February 2022


U.S., EU Cut Some Russian Banks From SWIFT, Target Central Bank

By Saleha Mohsin, Annmarie Hordern and Alberto Nardelli

(Bloomberg) — Western nations agreed to unleash new sanctions to further isolate Russia’s economy and financial system after initial penalties failed to persuade President Vladimir Putin to pull out of Ukraine.

A decision by Western nations to exclude some Russian banks from the SWIFT messaging system, used for trillions of dollars worth of transactions between banks around the world, was announced in a joint statement Saturday.

The move is aimed at Russian banks that have already been sanctioned by the international community, but can be expanded to other Russian banks if necessary, according to a spokesman for the German government.

In addition, the nations said they would act together to impose “restrictive measures that will prevent the Russian Central Bank from deploying its international reserves in ways that undermine the impact of our sanctions.”

More penalties against the bank could come this weekend, according to a U.S. official. Russia has about $640 billion in reserves.

As the conflict in Ukraine grinds on, a consensus has emerged to prevent Russia from using the plumbing of the modern financial system and isolate it as a pariah similar to Iran, Venezuela and North Korea.

“The speed and unity to take this unprecedented financial action will give Putin pause,” said Josh Lipsky of the Atlantic Council. “The SWIFT move was largely expected but striking at the Central Bank will reverberate in Moscow and beyond.”

The Western move “won’t send the entire Russian economy into immediate shock. But it removed all the potential to backstop the large commercial banks,” he added.

Authorities haven’t determined the full list of banks that will be hit by the SWIFT sanctions. But a U.S. official briefing reporters on condition of anonymity said that they will be carefully chosen to maximize the impact on Russia and minimize the impact on EU nations.

It’s not clear how severe an impact the moves will have on Russia, or whether they really will do much to help Ukraine in the coming days. President Joe Biden said it would take weeks or longer for the pain for sanctions to be felt, but Saturday’s move suggested Western nations wanted to accelerate that process.

“Sanctioning Russia’s central bank is likely to have a dramatic effect on the Russian economy and its banking system, similar to what we saw in 1991,” said Elina Ribakova, deputy chief economist for the Institute of International Finance, said before the latest round of penalties was announced. “This would likely lead to massive bank runs and dollarization, with a sharp sell-off, drain on reserves — and, possibly, a full-on collapse of Russia’s financial system.”

All Russian banks that have already been sanctioned by the international community are going to be restricted from SWIFT. That list can be expanded if needed, officials said.

“Sanctioning the central bank of Russia is the kind of draconian sanctions we’ve employed on Iran,” Representative French Hill, an Arkansas Republican, said on Twitter ahead of the joint action. “I don’t see why waiting bears any strategy. Putin’s taken this catastrophic action. He needs to pay the maximum price now.”

The Biden administration has already sanctioned five Russian banks, including Sberbank and VTB Group, which collectively account for about half of the country’s banking assets. Russia had over 360 licensed banks at the start of the year.
Bill Ackman


I wouldn’t want to keep money in a bank that can’t access the SWIFT system. Once a bank can’t transfer or receive funds from other banks, its solvency can be at risk. If I were Russian, I would take my money out now. Bank runs could begin in Russia on Monday. #StandWithUkraine

While Russia has been steadily reducing its reliance on foreign currency, the central bank still had 16.4% of its holdings in dollars at the end of June 2021, according to the latest official data, down from 22.2% a year earlier. The euro’s share was up at 32.2%.

By targeting the central bank, the West could complicate the enactment of monetary policy while removing a potential source of cash for the government.

Losing access to funds abroad would handcuff Russia’s central bank as it tries to shore up the ruble in the foreign-exchange market by selling hard currency. The direct interventions, announced this week after Putin ordered his military to attack Ukraine, mark the first time the Bank of Russia waded into the market since 2014.

Iran, Venezuela
Although the decision would be without precedent for an economy the size of Russia’s, the U.S. has previously sanctioned the central banks of adversaries. In 2019, the Treasury Department blacklisted the monetary authorities of Iran and Venezuela for funneling money that supported destabilizing activities in the respective regions. North Korea’s central bank is also blacklisted.

The Bank of Russia kept 22% of its hoard in gold, most of which is held domestically and would be out of reach of Western sanctions, while about 13% of the central bank’s holdings were in yuan.

Russia still has about $300 billion of foreign currency held offshore — enough to disrupt money markets if it’s frozen by sanctions or moved suddenly to avoid them, according to Credit Suisse Group AG strategist Zoltan Pozsar.

In a report this week that parsed data from the central bank and financial markets, Pozsar calculated that a much larger share is held in dollars than official numbers suggest. The Bank of Russia’s dollar exposure is about 50%, Credit Suisse estimates.

Any unreported reserves would be far harder to track and target with sanctions, though it does raise the potential for the U.S. and others to target more accounts — if they can identify where that money is. Pozsar said in his note that the offshore currency holdings he outlined could be vulnerable to sanctions, or to being moved out of their potential reach, potentially fueling further de-dollarization.

Sanctioning the central bank could also affect the country’s ability to facilitate trade and hinder its ability to promote international investments.
In the case of Iran, by the time the Trump administration targeted the country’s central bank in 2019, there was little left of the Islamic Republic’s economy that hadn’t been penalized, with the U.S. already enacting substantial sanctions on its banking industry.

It increased the chilling affect of sanctions on doing business with Iran even further, prevented the the central bank from accessing its special drawing rights under the International Monetary Fund, and also harmed its ability to carry out humanitarian trade including foods and medicines.

Russia may also not necessarily be able to count on Chinese financial institutions to help cushion the blow from the Western sanctions. At least two of China’s largest state-owned banks are restricting financing for purchases of Russian commodities, Bloomberg reported on Friday.

Other financial sanctions that could still be on the table include a ban for western public pension funds to invest in Russian assets and excluding the country from JPMorgan Chase & Co.’s Emerging Market Bond Index or the equivalent MSCI Inc. benchmarks, according to Bluebay’s Ash.

Full blocking sanctions against some Russian banks should already choke off their ability to conduct dollar payments with U.S. counterparts even if they retain access to the global messaging service.

Banks can also resort to alternative systems and even communicate via email to send payment instructions, Julia Friedlander, senior fellow at the Atlantic Council, said before the announcement.

Still, “it’s like a kick in the shins,” she said. “Transactions with Russia would be slower and more expensive. A sudden cut-off will also hold a lot of current assets in limbo, for corporations and banks.”


More ECB Officials Distrust Inflation Forecast Amid Hawkish Turn

  • Unexpectedly high data outcomes are unsettling policy makers
  • Chief economist defends staff modeling, projection process
By Jana Randow, Carolynn Look and Alexander Weber

(Bloomberg) — A growing number of European Central Bank policy makers are losing faith in the institution’s current inflation forecasting, emboldening their shift toward hiking interest rates later this year, according to officials with knowledge of the matter. 

While Chief Economist Philip Lane robustly defends the ECB’s projections and insists his staff’s modeling is reliable and state-of-the-art, several governors are cautioning against depending too much on them in a quickly changing, uncertain environment where the recent run of price increases has persistently confounded expectations. 

Such doubts on the forecasting process emerged in multiple conversations with officials on the discussions behind last week’s surprisingly hawkish shift unveiled by President Christine Lagarde. They spoke on condition of anonymity because ECB deliberations are private. 

The euro extended gains, trading up 0.3% at around $1.1445. Bund futures trimmed an advance in thin trading after the European session.

Lagarde’s pivot, taken against the backdrop of intensifying global tightening, has set the scene for a more hawkish decision in March, when policy makers may consider how quickly to stop bond purchases. 

New forecasts will take prominence at that meeting, with the ECB’s last set of projections from Dec. 16 obsolete after another surge in energy and two record inflation readings since then, including a 5.1% reading in January. The last outlook was for an overall average of 3.2% of this year. 

Lagarde said Monday those forecasts will help the Governing Council to “better appraise the implications” of current inflation readings on the medium-term outlook.

A foretaste of the size of the likely upgrade for the path of consumer prices may emerge on Thursday as the European Commission issues new projections. Draft forecasts seen by Bloomberg show consumer prices will advance by an average 1.7% in 2023 after surging 3.5% in 2022.

As chief economist, Lane is the Executive Board member responsible for the preparation and presentation of the ECB’s forecasts. His role also entails proposing any course of action at Governing Council decisions. 

Doubts on the ECB’s modeling capabilities form one line of attack on his relatively dovish view that policy makers shouldn’t flinch on inflation that isn’t about to spiral out of control, officials say, observing that his position is gaining less and less traction among colleagues. 

Instead, officials cite growing concern among Governing Council members, well beyond the typical hawks such as the Germans and the Dutch, that prices won’t undershoot the 2% target next year predicted in existing staff forecasts, and that such projections might prove an unreliable tool in a rapidly changing environment. 

What Bloomberg Economics Says…

“Our base case is that the ECB signals a hike will come at year end, perhaps reinforced by plans to taper asset purchases a little faster. There’s a danger, albeit a small one, that doves on the Council cave into pressure from the hawks after taking stock of the inflation numbers and how financial markets have priced in aggressive hiking cycles in the U.S. and the U.K.”

–Jamie Rush and Maeva Cousin. For the full report, click here

Lane has insisted that it takes a model to beat a model, a hint that any critics aren’t offering constructive alternatives. He does also acknowledge an evolving economic landscape where unemployment is falling faster than anticipated and inflation expectations are stabilizing. 

The Harvard-educated chief economist, seen by many observers as a torch-bearer of continuity for the stimulus-focused policy of former ECB President Mario Draghi, still reckons the ECB needs more time to form a policy judgment, with a potential conflict in Ukraine and its impact on energy among factors to watch. 

His own policy prescription, rather than the aggressive interest-rate increases now predicted for later this year by economists at banks including Goldman Sachs Group Inc. and also anticipated by investors, would favor more gradual “normalization.” 

That’s a view that Bank of Spain Governor Pablo Hernandez de Cos shared on Wednesday, while Bank of France Governor Francois Villeroy de Galhau on Tuesday said financial markets may have overreacted to Lagarde’s pivot, a suggestion that they have priced in too much tightening. 

Others appear more sanguine about investor views. Bundesbank President Joachim Nagel told Zeit that a rate increase is possible this year, while Dutch central bank chief Klaas Knot sees a 25 basis-point move as soon as the fourth quarter.  

Lagarde herself talked of a “gradual” adjustment on Monday. Regarding the forecasts, she insisted last week that she has “full confidence” in staff making “sensible, reasonable, rational assumptions.” At the same time, she stressed that policy makers aren’t tied to projections and that “there is an element of discretionary judgment” in their decisions.

ECB Executive Board member Isabel Schnabel echoed Lagarde’s view in a post during a Twitter discussion on Wednesday. 

In a reaction to the concerns of Governing Council members about the forecasting process reported in this story, the ECB provided a statement via a spokesperson. 

“The ECB’s/Eurosystem’s macroeconomic projections are conducted and owned by the ECB and by the Eurosystem staff. These provide a key input into Governing Council meetings, where decision-makers assess the outlook for the economy and inflation and formulate their own views on the risks to outcomes for inflation and growth. As any forecast, they are both model-dependent and sensitive to the incoming data. The Governing Council will receive fresh staff projections at the 10th March meeting, which will include all information which will have become available after the December meeting.”

–With assistance from James Hirai, Greg Ritchie and Jorge Valero.



Traders Dare BOE, ECB With Rate-Hike Bets Ahead of Key Decisions

  • Money markets see 125bps of hikes by BOE, 25bps by ECB in 2022
  • Leads to renewed bond selloff, puts pressure on policy makers
By Libby Cherry and James Hirai

(Bloomberg) — European markets are awash with hawkish enthusiasm, as traders bet on the fastest pace of policy tightening in more than a decade from the Bank of England and the European Central Bank ahead of their rate decisions on Thursday. 

Money markets are wagering on the BOE raising rates five times by 25 basis points and a move of that magnitude from the ECB by December. That spurred a renewed selloff in bonds across the continent, and challenges ECB policy makers including President Christine Lagarde who have pushed back against the idea of raising borrowing costs this year. 

Markets are assuming sentiment at the BOE and the ECB could have evolved following the Federal Reserve’s hawkish shift. Policy makers will have a tricky time to balance the need to cool inflation running at the hottest in decades, while not hurting economies recovering from the pandemic or provoking market volatility.

“The ECB had a narrative that the peak inflation print was December and inflation would cool over the course of the year,” said Rohan Khanna, a rates strategist at UBS Group AG. “While this may still prove true, today’s upside surprise to German inflation and hence upside surprise to tomorrow’s euro-zone HICP print imply that the ECB would also have to revise their forecasts upwards.”

Two-year and five-year German yields — the most sensitive to interest-rate rises — saw their biggest jumps since March 2020 on Monday, while the benchmark 10-year yield broke into positive territory for the second time this month. That presages an end to an era of negative rates, with the ECB having last hiked in 2011.

For the BOE, which kicked off its hiking cycle in December, traders are focusing on the pace of rate rises going forward. Money markets have priced in as many as five full hikes to take the key interest rate to 1.5% by year-end.

Traders haven’t priced in such an aggressive timeline of hikes since at least 2008. There’s also a widening split between the market and economists, who see the BOE’s key rate only reaching 0.75% in December. 

While inflation is at the highest in 30 years, a fast rise in borrowing costs would hurt U.K. households facing an increase to taxes and energy bills from April. The cost of living is adding to pressure on Prime Minister Boris Johnson, already fighting for his survival after a report into rule-breaking parties by his officials during lockdown.

Bond investors aren’t hanging around, dumping gilts to send the U.K.’s two-year yields above 1% for the first time since 2011. A Bank rate at that level would be especially significant for markets, as the point at which policy makers said they would consider the active sale of gilts — an unprecedented step for the central bank.

“We don’t expect the BOE to tighten as quickly as the Fed,” said Peder Beck-Friis, a portfolio manager at Pacific Investment Management Co., seeing greater inflationary risks in the U.S. “That said, if the Fed speeds up its hiking pace we would expect the BOE to up its pace too.”


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