Throughout the extensive history of worldwide financial crises, few events are as vividly remembered yet remain as insufficiently examined as the Russian financial crisis of 1998 — commonly termed the “Russian Flu.’ Much like its biological counterpart, this economic upheaval did not stay confined within Russian borders but rapidly extended its reach, spreading across international markets. Initially, the crisis was rooted in Russia’s own economic fragilities, including fiscal instability and political uncertainty. However, it swiftly transformed into a region-wide and even global phenomenon, undermining investor trust and confidence from Eastern Europe through Latin America and Asia. The contagion effect underscored the interconnectedness of modern financial systems and the far-reaching impact that a crisis in one nation can have on the broader international economic landscape.
Let us here take a closer look at the “Russian Flu,” to trace its causes, examine the role of major actors, and assess its impacts on people, businesses, and states, with a view to drawing useful lessons for the rest of the world.
The term “Russian Flu” is also often referred to as the “ruble crisis”. Both phrases were initially coined by financial analysts and subsequently popularised by the media to describe the severe economic turmoil that engulfed Russia in August 1998. This crisis led to a significant devaluation of the Russian ruble, the country’s domestic debt default, and a temporary suspension (moratorium) on its foreign financial obligations. By mid-1998, Russia’s foreign currency reserves had plummeted to below $15 billion, a dramatic decrease from previous levels, while the country’s short-term debt commitments had surged past $40 billion. On the 17th of August in 1998, the Russian government officially announced that it was no longer able to meet its financial commitments, which resulted in a complete collapse of confidence both domestically and internationally, with widespread economic repercussions.
The question of how we arrived at this point can be answered by examining several interconnected factors that contributed to the emergence of the Russian flu.
To begin with, there was the issue of structural weakness within the country. Following the collapse of the Soviet Union, Russia’s gross domestic product (GDP) experienced a dramatic decline of over 40 percent between 1991 and 1998. During this period, the industrial sector also suffered significant setbacks, with output halving as the nation transitioned from a centrally planned economy to a market-oriented one. These economic upheavals were further exacerbated by weak institutions and widespread corruption, which compounded the nation’s difficulties and hampered efforts towards recovery and stability.
There was also the issue of fiscal imbalance. Tax revenues made up only about 12 percent of the gross domestic product (GDP), which is well below levels considered sustainable for long-term economic health. To cover its deficits, the government resorted to issuing short-term treasury bills, known as GKOs, which offered exceptionally high yields — up to 150 percent annually. Such high interest rates were a clear sign of the unsustainable nature of the country’s fiscal policies and financial management during that period.
There were also external pressures from outside Russia. The Asian Financial Crisis of 1997 triggered a significant outflow of capital from emerging markets as investors became increasingly cautious and withdrew their investments. Simultaneously, in 1998, global oil prices plummeted to a newly low point of just $11 per barrel, marking the lowest level seen in several decades. This drastic decline in oil prices severely impacted Russia’s economy, as the country’s financial stability was heavily dependent on revenues from oil and gas, which accounted for over 40 percent of its national income. The combined effects of these economic shocks highlighted the vulnerability of emerging markets and resource-dependent economies during periods of financial turmoil.
Similar to most economic crises, the Russian flu was not caused by any obscure or mysterious factors. Instead, it was a foreseeable crisis, with its roots embedded within the economic system itself and the manner in which the economy was functioning at the time. This crisis was the result of inherent vulnerabilities and systemic issues that had been building up over a period of years, making it predictable for those who understood the underlying economic dynamics. As Paul Krugman observed at the time, “The crisis was not a bolt from the blue; it was the inevitable consequence of unsustainable borrowing in an economy without adequate fiscal foundations.”
The crisis had a devastating impact on ordinary Russians in very severe ways. Prices rose by 84 percent in 1998 alone, wiping out household savings. It was not just inflation; wages and poverty were adversely affected too. Real wages fell by nearly 30 percent, while poverty levels rose from 20 percent to over 40 percent of the population within months. Many workers went unpaid for weeks or months.
With the collapse of over 1,000 banks, the banking sector could not sustain itself, and household deposits were frozen. Although Boris Yeltsin had assured in August 1998 that: “there will be no devaluation of the ruble, “ only for the ruble to be devalued days later, thus eroding public trust. The currency collapse was real; the ruble lost two-thirds of its value against the U.S. dollar between August and December 1998.
Business practices and daily transactions in the country were radically transformed due to money scarcity; nearly 50 percent of business transactions reverted to barter by late 1998.
The rest of the world was also affected as the crisis had a profound impact, nearly leading to the collapse of Long-Term Capital Management (LTCM), a prominent hedge fund based in the United States. At that time, LTCM managed approximately $125 billion in assets and had an extraordinary derivative exposure valued at around $1.25 trillion. The situation required a substantial bailout, orchestrated by the Federal Reserve. This incident highlighted the far-reaching ripple effects of Russia’s financial difficulties, demonstrating how problems in one country could quickly spread across international financial markets, impacting Wall Street and beyond.
The roles played by the government and other influential groups are worth mentioning.
During the period preceding and throughout the crisis, the Russian government displayed a notably vigorous and active approach. In the summer of 1998, President Boris Yeltsin indeed made dramatic changes to the leadership by reshuffling the prime minister’s position on three separate occasions within just six months, which had the effect of eroding public and international confidence in the government’s stability. Sergei Kiriyenko, who was appointed as prime minister in April of that year, faced significant difficulties in implementing essential reforms amid the turbulent economic climate and was ultimately unable to prevent the impending financial default.
In an attempt to defend the ruble, the Central Bank of Russia raised interest rates to 150 percent in June 1998, but this drained reserves without restoring confidence.
In July 1998, the International Monetary Fund (IMF) approved a substantial stabilisation package worth $22.6 billion to support the affected economy. Despite this financial intervention, market analysts and investors expressed doubts regarding the effectiveness and sustainability of the IMF’s aid, questioning whether the funds would be sufficient and whether the stabilisation measures would have a lasting impact.
The oligarchs, however, benefited significantly from insider deals during the process of privatisation, engaging in short-term speculative activities to maximise their gains. Many of them transferred their capital abroad to evade domestic economic instability, which further exacerbated the outflow of funds from the country. Meanwhile, foreign investors quickly sold off government short-term bonds known as GKOs and withdrew their credit support, actions that contributed to a deepening economic crisis and the overall market crash.
One of the many fascinating features of the Russian flu was its unexpectedly swift recovery.
Almost overnight, the Ruble’s devaluation brought positive results as the ruble’s decline boosted domestic producers, especially in agriculture and manufacturing.
Lady Luck also appeared quite generous, bestowing the fortunate gift of an oil price recovery precisely when Russia needed it the most. By the year 1999, oil prices had rebounded to over $25 per barrel, a significant boost that helped restore the country’s fiscal health and stability. This resurgence in oil prices was a crucial factor in stabilising Russia’s economy during a challenging period.
Following its newfound position on the international stage, Russia undertook a comprehensive debt restructuring programme, successfully renegotiating and restructuring approximately $32 billion of Soviet-era debt in collaboration with the London Club of creditors. In addition, the government implemented a series of institutional reforms aimed at strengthening economic stability, including measures to enhance tax collection efficiency and to tighten banking regulations. These reforms, initiated under the leadership of Vladimir Putin from the year 2000 onwards, laid the essential groundwork for subsequent economic stability and growth, positioning Russia more securely for future development.
The Russian Flu pandemic, much like numerous other global crises, imparted lasting lessons that should inform and shape our public policies worldwide. One crucial lesson pertains to the importance of maintaining fiscal discipline; it is evident that persistent budget deficits, especially when financed through unsustainable borrowing, are ultimately destined to lead to economic collapse. Additionally, reliance on commodities, particularly in the form of dependence on oil and gas, is profoundly detrimental to a nation’s economic stability. Overdependence on these resources exposes economies to significant vulnerabilities, such as severe price shocks which can destabilise entire sectors. Equally important is the issue of credibility and trust: public confidence in government statements and policies is just as vital as the policies themselves, as without trust, effective implementation becomes challenging. Moreover, the interconnected nature of today’s financial systems was starkly demonstrated when a domestic crisis in Moscow nearly precipitated the downfall of a hedge fund in New York. This incident highlights the fragility of global financial interconnectedness and underscores the necessity for robust safeguards to mitigate such systemic risks.
There is also a very political lesson for everyone from Russia, which is that the ultimate cost of a crisis is borne not by oligarchs or investors, but by ordinary people who lose their jobs, wages, and dignity and have very little room, if any at all, to hedge, disinvest or diversify their assets.
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