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Russia: High Bond Yields Trap Moscow In Borrowing Dilemma

Prague, 8 July 1998 (RFE/RL) -- Russia needs to borrow money in order to pay off its debts. But as concerns grow amongst traders about a possible ruble devaluation, the Russian bond market is becoming too expensive for Moscow as a source of borrowing.

The Kremlin had hoped that several long-term bond issues today would raise the $1 billion it needs to pay off maturing bonds this week. But bond yields in Russian already have jumped by 25 percent since Monday to about 120 percent.

Investors are shunning the ruble-denominated paper out of fear that they will lose their money in a currency devaluation. As risks increase, the rate of return on an investment also should increase to make it more attractive.

But Alexander Pochinok, head of the Kremlin's finance department, said the government refuses to borrow more money at such expensive rates. As a result, the government today canceled auctions for six-month, one-year and two-year domestic bonds. Moscow instead offered two Treasury bills that mature in mid-August with the hope that the shorter term would reduce the yield to about 80 percent.

But the risk of a currency devaluation continues to fuel worries about ruble-denominated bonds. Itar-Tass reports that the government only managed to sell today's 42-day paper at 99.57 percent -- 20 percentage points above the central bank's benchmark rate.

Analysts say the 80 percent target was too low a yield for investors compared to the risk they face from a devaluation. Irene Shevchenko, a senior analyst at Alfa Capital in Moscow, says investors would need a 500 percent rate of return to compensate for a 40 percent devaluation within a month.

Russia needs to raise more than $6 billion this month, and about $30 billion this year, just to pay off the debts it already has incurred. The government has failed at its last eight bond auctions to raise the funds.

If it cannot borrow the money soon, the government could be forced to tap its rapidly evaporating hard currency reserves to meet the payments. That would put even more pressure on the ruble because the central bank would have less money to use for supporting the ruble on foreign exchange markets.

Anatoly Chubais, Moscow's chief negotiator with the International Monetary Fund, says he thinks an agreement will be reached this week on a new $10 to $15 billion IMF support loan. Moscow hopes the rescue package will materialize soon enough to restore market confidence and bring down bond yields.

But Moody's credit rating agency says the rapid deterioration in Russia's financial markets means the government may now need an even bigger financial package of $15 to $20 billion.

Ukraine was faced with a similar problem earlier this year when foreign investors fled Kyiv's domestic bond market. Kyiv responded by issuing Deutsch-mark denominated Eurobonds.

Eurobonds are cheaper for Ukraine and Russia to issue because the risk is lower for investors. That's because Deutsch-mark denominated returns are insulated from devaluations of the ruble or Ukraine's hryvna. But hard currency pay-backs also put more pressure on Kyiv and Moscow because they deplete hard currency reserves further.

The United Nations Economic Commission for Europe yesterday warned Russia that it is borrowing too much money from international financial markets and by issuing Treasury bills.

Russia sold $3.75 billion in Eurobonds last month. That has given it enough breathing space to cancel bond auctions in which borrowing costs are too high. Bloomberg Business News says Moscow is trying to shift its borrowing from the expensive domestic debt market to the cheaper international markets.

But Kremlin finance department chief Pochinok says the government does not plan to sell more foreign-denominated Eurobonds soon.