Kazakhstan Follows in Footsteps of Other Former Soviet Republics and Devalues Currency

Sources: Bloomberg, Kazakhstan Devalues Tenge 18%, Turns to Russia for Bank Rescue; Reuters, Kazakhstan Tenge Tests New Lows After Bank Bailouts; Moscow Times, Belarus Devalues Currency to Get IMF Loan; Reuters, Russia Downgraded, Kazakhstan Devalues; Bloomberg, Russian Curb on Speculators May Keep Ruble Within Target Range

Kazakhstan decided Wednesday to follow in the footsteps of Russia, Ukraine, and Belarus by devaluing its currency rather than continuing to prop up the exchange rate with shrinking foreign currency reserves. The Kazakhstan central bank devalued the tenge eighteen percent, for the first time since 2007, to a rate of about 150 tenge to the dollar. Kazakhstan has already spent $3.5 billion of its reserves defending the currency, and is likely to continue to gradually devalue as the Russian central bank devalues the ruble.

Like Russia, Kazakhstan's economy has been badly affected by falling oil prices and its banks' foreign debt. Kazakhstan is the second-largest former Soviet oil producer after Russia, with 3.2% of the world's reserves. Growth in Kazakhstan has slowed from ten percent to one percent, and the government has taken over the country's largest banks. Kazakhstan banks are facing $19 billion of foreign debt due this year, which will be more difficult to pay back in light of the devaluation, and Kazakhstan may be forced to turn to the IMF for help.

Belarus is another Eastern European country that sought an IMF loan to blunt the effects of the crisis, and its own devaluation of the Belarussian ruble early this year was a condition of that $2.5 billion loan. The IMF required a twenty percent devaluation, which occurred on the first of January, as well as warning the government not to raise salaries. The IMF also praised Ukraine yesterday for its own currency devaluation in its first review of the Stand-By Arrangement with that country.

Meanwhile, the Russian economy continues to struggle, with Fitch recently downgrading its credit risk to BBB. The Russian central bank devalued the ruble several times in January after spending massive amounts of its foreign reserves in 2008 to defend the currency. It plans to not to devalue again in February, however, using a number of methods to hold the rate at 41 in relation to a dollar/euro basket. Other falling currencies in Central and Eastern Europe include the Hungarian forint, the Polish zloty, and the Czech crown, which in turn are all affected by the fall of the euro.

Questions:

1) Can you think of any way that Central and Eastern European central banks can minimize the damage to their own currencies caused by poor performance of the euro and the ruble?
2) Should central banks try to hold out longer in defending their currencies, or is it wise to allow gradual or even sharp devaluation to avoid spending too much of foreign currency reserves?