Economy
Making the Economy Look Good Amid the War
December 6, 2023
Sergei Shelin
Journalist, independent analyst
Journalist Sergei Shelin writes that the regime is trying to simultaneously increase defense spending and raise living standards. However, these two goals can be achieved only for a short while and only at the expense of economic rationality.
Putin at the Valdai Forum, October 2023. Source: Wiki Commons
The Russian regime presents the current economy as a triumph that it masterminded. “We have completely gotten over the recession of last year and growth is picking up,” Putin told his loyal foreign guests at the Valdai Club.
Indeed, in the third quarter of 2023, Russian GDP, according to Rosstat, was up 5.5% year-on-year, and growth in real disposable household income came in at 5.1%.
It seems that the economic crisis of 2022 triggered by Western sanctions is already a thing of the past. Moreover, not only industrial indicators recovered, but even measures of living standards. Given the ongoing war, this looks like an economic miracle. A year and a half ago, at the beginning of the war against Ukraine, it seems that not a single expert foresaw anything like it.
Sanctions overcome
However, not all Russian analysts agree with the official GDP growth estimates. The MMI Telegram channel, which is considered close to the Central Bank, responded rather irritably to Rosstat’s triumphant reading: “it’s complete nonsense, of course. Games with deflators in the production of defense goods... For the year (i.e., for the whole 2023 – Shelin)they can roll out any figure.”
Indeed, such “games with deflators” – manipulating how last year’s prices are converted into current ones – were almost certainly played. This can be seen from indirect indicators. For example, loading volumes on railways are considered to well reflect the situation in industry and construction, and overall for the period January-November 2023 volumes remained at the same level as in 2022, while in November they decreased year-on-year.
In addition, even the rapid growth that actually took place across the economy in the last months of 2022 and at the beginning of 2023 stopped 5-6 months ago. Consumption and real wages (seasonally adjusted) have virtually stopped growing since June. Industrial production has stagnated since May. In the month of October, industrial output was 0.6% lower than five months earlier. At the same time, defense industries that produce machinery and equipment saw average monthly volumes up 14% versus the pre-war 2021.
“Although economic activity officially continues to increase, the balance of factors driving the prospects for the Russian economy’s further development is extremely contradictory and likely unsustainable,” sums up the government-linked Center for Macroeconomic Analysis and Short-Term Forecasting, whose analysis is considered relatively honest.
But what needs explanation now is not so much Russia’s economic problems (we shall discuss them below).
Indeed, in the third quarter of 2023, Russian GDP, according to Rosstat, was up 5.5% year-on-year, and growth in real disposable household income came in at 5.1%.
It seems that the economic crisis of 2022 triggered by Western sanctions is already a thing of the past. Moreover, not only industrial indicators recovered, but even measures of living standards. Given the ongoing war, this looks like an economic miracle. A year and a half ago, at the beginning of the war against Ukraine, it seems that not a single expert foresaw anything like it.
Sanctions overcome
However, not all Russian analysts agree with the official GDP growth estimates. The MMI Telegram channel, which is considered close to the Central Bank, responded rather irritably to Rosstat’s triumphant reading: “it’s complete nonsense, of course. Games with deflators in the production of defense goods... For the year (i.e., for the whole 2023 – Shelin)they can roll out any figure.”
Indeed, such “games with deflators” – manipulating how last year’s prices are converted into current ones – were almost certainly played. This can be seen from indirect indicators. For example, loading volumes on railways are considered to well reflect the situation in industry and construction, and overall for the period January-November 2023 volumes remained at the same level as in 2022, while in November they decreased year-on-year.
In addition, even the rapid growth that actually took place across the economy in the last months of 2022 and at the beginning of 2023 stopped 5-6 months ago. Consumption and real wages (seasonally adjusted) have virtually stopped growing since June. Industrial production has stagnated since May. In the month of October, industrial output was 0.6% lower than five months earlier. At the same time, defense industries that produce machinery and equipment saw average monthly volumes up 14% versus the pre-war 2021.
“Although economic activity officially continues to increase, the balance of factors driving the prospects for the Russian economy’s further development is extremely contradictory and likely unsustainable,” sums up the government-linked Center for Macroeconomic Analysis and Short-Term Forecasting, whose analysis is considered relatively honest.
But what needs explanation now is not so much Russia’s economic problems (we shall discuss them below).
“What is important is the incontrovertible fact that the Russian economy actually overcame Western sanctions and did so much faster and smoothly than anyone had expected.”
The embellished official numbers do not change this fact.
As we learned, Russia can even do without huge earnings from oil sales. After all, current oil prices are not so favorable for Russia: Urals sold for $62.9 per barrel in January-November 2023 versus $78.3 per barrel in January-November 2022, while energy export volumes are decreasing.
It’s time to recognize the importance of other factors that were usually missed back in February-March 2022.
The muscles of the Putin economy
Andrei Yakovlev, an expert on Russian industrial policy and relations between business and government, believes that the standard theoretical models on which international sanctions were based did not work due to policymakers’ failure to take into account “behavioral factors associated with previous experience, the expectations and the incentives of economic agents.”
When sanctions hit, the Russian economy was helped, in his view, by the robustness of local business, which is “always ready for the worst,” as well as the underrated market acumen of all firms, including state-owned ones, and increased competence on the part of bureaucrats, who quickly made appropriate decisions.
Separately, Yakovlev notes that “the sanctions and pressure on Russia were taken as a personal, professional challenge.”
To call these feelings that gripped the Russian business and official class a patriotic upsurge would be an exaggeration. Nevertheless, many signs point to the fact that overcoming the countless issues associated with the sanctions would have been impossible without the enormous efforts made in 2022 by owners and managers.
The desire to save themselves and their firms was intertwined with the motivation to reap the benefits of the exit of Western firms from Russian markets and reinforced by the hopes that “all this stuff will go away soon.” By the end of 2022, dreams of a return to normal faded, but the job was done: the Russian economy had somehow adapted to living under sanctions.
Financial expert Alexandra Prokopenko has studied the psychology of senior Russian officials and emphasizes that the anticipation of crises by government technocrats and financiers had long become permanent: “for the past 15 years, the authorities have managed the economy in crisis mode, even when it was not in crisis. The country’s constant readiness for shocks and the succession of crises that the Russian economy has faced have produced a habit of adopting ad hoc management practices.”
For the Putin economy, anti-crisis practices are the norm and even routine.
As we learned, Russia can even do without huge earnings from oil sales. After all, current oil prices are not so favorable for Russia: Urals sold for $62.9 per barrel in January-November 2023 versus $78.3 per barrel in January-November 2022, while energy export volumes are decreasing.
It’s time to recognize the importance of other factors that were usually missed back in February-March 2022.
The muscles of the Putin economy
Andrei Yakovlev, an expert on Russian industrial policy and relations between business and government, believes that the standard theoretical models on which international sanctions were based did not work due to policymakers’ failure to take into account “behavioral factors associated with previous experience, the expectations and the incentives of economic agents.”
When sanctions hit, the Russian economy was helped, in his view, by the robustness of local business, which is “always ready for the worst,” as well as the underrated market acumen of all firms, including state-owned ones, and increased competence on the part of bureaucrats, who quickly made appropriate decisions.
Separately, Yakovlev notes that “the sanctions and pressure on Russia were taken as a personal, professional challenge.”
To call these feelings that gripped the Russian business and official class a patriotic upsurge would be an exaggeration. Nevertheless, many signs point to the fact that overcoming the countless issues associated with the sanctions would have been impossible without the enormous efforts made in 2022 by owners and managers.
The desire to save themselves and their firms was intertwined with the motivation to reap the benefits of the exit of Western firms from Russian markets and reinforced by the hopes that “all this stuff will go away soon.” By the end of 2022, dreams of a return to normal faded, but the job was done: the Russian economy had somehow adapted to living under sanctions.
Financial expert Alexandra Prokopenko has studied the psychology of senior Russian officials and emphasizes that the anticipation of crises by government technocrats and financiers had long become permanent: “for the past 15 years, the authorities have managed the economy in crisis mode, even when it was not in crisis. The country’s constant readiness for shocks and the succession of crises that the Russian economy has faced have produced a habit of adopting ad hoc management practices.”
For the Putin economy, anti-crisis practices are the norm and even routine.
“Given its myriad protective mechanisms and far-reaching rejection of rules and institutions, long-term economic growth is impossible in Russia, but a rapid collapse of the economy is also unlikely.”
Goat milk for sale in a Perekrestok supermarket. Source: Wiki Commons
The financial and economic wing of the Russian government lived in anticipation of shocks, which, like a self-fulfilling prophecy, appeared in the sanctions of 2022. Though Putin’s decision to attack Ukraine came as a surprise to technocrats, they got exactly what they had instinctively prepared for. Thus, their response turned out more rapid and adequate than the crafters of the sanctions had expected.
Yet in mid-2023, after the sanctions-induced economic crisis was more or less overcome, the financial policy of the Russian authorities took an unexpected turn.
The logic of war and the regime’s irrationality
The invasion of Ukraine made the militarization of the Russian economy inevitable. According to analyst Boris Grozovsky, Russia’s total defense spending in 2022 amounted to RUB 8.4 trillion ($125 billion), while in 2023 it is set to rise to RUB 13.3 billion ($160 billion), or 40% of all budget expenditures. This is two and a half times the size of the defense budget in the pre-war 2021 ($66 billion).
In 2024, just official defense spending is penciled in to rise to RUB 10.4 trillion, while if the total figure remains at 40% of all budget expenditures, it will reach RUB 14.7 trillion (more than $160 billion). But since the beginning of the war defense spending has consistently been overbudget, so we can expect that 2024 defense outlays will significantly exceed even this year’s record figure.
The logic of militarization requires that higher defense spending be offset with cuts in nondefense expenditures or through a tax on citizens in the form of higher inflation, or both.
Russia’s financial elite are accustomed to Vladimir Putin’s improvisations being the main crisis factor that they must fear and adapt to.
Judging by official plans from a year ago, they had been hoping that defense spending in 2023 would be about the same as in 2022. By June, they realized that the ruler had decided otherwise, and they began to advocate a reduction in social spending, euphemistically calling it “prioritization.“ By August, seeing that Putin’s military appetite continued to grow, they were perhaps ready to tolerate even a surge in inflation. It was here that their rationality ran into a brick wall.
Yet in mid-2023, after the sanctions-induced economic crisis was more or less overcome, the financial policy of the Russian authorities took an unexpected turn.
The logic of war and the regime’s irrationality
The invasion of Ukraine made the militarization of the Russian economy inevitable. According to analyst Boris Grozovsky, Russia’s total defense spending in 2022 amounted to RUB 8.4 trillion ($125 billion), while in 2023 it is set to rise to RUB 13.3 billion ($160 billion), or 40% of all budget expenditures. This is two and a half times the size of the defense budget in the pre-war 2021 ($66 billion).
In 2024, just official defense spending is penciled in to rise to RUB 10.4 trillion, while if the total figure remains at 40% of all budget expenditures, it will reach RUB 14.7 trillion (more than $160 billion). But since the beginning of the war defense spending has consistently been overbudget, so we can expect that 2024 defense outlays will significantly exceed even this year’s record figure.
The logic of militarization requires that higher defense spending be offset with cuts in nondefense expenditures or through a tax on citizens in the form of higher inflation, or both.
Russia’s financial elite are accustomed to Vladimir Putin’s improvisations being the main crisis factor that they must fear and adapt to.
Judging by official plans from a year ago, they had been hoping that defense spending in 2023 would be about the same as in 2022. By June, they realized that the ruler had decided otherwise, and they began to advocate a reduction in social spending, euphemistically calling it “prioritization.“ By August, seeing that Putin’s military appetite continued to grow, they were perhaps ready to tolerate even a surge in inflation. It was here that their rationality ran into a brick wall.
“Putin demanded that the rise in defense spending should be accompanied by a rise in living standards, while the ruble should not fall and inflation should stop accelerating.”
It is possible to solve all these problems at once only by abandoning economic rationality to a significant degree; however, in Russia Putin’s orders outweigh the laws of economics.
The ruble has obeyed, but prices not so much
The best forces of the regime were thrown into the battle: Rosstat with its virtuoso methods of doctoring data; the Central Bank with a super-high key interest rate (over four months it was doubled from 7.5% to 15.0%); the Ministry of Finance with freshly invented taxes and “contributions,” as well as continuous adjustments to the so-called fiscal rule so as to manipulate the ruble exchange rate; and parastatal exporters, which were ordered to put aside the profit motive and send all their FX earnings to the domestic market.
The fall of the ruble was indeed halted. In early October, the exchange rate sometimes exceeded the psychologically important mark of 100 rubles per dollar, but since mid-November it has held below 90 rubles per dollar. This was mainly attributable to a surge in net FX sales by exporters.
In the first six months after the start of the war, in March-September 2022, these sales amounted to about $20 billion per month, with the ruble appreciating to record levels. Then net sales fell, fluctuating between $7 billion and $10 billion per month in the first nine months of 2023. A rising portion of FX earnings simply remained abroad. Against this backdrop, the ruble steadily depreciated.
But since mid-October 2023, net sales, after the authorities pressured exporters, have risen almost to the peaks of 2022. The ruble, obeying Putin’s order, began to strengthen, though it is still far from the exchange rate of January 2023 (70 rubles per dollar).
Less fortunate was the Central Bank, which was ordered to curb inflation. SAAR inflation (annualized and adjusted for seasonality) came in at 10.1% in July, 9.3% in August, 14.6% in September, 9.9% in October and 12.0% in November.
Inflation did not react to the measures of the authorities and is approximately triple the 4% target of the Central Bank.
The ruble has obeyed, but prices not so much
The best forces of the regime were thrown into the battle: Rosstat with its virtuoso methods of doctoring data; the Central Bank with a super-high key interest rate (over four months it was doubled from 7.5% to 15.0%); the Ministry of Finance with freshly invented taxes and “contributions,” as well as continuous adjustments to the so-called fiscal rule so as to manipulate the ruble exchange rate; and parastatal exporters, which were ordered to put aside the profit motive and send all their FX earnings to the domestic market.
The fall of the ruble was indeed halted. In early October, the exchange rate sometimes exceeded the psychologically important mark of 100 rubles per dollar, but since mid-November it has held below 90 rubles per dollar. This was mainly attributable to a surge in net FX sales by exporters.
In the first six months after the start of the war, in March-September 2022, these sales amounted to about $20 billion per month, with the ruble appreciating to record levels. Then net sales fell, fluctuating between $7 billion and $10 billion per month in the first nine months of 2023. A rising portion of FX earnings simply remained abroad. Against this backdrop, the ruble steadily depreciated.
But since mid-October 2023, net sales, after the authorities pressured exporters, have risen almost to the peaks of 2022. The ruble, obeying Putin’s order, began to strengthen, though it is still far from the exchange rate of January 2023 (70 rubles per dollar).
Less fortunate was the Central Bank, which was ordered to curb inflation. SAAR inflation (annualized and adjusted for seasonality) came in at 10.1% in July, 9.3% in August, 14.6% in September, 9.9% in October and 12.0% in November.
Inflation did not react to the measures of the authorities and is approximately triple the 4% target of the Central Bank.
“The issue is that pensions and budget payments continue to be indexed for inflation, while wages at private firms are rising due to the labor shortage.”
A street in the Russian city of Tver. Source: Wiki Commons
Thus, the “inflation tax,” which usually forces people to tighten their belts, is now not close to being fully in effect.
With all the levers they have, the authorities are forestalling a decline in living standards, though in the medium term a decline is inevitable. The reasons for this transitory sensitivity of the regime to the needs of its subjects are not as obvious as one might think.
A show for one
It is believed that the authorities are thus paving the way for Putin’s next reelection, scheduled for March 2024. The logic is that if they do not appease the population, then some turbulence might pop up during the reelection campaign, even leading to street protests.
Yet anyone familiar with Russian affairs knows that the regime can count on the obedience of the population and has no reason to fear the people. If anything can shake things up, it would only be a new mobilization drive, but certainly not a decrease in household income by a couple percent.
Declines in living standards in 2009 due to the global financial crisis, in 2015-16 due to falling oil prices and in 2020 due to the pandemic did not create any major problems for the authorities.
The system of compensating those who are needed for the war and their families was well established last year. The plight of everyone else should not be a big worry. Not to mention that the election will obviously be rigged.
The excited declamations of officials that “the ruble exchange rate and inflation must be stabilized before the elections” do not reflect their fear of imaginary popular protests. They are not afraid of the people at all. “The president has a fetish for inflation,” explains an anonymous Putin administration official, “and he does not like the [current] exchange rate.”
Putin’s Russia has long become a show for one. And the vigorous efforts of the financial and economic elite are not being made to please the masses; these officials are catering to Putin’s fetishes and obsessions. The ruler really cannot stand high inflation and a weak ruble. After all, these signs of trouble are reminiscent of the 1990s, which his propaganda calls “cursed” and “wild.” In addition, the March “elections” themselves are a real event for Putin. Unlike the Russian people, he takes the ritual of his reelection seriously.
We can assume that when the “elections” are over, economic forces will be allowed to take effect again, Russians will have to tighten their belts and Putin will order another performance for himself. Perhaps featuring the army.
With all the levers they have, the authorities are forestalling a decline in living standards, though in the medium term a decline is inevitable. The reasons for this transitory sensitivity of the regime to the needs of its subjects are not as obvious as one might think.
A show for one
It is believed that the authorities are thus paving the way for Putin’s next reelection, scheduled for March 2024. The logic is that if they do not appease the population, then some turbulence might pop up during the reelection campaign, even leading to street protests.
Yet anyone familiar with Russian affairs knows that the regime can count on the obedience of the population and has no reason to fear the people. If anything can shake things up, it would only be a new mobilization drive, but certainly not a decrease in household income by a couple percent.
Declines in living standards in 2009 due to the global financial crisis, in 2015-16 due to falling oil prices and in 2020 due to the pandemic did not create any major problems for the authorities.
The system of compensating those who are needed for the war and their families was well established last year. The plight of everyone else should not be a big worry. Not to mention that the election will obviously be rigged.
The excited declamations of officials that “the ruble exchange rate and inflation must be stabilized before the elections” do not reflect their fear of imaginary popular protests. They are not afraid of the people at all. “The president has a fetish for inflation,” explains an anonymous Putin administration official, “and he does not like the [current] exchange rate.”
Putin’s Russia has long become a show for one. And the vigorous efforts of the financial and economic elite are not being made to please the masses; these officials are catering to Putin’s fetishes and obsessions. The ruler really cannot stand high inflation and a weak ruble. After all, these signs of trouble are reminiscent of the 1990s, which his propaganda calls “cursed” and “wild.” In addition, the March “elections” themselves are a real event for Putin. Unlike the Russian people, he takes the ritual of his reelection seriously.
We can assume that when the “elections” are over, economic forces will be allowed to take effect again, Russians will have to tighten their belts and Putin will order another performance for himself. Perhaps featuring the army.
Share this article
Read More
