President Vladimir Putin’s demand that “hostile countries” now pay for Russian gas in rubles had several immediate effects. With Europeans having a week to switch to paying in Russian currency, this drove up the price of natural gas, making it more costly for them to maintain the sanctions regime.
The ruble has strengthened against the US dollar since the announcement, rising from ₽107 to ₽99. And if the European nations agree to Russia’s terms, the demand for rubles will increase and accordingly strengthen the value of the currency in the foreign exchange market.
These measures have caused European countries to back down from enforcing financial sanctions, as using the ruble would likely force them to buy the currency from sanctioned Russian banks. And it can be seen as a ploy to separate Germany and Italy from the sanctions alliance, as they are particularly dependent on Russian gas.
The first indications are that divide and conquer may not be working: the Germans have announced that they will reduce their dependence on Russian gas to just 10% (from more than 50% today) by the summer of 2024. But since Russia is implicitly threatening to immediately cut off gas supplies to Europe unless it starts paying in rubles, the more pressing question is what the ramifications look like today.
Natural gas price (UK spot, pence/therm)
It is unclear whether Russia can legally change the terms of existing long-term gas supply contracts by unilateral announcement. Existing contracts already stipulate the currency in which payment must be settled (currently Gazprom, which dominates Russian supply in Europe, settles 58% of its European gas sales in euros, 39% in US dollars and 3% in British pounds ). As a result, German Economy Minister Robert Habeck said the demand for rubles for gas amounted to a breach of contract.
If European countries choose to dispute this change, there are legal avenues for resolving the dispute as stipulated in each contract (legal jurisdiction, and court or dispute resolution terms). The problem is that none are viable in practice.
Between 2005 and 2010, a series of gas disputes between Russia and Ukraine were finally resolved by the Arbitration Institute of the Stockholm Chamber of Commerce (SCC) in Sweden. But given that Russia has included all EU member states on its list of 48 “hostile states”, it is debatable whether it would now accept Swedish SCC arbitration as independent. The same goes for the UK and Switzerland, which are also global centers for arbitration and dispute resolution. Therefore, the dispute is unlikely to be resolved by a legal argument.
The threat to the dollar
This latest request from Russia is unprecedented. Even during the Cold War, the Soviet Union did nothing to cut off gas supplies to Europe. Perhaps that is why Putin added that this request is only for the currency of payment, and the contracted volumes and prices will continue to be honored.
The demand can be seen as an extension of Russia’s attempt (along with China) to “de-dollarize” its economy, which has been ongoing since Western countries introduced sanctions against Russia over Crimea in 2014. increasingly included trade with countries such as India and China in euros or local currencies; reduce the central bank’s holdings of US dollar reserves; and cut the dollar assets of its national sovereign wealth fund. China has meanwhile developed an international payments messaging system called CIPS, which is a way to avoid using the Western Swift system.
China and Russia are not comfortable with the current reserve currency status of the US dollar, which means it is the main currency used in international trade and held by central banks. Important commodities such as oil and global services such as air travel are denominated in US currency. It also makes it cheaper for the United States to borrow in international financial markets, giving it an advantage over other countries.
Basically, the United States can impose economic sanctions on almost any dollar-settled trade. They do this by ordering so-called correspondent banks that hold Federal Reserve accounts not to transact with, say, their Russian counterparts. This removes one of the primary means of obtaining the US dollars needed to participate in international trade.
Another problem is that it is easy and relatively cheap for countries around the world to borrow in dollars, but if the value of the dollar relative to other countries increases, the debts of the borrower are worth more in their own currency. The dollar is likely to rise when, for example, the Federal Reserve decides to raise interest rates, so countries with dollar-denominated debt are at the mercy of US monetary policy.
Russia’s push to de-dollarize has not been entirely unsuccessful. The share of its trade denominated in euros rose above 50% for the first time in the first quarter of 2020. The Europeans themselves were not against trading more with the Russians in euros: the fact that Gazprom’s European supply contract is mostly denominated in euros can be credited to Putin’s de-dollarization campaign. This has resulted in a modest increase in Russia’s share of euro-denominated trade with the EU as a whole.
Meanwhile, the Saudis negotiated with the Chinese over the possibility of pricing their oil in yuan instead of dollars. As Saudi Arabia’s largest oil customer, this would reduce the importance of the dollar as a reserve currency.
That said, the big picture is that dedollarization by Russia and China has had only a modest effect on the dominant position of the US dollar. The dollar continues to be used in nearly nine out of ten foreign exchange transactions. It accounts for the vast majority of all global export bills and nearly three-fifths of all central bank reserves worldwide.
So while Russia’s latest move is certainly part of a larger strategy that has had some success, we are far from reaching a tipping point. Even if Europeans end up buying Russian gas in rubles for a while, that is not going to fundamentally change the way the global economy works.
Kim Kaivanto, Lecturer in Economics, Lancaster University
This article is republished from The Conversation under a Creative Commons license. Read the original article.