Storm Clouds Strike Russian Economy as S&P Cuts Debt Rating

By FOXBusiness

Standard & Poor’s chopped Russia’s credit rating on Friday as analysts warned the Eastern European country is teetering on the brink of political and economic mayhem.

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S&P cut Russia’s credit rating from “BBB” to “BBB-,” and warned the rating could come under more pressure over the next two years if the situation deteriorates further.  The move comes as tension mounts between Russia and Ukraine.  A revolt earlier this year in Ukraine, a former Soviet republic, ousted President Viktor Yanukovych, who was seen as friendly toward Russian President Vladimir Putin.

The new regime, that’s just being built, has generally leaned toward Western Europe – something Russia took as an attack on its already waning control of the region.

The situation worsened after Russia moved to annex Crimea, a region in Ukraine that is predominantly made up of people with a Russian heritage. An agreement aimed at easing tensions struck in Geneva, Switzerland, between with the United States, European Union, Russia and Crimea broke down this week with both sides making threats toward each other.

Russian equity markets have taken a beating, with the benchmark MICEX index plunging 14.4% for the year, and 1% on Friday alone. That compares to a 2.6% year-to-date advance for blue-chip companies across the 18-member eurozone currency bloc, which Russia is not part of.

‘Spiraling Out of Control’

S&P warned “the large capital outflows from Russia in the first quarter of 2014 heighten the risk of a marked deterioration in external financing, either through a significant shift in foreign direct investments or portfolio equity investments.” The ratings company added the outflows could hinder economic growth, which last year, came in at the lowest level since 1999, excluding the global recession in 2009.

Analysts across the board echoed S&P’s sentiment, and noted the problems could ricochet into other global markets.

“With the Geneva agreement in tatters, events seem to be spiraling out of control in eastern Ukraine,” analysts at Potomac Research Group, a Washington, D.C.-based political consultancy wrote in an email to clients Friday. “Even if Russia doesn't invade (Ukraine), the economic impact of tough new sanctions on trade could become a growing market concern.”

Peter Boockvar, chief market analyst at The Lindsey Group, said “the worry entering another weekend,” and the possibility for more tumult in Eastern Europe is weighing on markets across world. England's FTSE 100 was recently down 0.2%, the German DAX was off 0.9% and an index of Ukrainian equities was down 0.7%. Meanwhile, U.S. stocks are lower in early Friday trading.

At the same time, the price to insure Russian debt against non-payment climbed 0.15 percentage point to 2.79% -- the highest since June 2012, according to Markit, a London-based financial-data firm.

Russian Central Bank Hikes Rates

The Central Bank of Russia unexpectedly boosted a key interest rate by 0.5 percentage point to 7.5%. The decision came was “due to higher inflation risks,” according to a statement published on the central bank’s website.

“2014 will continue to witness a downward trend in economic growth. Boost to economy from the observed rouble depreciation will be limited,” the Russian central bank warned. Generally a depreciation currency boosts growth by increasing exports, but the perilous situation in Russia has changed those dynamics.

The combination of potentially high inflation, and falling economic growth concerned the analysts at S&P as well.

“We view the central bank as being confronted with increasingly difficult policy decisions with regard to addressing inflationary pressures resulting from financial market volatility, while at the same time attempting to support sustainable GDP growth,” the team wrote as part of the decision to downgrade Russia’s credit rating.

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