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What in the World?

What Russia’s foreign debt default means for the world


Peter Zeihan

Geopolitical Strategist


Moscow had failed to pay about $100 million in interest on two bonds during a 30-day grace period that expired Sunday. Essentially, Russia’s creditors hadn’t received payments and Moody’s credit agency said that the missed deadline “constitutes a default.” It also predicted Russia would default on more payments in the future. While Russia regards any default as a fabrication created out of Western sanctions, Straight Arrow News contributor Peter Zeihan argues the global fallout is very real.

Excerpted from Zeihan’s June 29 newsletter, “Zeihan on Geopolitics”:

U.S. bond rating service Moody’s announced that Russia was in default of its foreign debt payments yesterday, a first for Moscow since 1918. Unlike most countries who go into default, Russia has the money to pay its debts. But the sanctions put in place following the invasion of Ukraine, Moscow does not have a reliable mechanism to deliver payment to its debt holders. While the Russian central bank is trying to argue that this does not constitute a technical default, the episode does highlight some of the particularities of the approach the U.S. and its allies are taking in sanctioning Moscow and the rest of the world is taking note.

Hi, everyone, Peter Zion here coming to you from exciting Minnesota. I mean, in a hotel room obviously, just got the news that the Russians had been judged to be in full default of their national debt by Moody’s, which is kind of the keeper of the definition for what is the default and what is in good payment. This has taken us in a few weird directions because this has not happened and certainly not has happened this way in quite some time. Normally, when a country goes into default, it’s because they don’t have enough money. And they have to choose what to not pay for whether it’s to help out their own population, government services, infrastructure, their military or their foreign debt. And if you choose foreign debt, that means you are cut out of capital markets for quite some time. But the problem here is not that the Russians have run out of money. The problem is that the Russians are not able to spend their money in the way that they would like. So they had actually set aside the money, even the hard currency necessary to make their payments. But the United States has denied them access to the various financial plumbing of the American system, in order to allow that money to get to the actual bondholders. So from the Russian point of view, they haven’t defaulted. And they’ve got a reasonable position there. But it really doesn’t matter. Because if you don’t have access to the financial market, and you can’t move money around, then everything else is just kind of weird. But that does mean that investors are looking at this differently. This is not a situation where the Russians can just put a bunch of money into a FedEx envelope and send it off, you actually have to have the plumbing for the billions of dollars that have to move every month. Now, we’re seeing this sort of activity that the West is engaging in, and a lot of the sanctions, it’s not that the US or the West have dropped the nuclear option and just prevented the Russians from functioning, that would have too many side effects. Instead, the United States is working around the edges, the West is working around the edges, and making the Russians less and less welcome in any sort of economic activity that involves anything beyond their borders, and trying to use reputational risk as a way of inducing countries and companies to not do business with them. So you know, you could you could ship everything to that FedEx envelope, and get by with it. But you would then have to ask whether FedEx would want to play, and they don’t. And we’re seeing this in energy. And we’re seeing this in commodities. And we’re seeing this in ag and we’re seeing this in finance. Now, this indirect approach to sanctions is not nearly as effective. It’s not nearly as quick, it’s not nearly as efficient. But it does prevent or at least limit some of the more undesirable side effects. So for example, in energy, the United States could go out and just hijack a tanker carrying Russian crude, and that would set off cavitations throughout the entire system about what is allowed and what is not. And shipping companies then wouldn’t want to touch it because you don’t want to fall afoul of the US Navy, if you’re into the job of shipping. And companies that work for foreign countries like say India probably would then leave for sure as well. Because why would you put out all the risk and all the money if you might not just not get the crude, you might actually lose your vessel to but that would have income, or I’m sorry, that would have implications for the entire shipping system. And they’re trying to limit that sort of damage. Now,
looking forward here, there is a significant negative outcome of this kind of half assed approach to sanctions. Because the United States has now shown the West has now shown that it is willing to abrogate financial commitments from its citizens from its companies in its currency to other countries, even major countries, no legislation was required. No court case was required. There was no public comment period, it was just that the federal government decided to make this happen. I’m not overly concerned about the impact that this will have on the willingness of foreign countries to raise money and issue debt in the American market. Because it’s not like there’s a lot of other places to go. All of the world’s hard currencies are following the US lead here, every single one of them. So there is no back marketplace, you can go. But there is a definite point of concern for the American investors that were willing to go into foreign countries in the first place. Their concern has always been about legal protection and rule of law in places like China or Russia or Venezuela or wherever else. But it never occurred to them, that there might have actually been a risk on the American side of that equation. Because now they have to consider that not only will the United States not potentially provide them with legal protection on the American side should something go wrong in the foreign country, that the US government might actually be the reason that the investment fails because of a decision made by Fiat. That’s something that hasn’t been true since before. World War Two, but suddenly now is again, it’s just going to redirect a lot of capital away from the world’s developing and frontier markets, because all of a sudden, they don’t have a method to do it safely. And it doesn’t matter if they’ve got a well written bond agreement doesn’t matter if you’ve got an army of lawyers. If the comptroller of the global currency says no, the answer’s no. And that’s something they now have to factor in. And so if you’re looking to borrow money on an American exchange, all of a sudden, you’re gonna have to work a lot harder to get American and Western investors to go along with it. Because they no longer have that backstop of guarantee that they’re used to. And that changes everything for the developing world. Okay, that is it from me. Until next time,

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