One year into Russia’s full-scale invasion of Ukraine — and the massive sanctions response imposed by the democratic world — the Kremlin has effectively deployed shrewd monetary management, windfall revenues, staggered effects on industry, and exploitation of gaps in sanctions enforcement to “flatten the curve” of the crisis. The result, however, will be no less devastating.
Instead of a sharp and sudden crisis, Russia will get something protracted and less acute – but which will severely impact its economy. Bloomberg estimates that the crisis shaves $190bn from the economy relative to its pre-war trajectory until 2026, and it is expected to produce less, at higher costs and lower quality for the foreseeable future.
For an autocratic government focused on minimizing short-term domestic political risks while maintaining high military spending, the ability to dampen the immediate impact of sanctions is a strategic asset. However, sanctions and Russia’s response have exposed and exacerbated the pre-existing structural weaknesses of the economy and its governance structures. The result is not just that sanctions have made it much costlier to continue feeding its war machine, by limiting access to advanced technology and by making trade more expensive, but has also forced it to confront decisions that its peculiar system of governance is ill-equipped to handle.
Sanctions exposed the industry’s high dependence on imported parts and technology, and the country’s Western-oriented trade infrastructure. This is evident from the major problems suffered last year by industries most exposed to these: the production of motor vehicles and trucks was down by 47.4%; medication by 30.7%; steel output by 5.5%; and coal exports by 7.5%. While vastly increased government spending boosted annual GDP figures, annualized economic contraction in the third quarter was 4%, and will likely get worse before it gets better. This has already started to affect budgetary revenues through a drop in corporate income tax and, more recently, lower oil and gas revenues. This comes even as federal and regional budgets will have to keep spending heavily in the coming months.
It is costly to pivot the economy eastwards in order to fight in the west. With eastern railroad lines now more heavily used for imports as well as exports, and with several industries, from metallurgy to timber and manufacturing competing for the same finite capacities, the rail system has become a veritable choke point and a source of conflict. Expansion of rail capacity, however, is itself delayed due to sanctions, leading to unpopular tariff hikes. Alternatives, from road construction to the development of the Northern Sea Route (already a priority before the invasion), are time-consuming, technology-intensive, costly, and hindered by the war. Road construction funds are already being cut and projects are postponed.
Russia faces a similar conundrum in reorienting its gas exports to Asia. It lacks sufficient eastward export infrastructure, requiring either time-consuming pipeline construction or technology-intensive development of liquefied natural gas (LNG) exports. Even oil exports, which are fungible and easier to reorient than gas, are not a Kremlin success story. Production cuts forced by trade sanctions mean that oil production may already have peaked. Again, the war supercharged processes that had already started, but much more slowly. This has caught decision-makers off guard.
The problem is not only that Russia’s political leadership has to juggle heavily frontloaded long-term projects, but also that the political leadership remains distracted by short-term concerns. Many of the fiscal aid measures proposed in 2022 to help businesses and citizens were sticking plasters. In budgetary planning for 2023-25, capital investments were sacrificed so that the government could raise military and domestic security services expenditure by close to or more than 50%, a much more short-term concern. The apparent preference for extracting the maximum from businesses now, even if it weighs down investments — for example, enacting an extraordinary tax on Gazprom; pressuring businesses to cough up a “one-off” contribution of 300bn rubles, or $3.9bn, this year; setting a “discount cap” on oil exporters, from which the government expects 600bn rubles — does not exactly scream careful long-term planning.
Once again, this is not a bug but a long-standing feature of Russian policymaking. For the past decades, technocrats have had shrinking control of policies: their role has been increasingly reduced to mitigation, that is producing ideas and ensuring adopted policies were implemented with a degree of efficiency.
Nowadays, this depends almost entirely on the impulses of the man at the top and the strongly filtered information that reaches him. And he seems to be assuming two things about the current situation: that there is no alternative to the war; and that quite soon, Russia will outlast the West. The first belief locks in a huge amount of priorities in governance and spending; the second commit the government to sticking-plaster solutions with no long-term outlook in mind.
András Tóth-Czifra is a Fellow at the Foreign Policy Research Institute (FPRI) and a former Non-resident Fellow at the Center for European Policy Analysis (CEPA). He is a political analyst based in New York City.
Europe’s Edge is CEPA’s online journal covering critical topics on the foreign policy docket across Europe and North America. All opinions are those of the author and do not necessarily represent the position or views of the institutions they represent or the Center for European Policy Analysis.
