Jeremy Warner: Russia gets the downgrade

Outlook Why pick on Russia? Fitch yesterday became the latest rating agency to downgrade Russia's sovereign debt to just above junk status, sending the rouble to the bottom of a new, managed trading range set less than two weeks ago. The attempt to draw a line in the sand by establishing a new band plainly hasn't worked and the authorities are now faced with an uncomfortable dilemma. Either they kiss goodbye to their credibility by allowing the markets to do their worst, or they further burn into their fast depleting reserves of foreign currency, or they jack up interest rates, further undermining the banks and the economy. Not an easy choice.

But why are the rating agencies being so beastly? Russia is the only member of the G8 to have experienced the indignity of a downgrade since the credit crunch began. This despite the fact that, at less than 10 per cent of GDP, Russia has one of the smallest debt mountains of the lot. It also has huge reserves of foreign currency by comparison with others, and though economic growth is expected to decline to zero this year, that's still a lot better than anyone else is likely to achieve.

Part of the answer lies in the fact that Russia is the only member of the G8 still officially classified as an emer-ging market. It also has a relatively recent history of default. What's more, the economy is heavily dependent on oil and other commodities, where prices and demand have fallen precipitously. Add to that poor governance and it's easy to see why everyone wants to get their money out, and that includes the Russians themselves, who seem to have little faith in the robustness of their own currency.

Britain is sometimes depicted as Reykjavik-on-Thames, but at least we tend to keep our savings on shore and in sterling, one reason why the British Government should continue to have little difficulty in funding its burgeoning deficit. The same is not true of the Russians, who tend to ship their money out by the cargo load at the first sign of economic trouble. Recent experience of currency meltdown makes this an entirely rational choice.

And although Russia has fairly limited amounts of sovereign debt, once you take account of the loans taken on by her oligarchs and larger companies, much of it foreign currency-denominated, the position looks a good deal more alarming. The credit crunch has made these loans virtually impossible to refinance, so the state has had to step into the breach, using its reserves of foreign exchange to help bail out the banks and the private sector. Some $210bn of reserves have been spent defending the currency and supporting corporate and banking Russia since July alone. Will the present crisis culminate in default and another 1998-style meltdown? This continues to seem unlikely. Foreign exchange reserves may have been depleted, but they remain formidable, and the Russian government is politically much stronger than it was in 1998. Even so, if the oil price continues to fall, all bets are off.