Russia faces ‘economic oblivion’ despite short-term resilience

Russian President Vladimir Putin attends a meeting with parliamentary leaders in Moscow, Russia, on July 7, 2022.

Alexei Nikolsky | Sputnik | Reuters

Russia faces long-term “economic oblivion” due to international sanctions and corporate flight, several economists have said.

The International Monetary Fund last week increased Russia’s 2022 gross domestic product estimate by 2.5 percentage points, meaning the economy is expected to shrink by 6% this year. According to the IMF, the economy appears to be weathering the barrage of economic sanctions better than expected.

The Central Bank of Russia surprised markets in late July by cutting its key interest rate to 8%, below pre-war levels, citing cooling inflation, a strong currency and the risk of a recession.

The ruble recovered from historic early losses in the wake of the invasion of Ukraine and became a top performer in the global foreign exchange market this year, prompting Russian President Vladimir Putin to declare Western sanctions had failed.

Meanwhile, Russia has continued to export energy and other commodities while exploiting Europe’s reliance on its gas supplies.

However, many economists see long-term costs to the Russian economy from the exit of foreign companies – which will hit production capacity and capital and result in a “brain drain” – along with the long-term loss of its oil and gas markets and reduced access to critical inputs of technology and inputs.

Ian Bremmer, president of Eurasia Group, told CNBC on Monday that while the short-term disruptions from sanctions are less than originally expected, the real debate extends beyond 2022.

“Anecdotal evidence suggests that manufacturing dislocations are increasing as supplies run out and scarcity of foreign parts becomes binding. Chips and transportation are among the mentioned sectors, in some cases due to dual-use military demand,” Bremmer said.

“Government arrears can contribute to wider deficits. Imports of consumer goods are increasing, but fewer intermediate and investment goods.”

Bremmer stressed that as sanctions mount and discontent among the population grows, the skilled are leaving Russia, underscoring the importance of trade sanctions on sensitive technologies and the “longer timeline by which sanctions undermine trend productivity and growth”.

“Brain drain leads to a direct decline in the working-age population, especially high-productivity workers, causing a drop in GDP,” he said.

“It affects overall productivity, reduces innovation and erodes general confidence in the economy, reducing investment and savings.”

Eurasia Group predicts a sustained, prolonged decline in economic activity that will eventually result in a 30-50% contraction of Russian GDP from pre-war levels.

‘Catastrophically crippling’

A Yale University study published last month, analyzing high-frequency consumer, trade and shipping data that the author claims paints a more truthful picture than the Kremlin presents, argued that rumors of Russia’s economic survival have been greatly exaggerated. goods.

The paper suggested that international sanctions and an exodus of more than 1,000 global companies are “catastrophically crippling” Russia’s economy.

“Russia’s strategic positioning as a commodities exporter has irrevocably deteriorated as it now faces the loss of its former key markets from a weak position and faces major challenges in executing a ‘pivot to Asia’ with non-replaceable exports like pipelines,” Yale economists said.

They added that despite some “ongoing leakage”, Russian imports “have largely collapsed”, with Moscow now facing challenges in securing inputs, parts and technology from increasingly jittery trading partners and, as a result, widespread supply shortages in its domestic economy.

“Despite Putin’s delusions about self-sufficiency and import substitution, Russia’s domestic production has come to a complete standstill without the ability to replace lost companies, products and talent; the erosion of Russia’s domestic innovation and manufacturing base has led to rising prices and consumer fears.” , the report said.

“As a result of the corporate withdrawal, Russia has lost companies representing ~40% of its GDP, undoing nearly all three decades of foreign investment and an unprecedented simultaneous flight of capital and population in a mass exodus of Russia’s economic economy. base.”

No way out of ‘economic oblivion’

The apparent resilience of the Russian economy and the ruble’s resurgence were largely attributed to rising energy prices and strict capital control measures – implemented by the Kremlin to limit the amount of foreign currency leaving the country – along with sanctions limiting the country’s import capacity. .

Russia is the world’s largest exporter of gas and the second largest exporter of oil, so the blow to GDP from the war and associated sanctions has been softened by high commodity prices and Europe’s continued reliance on Russian energy for the time being.

Russia has now eased some of its capital controls and cut interest rates in an effort to lower the currency and bolster its fiscal account.

Putin is resorting to clearly unsustainable, dramatic fiscal and monetary interventions to correct these structural economic weaknesses that have left his government budget in deficit for the first time in years and depleted his foreign reserves, even with high energy prices – and the The Kremlin’s finances are in much, much more trouble than is conventionally understood,” Yale economists said.

They also noted that Russia’s domestic financial markets have been the world’s worst performing markets so far this year, despite tight capital controls, with investors taking into account “ongoing, ongoing weakness within the economy with liquidity and credit contraction,” along with the effective exile of Russia. of international financial markets.

“Looking ahead, there is no way out of economic oblivion for Russia as long as the allied countries remain united in maintaining and increasing sanctions against Russia,” the report concluded.

“Defeatist headlines claiming that the Russian economy has recovered just isn’t factual – the facts are that, by any measure and at whatever level, the Russian economy is reeling, and now is not the time to put the brakes on. to kick.”

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