The paradox of 1998: thanks to the crisis, Russia ended the dead-end model of development

I have been working in the stock market since 1996. In the very year 1998, when the devaluation of the ruble and the default of the state on bonds took place in Russia, I worked in a small investment company, and monitoring the situation on the market was my job. I did not keep diaries at that time, and the time of social networks in which you can keep a daily chronicle of events has not yet come. But the events that took place in the economy and throughout the country on August 17, 1998 cannot be forgotten. Especially if lessons are learned from them for the future. We know what lessons the country has learned. I want to tell you what lessons I personally managed to learn. I hope they will be of interest both to those who experienced those events themselves and to today’s generation, especially since the term “default” has reappeared in the information space.

Lesson 1. If the state tells you one thing, and your knowledge another, trust knowledge.

What prerequisites for a default Russia had in 1998 is known to everyone today. The most important of these was the collapse in oil prices. Recall that in 1998 the price of Brent was $10-14 per barrel, such prices today, when a barrel fluctuates around $100, look unrealistic. But 24 years ago, Russia suffered not only because of the sharply cheaper oil. In the 1990s, our state had almost no other sources of filling the treasury, except for oil exports, borrowing from the IMF and constant issues of short-term GKO and OFZ bonds, and most of these issues were carried out in order to pay off past issues of the same bonds. (Something similar was done by the notorious Sergei Mavrodi in his “pyramid” MMM!) Russia’s budget deficit then amounted to as much as 7.6% of GDP. And the collection of taxes was extremely low – the shadow sector ruled! The state’s gold and foreign exchange reserves amounted to hardly $24 billion (for comparison: now – more than $570 billion), while the debt to foreign investors alone on government bonds exceeded $36 billion, that is, even all the reserves of the Central Bank of the Russian Federation would not be enough to cover it.

The government hoped for IMF loans. But at that moment it was unrealistic to save the state, which was sliding towards default like a snowball, with loans – a very radical reform of the entire structure of public debt management and a large-scale program of its restructuring were needed. This is exactly what was done, but already in 1999, and a year earlier, the default came anyway.

Lesson 2. If you are not a trader, you will not be able to be a speculator.

In the summer, the crisis was inexorably approaching. Just in case, I managed to go to Italy for a week (the exchanged dollars came in handy on time, and, fortunately, I didn’t spend everything – there were still a few savings left, with which I later met fully armed on August 17, 1998), and I managed on time, before the devaluation of the ruble. When I returned, I was in for a surprise, albeit a rather predictable one: a pay cut (like everyone else) and the company moved from the center of Moscow to one of the outskirts (although the management assured us that in fact this was not a suburb, but a center, but not a historical one) . The words “non-historical center” have become a meme in our company.

In early August, it was clear to everyone who worked in the financial sector that either the devaluation of the ruble or a default would happen very soon. Very few predicted both events at the same time. At the same time, someone in the Ministry of Finance put forward a crazy idea – to issue ultra-short-term bonds for up to 30 days and place them on the stock exchange in order to pay off at least part of the state debt with the funds from the placement. I remember that I then ridiculed this nonsense in one of the daily market reviews: “Why doesn’t the Ministry of Finance start issuing bonds with maturities, for example, 9 days and 40 days? It would at least be frank!

On the eve of Monday, August 17, trading volumes in the dollar increased sharply all week, which I drew the attention of clients and management to. I did not know, and could not know exactly when the default would occur, when the devaluation would occur, whether it would all happen at the same time or not, but it was clear that a few days remained before very important and, most likely, sad events for the ruble.

But my dollar savings continued to grow. Then I made another successful operation – I took the deposit from the bank. After the devaluation, I remember that it was difficult to withdraw deposits even from highly reliable banks, and some banks did not survive the crisis at all. No one even thought about deposit insurance in those turbulent times.

So I learned the second lesson from the events of August 1998: if you are not a speculator, one day you will not become one. It is better to be an investor: buy a currency or securities and keep it. This is a less losing strategy.

Lesson 3. If your life is as sour as a lemon, this is your chance to make lemonade.

Everyone knows what happened after the default on bonds and the devaluation of the ruble. There were global macroeconomic and political events that would later be written in textbooks. But our “microeconomic” problems were of little interest to anyone, because millions of Russians, representatives of the middle class, were then experiencing almost the same thing.

… The beginning of September 1998 was very gloomy. There was a political crisis in the country, grandmothers on the streets and markets whispered about the coming civil war. And in our company, during the working day, everyone froze from the sound of heels outside the door. It was the secretary of the chief who went from management to our workplaces with an order to fire someone. To the glass room, or rather, a nook, fenced off by glass partitions, where only two employees sat – an analyst (me) and the only stock trader remaining in the company, heels did not reach out. At that time, my colleague and I were lucky. When the rates in the exchangers began to change rapidly several times a day, I began to write comments on the site four times a day on the dollar-ruble pair. Once again I was lucky – journalists of business publications began to pay attention to my comments. So, you can say, I made a name for myself (sorry for the indiscretion!) on the strengthening of the dollar. But a year ago this topic was considered almost the most useless! The crisis year of 1998 allowed me to make up my mind. I was convinced that the financial market for me is a choice forever!

Lesson 4. If you have a defective economic model – change it immediately!

Right before August 17, 1998, an almost mystical event took place at my house. My grandmother unexpectedly found an image of the Annunciation at home, which she considered lost. More precisely, not an image, but a so-called photo-icon – that is, a photograph taken from a real icon, in front of which one could secretly (mentally) pray so that in the atheistic times of the USSR no one would notice and not tell it clearly at what address. My grandmother and I considered the acquisition of a photoicon a miracle, and then on the weekend she told me that in a dream an angel from that very icon appeared to her and brought the good news that the revival of Russia would begin on Monday.

It can be considered mystical, it can be a coincidence, but that same Monday, which was August 17, 1998, turned out to be something more than the date of the simultaneous devaluation of the ruble and default on the public debt. This was the day Russia ended an economic model that could only lead us all to the darkest end. After all, what happened in 1998 is not just a consequence of the global economic crisis, which led to the impossibility of paying debts due to falling oil prices. Of course, the world economic crisis in 1998 took place and led not only to the default of Russia, but less than six months later – in Ecuador, three years later – in Argentina. In Russia, it was also a crisis of an economic model based on IMF loans, cheap borrowing from the population, oil supplies to the West in exchange for food and cars, and the destruction of its own manufacturing industries. Only a small group of well-known oligarchs and government officials benefited from such a model, and the vast majority of the poor population from such a policy became even poorer. The incomes of the population went “into the shadows”, and those Russians who did not have time to find a place in the shadow sector had to wait for months for their salaries to be paid. State employees, pensioners and the poor in general were the most vulnerable and affected groups of the population – not surprising with such a budget deficit and low tax collections. The state, not collecting taxes normally, could not fulfill its main function – to fulfill social obligations to the population. It is natural that as a result of the devaluation and default that occurred in August 1998, a political crisis erupted, later the government resigned, and the State Duma (and in fact the people, tired of poverty and the lies of the authorities and oligarchs) forced President Boris Yeltsin to appoint a new professional government headed by Evgeny Primakov. The new government has radically revised the previous inefficient economic model. In 1999, the decline in production in Russia stopped and economic growth began, which continued until 2021, almost continuously for more than 20 years.

This was the most important lesson of the 1998 default. It cannot be said that the country learned this lesson completely and to the fullest: raw material dependence still remained, the state did not properly develop new technologies until almost the twenties of the 21st century, and only the sanctions of 2014 helped us overcome dependence on food imports and subsequent counter-sanctions. But that’s a completely different story. It is important that after August 17, 1998, Russia became different, as it should be – great, free, sovereign and not begging for loans from the IMF and the West.