The resilience of Russia’s economy to Western sanctions as a result of its invasion of Ukraine is temporary, many economists say, warning that the country is facing “economic oblivion”.
The International Monetary Fund last week revised upward its forecast for Russia’s GDP in 2022 by 2.5 percentage points, estimating that the Russian economy will ultimately shrink by 6% this year instead of the 8.5% it previously expected. . According to the Fund, the Russian economy appears more resilient to economic sanctions than expected.
And Russia’s central bank surprised markets in late July by cutting its key interest rate to 8 percent, below the level seen before the war in Ukraine, citing easing inflation, a strong currency and the risk of a recession.
The ruble also bounced back strongly from a historic plunge immediately after the invasion of Ukraine, with the Russian currency the best performer in the global currency market this year, undercutting Russian President Vladimir Putin’s claims that Western sanctions failed to meet their goals.
Meanwhile, Russia continued to export energy and other commodities, mainly taking advantage of Europe’s dependence on Russian gas.
However, despite these developments, as CNBC points out, many economists estimate that in the long term the blow to the Russian economy will be strong, due to the exit of foreign companies from the country – which will affect production capacity and cause a “brain drain”. – but also the loss of important oil and natural gas markets, as well as reduced access to critical technologies.
Ian Bremmer, president of Eurasia Group, told CNBC on Monday that while the near-term turbulence from Western sanctions is milder than initially expected, the real challenge extends beyond 2022.
“Unpublished data suggests that the transfer of production activities is intensifying as stocks run out and the lack of spare parts from abroad causes problems,” Bremmer points out.
More specifically, Bremmer points out that as Western sanctions intensify and popular discontent grows, highly educated Russians are leaving the country, underscoring the substantial damage that trade sanctions inflict on sensitive technologies but also “their long-term effects, which undermine productivity and growth”.
“Brain drain leads to an immediate reduction in the working-age population, especially highly productive workers, reducing GDP,” explains the chairman of the Eurasia Group, adding: “It affects overall productivity, limits innovation and hurts overall confidence in the economy, reducing investment and savings”.
In this context, the Eurasia Group predicts a sustained, long-term decline in economic activity that will eventually lead to a contraction of Russian GDP by 30%-50% relative to the pre-war level in Ukraine.
A Yale University report published in July, which analyzes high-frequency data on consumer, commercial and shipping transactions, which according to the study’s author gives a truer picture than the one presented by the Kremlin, is on a similar wavelength.
According to the said report, claims that Russia’s economy is managing to survive the sanctions are exaggerated.
The study points out that international sanctions and the exit of more than 1,000 multinational companies from Russia are dealing a “catastrophic blow” to the country’s economy.
“Russia’s strategic position as a commodity exporter has deteriorated irreversibly, as it now faces from a position of weakness the loss of its old core markets and faces strong challenges in making a ‘pivot to Asia’ with non-tradable exports such as natural gas,” the report said. Yale report.
He adds that Russia’s have “largely collapsed”, with Moscow now facing challenges in securing inputs, parts and technology from increasingly disgruntled trading partners and experiencing widespread supply shortages as a result.
“Despite Putin’s delusions of self-sufficiency and import substitution, Russian domestic production has completely frozen as it is unable to replace the businesses, products and talent that have left the country. The loss of domestic innovation and manufacturing base has led to soaring prices and consumer dissatisfaction”, the university’s report also points out.
“As a result of the business ‘recession’, Russia has lost companies representing about 40% of its GDP, reversing a nearly three-decade foreign investment trajectory and fueling an unprecedented simultaneous flight of capital and population, in a mass exodus of economic base,” the Yale report concludes.
No Way Out of “Financial Oblivion”
The apparent resilience of the Russian economy and the recovery of the ruble is largely attributed to surging energy prices and tight capital controls – implemented by the Kremlin to curb foreign currency outflows from the country – alongside curbs on Russian imports.
Russia is the world’s largest exporter of natural gas and the second largest exporter of oil, so the GDP hit from the war and subsequent Western sanctions has been cushioned by high energy prices and Europe’s continued dependence on the present, from the Russian energy sector.
Russia has now relaxed some of its capital controls and cut its interest rates in an effort to weaken the ruble and shore up its fiscal figures.
“Putin is resorting to clearly unsustainable fiscal and monetary intervention to smooth out these structural economic weaknesses, which has resulted in the state budget running a deficit for the first time in many years and is draining foreign exchange reserves despite its high energy—and the Kremlin’s finances are in far more dire straits than they’re making out,” the Yale economists note.
They also point out that Russia’s domestic financial markets are the world’s worst performers so far this year, despite tight capital controls, with investors discounting “the economy’s continued, persistent weakness due to liquidity and credit constraints”, but also of Russia’s ostracism from international financial markets.
“Looking ahead, there is no way out of economic oblivion for Russia as long as allied countries remain united in maintaining and increasing pressure on Moscow,” the Yale report notes.
“The defeatist headlines that Russia’s economy has recovered are simply not substantiated – the evidence shows that at every level the Russian economy is faltering and now is not the time to put the brakes on,” the university’s economists conclude.