This is the fourth in a series of articles on Russia’s economy by Andrey Movchan.

Russia’s economic problems are almost entirely homegrown.

Only one external factor has an important impact on the state of the economy: international sanctions and the counter-sanctions Russia has imposed as a result. Apart from the sanctions regime, Russia actually lives in a surprisingly favorable external economic environment—but the government’s own policies, especially when it comes to import substitution, may hurt the economy much more.

Russia has been a member of the World Trade Organization since 2012. Its reserves are deposited in very liquid financial instruments and currencies. Russia conducts foreign currency and trade operations without restrictions; its yields on sovereign debt are low; the number of hostile economic actions directed against Russia and Russian companies (such as market protection measures, anti-dumping duties, restrictions on free trade) are no higher than against other countries, including many developed ones.

This brings us back to the sanctions imposed by the European Union and the United States on Russia in 2014 for its actions in Ukraine. They also do not have a major impact on the health of the Russian economy. The sanctions prohibit a small number of Russian commercial organizations from borrowing on international markets. They prevent a narrow circle of Russian citizens from owning assets and traveling to certain countries. They also prohibit the transfer to Russia of a list of technologies that are associated with the mining of mineral resources and production of military equipment.

However, restrictions on borrowing (even if we leave to one side the fact that they apply to a small group of borrowers) cannot have a big impact on a country that has consistently reduced its foreign debt over several years, so that it is now worth less than twice the country’s gold reserves. Russia is currently a country that is not interested in borrowing on a large scale: most economic actors are cutting their balances, choosing not to invest in development, and reducing their overall turnover.

It is true that sanctions could still kill the Russian economy. That could happen if they were extended to a much larger circle of issuers and borrowers; if they were expanded to include sovereign debt and in three to five years Russia had burnt through its capital and was forced to look for large amounts of external funding. But the sanctions are not so extensive and in three to five years the situation may look very different from how it does now.

Of course, restrictions on the transfer of technologies will have a negative effect on the economy. In the oil sector, restrictions on the technology for exploration and production, which Russia simply does not have, will seriously hurt Russia’s oil and gas production and its costs. But in the current environment, that effect is simply not being felt.

The same is true of military technology. Russia is currently actively boosting its weapons production, and arms exports are worth more than $10 billion a year. That will not be affected by the restrictions on technology transfer.

In the longer term, Russia’s inability to take advantage of innovations in the development of dual-purpose technology will end in Russian weapons being left behind by competitors in the United States, the EU, Israel, and probably China. Even today, Russia’s position in the international arms market is getting weaker. Russia is losing the Indian market and China, which is still buying Russian anti-aircraft systems, is beginning to rely on its own arms manufacturers.

The counter-sanctions Russia has imposed first on the EU and then on Turkey are also not greatly affecting the economy. Import substitution—the replacement of foreign goods on the prohibited list by homegrown products—has not taken place because, due to the devaluation of the ruble, the level of domestic consumption has fallen more than the decline in imports. The price of the domestic goods that are supposed to substitute the banned imported items has risen higher than average. Demand has fallen and the quality of the Russian products is lower than that of their banned rival goods.

In conclusion, the unpredictable, inconsistent, and aggressive behavior of the Russian government toward foreign economic actors through policies such as import substitution does the greatest harm to the Russian economy.

Efforts are underway to make the country autonomous from the rest of the world in important sectors such as telecommunications, payments systems, transport, IT, navigation, and the sponsorship of non-commercial and charitable organizations.  This very often comes after lobbying by small-scale business operators in cooperation with corrupt or short-sighted bureaucrats.

The result is a big outlay of cash, a product that does not match up to the high-tech alternative it is supposed to be replacing, and sometimes a failure to use international technology at all. It is this kind of behavior that is undermining Russia’s security. An inadequate product substitute poses a much larger threat to Russia than does an illusory external threat.  

  • Andrey Movchan