Breakaway Transnistria Appeals to Russia for Support

Welcome back to SovereignBeat. While everyone was focused on the Israel-Hamas ceasefire negotiations, let me bring you other equally important news from this week or the last, depending on when you read it, offering our professional take, as always.

In this publication:

• The Fed eyes two 25-basis-point rate cuts, while the EU may slash by 1% this year

• OPEC agrees to extend oil cuts

• Ukraine ends Russian gas transit

• Israel’s return to the capital markets

• Self-proclaimed Transnistria seeks Russia’s shield

Let’s dissect

Markets Snapshot

• The Bank for International Settlements, a central bank for central banks, forecasts services price inflation to persistently hold strong throughout the year, prompting a delay in interest rate cuts by central banks. The Bank emphasizes the likelihood of elevated prices in the labor-intensive services sector for an extended period in both advanced and emerging economies due to tight labor markets. This prolonged elevation poses a challenge in reaching the "last mile" of inflation, hindering central bankers from initiating rate cuts as they approach an overall target rate of price growth.

Bond Markets

• USA: Atlanta Fed President Bostic reiterated his expectations of a cautious Fed approach, now anticipating an initial rate cut in Q3 with a subsequent pause. He emphasized that the pace of rate adjustments depends on market and public reactions, foreseeing the likelihood of two quarter-point cuts by year-end.

• This aligns with the Fed's overall patient approach to rate adjustments, which was further emphasized by Jerome Powell's congressional testimony on Wednesday. He indicated that the current funds rate is likely at its cycle peak and any future easing hinges on substantial progress toward the 2% inflation goal, guided by continuous scrutiny of economic data and risk assessments. This sentiment is expected to be reflected in the upcoming March 19-20 meeting, where the Fed is likely to maintain the benchmark interest rate between 5.25% and 5.5%, unchanged since July.

• EU: The ECB kept its interest rates unchanged, maintaining the deposit rate at 4%, in response to easing inflation and growth prospects. This signals a possibility of rate cuts starting from June. Despite a slowdown in inflation, the ECB is awaiting further data to ensure stability before considering policy adjustments. Market expectations are leaning towards a 1% rate reduction in 2024, reflecting cautious optimism in achieving the 2% inflation target without prematurely easing policy.

Commodities

• Oil: On Monday, OPEC+ has reached an agreement to extend its total oil supply cut of 2.2 million barrels per day until the end of June. Saudi Arabia, de facto leader of the OPEC+, will prolong its voluntary cut of 1 million barrels per day (bpd), maintaining its output at approximately 9 million bpd. Russia, another crucial player in the bloc, will further reduce its oil output and exports by an additional 471,000 barrels per day (bpd). This addition contributes to a cut of 500,000 bpd in the Q1 2024. The OPEC’s decision aims to boost oil prices and counter potential global surpluses, given economic uncertainties in China and heightened output from competitors like U.S. shale producers.

  In another development, the IMF predicts that Iraq, one of the founding members of OPEC+, will have a breakeven oil price of more than USD 90 per barrel due to increasing government spending. Despite experiencing a fiscal surplus in 2022, Iraq is currently confronted with a deficit as oil revenues decline and expenditures rise. The challenging fiscal outlook is further exacerbated by an expected nearly doubling of the public debt ratio within six years.

• Gas: Ukraine Energy Minister German Galushchenko has dismissed the possibility of any commercial agreements for the transit of Russian natural gas through Ukraine once the current deal expires this year. This stance is maintained despite some expectations of private arrangements to ensure the continued flow of gas to the EU.

  Since the war in 2022, Russian gas deliveries to Europe have experienced a decline, yet they still persisted through Ukraine, serving as a critical source for countries like Austria and Hungary. Speculation regarding the post-agreement landscape for gas transit has resulted in a significant 15% reduction in Q1 2025 gas futures prices.

  The EU continues to import Russian gas through Turkey, and Russia remains a crucial supplier of LNG to Western Europe despite the efforts to fully eleminate the dependency on Russian energy sources.

• Food Commodities: Poland, backed by Lithuania, intends to propose a European Union ban on food imports from Russia and Belarus with the goal to bolster regional security and safeguard local agriculture. This move is driven by apprehensions regarding the geopolitical consequences of Russia's actions in Ukraine and underscores the significance of ensuring food security. In 2023, Poland imported €350 million worth of food products from Russia, significantly less than the €1.7 billion it imported from Ukraine.

Global Finance

Israel’s Bonds Stay in Hot Demand

• Israel has raised a record $8 billion in its first international bond sale since the Oct. 7 Hamas attacks. Despite Moody's recent sovereign credit rating downgrade last month and a 20% year-on-year decline in GDP in Q4 2023, the demand from investors remained substantial, exceeding an impressive USD 34 billion.

• The country has successfully sold $2 billion in five-year bonds and $3 billion each in 10 and 30-year bonds, as was announced by the Finance Ministry. The shortest-maturity notes were priced at a 135 basis points yield over US Treasuries, with the 10-year and 30-year portions at 145 and 175 basis points over Treasuries, respectively. Despite a gradual decrease in yields, the credit-default swaps (indicating the cost of protection against default) remain elevated based on Bloomberg data.

• In the coming weeks, Israel's parliament is expected to approve a revised 2024 state budget, incorporating substantial spending, aimed at financing the ongoing war. This adjustment will see the budget deficit increased to 6.6% of the GDP from the previous 2.25%.

Our thoughts

• Israel faces substantial funding needs, and we anticipate further issuances later in the year. The initial plan was to raise around $15 billion to push defence spending to about 20 per cent of the 2024 budget. The strong demand for Israel bonds highlights investor confidence in its creditworthiness, albeit primarily from the local market. This confidence persists despite recent negative outlooks from all three rating agencies including Moody’s downgrade and overall nervousness about the ongoing war.

Geopolitics

Pro-Moscow Transnistria Ups the Ante

• In a special congress on February 28, deputies in Transnistria passed a resolution, appealing to Russia and requesting enhanced "protection" for Russian nationals in Transnistria from Moldovan authorities. Ironically, officials in Tiraspol, the capital of the unrecognized Pridnestrovian Moldavian Republic, known as Transnistriaransnistria region, also appealed to the European Parliament, the United Nations, and the International Committee of the Red Cross to prevent what they deemed as Moldova exerting pressure that "violates the rights and freedoms" of Transnistrian residents.

• The region is a narrow strip of land inhabited by roughly 450,000 people and situated approximately between the Dniester River in eastern Moldova and the Ukrainian border, covering about 12% of Moldova's territory. It still uses the Cyrillic alphabet unlike the rest of the Moldova and has its own currency (the Transnistrian ruble). The region declared independence from Moldova in 1990, leading to a war between the two in 1992, which ended with a ceasefire after several months. The international community does not recognize Transnistria as a sovereign country. In 2014, Pridnestrovian Republic petitioned to become part of Russia. Since the 1990s, it has been largely overlooked by the world and does not appear to significantly concern Russia either, which still maintains 'peacekeeping troops' in the area despite also not officially recognizing its independence.

• Full-scale war in Ukraine has increased Moldova's vulnerability to geopolitical risks due to its proximity to the conflict and the presence of a small Russian military in Transnistria. Moldova, along with Western countries, accuses Russia of backing protests, engaging in cyberattacks, and conspiring to overthrow the pro-EU government in the country.

Our thoughts

• We don't anticipate Russia attempting direct intervention to address the concerns of fellow separatists in the region. Reinforcing Russian troops in Transnistria is daunting due to their landlocked position between the rest of Moldova and Ukraine with no direct access to the sea. However, Moscow and its proxies are likely to persist in their efforts to destabilize the country, especially in this crucial election year. This attempt, and possibly many to follow, clearly shows signs of a deliberate misinformation campaign meticulously designed to undermine the stability of the region.

• Despite being granted EU candidate status in June 2022 and the initiation of accession negotiations in December 2023, the increasing domestic instability and external risks in Moldova pose a potential threat to the institutional reforms required for its ongoing EU accession process. This instability could also jeopardize access to international funding support necessary for addressing fiscal deficit.

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Our Further Reading Recommendations

• Update on the Israel-Hamas Peace Negotiations (The Business Standard)

• Bond Investors Line Up to Fund the War against Putin (Bloomberg)