Economy•24 Feb ’24 08:33•Modified on 25 Feb ’24 10:11Author: Mark van Harreveld
Since the Russian invasion of Ukraine two years ago, the West has imposed twelve sanctions packages on Russia and more than 300 billion euros in assets of the Russian central bank have been frozen. Opinions differ as to whether this really damages the Russian economy. One thing is clear: the Russian economy is growing unilaterally and trade flows with foreign countries have shifted.
This article is part of a series on the Russian economy. You can read the second part here.
Since the Russian invasion of Ukraine two years ago, the West has imposed twelve sanctions packages on Russia and more than 300 billion euros in assets of the Russian central bank have been frozen. Opinions differ as to whether this really damages the Russian economy. One thing is clear: the Russian economy is growing unilaterally and trade flows with foreign countries have shifted. (ANP / Associated Press)
Russia is struggling with a sharp fall in the ruble, rising inflation and a dire labor shortage, both in terms of quality and quantity. In addition, the country suffered a significant blow with the freezing of approximately 300 billion euros in assets by Western powers and saw its gas exports to the West collapse.
Economic growth, despite everything
Reason enough to think that the Russian economy would shrink significantly, but nothing could be further from the truth. The Russian economy even grew, partly due to increased state spending. In the World Economic Outlook the International Monetary Fund even expects economic growth of 2.6 percent this year, an increase compared to the previously estimated 1.1 percent growth. And although the IMF relies on figures provided to it by Russia, which may be somewhat flattering, this is not exactly what the West had in mind when it handed out the sanctions packages.
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The IMF calls the Russia’s high military expenditure as one of the factors that stimulate growth. Putin has turned the country’s economy into a war economy; last year the defense budget consumed a third of Russia’s state expenditure. Russia spent $100 billion on the war in 2023, which amounts to a doubling compared to 2022 and accounts for about 7 percent of gross domestic product.
Also read | Russian central bank prepares for tougher sanctions
No more people
According to the IMF, the Russian economy is also being stimulated by the tight labor market, which is driving up wages (and by extension consumer spending). Russian employees received 8 to 20 percent more wages last year, the news agency reported Bloomberg earlier this month based on data from the Russian recruitment agency Superjob. A fact that is unfavorable for the Russian army, which has to compete with the business community for manpower – according to Bloomberg, soldiers received an average pay increase of 10.5 percent last year.
Also read | Russian economy rebounds despite war
With such a tight labor market, it is not surprising that unemployment fell to a record low of less than 3 percent last year. But workforce shortages may boost the economy in the short term, but many economists warn of the devastating long-term consequences.
According to a estimation according to Russian researchers at the end of last year, the economy is now facing a shortage of almost 5 million workers. The same calculators calculated that the defense sector is short of 400,000 employees, while the technical sector is short of 700,000 employees. This week, however, President Putin announced that more than half a million jobs have been created in the Russian defense industry due to the high demand for weaponry and other war supplies.
Major damage, especially in the long term
It is not surprising that researchers critical about the official growth figures of the Russian economy. In a op-ed in Foreign Policy magazine in December, Jeffrey Sonnenfeld and Steven Tian responded to comments that the Russian economy is resilient. In particular, the authors cite the exodus of Western companies from Russia and the disconnect with Western business and capital markets as the main causes of the major long-term damage to the Russian economy. And of course the ruthless mobilization that caused many young Russians to flee abroad.
Also read | ‘Russia is afraid that the ruble will weaken again and inflation will rise’
Flight of talent
In the first months of the war, an estimated 500,000 people fled Russia, mostly the highly educated and technically skilled workers that Russia so desperately needs. A year later that number had risen to at least one million. By some calculations, Russia lost 10 percent of its entire technological workforce with this historically unprecedented brain drain.
Capital flight
Not only did Russians flee Putin’s war, capital also flowed out of the country en masse. The Russian Central Bank calculated that a record $253 billion in private capital flowed out of Russia between February 2022 and June 2023. According to some calculations, Russia lost 33 percent of its total number of millionaires to emigration.
Loss of Western technology and know-how
In sectors such as technology and energy exploration, the Western exodus was painfully felt. Energy group Rosneft alone spent almost $10 billion more on capital investments last year, equivalent to an additional $10 expenditure for every barrel of oil exported. Arctic oil extraction, which was almost entirely dependent on Western technology and expertise, has been delayed for years due to the departure of Western technicians.
Cessation of foreign investments
Foreign direct investment in Russia came to an almost complete standstill. In the 22 months since the invasion, there has been only one month of positive inflow. Before the war, annual FDIs in Russia amounted to approximately $100 billion.
Lose rubles as a freely convertible currency
Also very painful: the loss of the ruble as a freely convertible currency. While Western multinationals sought emergency exit from Russia, President Putin imposed unprecedentedly strict capital controls on the ruble. A selection of the measures: citizens were prohibited from sending money to foreign bank accounts; cash withdrawals over $10,000 were prohibited; exporters were required to exchange 80 percent of their earnings for rubles; direct dollar exchanges for individuals with bank accounts in rubles were suspended, as were dollar loans or dollar sales by Russian banks.
The logical consequence was that trading volume in rubles plummeted by 90 percent. Russian assets valued in rubles have therefore become virtually worthless and cannot be exchanged on world markets.
Also read | Two years of oil sanctions will really make Putin poorer
No access to Western capital markets
Russia also suffered a major blow because it lost access to Western capital markets. Since the invasion, no Russian company has been able to issue new shares or bonds on a Western financial market. This means that Russian companies have to rely on the Russian treasury or on Russian state banks that charge sky-high interest rates to attract loan capital. With all the disastrous consequences this entails for growth and innovation.
The researchers also state that the Western sanctions and the mass exodus of multinationals has indeed hit the Russian economy hard. ‘It is a misconception to think that everything is going smoothly for Putin.’
Also read | ‘Ordinary Russians will now also feel inflation, Putin increasingly in splits’
Buffers
It may not be going smoothly, but it is still running. The country’s economy has not come to a standstill, money is still flowing into the treasury and the Kremlin is still able to finance the war. According to the British-American think tank OMFIFF this is partly possible because for decades the country pursued ‘a conservative and prudent macroeconomic policy’ that ‘accumulated wealth at an extremely low level of debt’. And that has created a lot of fiscal space “which is now helping Russia finance a highly stimulative fiscal policy to support the war against Ukraine and weather the associated economic tensions.”
Also read | Russian ruble at record level thanks to central bank intervention
Russia reportedly had a pre-war buffer of $700 billion, but it is unknown how much of that remains. According to Bloomberg news agency, since the start of the invasion, the Kremlin has withdrawn 44 percent of the assets from the National Prosperity Fund, a fund intended “for the Russian people in the long term”
Also read | Russia wants to increase diesel exports by a fifth
This article is part of a series on the Russian economy. You can read the second part on Sunday, February 25.
2024-02-25 09:11:00
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