I was originally going to limit myself to just 3 countries. Isaiah even brought up Ukraine after I mentioned the three others (Kazakhstan, China, and Turkey) on the first day. It's not that I'm not interested in Ukraine. I just felt that most of what was going on there was political rather than macroeconomic.
And then I came across this post Tuesday after class, linked at Marginal Revolution. It's on Substack on a site called ChartBook.† It's entitlted "Putin's Challenge to Western hegemony - the 2022 edition" [sic]. It was written by Adam Tooze, a historian from Columbia.
I do not intend that you read the whole thing. But I did like the way he motivates Russia's behavior in terms of their foreign exchange situation. This makes it a good follow-up to the stuff I introduced the other day in discussing Turkey.
I'll return to Russia and Ukraine below.
***
I really was not trying to make the Turkey post huge. But there was a lot to explain there.
One of the simplifications I made to keep it shorter was to presume that exchange rates were flexible. This means that sellers and buyers of money meet in a decentralized setting (all online these days) and negotiate their own exchange rate. Big market participants have an incentive to make that information public, so you can watch the exchange rates inch up and down by the second.
The U.S. has had flexible exchange since 1973. Many of the other big/rich/developed countries have flexible exchange too. It's called a flexible exchange rate "system", but the hallmark is really that there's no system at all.
But governments are not inclined to approve of flexible exchange. Governments attract control freaks, and control freaks like to control things.
In addition, flexible exchange is more difficult for business because it makes contracting more problematic. So there's definitely a constituency clamoring for the control freaks to control.
Now, if a country has a flexible exchange rate system, but its government panics once in a while and interferes, or maintains some control within acceptable bands above and below some target, we call that floating exchange. Floating exchange means, roughly, flexible when we like how that's going for us, and fixed when we change our minds and want to do something about that. So to understand what's going on I need to explain some stuff about fixed exchange rates.
In the flexible exchange rate story I told about Turkey, traders exchange one bag of money for a bag of some other kind of money. The exchange rate they agree on is either an appreciation or depreciation from where the rate was most recently. Appreciation (giving up less of your money to get more of their's) is generally viewed favorably by governments. The could interfere in that, but they usually won't. But depreciation is another matter.
From my perspective, both depreciation and appreciation have positive and negative aspects. But not so for governments: they tend to get a lot more involved around depreciations (in both good and bad ways); while appreciations they tend to be more hands off. Honestly, it's kind of weird.
Anyway, if you're a Turk with lira, it's a depreciation if either 1) you offer more lira for the same number of, say, dollars, or 2) the same amount of lira for less dollars. Focus on the second. You're already to exchange your lira for less dollars than you'd expect. At this point, an agent of the Turkish government shows up and says I'll give you more dollars than that American. You'd take the offer, right?
That's how fixed exchange rates work: the government interested in doing the fixing is always willing to step in with an offer at the rate they'd like to stay constant. The trick is, in order to do that, they have to have dollars (or some other currency) before someone wants to exchange for them. In short, they need a stockpile of other country's money, in advance.
That stockpile is called "foreign exchange" (which is an unfortunate name because that could easily mean a lot of different things, but we're stuck with it). Foreign exchange is what a government uses to "defend" its exchange rate, usually from depreciation.
Where a government gets this foreign exchange is pretty murky. The best way to think about this is in a very general way. Governments get a lot of money from different sources: taxes, fees, tariffs, even theft and war spoils. The money comes in and gets spent on stuff. View foreign exchange as one category of that stuff. But instead of buying something now, they're putting the money away to buy stuff later. And they put it away in the form of someone else's money. One common way that all this is done is for a country's government to claim that the natural resources from the land belong to the government. So there's a government firm that extracts them, sells them to foreigners, and keeps the revenue. Often this is with oil, so something like Petrobras is the national oil company of Brazil.
And finally, more foreign exchange is better than less. More foreign exchange means you can defend your money's value for longer, against bigger moves out of it. Less foreign exchange is a problem because it becomes increasingly likely you'll run out. And when you do, you can't defend your exchange rate at all, which means your stated policy of having a fixed exchange rate goes poof, and your left with decentralized trades taking your exchange rate flexibly to whatever makes traders happy. This is where Turkey is headed, and right now, it's going that way more quickly than most other countries.
Now, quickly back to floating exchange. This means that you let the rate be flexible for a while, often within an acceptable range (usually called a band). Then when you hit the upper or lower limit of the band, you switch to fixed exchange, and try to maintain at that rate until the pressure on your exchange rate recedes.
It is premature to start reading in the middle of the article, but go to article linked above, and scroll down to the fourth chart (blue on a red chart). It shows Ukraine's exchange rate over the last 25 years. With depreciating shown as going up, and appreciation as going down. It's pretty easy to see the level areas when rates are mostly stable, punctuated by steep climbs as the country has exchange rate crises (listed in the paragraph just above the chart).
***
Now back to the article about Russia and Ukraine linked above. You should read down at least until after the first chart. Tooze argues that Russia's ability to accumulate foreign reserves since 2000, has given it greater freedom of action, especially since 2007 or so.
Tooze mentions that Russia's foreign reserves are the 4th largest, after China, Japan, and Switzerland. What he does not mention is that since Russia's economy is a lot smaller than China's and Japan's, the usefulness of its reserves is proportionally larger. Switzerland is a special case, and not really comparable: the Swiss are a safe harbor for a lot of wealthy people, so it's easy to see how they could accumulate foreign reserves, and whose interests they'd defend if pushed.
You should also continue reading down to the paragraph that begins with "The third essential point ...". Someone (I forget who) brought this up after class on Tuesday with regard to Turkey. A government's deficit spending is less risky to that country's economy if they are able to borrow from their own citizens in their own money. Where many governments around the world get into trouble is that either their citizens won't lend to them, or don't have enough money to lend to them for the scale of spending they envision. So they go an borrow from foreign sources, usually in the money of that country. If you do this, and a lot of countries do, then a depreciation of your money becomes even scarier because it's making it harder to repay those foreign loans. The second chart shows that Russia has reduced the amount it owes in foreign money by about a third since 2013.
After that, it's a big article, and I'm not concerned that you read more.
In short, Russia has been quietly getting its financial house in order. Russia is bothersome on the world stage right now because of macroeconomics. Unfortunately, it is often portrayed in the media that Russia is bothersome because they're militaristic, nationalistic, formerly communist, and so forth. This misses the big point: those things have always been part of Russia, but they act on them when their macroeconomic situation is favorable.
† Substack is a subscription only service, with a blog-like platform. A lot of former bloggers have been moving there because instead of monetizing through clicks (which is dominated now by clickbait and the algorithms that push that), you can charge for a subscription. This particular post is available free of charge.
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