Exchange Rate as a 'Shock' Absorber
Flexible exchange rate helps the Belarusian economy adjust to external shocks
Last year Belarus’ economy came under the impact of a set of fundamental and speculative factors. Falling oil prices and the devaluation of the currencies of Belarus’ major trading partners, the continuing geopolitical tensions were among the first reasons to cause the volatility on the country’s foreign exchange market. They still continue to affect all sectors of the economy. What approaches are employed in the country to minimize the negative impact, and what can be expected in the near future?
Sharp fluctuations in the global financial and commodity markets are out of sync with the recent general trends. Nearly a year ago oil markets entered a deep downward spiral unmoored from the $100-perbarrel mark that had anchored them for quite some time. Oil prices rebounded a little in H1 2015 but then crashed to below $43 per barrel as of 24 August. The last time oil fell below $46 per barrel was at the beginning of 2009. By the end of August, oil prices recovered a bit and rose to $54. However, the prices are highly volatile and are poised for further decline.
One of the main reasons for the ongoing crisis was the oil oversupply due to “the price war” between the oil production leaders: Saudi Arabia and the United States. The stock market turbulence in Asia, Europe and the United States that started in August played its part, too. The prices for oil and other commodities fell further on the heels of the steep declines in Asian and European stock markets. The experts attribute the stock crisis that started in China to the market correction that happens every few years, and also to the investors’ jitters in the wake of the Yuan devaluation.
This situation has a direct impact on the budgets of Russia and Kazakhstan that depend to a large extent on the revenues from energy exports. Additional factors for Belarus’ key partner Russia were the Ukraine conflict, the Western sanctions, significant payments on corporate foreign debts and capital flight. All of this caused a big drop in the value of the Russian ruble.
Today the exchange rate can respond flexibly to external and internal pressures, and this is one of the key features of the new monetary regime
The European Union, Belarus’ second biggest market after Russia, is also feeling the pain from the slow economic growth and devaluation. Not to mention Ukraine, another Belarus’ important trading partner, who is struggling with economic woes and is virtually in a state of civil war.
For Belarus the slump on foreign markets resulted in a considerable contraction of export and fall in revenues from the sale of oil products. The country has not been in such a difficult economic situation since the global economic crisis of 2008-2009.
The currency market as a segment of the financial market that is most susceptible to quick changes was among the first to reel from these negative trends. All foreign economic imbalances and the increasing demand for U.S. dollars resulted in the rising volatility of the Belarusian ruble exchange rate.
Today the exchange rate can respond flexibly to external and internal pressures, and this is one of the key features of the new monetary regime, namely monetary targeting which Belarus introduced on 1 February following the recommendations of international financial organizations.
“The understanding of what is going on in the world economy, the present-day risks coupled with the volatility prompted us to change the approaches we used in the monetary policy. We need to make this policy more flexible, able to adjust to the changing foreign economic environment in order to absorb the shocks coming from outside,” Sergei Kalechits, Deputy Chairman of the Board of the National Bank of the Republic of Belarus, said at a roundtable session held in BelTA’s press center on 25 August.
This policy makes inflation its baseline, with the broad money supply used as its intermediate target and the ruble-denominated monetary base fulfilling its operational functions. Previously the anchor currency was the U.S. dollar, and the operational rule was to restrict daily fluctuations. Today’s anchor is the basket of foreign currencies (Russian ruble accounts for 40% of the basket, U.S. and Euro currencies for 30% each) and the rule is to restrict the amounts of interventions by the National Bank.
Simply said, monetary targeting aims to control the money supply to curb inflation, while the previous regime was about the regulation of the exchange rate. Bankers say that the exchange rate is in a pegged float now. The exchange rate was made more flexible as the National Bank switched to the new currency trade regime in the form of continuous order matching which replaced the currency fixing regime on 1 June.
Under the new regime which is widely used throughout the world one can place orders for the purchase and sale of foreign currency during the entire trading session. A trade operation is executed when there are matching orders in the trading system. The fixing regime which was used before meant that all transactions with one foreign currency were conducted at a fixed exchange rate. Now the exchange rates can vary from transaction to transaction.
“In fact, this pertains to the market-driven exchange rate formation mode which means that the exchange rate of the national currency vis-а-vis the U.S. dollar and other currencies depends on the demand and supply on the currency market,” the representative of the National Bank said.
It is worth saying that the new foreign exchange policy of the regulator was welcomed by the expert community. In particular, senior analyst of Alpari Company Vadim Iosub believes that a
floating exchange rate is the most adequate exchange rate formation mechanism as it reflects both the global and domestic trends.
“The previous exchange rate formation regime accumulated the imbalances, depleted the gold and forex reserves, which would eventually lead to the abrupt devaluations of the national currency. The floating exchange rate policy which we have now is expected to fully reflect and sum up all possible internal and external factors, which will help balance the exchange rate,” the expert explained.
As a result, the monetary targeting approach will help address two major sets of issues: support the competitiveness of Belarus’ export and curb inflation. The H1 2015 statistics demonstrate how successful these efforts were.
In January-June Belarus had a foreign trade surplus at around $1.2 billion, up some $0.5 billion from the same period in 2014. The current account of Belarus’ balance of payments, in general, has improved significantly. In H1 2014 its deficit made up approximately 7% of the GDP, and now the figure stands at around 1.9% which is normal for the country. Belarus’ gold and foreign exchange reserves have stabilized. As for inflation, in January-June it reached 7.3% as against 10.2% in H1 2014. Experts predict that in 2015 inflation will not exceed 18% plus or minus two percentage points.
“In such highly volatile external conditions, we have managed to successfully fulfill the tasks of macroeconomic balancing, which provides a basis for the transition from the anti-crisis agenda to a development strategy,” Belarus’ Economy Minister Vladimir Zinovsky stated at an expanded participation session of the Belarusian government.
The Economy Ministry, jointly with other agencies concerned, has already worked out a strategy to restore the economic growth without distorting the general macroeconomic balance. Export growth and the utilization of foreign loans were named Belarus’ key reserves in H2 2015.
Meanwhile, the global markets continue suffering from increased volatility. In such conditions, predicting prices for oil and securities and, accordingly, forecasting foreign exchange rates are like reading tea leaves.
“Today Belarus’ currency market is highly dependent on global trends: oil prices, stock markets and foreign currencies,” Vadim Iosub explained. “As the external factors are too many, it is difficult to give predictions about even one particular aspect. If we take, for example, the price for oil, I think it is equally likely that it will rise by 30% or fall by the same magnitude
In January-June Belarus had a foreign trade surplus at around $1.2 billion, up some $0.5 billion from the same period in 2014
As the global market turbulence and other market factors gradually subside, the volatility of the Belarusian ruble exchange rate will decrease too
in the next several months,” the expert said.
For example, a decrease in oil supply in connection with the lower production of hard-to-get oil and the bankruptcy of some oil companies can tip the scales in favor of a positive outcome. Besides, in late August the Organization of the Petroleum Exporting Countries (OPEC) voiced readiness to take measures “for the oil market to achieve equilibrium with fair and reasonable prices.” In turn, Iran’s desire to reclaim its share on the oil market and the ongoing competition between the USA and Saudi Arabia can contribute to the negative trend.
Oil prices and the Russian ruble exchange rate are also significantly affected by the risks associated with the state of the Chinese economy and the interest rate of the U.S. Federal Reserve System. For example, if in September the FRS decides to raise the rate, investors will speed up the withdrawal of capital from developing markets, including Russia, and will show low interest in raw materials-based goods, which will have a negative impact on oil prices and the Russian ruble exchange rate.
In this highly unpredictable context a flexible exchange rate of the Belarusian ruble is expected to soften the blow and reduce the imbalance. In response to outside factors, mainly to the fluctuations in the Russian ruble exchange rate and oil prices, the dynamics of the Belarusian ruble rate allows maintaining economic competitiveness and business activities acting as a macroeconomic stability factor.
“As the global market turbulence and other market factors gradually subside, the volatility of the Belarusian ruble exchange rate will decrease too, the National Bank representatives promise.
In the near future the central bank will focus on ensuring price stability in order to preserve the purchasing power of the national currency. The stabilization of inflation processes will ensure the economic stability in the mid-term perspective and will foster longterm economic growth.
At the same time Belarus continues to de-dollarize its economy, diversify exports, and develop small and medium-sized businesses. These are the priority areas of program documents of the Belarusian government and the National Bank. They are expected to enhance the country’s resilience to the external threats. Increasing the volume of national currency transactions within the Eurasian Economic Union can play an important role in overcoming the economic dependency on the U.S. dollar and ensure closer cooperation between the member-states in the macroeconomic, monetary and financial areas.