Russia is being rocked by a full-blown currency crisis with its President, Mr Vladimir Putin, facing the most serious test of his leadership.

In a desperate attempt to prop up the currency, the Russian central bank has hiked interest rates from 5.5 per cent to 10.5 per cent, to 17 per cent on Monday (Dec 15) in hopes that global investors would stop selling their roubles. But the move just triggered panic in financial markets.

A one point on Tuesday (Dec 16), the currency plunged to 80 roubles to a US dollar - compared to around 30 at the start of the year - raising the spectre of Russia's 1998 financial crisis, when the rouble collapsed, interest rates soared past 100 per cent and the country was forced to default on its debts.

Russian newspapers warned in editorials on Wednesday that the country was steps away from a full-blown bank run as the rouble's collapse could trigger consumer panic.

Here's why the rouble has turned to rubble:

1. Russia's top export is oil and oil prices are plunging

Oil and gas account for 70 per cent of Russian exports and half of government revenue, making the country vulnerable to falling prices.

Crude oil has lost roughly half of its value in the last six months. From above US$100 a barrel in June, Brent crude fell below US$59 on Wednesday, while West Texas Intermediate crashed through the US$55 level.

This is a disaster for Russia, which can only balance its books if the price of oil is US$100.

Russia's central bank predicts that the economy will contract by 4.5 per cent in 2015 if oil prices average US$60 a barrel throughout the year.

The slump in the rouble has also driven inflation above 9 per cent by making imports more expensive, hitting families and businesses. Shops in Russian are putting up prices rapidly to keep up with the plummeting rouble, and Apple suspended online sales there blaming extreme fluctuations in the value of the rouble.

2. Russian economy was already reeling from Western sanctions

In September, the United States and the European Union announced sanctions over Moscow's involvement in Ukraine, sparking a massive capital exodus.

The sanctions, which included blocking key Russian companies'access to Western financial markets and limiting imports of some technologies, would cause enough pain to put Russia into recession for one or two years, Russia's ex-finance minister economist Alexei Kudrin then predicted.

Fears of a prolonged downturn caused investors to pull their money from the country, hitting the rouble.

Then on Tuesday (Dec 16), the White House announced that US President Barack Obama would sign a Bill authorising more sanctions against Moscow that will slap new penalties on Russian weapons exports and oil production imports.

3. The perfect storm

Plunging oil prices have combined with the Russian economy's structural problems - its economic fate is too dependent on oil - and the effect of Western sanctions to create the "perfect storm" battering the rouble.

If the price of crude oil continues to decline, it's only a matter of time before Russia once again faces the prospect of defaulting on its debts as its reserves run out.

Russia has been spending billions of its reserves at a time on futile attempts to prop up the ruble. It spent nearly US$13 billion (S$17 billion) in the first half of October alone, according to The Wall Street Journal.

As of Dec 12, the Russia's central bank had US$393.6 billion in gross reserves. Meanwhile, its total outstanding debt was US$642 billion, according to data from Credit Suisse. Russia has relied almost entirely on oil profits to pay down this debt - profits now threatened.

Some economists say Russia has reached the end of the road with interest rate increases and using its fast-depleting reserves. It now has only two options: to allow the rouble to find its own level, in the hope that declining oil prices will prove temporary, or to introduce capital controls on its currency like Malaysia did with the ringgit when it was hit by the Asian financial crisis in 1997.

As bitter as it may be, this may be a pill Russia has to swallow if the rouble rout continues.