The Russian economy began to crumble. Will this force Moscow to end the war?

The budget is starting to lack funds, investments are decreasing, and labor productivity is falling, writes the Wall Street Journal about the current state of the Russian economy.

Even a year ago, when Russia attacked Ukraine, everything was completely different, primarily thanks to high energy prices. Now the situation is more complicated.
In the second year of the war against Ukraine, Western sanctions are increasingly being imposed on Russia, Russian budget revenues are falling, and the economy has slowed down significantly - and this trend will not be short-lived, according to the authors of the leading American business magazine.

Oil, gas and the social contract

The reason is that the main items of Russian exports, gas and oil, have lost their main customers. Since November last year alone, the Russian ruble has lost 20 percent of its value. There are not enough workers, young people either go to the front or flee the country in order not to be mobilized. These are not the best times for investments in Russia.
"The Russian economy has entered a long-term decline," predicts Aleksandra Prokopenko, a former employee of the Central Bank of Russia who left the country shortly after the invasion of Ukraine.
At the same time, according to the WSJ, there are currently no signs that short-term economic problems could affect Russia's ability to continue the war against Ukraine. But falling budget revenues and the need to maintain massive military spending mean that subsidies and other social spending, which were at the heart of Putin's social contract with the population, are under threat.
"There will be no money next year," Russian billionaire Oleg Deripaska said recently. "We will need foreign investors."
In the year of the war, Russia lost customers on its closest European market, and Western investors are leaving Russia. Moscow is relying more and more on China, and the long-standing fear that Russia will one day become a Chinese colony is beginning to be realized.

"Despite Russia's short-term stability, the picture of the future is quite bleak: Moscow will become increasingly introverted and too dependent on China," says Marija Shagina, a senior fellow at the Institute for Strategic Studies in London.

Bet failed

Much of that gloomy forecast stems from Putin's bet last year that he could use Russia's energy reserves to rein in Western support for Ukraine. Instead, European governments quickly began looking for other sources of oil and gas, and by no means reduced their support for Kiev.
At the moment, the lion's share of the flow of Russian gas to Europe has been stopped, and prices, after a sharp jump, subsequently fell just as sharply.
Now Moscow will reduce oil production by five percent, and Russian oil is sold on world markets at significant discounts.
As a result, in the first two months of this year, budget revenues from the export of energy products were halved compared to last year. And the budget deficit increased - in January-February it already amounted to 34 billion dollars or 1.5 percent of the country's total GDP. In order to cover the lack of funds, the government has to reach more and more for the reserves of the "Fund of Future Generations", which is an anti-crisis buffer in Russia.

However, the Fund still has enough money, even though it was reduced by 28 billion dollars during the war and still has 147 billion.
The Russian authorities acknowledge the difficulties, but assure that the economy will quickly adapt to the challenges. And President Vladimir Putin says that the government is effectively countering threats to the Russian economy.
But during the years that Putin was in power in Russia, the income from high oil and gas prices was the basis of a social contract about non-participation of the population in political life and protests in exchange for a higher standard of living.
However, in January and February this year, tax revenues from the oil and gas industry, which make up almost half of all Russian budget revenues, fell by 46 percent compared to the same period last year, while state spending jumped by more than 50 percent.
According to analysts' estimates, the price of oil, which would maintain balance in the Russian budget, is currently higher than 100 dollars per barrel, because the costs of the war burden the budget.

At the same time, in February, the price of Russian oil ranged from 49.56 to 80 dollars per barrel.

Like in the USSR

The Russian Central Bank has already recognized the fact that export revenues are falling, the situation on the labor market is worsening, and intensive budget expenditures are increasing the risk of inflation.
There, the situation with "import substitution" is also evaluated as "reverse industrialization", assuming that sanctions against Western technologies, many of which are specifically used in the exploitation of energy resources, will force Russia to switch to less advanced technologies.
"It's a bit like going back to the Soviet Union, when everything was done by hand," says Vasil Astrov, an economist at the Vienna Institute for International Economic Studies.
Now, as in Soviet times, the lion's share of industrial production is related to the war, plants and factories are reoriented to the production of weapons and shells.

And while official military production statistics are unavailable, the item "manufactured metal products," which analysts believe includes weapons and ammunition, grew by seven percent in the past year. The production of computers, electronics and optics, which is also related to military products, increased by two percent during the year, but by 41 percent only in the period from November to December. By comparison, car production for 2022 has been reduced by 45 percent.
In general, Russia managed to avoid the worst forecasts of a 10-15 percent decline in the economy - thanks to high energy prices (the European ban on Russian oil delivered by sea came into force only in December 2022, and on oil derivatives - in February 2023). , its GDP decreased by only 2.1 percent.
But in a way, military production hides problems in the economy.
"That's not real, productive growth. That's not what develops the economy," says Aleksandra Prokopenko, a former employee of the Russian Central Bank.
For this year, most analysts predict a further decline in the Russian economy, although some, including the IMF, predict even a small increase.

But overall, the trajectory of Russian GDP is downward, and by 2027 it could be 7 percent lower than predicted by pre-war forecasts.
"Loss of human capital, isolation from global financial markets, difficult access to the latest technologies will stop the Russian economy," says the IMF.