If the global recession continues throughout 2009, Russia is heading for a repeat of the 1998 scenario.

They have lost a significant amount of their foreign reserves over the last 8 months, due to capital flight and falling commodity prices.

Commodity exports have amounted to 66% of all Russian exports.

The currency has declined over 50% from its peak last year.

This means:

• Rising inflation
• Rising costs of debt service and rising borrowing costs
• Rising import costs

In the last eight months the 3 month borrowing rate (annualized) in the private sector has risen from 9% to over 28%.

This combined with the global recession will kill the economy and increase the budget deficit drastically.

Normally we could expect the rubble to continue to decline and the foreign reserves to decline at a slower, more measured rate as imports would collapse in wake the recession.

However:

The Russian central bank has recently committed itself to the defense of the 41 level for the rubble.

The rubble currently stands at about 36 to the USD.

They are setting in motion a process that will accelerate the decline in the Soviet economy.

Setting currency targets historically attracts currency speculation. Betting against a central bank has been hugely profitable in the past.

The Bank of England in 1992 and the Asian banks in the late 1990s are just two examples.

There is a risk that speculation will push the rubble lower and the defense of the 41 level will exhaust the reserves of the Bank of Russia.

That would lead to a similar economic collapse as in 1998.

The political consequences of such a collapse remain unknown.

Political chaos in a nuclear power such as Russia, would likely require US aid and intervention.