Sometime in the mid-1990s, British Prime Minister John Major reportedly asked Russian President Boris Yeltsin to describe the Russian economy in one word. Yeltsin replied, “Good.” Seeking greater detail, Major asked Yeltsin if he could describe it in two words. Yeltsin replied, “Not good.”
While this old joke is probably a myth, the current state of the Russian economy matches that “not good” of lore, and its prospects of getting better any time soon look dubious -- and this could lead to a serious geopolitical altercation.
After the collapse of the Soviet Union, Russia’s gross domestic product declined by 40 percent during the 1990s. Then, from 1999 to 2008, Russia’s GDP grew by roughly 7 percent per year, almost doubling in size in nine years. Floating on a sea of hydrocarbons, this was the high-water mark of the Russian economy.
At the end of the decade, during the global financial crisis, Russia’s economy contracted approximately 8 percent. In an attempt to preserve the ruble’s value as capital was fleeing the country, the Central Bank of Russia aggressively intervened. But in the process, it lost more than $200 billion of foreign-exchange reserves in a matter of months.
Although Russian economic growth slowed dramatically well before energy prices plunged and economic sanctions were imposed over Russia’s invasion of Ukraine, lower energy prices have obviously taken their toll. Russia is a petro-state. Half of its budget revenues come directly from taxes on oil and gas, and approximately 70 percent of Russia’s export revenues come from hydrocarbons.
Over the past two years, energy revenues have shrunk from more than 7 trillion rubles in 2014 (about $200 billion at that year’s exchange rate) to an estimated 6 trillion rubles in 2016, or about $80 billion at the current exchange rate.
Western sanctions have crippled the ability of Russian financial institutions and companies to borrow money from abroad -- not just from the United States, but from all over the world. Not even the Chinese are lending the Russians a renminbi. According to data from the Economist Intelligence Unit, the deprivation of capital has shrunk Russia’s gross fixed investment from $197 billion in 2012 to an estimated $126 billion in 2016.
Russia’s economy is suffering in other areas as well. In 2015, inflation reached 13 percent, with food inflation considerably higher. The ruble’s exchange rate is now roughly half of what it was just two years ago. The Russian stock market has fallen to just over one-quarter of its 2008 peak (denominated in dollars).
Capital has fled from the Kremlin. Since 2011, Russia has been losing 4-8 percent of GDP annually in capital outflows.
According to the World Bank, real incomes shrank 9.5 percent in 2015, and the number of those living below the poverty level was projected to grow in 2016 at its fastest rate since the 1998 crisis. The World Bank estimates that the number of people living in poverty in Russia will increase to more than 20 million this year, in a country with a population of 140 million. That’s the highest number in nine years.
So far, Russia has been able to rely on reserves built up over almost a decade of high oil prices to minimize the impact on its official budgets. But the Reserve Fund dropped to $44.9 billion this month -- its lowest point in four years and down from about $90 billion two years ago.
Interestingly, the World Bank and the International Monetary Fund have praised Russia’s government and central bank for their handling of the economic crisis. Kudos were extended to Russia for avoiding a colossal deficit in its energy-dependent budget by allowing the ruble to depreciate by 60 percent against the dollar in 2015. In addition, federal spending (outside of defense outlays) was controlled.
While controversial, the Central Bank of Russia received good marks for moving to a floating exchange rate. In 2015 and early 2016, Russia’s Central Bank chose not to intervene in the currency market. As the price of oil fell, the CBR allowed the ruble to depreciate -- it fell 40 percent against the dollar in 2015 -- helping the economy regain international trade competitiveness.
On his first day in office in 2012 (the beginning of his third term), President Vladimir Putin promised wholesale privatization. Four years later, little if any of that has occurred. Similar promises were made in Putin’s first two terms. Yet the economic crisis hasn’t dented the president’s approval rating, which hovers around 80 percent.
This may be in large part because most Russians blame foreigners for their economic hardships. To hedge his odds, Putin recently created a new national guard, in the event of domestic conflict with the general public.
That may say more about the state of the economy than all the numbers combined. It’s “not good.”