On August 17, 1998, shortly after the Russian government vowed it would never devalue the ruble, it stunned the world by announcing that ruble would be devalued by a third. In the days that followed the ruble dropped an additional third on currency markets. When currency trading was suspended in late August the ruble was worth only about a third of what it was the week before.

Banks defaulted on their domestic debts or received a 90-day debt moratorium on $40 million in foreign loans and perhaps $100 million in "hedges" (insurance that trader and banks use to protect themselves from sudden currency swings). Domestic bonds were restructured so that investors got between 20 to 30 cents on the dollar.

Mobs trying to get their savings were barred from entering the banks, executives flew to London to get suitcases full of dollars and coup plans were discussed in the newspapers. The value of the stock market dropped to 10 percent of its value of the previous year, the value of ruble tumbled by 75 percent, and 18 of Russia's 20 major banks effectively collapsed under massive debts. Foreign investors, some of them calling Russia "Indonesia with nukes," fled the country.

Some have said the damage to the economy was greater than that unleashed by Hitler’s armies in World War II. By the time of the 1998 ruble crash ran its course the poverty level had increased from 2 percent of the population in the Soviet era to 40 percent.

Reasons for the Collapse of the Ruble in August 1998

Factors that played a part in the collapse of the ruble included the following. 1) the Asian financial crisis of 1997-98 which dried up markets in Asia and made investors think twice about investing in risky markets like the ones in Russia, depriving Russia of money and investments. 2) the government amassed huge deficits and couldn't collect taxes. 3) Corruption, crime and incompetence were so widespread people had little confidence in the government. 4) The tax and banking systems had not been reformed. 5) The low price of Russia's main export, oil, deprived of it cash.

Russian banks often poured their money into speculative treasury bonds rather than solid investments. Rather than paying off debts they stashed their hard currency abroad. In 1997 and 1998, Western banks lent hundreds of millions of dollars to the oligarchs (powerful tycoons), often without checking them out or investigating what the were going to do with the money. Capital was pumped into Russia by foreign banks at a rate of $1 billion a month, much of which was taken business leaders and stashed in overseas accounts.

In 1998 the ruble was overvalued, making it impossible for domestic producers to compete with foreign imports. The IMF propped up the ruble to keep inflation under control. There was also enormous overcapacity in the industrial sector. Some Russians blamed the Jews. A member of the Communist Party said: “Usury, deceit, corruption, and thievery are flourishing in the country. That is why I call the reformers Yids [Jews].”

Crises and Boom Years in the Mid 1990s

The ruble collapse of August 1998 wasn’t the first time the ruble collapsed. On "Black Tuesday" in October 1994, the ruble lost 24 percent of its value in less than two hours. The ruble to dollar value was: 500 to 1 in January 1993; 1,000 to 1 in May 1993; 1,500 to 1 in January, 1994. At that time people waited in long lines to trade their rubles for dollars and marks before the ruble crashed further. This in turn accelerated the collapse of the ruble. The Central Bank spent $1 billion of its $4.5 billion reserves trying to prop up the ruble but to no avail.

In the mid 1990s, inflation was reduced significantly and interest rates followed. Between 1995 and 1998, the ruble was stable and the inflation rate was low. Foreign investment poured in even though Russian companies were unable to pay their suppliers or workers. The amount of direct foreign investment in Russia increased from less than $500 million in 1991 to over $2 billion in 1996 to over $6 billion in 1997 and dropped to less than $1 billion in 1998.

In 1997, Russia had the world's best performing stock market. Stock market tripled its volume and doubled its between 1996 and 1997. Everybody in Russia from college students to babushkas were investing in it. "The banks became so addicted to the easy money they made in the GKO (short-term bonds) market." The high interest from GKOs was the banks principal source of revenue.

Events Leading Up to the August 1998 Collapse

Before the 1998 ruble collapse the Russian government ran up huge budget deficits and Russian companies amassed huge debts. To pay off its debts the government issued ruble-denominated treasury bills, called GKOs and pronounced gekkos, to get money to pay its debts. Because the GKOs were risky investors demanded high interest of up to 170 percent, forcing the government into deeper debt to pay off the interest and creating a financial bubble by borrowing more than it could afford.

Investors lost confidence in Russia and began taking their money out of Russia and converted their rubles into dollars and other stable currencies. The Russian Central bank spent $8.8 billion of its reserves trying to defend the ruble but was unsuccessful and eventually gave up. The run on dollars also meant there was less original currency for Russia to use to pay off its debts.

In March 1998, after Victor Chernomydyn was fired as prime minister, the GKO’s rapidly lost value. When Prime Kiriyenko was finally approved by the Duma in May 1998, the government was collecting 22 billion rubles a month but owed 25 billion a month in committed expenses and 30 billion in interest on government debt. The Duma didn't pass reforms and Kireniyenko was advised to ask the IMF for a loan. In July 1998, the oligarchs hosted a birthday party for Chubais and pleaded with him to save their banks.

IMF Loan and the Duma Before the August 1998 Crisis

After difficult negotiations and the near collapse of the Russian economy in the spring and early summer of 1998, the Russian government was promised $22.6 billion in loans spread over two years from the International Monetary Fund (IMF) on July 13. To qualify for the loans the Russian government was required to make tough fiscal reforms.

The oligarchs and policy makers felt the IMF loan would solve their problems and many of them took off on vacations. Their hopes were dashed when the Duma failed to pass reforms and Kiriyenko and the chronically ill Yeltsin were unable to ram reforms down the Duma's throat.

By the second week of August, after Parliament failed to pass reform legislation, the economy went into a free fall. Foreign creditors began calling in loans that Russia banks couldn't pay and foreign investors lost more confidence and many used the crisis as an opportunity to pack up leave Russia for good. The death blow occurred on August 13, when an opinion piece in the Financial Times by financier George Soros declared that Russia had to devalue its currency. This caused the economic tailspin to accelerate.

Much of the money from the IMF loans is believed to have been diverted into overseas accounts controlled by Yeltsin cronies using a web of secret “caisses noires”, or slush funds. An investigation into the matter was blocked the Russian and U.S. governments. A $4.8 billion loan that was supposed to save the ruble is believed to have been diverted to bank accounts in New York and Switzerland. Exactly what happened to the money was not clear. The IMF loan failed to do what it was supposed to. The ruble collapsed.

Yeltsin and the Collapse of the Ruble in the August 1998

Yeltsin seemed unaware of what his economic team was doing. He told the nation the ruble would not be devalued just as it was about to happen. On Friday, August 14, Yeltsin appeared to awake walk from the dead and said, "There will be no devaluations of the ruble. I say it firmly and clearly. It is not just my fantasy. Everything has been calculated."

The same day Yeltsin's economic team came to the realization that unless something was done, the banks would be insolvent by Monday as the treasury (which at that point had only $4 billion in reserves) would have to spend a $1 billion to prop up the ruble. And if that wasn't enough $5 billions in GKOs were coming due and the government couldn't pay them.

Yeltsin's economic team decided they had no choice but devalue the ruble, restructure the GKOs and create a moratorium for debt repayments. The plan was presented to Yeltsin at the Rus hunting lodge in the Tverskaya Oblast. Yeltsin decided to go along with the plan only if the ruble was allowed to float within a "corridor" with a limit of 9.5 to the dollar. Yeltsin sacked Kireyenko a month later, The I.M.F. suspended its loans.

Results of the August 1998 Collapse

After the ruble was devalued, the stock market and banks that defaulted on foreign loans closed and the banking system collapsed. The collapse of the banking system worsened the delayed wages and pension situation. Many pensioners lost all their savings. The depreciation of the ruble caused the cost of living for people who consumed imported goods and some domestic ones to rise significantly. Shopping malls were empty. The price of foreign cigarettes increased 76 percent; vodka 56 percent, beef 42 percent, chicken 32 percent, orange juice and sausage 18 percent, and milk 9 percent. The price of cabbage remained unchanged and that was practically all that some people ate.

The bank collapse sent world markets reeling and seriously called into question the veracity Russia's economic reforms. Many Western companies decided enough was enough and packed up their bags and left. Among them were Dunkin' Donuts, Ben and Jerry's ice cream and Pizza Hut. Others were forced out because their prices were too high. Western financial institutions may have lost as much as $100 billion.

Regional governments used the chaos during the economic crisis in 1998 as an opportunity to distance themselves from Moscow and seize more power. In a process called "de-privatization" they grabbed control of property that was previously controlled by the national government,

In dollar prices tons of oil or train car-loads of timber were worth the price of pack of imported cigarettes. You could fly across Russia for the price of a bag of cabbage. Some people made fortunes speculating and selling Russia-purchased commodities outside the country.

Good and Bad News After the August 1998 Collapse

The devaluation of the ruble worked in bringing ssome long-term stability to the Russian economy. Russian consumers were forced to buy Russian-made goods. Imported products disappeared. Foreign debt was reduced and 1998 was followed by years of solid growth.

In the long run the collapse of the ruble was good for the Russian economy. It made foreign good prohibitively expensive, boosted demand for domestic products and gave local industry a chance to develop. Inflation was slowed to 2 percent a month. Tax payments increased. Russia's trade surplus increased tenfold and industrial productivity increased in double digits. Russian companies that grew from the bottom up and were able to gain investments on the basis of their profitability and fundamentals.

For all intents and purposes Russia was in a depression during most the 1990s. Economic output plunged by 44 percent between 1989 and 1998 (compared to 31 percent in the United States during the Great Depression). About 50 percent of the people dropped below the poverty line. Statistically, the Russian economy often appeared to be doing much worse than it actually was. Thus was because so much economic activity took place off the books in the underground economy.

Image Sources:

Text Sources: New York Times, Washington Post, Los Angeles Times, Times of London, Lonely Planet Guides, Library of Congress, U.S. government, Compton’s Encyclopedia, The Guardian, National Geographic, Smithsonian magazine, The New Yorker, Time, Newsweek, Reuters, AP, AFP, Wall Street Journal, The Atlantic Monthly, The Economist, Foreign Policy, Wikipedia, BBC, CNN, and various books, websites and other publications.

Last updated May 2016

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