February 4, 2017

Peculiarities of the Economic Situation in Russia in 2016 under the Pressure of the Western Sanctions

Ivan Sichen, Military and Political Expert

As part of the summing up the year 2016, including his Address to the Federation Council of the RF on 1 December, and in an interview for the world's mass media on 15 December 2016, Russian President V. Putin stated “the beginning of the country's exit from the state of the economic crisis”. This is evidenced, in his opinion, by “the restoration of positive dynamics of the Russian economy in 2016”, “maintaining and even increasing of financial reserves” and “growth in real incomes”. He made a special emphasis on “the strengthening of Russia's positions in the European energy market” — namely, the increase in “Gazprom”'s share in the EU energy balance from 31 % in 2015 to 33.5 % in 2016.

In view of this, V. Putin tasked the Russian government “...no later than May 2017 to develop a substantive action plan up to 2025, implementation of which would allow at the turn of 2019–2020 to reach economic growth higher than the world one”. Accordingly, the Russian Prime Minister D. Medvedev announced Russia's transition from the “crisis management” to the plan of “breakthrough development” of the Russian economy. This “breakthrough” is supposed to be through a set of measures including: improving the business climate in Russia; increasing the effectiveness of the major investors' activity; building up non-resource exports; development of small and medium-sized businesses; improving the efficiency of state support for the economy.

 

These “achievements” are widely used by the Russian Federation's leadership to prove the “ineffectiveness of western sanctions against Russia”, and therefore “no prospects for their further continuation”. The same arguments are used by Moscow's proponents in Western countries, advocating for the removal of these sanctions and restoration of full cooperation with Russia.

However, an objective analysis of the economic situation in the Russian Federation leads to the conclusion that the Kremlin too much overestimates the achievements, and they are often falsified. At the same time, it virtually silences the methods by which the relative economic stability in the country in 2016 was achieved, as they were largely based not on the real achievements of the Russian economy, but on the government's support of its major branches. It is on this that the Russian government's “crisis plan” in 2016 was based on.

The volume of the Reserve Fund and the National Wealth Fund of the Russian FederationThe volume of the Reserve Fund and the National Wealth Fund of the Russian Federation

In turn, because of such approaches, have been critically reduced International Reserves of the country, which were spent to support the Russian economy, to cover the state budget deficit and to support the Russian ruble. Thus, according to the Ministry of Finance of Russia's official data for 2016, the country's Reserve Fund has decreased by 73.4 % (3.7 times) — to 972.13 billion rubles, while the National Wealth Fund has decreased by 16.6 % — to 4.36 trillion rubles.

At this, the Russian government was spending such amounts counting on possible changes in the situation around Russia already in 2016–2017, which would help restore the growth of its economy. First of all, in this regard, there were hopes that Western countries would give up the policy of sanctions against Putin's regime as a result of “fatigue” from them, and that there would be the change of power in the United States and then in France and Germany. Besides, the Kremlin had high hopes for a possible return of high world energy prices.

However, even the government's large-scale support for the Russian economy (in fact, from the remaining funds) did not provide a real GDP growth in Russia and enhance of the living standards of its population. Thus, despite the Rosstat's (Federal State Statistics Service's), statements about “the restoration of the country's economic growth in the second quarter of 2016”, as a whole in 2016, the GDP fell by 0.6–0.7 % (according to other sources — by not less than 1.2 %).

Moreover, independent experts doubt the veracity of the data given by official statistical agencies of the Russian Federation. As confirmation, in this matter there are differences between various government institutions in Russia, as well as between personal assessments.

Thus, according to Rosstat, Russia's GDP growth in the second quarter of 2016, compared to the first quarter, was 7 %, and in the third, compared to the second quarter was 8.5 %.

In turn, according to the RF Ministry of Economic Development, in the second quarter of 2016 the country's GDP, seasonally adjusted, fell by 0.2 % compared with the first quarter and in the third quarter, compared to the second quarter, it grew by only 0.1–0.2 %.

According to the working in the financial and economic sphere non-governmental experts, the reason for the growth of Russia's GDP in dollar and ruble equivalent is a definite increase in the cost of oil (as Russia's main product) after the members of OPEC had reached an agreement to reduce the volumes of its production, and not a real increase in production in Russia.

Doubts about the Rosstat's figures were expressed also by analysts of Sberbank CIB, referring to the “inadequacy” of methodologies for estimating the GDP by official statistical agencies. In particular, in this context, they mention the Rosstat's significant overestimation of the growth of industrial production in Russia in the third quarter of last year. At this, based on the increase in industrial production was declared also the growth of Russia's GDP, while in other spheres there was a negative dynamics.

 

Based on the above-mentioned, we can conclude that the Russian economy has significant problems and there are no objective reasons for its rapid recovery from the crisis, and even more so — for acceleration of the pace of development to the levels exceeding the world ones.

The reason for this is, first of all, the inefficiency of the principles of functioning of Russia's economy, which actually do not differ from the principles of the former Soviet Union, and are based on the exports of energy and other resources. This model of economic development of the Russian Federation began to resemble more the Soviet system after V. Putin's coming to power and began to implement the policy of turning Russia into a “great energy power” and to restore the government's total control over the economy of the country.

This increases Russia's dependence on the state of affairs in the global energy market, which is negative for the Russian Federation despite Moscow's expectations. The consequence of these circumstances was the “paradox” of the decrease in the state budget revenues from gas exports in 2016 despite the increase in the volume of its deliveries to Europe. For example, despite the increase in gas exports to the EU from 159.4 billion cubic meters in 2015 to 179 billion cubic meters in 2016, last year “Gazprom”'s revenues fell by 10 % in dollar equivalent. At this, the EBITDA (profit of the company, taking into account the cost of paying interest on the shares, taxes and amortization), the decrease in its income exceeds 30 % in dollars and 25 % — in rubles.

In general, for the period from January to September 2016, the export of Russian natural gas was estimated at 21.6 billion US dollars, while in the same period of 2015 it amounted to 31.3 billion US dollars. So, Russia's revenues from gas exports in 2016 reached the lowest level in the last 12 years. That is, the increase in gas exports did not offset the decline in its price. Especially, that the increase in exports of Russian gas to Europe is mainly a consequence of the redistribution from Ukraine to the European market and then re-export to our country.

Noteworthy are the assessments of some Russian experts, who argue about the loss ratio of Russian gas exports. Thus, the conversion of gas export from cubic meters to the thermal equivalent (in particular, in the form of British thermal units — BTU) allows to estimate its cost at 4.2 US dollars for 1 million BTU. At the same time the cost of delivery from Russia to Germany is estimated at 4,8–4.5 US dollars per 1 million BTU.

The essential problem for Russia is also its actual failure to ensure the supply of gas to Europe, bypassing Ukraine and Belarus due to a lack of its own funds, as well as the EU's refusal to support the Russian projects of construction of new gas transmission systems under the Black and Baltic Seas. At this, Belarus will use this situation for its own purposes, and is slow to pay the debt for Russian gas (currently up to 550 million US dollars).

At the same time the restoration of positive dynamics of development of Russia's economy is greatly impeded by the consumption crisis, decline in foreign trade and the reduction of foreign and domestic investments. According to the Central Bank of Russia, in December 2016, the retail trade turnover in Russia decreased by 4.1 % compared with December of the previous year. As part of this trend, there is decline in sales of consumer durables, food and essential commodities.

Real disposable income and average wages in the Russian FederationReal disposable income and average wages in the Russian Federation

The reason is the decline in real income of economic actors in Russia, and of citizens (contrary to the statements of the leadership of the Russian Federation about their alleged growth). According to the official data of Russia's statistical agencies, in January–November 2016 the growth of real wages (adjusted for inflation) was 0.5 % compared to the same period of 2015. However, this figure does not take into account the increase in mandatory costs such as taxes and tariffs for housing and communal services. Given such costs, the real incomes of citizens in 2016, not only did not increase, but vice versa — fell by 5.3 %.

Compared to October 2014 — the last pre-crisis year — the figure is 12.7 %. That is, in 2016 the decline in real incomes accelerated. At this, due to the Russian government's plans for a further increase in taxes and the cost of housing services, in 2017 the rate of the fall in real incomes for the year is supposed to remain at the level of 5 % yearly.

Decrease in export revenues of the RF in 2014–2016, billion US dollarsDecrease in export revenues of the RF in 2014–2016, billion US dollars

The downtrend in the volumes of Russia's foreign trade continues. For example, from January to September 2016 Russia imported goods worth 129.6 billion US dollars, which is by 3.5 % less than in 2015. During the same period, exports of Russian products amounted to 201.6 billion US dollars, which is by 22.8 % less than in the previous year. This is due to strengthening of the Western sanctions against Russia and V. Putin's regime's continuing counter-sanctions, as well as the deficit of “hard” currency in Russia.

This problem became especially sharp in the second quarter of 2016 due to the amounts of foreign exchange costs (first of all for the purchase of goods from the countries of the “third world”, which do not support sanctions against Russia) being higher than the amounts of its revenues. Since the beginning of last year, Russia's exchange income has decreased approximately by 20 billion US dollars, that is to the 1999's level.

This situation undermines the stability of the Russian financial system, including the capability of domestic crediting of the Russian economy. According to the Central Bank of the Russian Federation, due to the increased risks in the credit market, Russian banks in general have reduced lending to the domestic economy by 7 % in 2016, and to non-financial organizations and enterprises — by 9.5 %.

There is also an outflow of funds from Russia. All in all, in the first and third quarters of 2016, from the Russian Federation were withdrawn 18.5 billion US dollars, including to Switzerland — 3.762 billion US dollars (1.4 times more than in the same period of 2015), Latvia — 1.5 billion US dollars, China — 1.3 billion US dollars, Cyprus — 787 million US dollars, as well as to Monaco, Singapore and the United States. At this, the outflow of funds from the Russian Federation was faster in the third quarter of 2016, which supposedly was characterized by “the resumption of the growth of the Russian economy”.

In general, according to the Ministry of Economic Development of the Russian Federation, taking into account the decrease in volumes of domestic and foreign loans, as well as the outflow of funds from Russia, in 2016 the investments into fixed assets of the country fell by nearly 4 %. Based on these trends, about half of leaders of Russian business point out a “complete non-existence of future prospects for investment in their production”.

 

Taking into consideration the low probability of quick lifting of the West's sanctions against Russia, similar problems are in store for the Russian economy in 2017. Under such circumstances, the Government of the Russian Federation continues to resort to the actual use of anti-crisis methods of governing the economy. First of all it concerns the state support for the main branches of the Russian economy, as well as fiscal austerity.

Spending on the National Defense of the RF, in % to the previous yearSpending on the National Defense of the RF, in % to the previous year

According to the decision of the Russian government, in 2017, 107.5 billion rubles from the reserve funds of the country will be used solely to “ensure the stable work” of industrial sectors of Russia's economic complex. In turn, due to the lack of funds, in the RF federal budget in 2017–2019 will be significantly reduced the financing of the social sphere — by about 50 %, and even for the National Defense — by up to 30 % (from 3.89 trillion rubles to 2.84 trillion rubles).

At this, the compensation for the reduction of federal spending on the country's social needs is provided by the local budgets of the Russian Federation. And over the next three years it is planned to almost 7 times decrease the volumes of budget loans for the Russian regions. According to experts of the international rating agency S&P Global Rating, this all will put on the verge of bankruptcy about 20 territorial entities of Russia. At the same time, the consolidated debt of Russian regions will grow by 50 % (today it is 2.2 trillion rubles.).

 

So, the above-mentioned facts and the Russian leadership's plans about “possibility of quick improvements in the economic development of Russia”, let alone the promises “to achieve higher rates of its growth than those of the world”, confirm their being just propaganda.

Moreover, due to the Russian government's planned cuts in social spending, soon we should expect further complications in the socio-economic situation in the country. Thus, according to opinion polls, today about 40 % of Russians consider themselves poor (Russian authorities officially recognize as such only 13 %) and have problems with the purchase of food and essential commodities. This figure is almost twice the level of 2013 — before the beginning of Russia's armed aggression against Ukraine.

This state of affairs objectively determines the growth of Russian citizens' being unhappy with the situation in the country. In particular, according to the results of the poll of the Fund “Public opinion”, more than half of the respondents gave a negative assessment of actions of the Russian leadership in the economic sphere. This leads to a decrease in personal rating of Russian President V. Putin. According to the sociological organization “Levada Center”, since 2014, the number of Russian citizens who believed that Putin “successfully solves the problems of the country”, has decreased from 38 % to 28 %. At the same time, 29 % of respondents spoke about their attitude to Putin getting worse.

Resentment over the government is growing in the Russian society. In fact, today in Russia there are at least three protest movements of socio-economic orientation, uniting the miners of Rostov region, the farmers of Krasnodar Territory and other regions of Russia, and the owners and truckers of intercity and interregional freight traffic companies.

Today, the leaders of these movements unite and improve their coordination, trying to resort to new forms of pressure on the government. In particular, the forum of farmers in the city of Stavropol (attended by about 1.2 thousand people) decided to organize a “tractor march” to Moscow in March 2017 (as soon as the weather allows). The leaders of the Russian movement of “truckers” are going to move from individual actions like blocking the roads and “marches” on Moscow to systematic strikes. According to the movement's activists, this threatens with paralysis of the transport system in the country that will become a powerful lever of influence on the leadership of Russia.

At this, the protests are gradually moving from socio-economic to the political plane. Thus, some Russian opposition forces, including the Communist Party, are trying to head the protests, which can restore the elements of the political confrontation in the country.

The relations between Moscow and regions of Russia are getting more complicated too. This is due to the local leaders' being dissatisfied with the Russian government's actions to seize funds from the profitable parts of the country (in the form of higher taxes) to help depressed areas. Such a situation could cause a “revolt” of subjects of the Russian Federation and lead to separatist processes in Russia, as it happened in the mid-1990s.

Besides, the negative consequences of Moscow's confrontation with Ukraine and the West cause growing disagreements in the Russian society. Thus, November 4, 2016, within the framework of the celebration of Russia's Unity Day, in Moscow was held a pro-government march “We Are United” with the participation of V. Putin's supporters. November 5, 2016, in the Lublin district of the Russian capital, there was an alternative action — “Russian March” under the slogans “Russia without Putin”, “Stop the wars of the Russian world”, “Russia should mind its own business and stop conflicts with the West and brotherly Ukraine!”.

 

Under such circumstances, the Russian leadership pays greater attention to the issues of countering the threat of the spread of social unrest in the country. With this purpose, in 2016 they created Russian Guards with functions of violent suppression of protests against V. Putin's regime. Characteristic is also the fact of keeping in the federal budget for the period 2017–2019 of the annual costs under “Security and Law Enforcement” at the level of 1.94 trillion rubles, while reducing the money for defense against external aggression.

 

In a word, all this shows the real effectiveness of Western sanctions against the Putin regime in terms of substantial losses of the Russian economy. Russia's economic problems and prospects of their worsening have already forced Moscow to agree to a number of changes in its politics. For example, since mid-2015 Russia has refrained from large-scale operations against the ATO Forces in the conflict zone with the exception of local actions in certain areas, in particular in the area of the Svitlodarsk Arc and Avdiivka, which are of strategic importance for the self-proclaimed republics.

Lack of funds has also forced Russia to abandon the implementation of a number of projects for the modernization of the Armed Forces, including their strategic nuclear component. Postponed has been the program to create a “Perspective Aviation Complex” (strategic missile carrier of the new generation), instead of which it is planned to resume manufacturing of the modernized Tu-160. However, the implementation even of these plans is doubtful.

Besides, there are more problems in the implementation of Russia's plans to further increase its troop groupings on the Western direction, including near the borders of Ukraine. In particular, the plans to deploy a brigade of airborne troops in the city of Voronezh have been put to one side, even though the deployment was supposed to be done in 2016. At this, they actually admit the lack of funds for the implementation of such measures (cost of deploying a brigade or division is estimated at about one billion rubles).

Quite illustrative exemplary is also the change in Moscow's rhetoric from the harsh confrontation with the West to the demonstration of the willingness to restore relations with the USA and the EU. At the same time, the Kremlin expresses “impatient” hopes for a quick lifting of the sanctions against Russia after the election of D. Trump President of the United States of America.

 

Of course, all this does not mean that Putin's regime will give up its neo-imperial plans, however, it indicates the loss of their full implementation capabilities. This confirms the critical importance of continuing the US and EU's sanctions policy against Russia, which will eventually make it change its positions.

If these sanctions are maintained, in the current year Russia will virtually exhaust its financial reserves and the Russian government will not be able to continue to support the Russian economy. Of course, it will put the Russian Federation to the brink of uncontrollable economic crisis with unpredictable consequences. In this regard, it would be greatly important to implement plans the US Congress' plans to introduce a package of comprehensive sanctions against Russia because of Moscow's interference with the presidential elections in the United States (in particular, they provide for the application of restrictions on individuals and companies, investing more than 20 million US dollars into oil and gas industry of the Russian Federation). According to Russian experts, such sanctions would undermine significantly the work of entire sectors of the Russian economy, which would result in catastrophic consequences for Russia.

 

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