Faisal Islam: Russia’s war economy cannot last but has bought time

BBC News:

It was March 2022. The Russian rouble crashed, the value in London of corporate giants Gazprom and Sberbank fell 97%. Queues began to form at cash machines in Moscow. Oligarchs’ yachts, football teams, mansions and even their credit cards were seized.

Russia crashed into a major recession.

This was the immediate result of the most extraordinary attempt by the West at financial containment of Russia after its invasion of Ukraine.

At its heart was the seizing of the Russian state’s official foreign exchange assets and, in particular, the unprecedented freezing of the central bank’s $300bn (£238bn) in reserves.

Western governments pointedly shied away from using phrases like “economic war”, but it certainly seemed like there was a financial theatre of battle with the Kremlin. It was better than the alternative of direct confrontation between nuclear states.

Some two years on and there is quite a change in this economic backdrop.

In a long and rambling interview this week, President Putin gleefully exclaimed Russia as the fastest growing economy in Europe.

Last week, the International Monetary Fund (IMF) underlined the resilience of the Russian economy when it upgraded its forecast growth for this year to 2.6% from 1.1%.

Based on the IMF’s figures, the Russian economy grew faster than the whole G7 last year, and will do so again in 2024.

These are not just numbers. The stalemate in Ukraine last year and the growing expectation of a frozen conflict on the ground across this year, has been underpinned by Russia’s remobilisation of its economy to its military effort, especially in the construction of defensive lines in the east and south of Ukraine.

Western leaders argue that this model is utterly unsustainable over the medium term. But the question is – for how long it can sustain?

Russia has transformed its economy into a mobilised war economy. The Russian state is spending a record in the post-Soviet era.

Military and security spending at up to 40% of the budget is back to late-Soviet era levels. Other areas of state support to the population have been squeezed to make up for funding the production of tanks, missile systems and those defences in occupied Ukraine.

On top of that, despite Western restrictions on Russian oil and gas, the flows of hydrocarbon revenues have kept coming into the state coffers.

The tankers are now going to India and China and more of the payments are in Chinese yuan rather than the US dollar.