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Volatility in Eurasian Union revealed by google trends

Policy Pulse - George Anjaparidze - 9 April 2020


Background on Eurasian Economic Union (EAEU)

  • EAEU provides for free movement of goods, services, capital and labor for its five members: Armenia, Belarus, Kazakhstan, Kyrgyzstan, and Russia.

  • Monetary and fiscal policy is managed individually by each member state, with active information exchange but no coordination or joint decision making.

  • Russia is the largest economy in the union, representing about 87% of economic activity. Kazakhstan is a distant second with 9% and Belarus is third with about 3%. Armenia and Kyrgyzstan together make up about 1% of economic activity within the union.

  • Russia is a leading trading partner and significant source of remittance and investment flows within EAEU. Therefore, developments in Russia have a major impact on EAEU members.


Eurasian Economic Union countries are exposed to shocks from Russia


Countries in the EAEU have historically, over the past 12 years, had some of the highest rates of google searches[i] on the topic of “foreign exchange”, which points to rising exchange rate pressures. This was also observed following the outbreak of COVID-19 (see our related analysis: Spike in “foreign exchange” google search after COVID).


Exposure of EAEU members to Russia shocks, including oil price, geopolitical instability, armed conflict and sanctions, can be seen through the synchronized movements in the rate of google searches on the topic of “foreign exchange” (see chart: Eurasian Economic Union). The heightened volatility has been harmful to all EAEU members, but especially damaging to oil importing countries without reserves to cushion impacts.


Over the past 12 years, the Russian ruble displayed high foreign exchange rate volatility. During this period, the US dollar appreciated against the Russian ruble by over 228% in value (in nominal terms), rising by as much as 21% and 16% in some months.


Russian ruble volatility likely to persist given reliance on oil and current monetary policy


Russian dependence on oil and gas revenue combined with a monetary policy that is not focused on exchange rate stability, point to factors that would likely lead to continued Russian ruble volatility against foreign currencies. Exposing EAEU members to future potential shocks.


Furthermore, Russian measures to support domestic demand may only create limited benefits for EAEU partners and lead to reinforcing socioeconomic disparities within the union. This is likely to be a major issue in light of the scale of the COVID-19 crisis.


The chart below (see chart: Russia) shows that google searches in Russia under the topic of “foreign exchange” have reached near an all-time high in March 2020. The search rate was higher only in December 2014, a time when Russia transitioned to a free-floating exchange rate and was facing a number of external pressures. It is worth noting that the google trends index correlates fairly well with ruble volatility against US dollar (correlations of over 0.5). Meaning when a larger share of google users perform searches that fall within the topic of “foreign exchange”, more volatility can also be observed in the US dollar to Russian ruble exchange.

Fiscal transfers or diversifying economic activity away from Russia can reduce vulnerabilities


Russia has foreign exchange buffers needed to smooth volatility arising from the COVID-19 crisis (see our related analysis: Russian economy COVID-19 stress test). However, its announced and potential future stimulus measures are unlikely to adequately support demand in EAEU countries, especially due to new barriers on trade, supply chain disruptions, and difficulties with labor mobility caused by the COVID-19 crisis.


To cushion the impact of volatility, Russia could provide direct fiscal transfers across EAEU countries. Over the medium term, the EAEU may need to develop mechanisms to systematically help smooth volatility across all countries to ensure cohesion within the union.


In the absence of direct fiscal transfers, EAEU countries should diversify economic activity away from “Russia risk” and associated vulnerabilities. Greater diversification will help reduce exposure to volatility emanating from Russia and have the added benefit of improved resilience to future shocks. The design of structural adjustment programs in response to the COVID-19 crisis should take this into consideration.



[i] Google trends data reveals frequency of terms searched under the “foreign exchange” topic. The data is aggregated across various parameters using an index. The numbers on the index represent search frequency relative to the highest point on the chart for the given region and time. A value of 100 is the peak popularity for the term. A value of 50 means that the term is half as popular. The ranking of countries is assessed based on the relative share of queries that fall within the foreign exchange topic. The rankings do not take into account absolute query count. So, a tiny country where 80% of the queries are related to “foreign exchange” will get twice the score of a giant country where only 40% of the queries are related to “foreign exchange”.


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About Veritas Global: Our vision is to have a positive impact on the world through truthful advice informed by robust analysis. We are a premier provider of tailored solutions on climate change, international conflict economics and infrastructure. 



 
 
 

Russian economy: COVID19 stress test

Policy Pulse - George Anjaparidze - 3 April 2020

Oil prices have plummeted by 72% in 2020 and have reached their lowest level in nearly two decades. Demand has been hit by the economic impacts of the coronavirus. At the same time, oil supply has surged. OPEC countries together with Russia and other oil exporters were not able to agree on additional cuts and have instead increased supply. The lower oil price has brought the Russian ruble tumbling, it is down 29% against the US dollar since the start of the year.

The impacts of COVID-19 on the Russian economy are likely to be significant and will continue to place a strain on public finances. In our central stress test scenario, we expect that a combination of a fall in revenues and need for higher government spending, will result in an annual funding gap of about $120 billion. We assume that oil and gas revenues will mirror the 72% fall seen in the oil price, which will lower total revenues by about 28% (based on preliminary 2019 data, aggregate oil and gas revenues made up about 39% of the federal budget). In addition, our scenario assumes that other government revenues fall by 20% and government spending increases by $17.8 billion (as announced yesterday).

The hard currency resources available in the National Wealth Fund as of 1 March 2020 would be able to finance this shortfall for approximately 12 months. If the impacts on COVID-19 linger beyond this time period, the Russian leadership may be left with little choice but to raid the foreign exchange reserves of the Russian Central Bank, which stood at a staggering $570 billion. Such an extreme move would undermine the independence of the Russian Central Bank. However, it would extend the ability of the Russian government to fill the COVID-19 funding gap for an additional 4 to 5 years.

The strategic implication of this analysis is that Russia is likely to remain in a position of relative economic strength during the COVID-19 pandemic. Despite being dependent on hydrocarbon resources, its vast foreign currency reserves give it sufficient buffers to manage the volatility arising from the COVID-19 crisis in the short and medium term.

Other countries in Eastern Europe and Central Asia, without significant financial reserves, particularly those dependent on remittance flows and tourism, may be more exposed to the impending volatility. This means the international community, working in concert with the IMF, World Bank and other international financial institutions, needs to prepare robust support packages that will give these countries the necessary resources to manage the expected volatility. Veritas Global is in the process of examining vulnerabilities and identifying potential policy solutions.


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About Veritas Global: Our vision is to have a positive impact on the world through truthful advice informed by robust analysis. We are a premier provider of tailored solutions on climate change, international conflict economics and infrastructure. 


 
 
 

Conflict Economics: Eastern Europe 2020

Policy pulse - George Anjaparidze - 28 January 2020

Belgrade – Pristina: cautious optimism for 2020

Economic costs continued to mount in 2019

Kosovo’s consumers continued to be harmed by the 100% tariffs imposed by Pristina on Serbian imports. The indecision of the EU on enlargement, especially with respect to North Macedonia, was perhaps the most discouraging development of 2019. By making EU enlargement in the Balkans more elusive the EU diminished prospects for normalization of relations between Pristina and Belgrade. The prospect of EU membership, in particular the eventual access to EU structural funds, is a major economic incentive for normalizing relations between Pristina and Belgrade. Access to EU structural funds would result in about a 20-fold increase in public finance flows from the EU.


There is room for cautious optimism in 2020 for restarting negotiations but economic incentives are still needed

2020 holds greater promise. At the local level, annual data will soon be available that will make it possible to assess the negative impacts of tariffs on consumers in Kosovo. Such an assessment would empower the incoming Kosovo government with evidence on the economic benefits of suspending the tariffs. Given the solid nationalist credentials of the likely incoming government, suspending the tariffs would unlikely be perceived by the public as appeasement to Belgrade.

Internationally, a greater US involvement is likely to yield results. President Trump’s appointment of US Ambassador to Germany as US special envoy for talks between Belgrade and Pristina can be a source of positive leverage. The agreement to in principle resume direct rail and air services is evidence of US effectiveness. Furthermore, the new EU Foreign Policy Chief, Josep Borrell, could play a key role by putting on the table the promise of near-term economic support for parties to resume dialogue. This could be done credibly given the on-going review of the methodology for EU enlargement. The updated methodology, in part, aims to front load the economic benefits to candidate countries from EU integration.


Ukraine – Russia: in need of a rebalance?


The situation in Ukraine continues to impose economic costs on all parties

The conflict in Ukraine imposes significantly higher costs on Ukraine (compared to Russia) in both relative and absolute terms. External estimates from academics indicate that output in the Donbass region has fallen by about 50% due to factors directly attributable to armed conflict. In comparison, like for like estimates point to a fall in economic activity of about 15% in the rest of Ukraine. There are no readily available like for like comparison for assessing the impacts on Russia. However, the range of estimates of the relative impact of Western sanctions on Russia, suggest that sanctions have lowered economic output by 0.5 - 1.5%.


The cost of waging war is also lower for Russia. For most of the conflict, Russia’s direct military resource commitment has been relatively small (estimated at one battalion plus tactical operations combined with positional warfare and indirect fire). In contrast, Ukraine has incurred major losses while having to approximately double its military expenditure. This means Russia is able to perpetuate the conflict at a fraction of the cost incurred by Ukraine. While Ukraine’s recently improved readiness has enhanced its ability to increase costs for Russia, Ukraine’s ability to deploy this capability at scale is constrained by overall Russian military superiority and the threat of a massive invasion of Ukraine.


Rebalancing the cost equation of the Ukraine conflict and introducing a “Marshall Plan for Donbass” can help normalization

Under these circumstances, the outcome of negotiations in 2020 is unlikely to be successful or at best will be extremely unbalanced (disproportionately favoring Russia). In terms of economic instruments, there are two important steps that should be considered by Ukraine’s Western partners. First, there is a need to rebalance the cost dynamic (e.g. new rounds of more intense sanctions). Second, predictable and long-lasting resources need to be provided on an unprecedented scale that will economically integrate the Donbass region into Ukraine and Europe. A “Marshall Plan for Donbass” needs to be committed to ahead of further Zelensky - Putin negotiations. This should give confidence to Ukraine that with time the region will be integrated into Ukraine, even if in the short-term Russia continues to hold sway. Crimea is a more complex issue, with conditions in 2020 unlikely to be conducive for dialogue. However, there may be attempts to bundle the Crimea issue as part of the Donbass negotiations.


Georgia – Russia: from bad to worse


Georgia – Russia relationship goes from bad to worse in 2019

2019 saw the Georgia – Russia relationship hit lows not seen since Russia’s 2008 invasion of Georgia. Georgia still does not have diplomatic relations with Russia. Nevertheless, in recent years, relations improved with resumption of direct flights and more trade. However, in June 2019 an error of protocol sparked mass protests in Georgia against continued Russian occupation of two Georgian territories. In response, President Putin issued a decree banning all direct flights between Russia and Georgia. As a result, Russian airlines and consumers have incurred the biggest absolute losses. The impacts on the Georgian tourism sector were to a large extent mitigated due to good connectivity available through regional hubs such as Minsk, Riga, Almaty and Istanbul. In a more strategic context, the flight ban is a missed opportunity for Russia to recover its soft power potential and makes it more difficult to forge closer economic and human to human ties.


Political volatility is expected in 2020 but economic initiatives can create opportunities for collaboration

2020 is an election year in Georgia, with an uncertain outcome. According to the latest polling data, no political party has more than 20% of public support. The ruling party still leads but current polls suggest it is unlikely to win an outright majority. However, there is high uncertainty in the polling data as about 1 in 3 survey participants either refused to answer or do not support any political party. During the period in the lead up to elections, Georgia is particularly vulnerable to external meddling. For example, Russia may give a platform and engage in dialogue with fringe political groups in Georgia to resolve an engineered crisis or credit them with a removal of the ban on direct flights. There is also continued concerns about how Russia might react to any developments related to Georgia’s closer integration with NATO.


On a more optimistic note, Georgia’s closer cooperation with the EU on economic issues has not been a source of confrontation with Russia. The joint statement, by foreign ministers of Georgia, Moldova and Ukraine, calling for an enhancement of integration with the EU could also create opportunities for cooperation with Russian investors and business community.


Other trending topics to watch in 2020:

  • The Moldovan presidential elections are scheduled for the Fall of 2020. It is also unclear how long the current minority government will hold, so parliamentary elections in 2020 may also be a possibility. In the lead up to elections, Russia will likely exercise more soft power in Moldova through supporting investments projects, proposing collaboration through the Eurasian Customs Union and offering other economic incentives. Russia may also use its leverage in the Transnistria region to help Moldovan authorities show results from striking a collaborative approach with Russia. Therefore, some incremental improvements in the lead up to the 2020 elections are a possibility in the Transnistria region.

  • The negotiations between Armenia and Azerbaijan have made little progress in 2019 on the normalization of the Nagorno Karabakh conflict. The latest indication is that parties may no longer be comfortable with using previously accepted principles as the basis of negotiation. Therefore, the risk of an increase in hostilities in 2020 is more likely. This could be triggered by domestic political considerations, economic crisis or an attempted to repositioning on the ground.


About Veritas Global: Our vision is to have a positive impact on the world through truthful advice informed by robust analysis. We are a premier provider of tailored solutions on climate change, international conflict economics and infrastructure.

 
 
 
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