When Russia invaded Ukraine two years ago, the West was quick to introduce economic sanctions against the country. The hope was to send Russia into an economic quagmire, to make it difficult to stay long in a costly war. Two years later, the Russian economy is in surprisingly good shape. Growth in the Russian economy, for example, is far stronger than in the Norwegian economy. Last year it grew by 3.6 per cent, despite extensive sanctions which, among other things, exclude the country from many of the largest global markets. Here at home, our economy grew by 0.7 per cent. In other words, there is little hope that a weak Russian economy will put a damper on the war. What on earth is going on? Russia was well prepared The West’s economic sanctions naturally did not come as a surprise to the Russian authorities, who had carried out stress tests in advance. The Western sanctions were nevertheless stronger than Russia had imagined. A powerful measure on the part of the West was to freeze foreign exchange reserves of well over NOK 3,000 billion, belonging to the Russian central bank. Russia responded, among other things, by introducing capital controls. Russian export companies, for example, had to put the majority of their income on account in Russian banks, and were thus forced to sell foreign currency and buy Russian rubles. In addition, they prevented foreign investors from withdrawing from Russian markets. And although the freezing of foreign exchange reserves was symbolically important, it was not particularly effective. As the Russian currency is floating, there is a limited need for foreign exchange reserves. If fixed exchange rates had been practiced, there would have been a completely different need for foreign exchange reserves to defend the currency. War economy Russia’s entire economy is now mobilized to support the war effort. Job number one is to produce as much equipment for the war as possible, and strengthen the nation’s war capability. A large part of the country’s economic resources, such as labour, industry and capital, are used for military needs rather than civilians. Both production and consumption change in order to have as many resources as possible available for the military and the war. Russia is now injecting huge sums of money into the economy, which is stimulating growth. Public spending in 2023 was around 350 billion dollars, or almost 3,700 billion kroner. There is a strong increase since the pre-war year 2021. The money goes to run the war itself on the front line, military material, the production of weapons, payments to the soldiers and payments to relatives of dead or injured soldiers. All this economic effort is causing the wheels of the Russian economy to turn quickly, in fact so quickly that inflation has become very high. One response to the high inflation has been to set the key interest rate up to around 16 per cent. Oil and gas It took a long time before the West actually stopped its purchases of Russian oil and gas. Over several years, Europe had built up a strong dependence on Russian energy. At the beginning of 2022, around 45 percent of the gas came to Europe through gas pipelines from Russia. The West has slowly but surely reduced its purchases of Russian hydrocarbons, but throughout 2022 euros, dollars and British pounds flooded into the Russian economy – helping to keep the war machine alive. In that way, Russia bought time to turn to other markets and new buyers of Russian oil and gas. Among the countries that are now buying are China and India. A Russian oil tanker is in port in Novorossiysk. The Western price ceiling of 60 dollars a barrel for Russian oil has been mostly symbolic. The picture was taken in October 2022. Photo: AP In addition, Russia has an extensive “shadow fleet” of oil tankers. The fleet consists of many hundreds of ships with mysterious and unidentifiable owners, which have succeeded in sending oil out of Russia and into Western countries. It is also not unusual for the oil to be moved from one ship to another, which makes it easier to hide where the oil comes from and thus avoid the sanctions. Russia’s income from oil and gas will indeed fall by 24 percent in 2023, to around NOK 1,000 billion, but much of that fall will be reversed this year as the country has found new markets. According to Reuters, Deputy Prime Minister Alexander Novak said in December that Russia’s exports to Europe have fallen to 4-5 percent, from the previous 40-50 percent. Half of the exports go to China, while the other half goes to India. According to Novak, even before the invasion, Russia began establishing ties with new buyers of Russian oil. – As for the restrictions and sanctions, they have only helped to strengthen and speed up the reorientation of our energy flow, Novak said. A high cost The billions injected into the Russian economy, however, have a cost beyond the pure sums. War economies are often characterized by the necessity of national survival and can lead to significant social and economic changes that can last long after the conflict is over. While they can lead to increased industrial production and sometimes technological advances, they can also result in inflation, resource shortages, and large public debt. Because spending a lot of money into an economy leads to high price growth, also in the Russian economy. The price increase is now just over 7 per cent. The International Monetary Fund (IMF) recently doubled its growth forecast for the Russian economy, to 2.6 percent. However, IMF chief Kristalina Georgieva points to some demanding long-term challenges. – This is a war economy that had a large buffer after many years of strong budgetary discipline. They invest in the war economy. If you look at Russia today, production for the military is going up, and consumption is going down. It is in many ways what the Soviet Union looked like, high production and low consumption, she said in an interview with CNBC recently. A wake-up call Russia’s surprising economic strength in the face of sanctions could also serve as a wake-up call for the West. The effectiveness of sanctions as a means of achieving political goals may be more limited than previously thought, particularly in a world where economic and geopolitical alliances are becoming increasingly complex. The question of how sustainable the Russian economy is will be central going forward. Russia has shown economic resilience and adaptability under pressure, but there is still reason to wonder how long such an economic strategy can be sustained without serious long-term consequences. The nature of the war economy consumes both resources and population, and while it may sustain military and economic activity in the short term, it risks undermining the foundations of long-term economic growth and social prosperity.
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The Russian war economy is in full swing – Statement
