A Russian default is imminent. A bitter struggle is likely to ensue.


WASHINGTON — Russia is heading for a major foreign debt default, a grim milestone it has not seen since the Bolshevik revolution more than a century ago and one that raises the prospect of years of legal wrangling and a global bondholder hunt for Russia assets.

The impending default is the result of sanctions that have immobilized about half of Russia’s $640 billion in foreign exchange reserves, putting pressure on the country to repay bonds in the currency in which the debt was issued: dollars. Russia has already preemptively dismissed it as an “artificial” consequence of sanctions imposed by the United States and its allies, and has threatened to challenge such an outcome in court.

The upcoming battle, which Russia would likely pit against major investors from around the world, raises murky questions about who gets to decide whether a nation has actually defaulted in the rare event that sanctions affect a country’s ability to pay its debts. have curbed.

Russia does not seem to take the declaration of default lightly. If that were to happen, it would increase Russia’s borrowing costs for years to come and effectively lock the country out of international capital markets, weighing on an economy already expected to contract sharply this year. It would also be a blot on President Vladimir V. Putin’s economic stewardship who would underscore the costs Russia incurs from its invasion of Ukraine.

For Russia, which has already suffered the abrupt rupture of decades of critical business ties with the United States, Europe and other countries, one of the foundations of economic growth is at stake: the ability to smoothly transfer money from beyond its borders. to borrow.

Given that Russia’s predicament is so unusual, it remains an open question who will be the ultimate arbiter of debt default.

“This highlights the slack and patchwork of sovereign debt markets,” said Tim Samples, a professor of legal studies at the University of Georgia’s Terry College of Business and an expert on sovereign debt. “I think this is going to be complicated and contested for several reasons.”

Mr Sample suggested that there could be a “cascade” of events causing Russia to default.

The most direct judgment could come from the major credit rating agencies, who have already signaled that Russia’s creditworthiness is eroding and default is imminent.

Last week, Moody’s warned that the payment by Russia of about $650 million dollar-denominated debt in rubles on April 4 could be considered a default if it doesn’t reverse its course and no later than May 4, when a 30-day grace period ends. , is paid in dollars. † That followed a similar warning earlier this week by S&P Global, which placed Russia under a “selective default” rating.

But it’s not clear how the rating agencies will react if Russia fails to make payments after grace periods have expired due to European Union sanctions that limited the agencies from rating Russia. Spokespersons for Moody’s and S&P did not comment. A Fitch spokesman said he could not comment on Russia’s creditworthiness in light of the sanctions.

The Biden administration put additional pressure on Russia earlier this month when the Treasury Department began blocking Russia from paying debts with dollars held in US banks. That new restriction was intended to force Russia to choose between draining the remaining dollar reserves it has in Russia or using new revenues (e.g. from natural gas payments) to pay bonds and avoid defaulting on its debts.

Russia can still make payments on Russian sovereign debt as long as it doesn’t try to use money from Russian government accounts held with US financial institutions.

After the grace period on the foreign currency bond payments expires on May 4, the next key moment will be May 25. That’s when U.S. bondholders can no longer accept Russian debt payments under a temporary exemption allowed by the Treasury Department.

While the rating agencies’ judgment weighs significantly, bondholders will determine the consequences if Russia fails to make the payments due or violates the terms of its contracts. Bondholders could take a wait-and-see approach or declare that the bonds are due on demand, which could also default on other bonds with cross-default provisions.

Another potential default arbiter is the Credit Derivatives Determination Committee, a panel of investors in the market for default insurance or credit-default swaps. The committee is considering whether the Russian payments in rubles constitute a “non-payment”, which would trigger insurance payouts. The panel already ruled that the state-owned Russian Railways JSC was in default for missing an interest payment on bonds.

For some analysts, that decision and the payments in rubles means that Russia is already technically in default.

“If Russia doesn’t pay on time, not in the currency in the contract, that’s a standard — it’s crystal clear,” said Timothy Ash, a senior sovereign strategist at BlueBay Asset Management. “Russia is already in default in every way.”

Payment defaults have been brought to court before. Argentina particularly defaulted in 2014 after negotiations with hedge funds that refused to accept reduced payments failed and a federal judge in the United States ruled it could not make its regular payments on bonds without also covering hedge fund holdouts. Pay. The US Supreme Court has dismissed Argentina’s appeal in the case.

Russia’s case is unique because of the sanctions, and it is expected to claim that its ability to make payments in the currencies in its bond contracts is limited because it cannot access all of its reserves.

Mr Ash suggested it would be difficult for Russia to find a court sympathetic to Russia’s position.

“A US court will never rule against OFAC,” Mr Ash said, referring to the US Treasury Department’s Office of Foreign Assets Control, which administers the sanctions.

But Mr Sample suggested that, given Russia’s global pariah status, creditors could struggle to claim Russian assets even if they get a favorable ruling in court.

He predicted that Russia would find creative ways to avoid recognizing a default, such as pointing out arcane language in bond contracts that could be interpreted to allow for payments in other currencies or seeking a friendly court, perhaps in Russia.

“I do expect them to stick to their own alternative facts,” said Mr. samples.

Despite the symbolism of bankruptcy, the economic consequences for Russia and the world could be relatively small.

Economists estimate that Russia’s total foreign government debt is about $75 billion, while Russia’s annual energy sales are worth about $200 billion. Investors have been anticipating default since late February and policymakers have suggested that default poses no threat to the stability of the financial system.

Ultimately, the market will determine whether Russia is worth credit, and its actions in Ukraine and future sanctions will determine the fate of its economy.

“It feels like a garnish and a dressing on top of a very ugly and profound set of circumstances,” said Anna Gelpern, a Georgetown law professor who specializes in government debt. “They drink from a fire hose to the energy receipts, so why do they have to borrow?”

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