Russian crisis. 2. After the Rouble crashed, most Russian importers put deals with Moldova on hold. 3. Moldovan president said the Russian crisis had cost Moldova as much as five per cent of its GDP. 4. The country's parliament was discussing a program aimed at reducing imports and searching for new markets outside Russia.

Baltic

Estonia Latvia Lithuania

Eastern Europe

Moldova

Impact on CIS Countries

1. 2. Output growth fell from 8.5 percent in 1998 to 3.4 percent in 1999. Both exports and imports contracted substantially, resulting in a drop in the current account deficit from 6.1 percent of GDP in 1998 to 2.2 percent of GDP in 1999. Externally, exports to Russia, which accounted for more than 60 percent of total exports, fell during the second half of 1998 by 10 percent. Demand for Belarusian products was weak through 1999 All the budget expenditures were smaller. The biggest cuts were done in national security (1.9 percent of GDP compared with 2.5 percent of GDP in the first quarter of 1998) and social policy (1.5 and 2.4 percent of GDP, respectively) where the expenditures were lowered almost by one third. The crisis cost a lot for Ukraine: the Hryvnia devaluated by 60% Domestic prices increased by 20% The National Bank of Ukraine lost 40% of its gross reserves.

3.

Eastern Europe

Belarus

4. 5. 6.

1.

Eastern Europe

Ukraine

2. 3.

Impact on CIS Countries

1. 2. Kazakhstan lost its price competitiveness and its exports were in shambles. On the other hand, cheap Russian goods were flowing into the economy that was killing the domestic industries. There was huge downward pressure on the tenge and their balance of payments had worsened. However the NBK was still holding on to the tenge. In fact, they had spent close to a billion dollars to maintain the level of tenge. Their foreign exchange reserves halved. In the central Asian state, the government banned the free unlicensed sales of food, most of which is imported from Russia, as a preventative measure against price rises and panic.

Central Asia

Kazakhstan

3.

4. 5.

1.

Central Asia

Uzbekistan

Impact on CIS Countries

Change in Gross Domestic Product (GDP) in constant prices, 1991-2007 Region Country Estonia Baltic states Latvia Lithuania Kazakhstan Kyrgyzstan Central Asia Tajikistan Turkmenist an Uzbekistan Armenia Transcauc asus Azerbaijan Georgia 1991 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 1995 76.0 60.9 61.5 68.9 56.6 43.5 65.4 82.5 45.9 41.5 35.8 2000 99.6 80.3 76.0 77.8 74.3 50.0 79.8 93.6 59.0 58.1 47.3 2005 143.7 118.4 109.6 127.1 89.1 78.2 167.4 117.2 104.5 101.2 66.3 2007 166.0 138.1 123.7 148.7 98.7 89.5 188.9 132.0 119.1 157.0 74.1 Turnaround year* 1995 1994 1995 1996 1996 1997 1998 1996 1994 1996 1995

*The year when GDP decline switched to GDP growth.

Impact on CIS Countries

Change in Gross Domestic Product (GDP) in constant prices, 1991-2007 Region Country Belarus Moldova Central Asia Ukraine Russia Belarus 1991 100.0 100.0 100.0 100.0 100.0 1995 66.1 47.3 52.4 65.4 66.1 2000 89.7 41.7 47.5 70.7 89.7 2005 128.4 58.4 68.7 95.3 128.4 2007 140.9 65.0 73.3 106.8 140.9 Turnaround year* 1996 2000 2000 1999 1996

*The year when GDP decline switched to GDP growth.

Conclusion

Conclusion
Governments need to analyze all possible impacts before taking key financial decisions. IMF may not always be the rescuer / savior in a desperate situation. Concrete policies and procedures to be in place along with strong and effective Financial Institutions and Banking systems to support a stable economy. Financial decisions can not be taken without the Political will in a country. Fallout of a wrong financial decision affects neighboring countries economies as well. Fiscal and Monetary Policies need to go hand in hand. Artificial support to the economy by means of price protection and subsidies may not prove to be good long term strategy. Basics of Financial Management can not be changed and should be followed strictly.
You Laugh & the world laughs with you , but you cry and you cry alone ..

And the World moved on ..

Thanks for your time and attention