Date: Mon, 13 Oct 2008
From: Marshall Goldman <goldman3@fas.harvard.edu>
Subject: re Russian financial crisis
While we in the West worry about how the financial crisis will affect our own lives, it may come as a surprise to find that some Russians find themselves with similar concerns. It turns out that the Russian oligarchs in particular are having a very difficult time. This note is not a fundraising appeal on their behalf but it may seem odd that so many Russians on Forbes Magazine's list of the world's richest billionaires have been caught up in this financial meltdown. How could it happen?
Several factors have come into play. First, banks around the world are usually more than eager to lend money to those who are already rich-- the rich are more likely in normal circumstances to be able to repay those loans and in any case, to obtain those loans, the rich usually have lots of collateral the banks must have in case the borrower can not repay the loan (the usual collateral is stock in corporations that are listed and traded on stock exchanges in various parts of the world). If for some reason, the borrower can not replay the loan, the lender (the bank) can sell off the collateral and use the proceeds to pay off the loan- so the bank feels protected. What better collateral could there be than stock in oil or gas companies when the price for a barrel of oil is as much as $145.
Why would a rich oligarch need or want to borrow money? The usual answer is so that they can become even richer by buying up control of more stock or developing another oil field or building another factory. To a bank lender, it would be hard to find a better borrower. This meant that banks not only in Russia but around the world fought with each other to see who could offer the most generous terms to the prospective borrower. This makes it very tempting for borrowers - even oligarchs to borrow money because it looks so cheap. (Cheap credit also seduced poor credit risks in the US who took out what came to be called subprime mortgages.)
When suddenly there are enough lenders who come to see that others have lent out too much money on terms that are too easy or that many of the borrowers may not be able to repay their loans, or that a commercial or investment bank may be in danger of going bankrupt (that means not having the cash available to provide the funds that its depositors suddenly want to take out of the bank), that tends to cause panic among other depositors and other banks who suddenly decide that it is unwise to lend others money. They fear that those borrowers will not be able to repay those loans or that banks will not have the cash to give to those who want to take their money out of the banks which in turn causes panic among other depositors who race with each other to take their money out of the banks before the banks run out of money-- which of course makes it more likely they will run out of cash.
In the case of Russia, these fears have been growing. In addition and more important, as the price of oil has fallen to below $80 a barrel, the price of energy company stocks falls which means that the collateral the banks have taken from the energy companies is no longer large enough to protect the bank should there be a default. That makes the bank decide to take over ownership of the collateral and sell it which of course means that the price of the stock will fall even farther. That explains why what were Russia's best credit risks, Gazprom, Rosneft, Lukoil and TNK all found themselves seeking more credit when they were forced to provide more collateral to the banks who lent them money in the first place. In the extreme case, the total value of Gazprom's stock which only a few weeks ago amounted to as much as $359 billion, has fallen to under $200 billion. Of course most Russians do not own stock, but since the index of all Russian stocks has fallen between 50 and 70% since May, the Russians and foreigners, who did own Russian stocks have suffered and suffered badly.
Marshall I. Goldman
Davis Center for Russian and Eurasian Studies
Harvard University