In Itskhoki and Mukhin (2022b), we show that a simple equilibrium model of exchange rate determination explains well the rouble dynamics from Figure 1. The equilibrium exchange rate equilibrates the local supply and demand of currency and also shifts together with monetary inflation. As a result, the local supply of foreign currency comes from export revenues and government reserves, while local demand is shaped by import expenditure, foreign liabilities of Russian firms (to the limited extent they exist despite the 2014 sanctions) and the use of foreign currency as a store of value. Western sanctions constrain foreign banks from trading roubles, and Russian capital controls limit access of Russian residents to foreign markets. What explains the puzzling swings in the exchange rate over the last months? To answer this question, we first note that the value of the rouble is determined on the Moscow Exchange, which has become largely disconnected from international financial markets since the beginning of the war. Other commentators went to a different extreme suggesting that given all the policy measures and restrictions imposed to stabilise the exchange rate, it has lost its relevance as an allocative price and has become inconsequential from the perspective of welfare. Similarly, state media in Russia uses the reversion of the exchange rate as an indicator of the resilience of the economy and the short-lived effects of sanctions. Some commentators conclude that the imposed sanctions are not working. These puzzling dynamics lead to several contradictory and misleading interpretations. Source: Authors’ calculations based on the data from the Moscow Exchange.
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