The Underlying Problems in the Russian Economy
Despite over 1,000 global multinational corporations leaving the country plus sanctions being imposed, the Russian leadership has been “bigging up” the economy, but do their words really ring true? On closer inspection the apparent economic feel-good factor is down to the Russian government massively overspending, which has hidden restrictive monetary policy from the populous using intense fiscal stimulus. All is not rosy in the economic garden of Russia as experts suggest that the government is engaged in a spending spree that is completely unsustainable.
Analysts have shown that most of Russia’s human, production and financial resources have all been redirected to the defence sector in order to finance the President’s war with the Ukraine. This has left the civilian sector exceptionally short of resources, who have been struggling to meet the increasing demand from the consumer sector. Sadly, the disparity that now reigns within the Russian economy (funding the war at the expense of the rest of the economy) has seen inflation jump with added pressure coming from increasing costs of imports and the depreciation of the rouble. The prioritisation of military spending over everything else is essentially stifling innovation and damping down any long-term growth prospects.
Analysts suggest that Russia is indeed running out of reserves and estimate that the amount of liquid assets available for distribution is just shy of USD100 Billion. This shows that the war is eating heavily into Russian reserves built up from oil revenues in the first decade of the 21st century, despite new levies and increases in taxes across the whole economy. The largest contributor to revenue has, without a doubt, been the oil and gas sector, where experts estimate such contributions amount to circa 33% of total revenues. Regarding tax, a mineral extraction tax has been levied on the giants of the oil and gas industry and their only LNG producer Novatek now faces an increase in its corporate tax rate from 20% to 34%. Furthermore the Russian government will from January 1st, 2025, increase the overall corporate tax rate from 20% to 25%, the war effort now creeping into the bottom lines of all major Russian corporations.
The tax measures being taken by the Russian government in itself is not totally ruinous, but when combined with the withdrawal of virtually all global multinationals and sanctions it’s clear they are ruining any chances of critical investment vital to the future of the Russian economy. A number of key development projects such as the Arctic LNG-2* have been brought to a halt due to the lack of investment and the withdrawal of key international companies. The war effort is bleeding the private sector dry, especially in the area of wages, where they cannot compete with the defence sector.
*Arctic LNG-2 – Novatek reported that there had been a massive increase in capital expenditure of USD$4 Billion on this project as they had to turn to Chinese replacements of western equipment. Due to the virtual total withdrawal of international companies (Baker Hughes, Linde and Technip along with sanctions), this project has now come to a complete standstill.
Despite the political rhetoric, China has ceased helping Russia on the financial front with analysts advising that circa 80% of Russian transactions in Yuan are being reversed as fear of secondary sanctions have scared off Chinese financial institutions indicating the reluctance of engaging with Russia. Furthermore, experts report that important direct commodity payments between Russia and China are being frozen. On top of this interest rates are currently 18% and not stopping inflation. Government financial experts had expected with interest rates so high Indian and Chinese investors would flock to the marketplace, but such thinking is flawed as Russian assets are regarded as toxic. Finally, Russia is banned from the international capital markets so has no chance of raising funds from the global debt and equity markets. At this rate the entire financial structure of the Russian economy will become destabilised, and who knows what a bankrupt President Putin would do to alleviate the situation.
