Soros states, in particular, that the sanctions imposed on Russia by the US and Europe for its interventions in Ukraine have worked much faster and inflicted much more damage on the Russian economy than anybody could have expected largely due to a sharp decline in the price of oil, Censor.NET reports.
"The sanctions imposed on Russia by the US and Europe for its interventions in Ukraine have worked much faster and inflicted much more damage on the Russian economy than anybody could have expected. The sanctions sought to deny Russian banks and companies access to the international capital markets. The increased damage is largely due to a sharp decline in the price of oil, without which the sanctions would have been much less effective. Russia needs oil prices to be around $100 a barrel in order to balance its budget. (It is now around $55 a barrel.) The combination of lower oil prices and sanctions has pushed Russia into a financial crisis that is by some measures already comparable to the one in 1998.
"In 1998, Russia ended up running out of hard currency reserves and defaulting on its debt, causing turmoil in the global financial system. This time the ruble has dropped by more than 50 percent, inflation is accelerating, and interest rates have risen to levels that are pushing the Russian economy into recession. The big advantage Russia has today compared to 1998 is that it still has substantial foreign currency reserves. This has enabled the Russian Central Bank to engineer a 30 percent rebound in the ruble from its low point by spending about $100 billion and arranging a $24 billion swap line with the People's Bank of China. But only about $200 billion of the remaining reserves are liquid and the crisis is still at an early stage.
"In addition to continued capital flight, more than $120 billion of external debt is due for repayment in 2015. Although, in contrast to 1998, most of the Russian debt is in the private sector, it would not be surprising if, before it runs its course, this crisis ends up in a default by Russia. That would be more than what the US and European authorities bargained for. Coming on top of worldwide deflationary pressures that are particularly acute in the euro area and rising military conflicts such as the one with ISIS, a Russian default could cause considerable disruption in the global financial system, with the euro area being particularly vulnerable.
"There is therefore an urgent need to reorient the current policies of the European Union toward Russia and Ukraine. I have been arguing for a two-pronged approach that balances the sanctions against Russia with assistance for Ukraine on a much larger scale.
"European political leaders must tap into the large unused borrowing capacity of the EU itself and find other unorthodox sources to be able to offer Ukraine a larger financial package than the one currently contemplated. That would enable the Ukrainian government to embark on radical reform. I have identified several such sources, notably:
1. The Balance of Payments Assistance facility (used for Hungary and Romania) has unused funds of $47.5 billion and the European Financial Stability Mechanism (used for Portugal and Ireland) has about $15.8 billion of unused funds. Both mechanisms are currently limited to EU member states but could be used to support Ukraine by modifying their respective regulations by a qualified majority upon a proposal by the European Commission. Alternatively, the Commission could use and expand the Macro-Financial Assistance Facility, which has already been used in Ukraine. There is indeed a range of technical options and the European Commission President Jean-Claude Juncker should propose a way forward as soon as the Ukrainian government has presented a convincing set of priorities.
2. Larger matching funds from the European Union would enable the IMF to increase its lending to Ukraine by $13 billion and to convert the existing Stand-By Agreement into a longer-term Extended Fund Facility program. This would bring the total size of the IMF program to fifteen times Ukraine's current IMFquota, an unusually large multiple but one that already has a precedent in the case of Ireland, for example.
3. European Investment Bank project bonds could yield €10 billion or more. These funds would be used to connect Ukraine to a unified European gas market and to break up Naftogaz, the Ukrainian gas monopoly. These changes would greatly improve Ukraine's energy efficiency and produce very high returns on investment. It would help create a unified European gas market and reduce not only Ukraine's but also Europe's dependence on Russian gas. The breakup of Naftogaz is the centerpiece of Ukraine's reform plans.
4. Long-term financing from the World Bank and the European Bank for Reconstruction and Development for restructuring the banking sector. This should yield about $5 billion. The 2009 Vienna Initiative for Eastern Europe, which proved to be highly successful in limiting capital flight and stabilizing the banking system, should be extended to Ukraine. The foundations for such an extension were already laid at the inaugural meeting of the Ukrainian Financial Forum in June 2014.
5. Restructuring Ukraine's sovereign debt should free in excess of $4 billion scarce foreign exchange reserves. Ukraine has almost $8 billion in sovereign debt coming due in the private bond markets in the next three years. Instead of a default that would have disastrous consequences, Ukraine should negotiate with its bondholders (who happen to be relatively few) a voluntary, market-based exchange for new long-term debt instruments. In order to make the exchange successful, part of the new financial assistance should be used for credit enhancements for the new debt instruments. The foreign assistance needed for this purpose would depend on what bondholders require to participate in the exchange, but it could free at least twice as much foreign exchange over the next three years.
6. Ukraine must also deal with a $3 billion bond issued by the Russian government to Ukraine coming due in 2015. Russia may be willing to reschedule the payments by Ukraine on the bond voluntarily in order to earn favorable points for an eventual relaxation of the sanctions against it. Alternatively, the bond may be classified as government-to-government debt, restructured by the group of nations officially called the Paris Club, in order to insulate the rest of Ukrainian bonds from their cross-default provisions (which put the borrower in default if he fails to meet another obligation). The legal and technical details need to be elaborated.
"Perhaps not all these sources could be mobilized in full but where there is a political will, there is a way."