Sanctions are effective
Interview with Sergei Guriev
Russia’s GDP fell in 2022 but not as much as analysts anticipated. Projections indicate that this decline will continue in 2023 before giving way to a period of stagnation. Can you explain to us this situation and these predictions?
Sergei Guriev : At the beginning of the war, there was an expectation, shared among analysts in the West and Russian official forecasters, that Russian GDP would go down by 8 to 10%. This prediction was based on the fact that the West introduced a series of unprecedented sanctions, including sanctions on the Russian Central Bank, which were expected to lead to macroeconomic instability. Nobody anticipated that the Central Bank would be able to stabilise the macroeconomic situation or that the depression would then intensify so much that Russians would not protest their inability to exchange rubles for dollars, to take dollars out of the country.
In many ways, the expectations formed in March and April were too high; there was a smaller decline in GDP and more successful response from the Central Bank than projected. However, the fall of 3% that was observed in 2022 is not insignificant. For a start, this fall is not yet finished; all the analysts, including those in the Russian government, expect a continuation of the decline in GDP over the next year of another 2 or 3%. Also, the pre-war forecast was for 3% growth, so a fall of 3% is already a 6% difference. Moreover, given the high oil and gas prices during 2022, Russian growth without the war would have been much higher than 3% so the gap between what could have happened and the fall of 3% is even bigger than 6%. Another factor that needs to be taken into account is that, during wartime, GDP is not a good indicator of economic activity. During war, governments produce military equipment and munitions, including artillery shells, and this counts as an increase in GDP. If you move from producing artillery shells for 8 hours per day to 24 hours per day, that means you increase GDP. The contribution of production of weapons and munitions is equal to the government’s spending on them. However, while increasing weapons and munitions production increases GDP, in this case, the more munitions are produced, the more Ukrainians are killed and the more Ukrainian infrastructure is destroyed. This in fact decreases the quality of life for Russians and the future of the Russian economy because Russians will have to pay for this destruction and reparations will eventually have to come out of the pockets of the Russian government or Russian citizens. So in this sense, GDP statistics overestimate Russia’s economic performance.
The ruble is strong but, as you write, this does not signify that the Russian economy is flourishing. Can you clarify this phenomenon for us?
Sergei Guriev : The ruble weakened in December by about 15 to 20% because of the introduction of the oil embargo and oil price cap but before that the ruble was very strong, much stronger than expected. The reason for this is very simple: in the Spring 2022, the EU announced oil sanctions that would only come into effect at the end of the year or early next year. That drove oil prices up in the summer and in the fall – and the oil prices were already high due to the war. So Russian exports increased substantially.
At the same time, the West introduced trade sanctions preventing the export of sensitive technologies to Russia. Also, 1,200 Western companies left Russia soon after the war started. So Russia’s imports went down substantially. Russia therefore has run unexpectedly high exports and unexpectedly low imports so there was a huge current account surplus. As a result, Russia was getting a lot of dollars but couldn’t really spend them. That naturally decreased demand for dollars, increased demand for rubles, and ultimately strengthened the ruble. This will probably change soon with the oil embargo and oil price cap. Russian capital outflows will also accelerate. It was not possible to take dollars out in the first few months of the war, but that is already changing. However, the fact that for most of 2022 the ruble was strong was not an indication of the strength of the Russian economy but was rather a side-effect of the decline in imports which in turn was a factor that weakened the Russian economy. Indeed, without importing from the West, the Russian car-making industry could not function, the Russian airline industry could not function, the Russian construction industry was in trouble. All these import constraints will thus eventually weaken the Russian economy but in 2022 they contributed to a stronger ruble.
Sergei Guriev : As you rightly say, one statistic that is still being published (many statistics unfortunately are now classified but this one is still being published) is the change in retail turnover, that is, in how much Russian households spend, which in recent months has been 10% lower in comparable prices in 2022 than in the same months of 2021. This is a major decline in terms of consumption of Russian households. What does this mean in the long term? People are unhappy but they have no way to protest because repression has been tightened substantially. There are no independent media, and there are new laws for sending people who speak out to prison for many years. There is no way to protest against the war.
Will the fall in quality of life continue next year? It is not clear at all; probably it will. The Russian budget will have difficulty compensating for the fall in economic activity, so probably there will be a subsequent decline in quality of life for Russian households but how much is very hard to say.
Some people question the sanctions and their efficacy, highlighting the divergence in the temporality of the impacts of the sanctions and the war and the nationalist support of a population that faces a fall in disposable incomes and rise in inflation while the energy sector and that of cereals reaps the benefits of a rise in world prices and the State increases its control over the economy. How do you respond to them?
Sergei Guriev : Some people in the West say the sanctions are ineffective. They look at various polls and see that sanctions actually increase support for the war. My response would be: first, we don’t know what Russians actually think. Because of the repression, Russian polls are very unreliable. Russians are very scared to respond to polls because if they respond critically, they may go to jail. They prefer not to respond.
We know that the war is not very popular. When the mobilisation was announced in September 2022, hundreds of thousands of people left. We saw it was not easy to mobilise Russians. We saw no volunteers going to the war for free. Before September Putin had to pay a lot of money to recruit soldiers and then he had to announce mobilisation because he didn’t have enough people who wanted to go to war even if paid generously. So, in that sense, we shouldn’t say that the war is very popular.
Sanctions do have an effect. Sanctions have weakened the Russian economy and weakened the Russian budget, and the very fact that conscription was announced in September shows that Putin doesn’t have unlimited amounts of money. Before September he said that he would not use mobilisation because he knew it would be unpopular. Instead, he would spend money to recruit soldiers. He would go to the poorest parts of Russia and pay 10 times the average salary in that region to recruit soldiers to send to the war. His mercenary-in-chief, Evgeni Prigogine (founder of the private military company Wagner), would recruit soldiers in prisons promising them pardon. But, all of that eventually came to an end because Putin ran out of cash and had to announce mobilisation and that is a true sign that sanctions actually matter, and it shows that sanctions are effective.
But the real sanctions are the ones that started in December which will hit Putin’s budget, and which will further undermine his ability to continue this war.
One thing that is important is that we see that Putin is still able to import very sensitive technologies through third countries, including Turkey and some others. These sanctions have to be enforced better because every semiconductor that can be used in a high precision missile is what Putin can use to kill Ukrainians. However, we see that Putin is running low on military equipment. He asked China for military equipment, China said no. He is buying military equipment from North Korea and Iran. That shows that he doesn’t have unlimited access to frontier technologies for his war in Ukraine.
The effects of the oil embargo and price cap are soon to be felt. How can Russia redirect the flow of its hydrocarbons towards new markets?
Sergei Guriev : Oil sanctions only started in December. These are extremely important sanctions: Europe pretty much stopped buying Russian oil in December and will stop buying Russian oil products in February. These sanctions seem to be well enforced. Russia will need to sell to other countries, and this is where the oil price cap matters.
Whatever Russia says, other countries that continue to buy Russian oil, such as India and China, will not want to pay above the oil price cap because they are afraid of secondary sanctions. They are also afraid of insurance sanctions because oil tankers with Russian oil with oil sold above the oil price cap will not be insured. It is also in the interest of India and China to pay less. So these sanctions will eventually undermine Russian budget revenues, and this is very effective. Sixty dollars per barrel, the current price cap is sufficiently high. It is already difficult for Russia to balance its budget at this level and the Russian budget will run a deficit this year, 2022, and next year, 2023, but what is more important, once the mechanism is in place and functions efficiently, the West can actually reduce the oil price cap, for example from 60 to 55 dollars, and that will further decrease Putin’s capacity to finance the war.
The mobilisation and war have a high cost; until when can Russia financially afford to pursue its offensive?
Sergei Guriev : This is hard to say. Much depends on Putin’s ability to play this game, circumventing sanctions through third countries, through using repression against Russian people, through Russian people’s ability to protest and organise. The situation is completely unprecedented so there is no way to say for how long Putin will be able to continue this war, to finance this war.
On the one hand, Russians are unhappy; on the other hand, Putin is using his toolkit of propaganda, censorship and fear well. On the one hand, Russians are unhappy to be drafted; on the other hand, Putin uses his repression apparatus to discipline them. None of this is easy to predict. So, at this moment I can’t answer this question.
Interview by Corinne Deloy
Cover picture: St Petersburg, 2018, oil terminal, tank farm of the Ust-Luga oil depot. Picture: Grigvovan for Shutterstock.
Picture 1: Moscow, 2019, Central Bank of Russia building on Neglinnaya Street. Picture: Alexvart1 for Shutterstock.
Picture 2: Moscow, March,8 2022, empty store shelves. Picture: Ksenia Guzeeva for Shutterstock.
Picture 3: Moscow, May, 4 2022, Starbucks coffee shop closed after the brand suspended all business in Russia. Picture: Oxana A for Shutterstock.
