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Conflict

How Russia Has Weathered Sanctions and Kept Its Economy Afloat

by Press Xpress October 11, 2024
written by Press Xpress October 11, 2024
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Following Russia-Ukraine war that started on February 2022, countries mainly US allies imposed a sweeping array of sanctions to cripple Russia’s vast economy and its war machine.

The U.S. has expanded its Specially Designated Nationals and Blocked Persons List, which blocks assets and prevents American businesses from engaging with blacklisted entities. These sanctions have targeted sectors like finance and energy, critical to Russia’s revenue.

Secondary sanctions have also been applied, pressuring third-party nations and businesses to avoid transactions with Russia. While effective, these measures are politically sensitive, given that the targeted firms often operate legally in their home countries. In addition to financial restrictions, export controls have limited Russia’s access to key military technologies, aiming to weaken its war efforts.

However, despite coordinated Western efforts, the impact on Russia’s war capacity remains limited, with the country showing resilience that has defied expectations.

In fact, Russia has transitioned from an upper-middle-income to a high-income economy, as classified by the World Bank in July 2023. This shift came as a surprise to many, given the scale of the sanctions, which were anticipated to cripple the Russian economy.

Although predictions from the International Monetary Fund (IMF) suggested an 8.5% GDP contraction in 2022, Russia’s economy only shrank by 2.1%. Analysts had expected greater damage, yet Russia has steadily rebounded, showcasing growth in 2023 and a projected 2.6% increase in GDP for 2024.

Moreover, the country’s real disposable income dropped by just 1% in 2022 compared to pre-war levels, a minimal decline compared to previous crises like the COVID-19 pandemic. This reflects the effectiveness of Russia’s sanctions-proofing measures.

Import Fluctuations and Resilience

Initially, sanctions appeared to have taken a toll. In 2022, Russia’s inflation rate surged from 6.7% to 13.8%, and GDP dropped between 3% and 4% within nine months. Yet, with inflation now expected to fall to 6.3% in 2024, Russia’s resilience has frustrated expectations.

Experts note that sanctions often lose potency over time, especially if enforcement is inconsistent. Without stringent enforcement, sanctions become less effective, and Russia’s ability to adapt has underscored this reality.

The Brussels-based think tank Bruegel estimates that imports fell by 50% during the first four months post-invasion compared to pre-war figures. However, by the end of 2022, the Russian central bank reported an 8% decline in imports for the year, while independent researchers suggested a drop of around 15-16%. By 2023, imports had returned to 99.7% of pre-war levels, indicating a strong recovery.

Source: Importgenuius

To cope, Russia turned to parallel imports, allowing the unauthorized import of goods—a strategy used by other nations like Japan and the UK. This workaround has helped Russia maintain a flow of goods, easing the economic pressure.

Russia’s “Fortress” Strategy

Moscow began its sanctions-proofing measures after the 2014 annexation of Crimea, implementing a strategy known as “Fortress Russia.” This plan involved building foreign exchange reserves and reducing dependence on Western currencies, particularly the dollar.

Russia has been accumulating international reserve and reducing foreign debt

Russia has also employed import substitution, strengthened foreign partnerships, and diversified its economic networks to mitigate sanctions. Cultivating alliances with countries that ignore or oppose Western sanctions—such as China—has proven especially useful.

Key Factors Behind Russia’s Economic Resilience

Russia’s economy remains resilient, defying predictions of a collapse amid heavy sanctions. The IMF’s recent report even hints at economic “overheating,” a scenario that might unsettle Western policymakers. Although Russia’s robust defense spending plays a role, several other factors underpin its unexpected stability.

In 2022, the Russian economy contracted by just 1.2%, with a surprising rebound in 2023, when GDP grew by 3.6%. Here are five key reasons why Russia’s economy has managed to withstand the storm:

1. Lenient Energy Sanctions

Western sanctions on Russia’s energy sector have not been as stringent as those on Iran or Venezuela, offering Russia some leeway. This approach allowed Moscow to continue oil exports without sparking a global surge in oil prices. Although exports to Western Europe have declined, China and India have absorbed much of the displaced supply.

The IMF reports that Russia’s oil export revenues remain high, with global prices elevated and discounts on Russian oil now less steep. This helps sustain Russia’s economy, despite the sanctions.

2. Resilient Corporate Investment

Corporate investments recovered significantly in 2023, contributing an estimated 4.5 percentage points to GDP growth. As Western sanctions spurred retooling, Russian companies increasingly invested in domestic production to replace imports. Some multinational corporations have even stayed, anticipating that the war and sanctions may eventually end.

3. Strong Private Consumption

Russia’s private consumption bounced back, adding 2.9 percentage points to GDP growth in 2023. Record-low unemployment of 3% and rising wages have boosted consumer spending. The military recruitment model, relying on monetary incentives, has also supported the labor market and consumer confidence.

Russia’s economy: Contributions to GDP Growth
2020202120222023
GDP–2.76.0–1.23.6
Private Consumption–3.06.1–0.62.9
Public Consumption0.40.40.50.6
Gross Capital Formation–1.02.80.34.5
Net Exports1.3–3.1–1.1N/A
Sources: Federal State Statistics Service for the Russian Federation; Haver Analytics; and IMF staff calculations; N/A = not available

4. Moderate Government Spending

Government spending, primarily on defense, has grown, adding 1.2 percentage points to GDP growth in 2023. Defense spending is estimated at 7% of GDP, which has limited other real-term fiscal increases but sustained public services and the economy overall.

5. Experience with Sanctions

Russia had been under financial sanctions since 2014, giving Moscow time to adapt. The Central Bank, led by Governor Elvira Nabiullina, has employed hawkish monetary policies to stabilize the economy. In response to increased economic activity, the Central Bank raised interest rates from 7.5% to 16%, a move expected to dampen future growth. However, the IMF projects a deceleration to around 2.6% annualized growth for 2024.

China’s Role in Russia’s Sanctions Evasion

China’s economic partnership has been crucial to Russia’s resilience. Throughout the Ukraine conflict, Beijing has balanced its relationship with Moscow while maintaining ties with the West. As a result, China has avoided imposing sanctions and has filled the trade void left by Western nations.

In 2023, around half of Russia’s oil exports were directed to China. Additionally, China’s exports to Russia, particularly electronics, surged as Western companies exited the Russian market. This bolstered bilateral trade that had been growing since Xi Jinping’s ascent to power.

Still, recent EU sanctions targeting Chinese firms that trade with Russia signal potential challenges. China, which values its ties with the EU and the U.S., may eventually feel pressured to distance itself from Russia if sanctions intensify.

The Role of Other Allies

North Korea and Iran have also supported Russia’s sanctions evasion. North Korea allegedly supplies missiles, while Iran has provided drones for use in Ukraine. Western nations have engaged in sanctions-busting too, with reports indicating $2.6 billion worth of electronics made their way to Russia, including products from Intel and Texas Instruments.

Enforcement gaps have enabled Russia to obtain critical components for high-tech weaponry, revealing weaknesses in the West’s sanctions regime.

In conclusion, Russia has proven adept at sidestepping restrictions, leveraging alliances, and building alternative supply chains amid ongoing war. As Russia’s economy defies Western predictions, the effectiveness of sanctions depends on international unity and resolve. Whether these measures can significantly impact Russia’s capacity to sustain its war efforts remains an open question.

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