Russia’s Tanking Economy: Sanctions Begin to Bite?  (Brussels Morning)
Channel: Sam Vaknin's Musings
Date: 2023-05-19

Read the column in Brussels Morning https://brusselsmorning.com/russias-tanking-economy-sanctions-begin-to-bite/32318/

A mere four months into 2023 and Russia’s entire forecast annual budget deficit is used up, conceded its beleaguered Ministry of Finance on May 10. The target of 2% of GDP in terms of shortfall looks like a pipedream.

Federal revenues shrank by a whopping 22% compared to the same period in 2022. The government’s intake amounted to slightly less than 12 billion USD per month, according to Moscow Times.

Compared to the same timeframe last year, the energy (oil and gas) sector endured a devastating plunge of 52% in its revenues during these months, to less than a total of 30 billion USD.

The meager 5.5% increase in income from the other, non-energy, sectors of the economy – a paltry 72 billion USD - could not offset this precipitous drop.

In the meantime, Moscow spent a mind-numbing 145 billion USD in the first four months of this year.

The ineluctable result: a budget deficit of 45 billion USD, one of the largest ever in the history of the country.

Russians would be surprised to learn that the economy is in trouble. 

Military manufacturing and explosive state spending camouflage the true dismal state of affairs. 

Nor did inflation rear its ugly head yet. But the central bank’s ability to cut rates will now be severely hampered, confronted as it is by this fiscal hemorrhaging. 

But the situation is bound to get much worse if energy prices remain depressed. The government’s attempts to rein in spending are laughable in the face of the military debacle in Ukraine.

Sanctions are beginning to bite as well.

Consider the agricultural sector: Russian Agricultural Bank (Russkolkhozbank) was booted from the SWIFT system; there is a ban on exports of agricultural machinery and spares to Russia; insurance of Russian ships and cargo is restricted as is access to many ports; the pipeline pumping ammonia from the Russian city of Togliatti to the Ukrainian port of Odesa is turned off; and the accounts of Russian fertilizer companies are frozen.

So, the two pillars of Russia’s defiant response to Western sanctions are crumbling: surging public spending and spiking oil revenues. 

When the USA and the EU imposed a price cap of 60 USD per barrel of Russian oil, Putin laughed it off. He is laughing no more. It proved to be surprisingly efficacious in cutting into Russia’s proceeds. 

Calling a halt to the war in Ukraine might actually make matters worse as military-industrial production winds down and soldiers are demobilized and rejoin the civilian workforce.

The only way out of this conundrum is a sharp rise in the prices of energy products in Eurasia’s markets. 

Fears of a global recession, struggling sectors of the economy in China (real estate) and in the West (banking), as well as a still stubborn inflation all portend ill as far as this scenario is concerned. 

But, ironically, the aforementioned price cap, coupled with OPEC+ (including Russian) production cuts can deliver this salvation by the end of this year. 

The adversaries of the Russian kleptocracy should not celebrate yet, though. Putin’s incentive to hang on to power via repression at home and military aggression abroad would be only buttressed as he is cornered into a nosediving, solipsistic economy. 

Regrettably, for numerous reasons, regime change should be ruled out as a strategic goal at this stage: both the West and Russia are not ready for it.
But there is call for innovative solutions to this quagmire, incentivizing prosocial behaviors rather than penalizing antisocial ones. 

Examples:

Western buyers can put aside the differential between the cap on Russian oil and its market price. This fund will be released to Russia only when the war ends and the regime changes. It will be used to defray the costs of demobilization and disarmament.  

Unraveling the sanctions regime must be tied to a roadmap of improving behavior on the part of Russia. 

Sanctions must be surgically waived on opposition figures, locales, and activities and, as gestures of goodwill, in response acts of defiance by oligarchs and siloviki who are targeted right now.

Similarly, grace periods on sovereign bond repayments and concessions on foreign direct investment (FDI) in Russia should comprise a carrot at least as substantial as the sanctions stick.

The conflict in Ukraine may well constitute a proxy war between the West and Russia. But it is also a veritable morality play, a clash of values and civilizations, and a defining moment as to the shape of things to come. A Russian meltdown is in no one’s interest.