Russian elites squeezed by pressure from the uncertainty surrounding the enormous decline in oil prices and the continuing drop in value of the ruble have been dealt another blow after Switzerland unexpectedly announced last week that it would abandon the cap on the Swiss franc’s rate against the euro. The ruble has plummeted 55 percent against the US dollar since Western sanctions against Russia began after they annexed Crimea. More recently, oil prices have significantly declined with the market abundant in supply and short on demand. The news is particularly bad for Vladimir Putin’s administration which is weathering growing global concerns surrounding the oil market, euro stability, currency deflation, and a boastful American president who chided the Russian president’s predicament in last week’s State of the Union address.
The looming prospect of Switzerland’s reluctant but continued cooperation with tax authorities in the U.S. and Europe was already a prior concern of Russian business owners. It is no secret that Russian business leaders, among others across the world, have been holding currency under the tight guise of Swiss banks for years to avoid tax authorities abroad.
Russian business interests in particular have been able to use Swiss banks to their advantage. Consider the former executive of Russian steelmaker OAO Severstal, Victor Lipukhin, who was charged in the U.S. earlier last year for hiding $7.5 million from taxes in a secret Swiss bank account, UBS AG. Lipukhin, a Russian citizen and president of the U.S. division of Russian steel and mining giant Severstal, was accused of concealing assets and failing to report income to tax authorities. The move by the Justice Department to charge Lipukhin was one of many examples of U.S. punishing those who have ties to Vladimir Putin after the annexation of Crimea.
Though Lipukhin’s case is only a recent example. Swiss banks have also been used as a tool for moving currency through Europe to support Putin’s projects in Russia. Back in May of 2014, Reuters uncovered how Russian money under the Putin regime has resided in European banks including Swiss accounts for almost a decade.
In fact, two of Putin’s associates made $195 million in a deal sending medical supplies to Russia through the U.K.-registered company Greathill. Around half of the money made in the deal by Putin’s associates at Greathill was subsequently moved to the former Dresdner Bank in Zurich after 2006. The account was controlled by the Belize-based Lanaval, a company which was also owned by the same Russian business associates. At least $48 million was then transferred into a Liechtenstein account controlled by Medea Investment. According to a deal between Medea and Lanaval in 2009, Medea supplied Italian building materials to the property known as, “Putin’s Palace.”
However, wealthy Russians who favored keeping money in Swiss banks amidst Western sanctions will now endure another difficulty. The protected information of accounts and their holders and the relatively calm nature of Swiss banks are partly why they are attractive to those holding foreign wealth.
More recently, the U-turn policy to end the franc cap has certainly shaken the currency into a volatile condition. The unexpected early-morning decision dramatically increased the franc’s inflation rate 30 percent against the euro and the dollar within minutes of the announcement. While Fitch’s Ed Turner does not believe the decision will affect Switzerland’s top-grade credit rating, the Swiss National Bank’s (SNB) decision will consequently deepen the decline of Swiss interest rates, which were already running between zero and -.25 percent.
The Swiss previously issued a December interest rate cut in an effort to make Swiss exports more competitive. SNB scrapped the three year old cap on the franc of 1.2 rate per euro because they felt the policy was not sustainable. With the risk of triggering a domestic bank run, the SNB has hope for banks to lend out excess funds.
The deeper anticipated decline to the already negative interest rate means that those holding money in Swiss accounts will have to pay the bank a steeper rate for the bank to hold their money. Russia’s desperate wealthy elites accepted December’s interest rate cut by the Swiss banks because the stability of the franc was deemed more important in a time of Russian economic uncertainty.
Foreign account holders who are paying for the security against holding money in rubles or euros will pay the price until interest rates stabilize. There is also the chance that the Swiss could capture foreign account holders with an exclusive negative interest rate, while issuing a positive interest rate for domestic account holders. In the meantime, Russia announced that it is unmoved by the Western sanctions. Speaking at the World Economic Forum in Davos, Russia’s First Deputy Prime Minister Igor Shuvalov remarked, “Sanctions will never ever force [Putin] to do anything differently.”
Either way, Western sanctions are now only a fraction of the problem for Russia. The slumping performance of key commodity markets has mounted pressure on their economy. Shuvalov stated that Russians are prepared to eat less in the crisis but it seems like a matter of time before the economic pressure develops into social unrest, and perhaps Russian elites are privately anticipating this as a possibility. Shuvalov also feels that Russia should brace for a deep and long term crisis by focusing on economic safety net reforms and support for the financial system.
Russia’s options in the oil market are limited. But a Europe far from recovery and Western efforts to block sales in their market have created interesting developments as Russia looks for new buyers. Falling prices and falling demand in the U.S. has placed hopes on robust Chinese demand for oil. Russia has already begun warming relations with China in an effort to gain their market. Imports of Russian crude are likely to rise with Chinese concern over the disruption of Middle Eastern supply.
Questions remain if China’s oil demand will provide enough relief. Furthermore, the weak oil market is only one problem facing Russia. When Shuvalov spoke at the World Economic Forum in Davos, Switzerland, he did so in the wake of the Swiss decision to end the franc cap against the euro, which will come with arduous consequences for Russian business leaders trying to ride out Western sanctions. While the franc exchange rate may eventually settle, the mounting pressure beckons for further developments in Putin’s relationship with Russia that may affect his long term future as first deputy prime minister.