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GoldSilver.com / Guillermo Barba
NOVEMBER 13, 2012
Russia's currency crisis of 1998 exposes the inevitability of failure within a planned economy and the irrationality central planners impose upon free markets which lead to their ultimate collapse.
History has proven that despite a government's imposition of external measures, individuals retain their freedom of choice and thought. This force overcomes regulation and creates underground or black markets which expose true demand.
Thus, arbitrary pricing, whether it be for goods or a currency, will distort supply and demand which the free market will ultimately expose. Manipulations such as these can often be prolonged by the forces of government, however every manipulation eventually ends. The longer the manipulation, the more violent the correction, as only the forces of supply and demand can dictate true prices.
These events are exemplar of the Russian crisis of 1998, a time during which the government under president Boris Yeltsin began to aggressively intervene. Yeltsin's government then staged a series of futile efforts first to defend the currency, the ruble, against the US dollar in particular. Prior to the outbreak of the crisis, the rate of exchange had fluctuated around 6 rubles per US dollar.
Intrusive government policies quickly triggered a large scale exodus of capital. By August of 1997 the government was out of ammunition, having exhausted international reserves and unable to restore economic stability. Russia was forced to devalue the ruble, default on its internal debt, and declare a moratorium on its payments to foreign creditors.
But, why to this extent? Very simple. The overflowing optimism that took place in Russia after the collapse of the Soviet Union helped introduce market reforms which were at times structurally unfit due to the many remnants of the planned economy.
By 1997, average real wages had fallen to half what they were in 1991, foreign direct investment per capita was very low, and weak tax collecting policies caused the fiscal deficit to remain high. Moreover, the removal of restrictions permitted Russian banks to borrow heavily in foreign currency while the government saw a major portion of its budget absorbed on debt payments.
Russia faced a number of external shocks along the way, including the Asian crisis in the summer of 1997. This removed a large amount of market liquidity and further tightened international debt markets. A fall in the price of crude oil and nonferrous metals ( prime exports for Russia ) led to a fall in GDP.
By the following year, in view of the most experienced, the debacle of Russia and its currency was imminent.
There is no doubt that while it was inevitable, Russia's crisis was worsened due to bad management, as evidenced by statements of Central Bank president, Sergei Dubinin.
That distrust was expressed in the performance of its sovereign bonds, which in May 1998 had shot above a 50% yield, something like what we have recently seen in the debt markets of some of Europe's peripheral economies such as Greece.
The general collapse came on August 13, 1998, with a crash of the countries stock market, a default on its bonds, and the devaluation of its currency. The currency was then allowed to freely float in September, leading to its fall to 21 rubles per dollar by late December. This was devastating to the purchasing power of the Russian population.
The Consumer Price Index had risen nearly 85% by the end the year and an astounding 874% since 1993.
The moral of the story is: no matter how arrogant a government may be, particularily if their decisions lack logic or reason, the natural laws of economics will prevail.
Waste, market manipulation, over-indebtedness, etc.. always lead to ruin, a lesson we should keep in mind even while others, even within the U.S. sometimes think, "it cannot happen here".
Instead, they should turn to see the wisdom of common sense. Hard work, thrift, perseverance and capital formation are the true formula for prosperity. To be genuine and lasting, transactions must be based on a system of honest money, gold and silver, as dismissed by worshipers of waste, will overcome false shortcuts to wealth.