Even as President Donald Trump insists Russia has the upper hand in its war against Ukraine, economists say the country’s position is weaker than ever because the Kremlin has burned through most of the cash reserves and the borrowed money that fueled its wartime spending surge — and greater problems lie ahead.
The outlook is set to only worsen as the tough new sanctions on Russia’s oil sector intensify a cash squeeze that could lead to a banking crisis next year, even while Russian President Vladimir Putin maintains a hard line in negotiations to end the war.
“A banking crisis is possible. … A nonpayments crisis is possible. I don’t want to think about a continuation of the war or an escalation,” said one Russian official, speaking on the condition of anonymity to discuss sensitive matters.
During a meeting last week with his German and British counterparts in London, French President Emmanuel Macron said the latest sanctions were weakening the Russian economy. “We must keep up this effort and maintain pressure,” he said.
The new sanctions imposed by the U.S. Treasury in October on Russia’s two biggest oil majors, Rosneft and Lukoil, are increasing pressure on the budget and the energy sector as Moscow is forced to accept ever steeper discounts of more than $20 per barrel of oil for its Urals blend.
“The upstream oil industry is sliding into a crisis, and the most recent sanctions are going to accelerate that,” said Craig Kennedy, a former vice chairman at Bank of America Merrill Lynch now at Harvard’s Davis Center for Russian and Eurasian Studies.
Oil and gas revenue critical for the budget are set to fall by 49 percent in December compared with the previous year amid the new sanctions and falling oil prices, according to Reuters, pushing the budget deeper into deficit even as military spending has climbed to a record high, reaching $149 billion in the first three quarters of this year.
The new sanctions were “an aggressive move that spell more trouble,” Kennedy added. “You can keep raising more taxes on average Russians or borrow still more to cover growing deficits. But you ask yourself: Is this making my negotiating position stronger or weaker? It definitely makes Russia look weaker.”
Growing costs
Even before the new sanctions began cutting deeper into corporate and budget revenue, the Russian economy has been heading toward recession. The central bank was forced to raise interest rates to record highs of more than 20 percent to rein in rampant inflation after the government blazed through the first three years of its war with high military spending and encouraging a corporate lending boom, while import prices soared because of sanctions.
The high interest rates — now down to 16.5 percent — have started to stem inflation but have still eaten into company profits and cash reserves. As a result, investment has stalled, output in some sectors has plummeted, and nonpayments have soared across the economy.
The Russian economy “was benefiting from many positive factors like high global commodity prices and the spending-driven boom. And most of these factors have disappeared, and this is why Russia is right now in the worst situation since the war started,” said Janis Kluge, an economist at the German Institute for International and Security Affairs.
In a recent videoconference for independent Russian media outlet the Bell, economist Alexandra Prokopenko said that despite what the Russian leadership says, the costs for the economy are growing and the sanctions are biting.
The economy “is frozen, and fundamentally it looks to me unsustainable,” the former central bank adviser said. “The closest analogy would be like a car idling in neutral with the engine overheating. … The car isn’t moving forward or backward, but the longer it sits, there the more damage accumulates under the hood.”
Bad debt
Economists say Russia’s massive expansion of corporate lending over the first three years of the war, combined with the prolonged period of high interest rates, has built problems deep into the banking system.
Official central bank data puts the share of problem loans in the corporate lending sector at just less than 5 percent, still far from any level that could provoke a crisis, but that does not take into account the lending to the arms industry, where regulations were relaxed.
Lending to the defense sector makes up nearly a quarter of overall corporate ruble loans and totals just over $202 billion, according to an analysis of central bank data. “It is a big black pool of poorly regulated, opaque debt, and it’s sitting in the middle of the banking system,” Kennedy said.
Russian bankers themselves raised the alarm over growing levels of bad loans hidden in the banking system earlier this year. Alexander Shokhin, the head of the influential Russian Union of Industrialists and Entrepreneurs, warned publicly that many companies were in a “pre-default situation.”
Even based on the official data, one Kremlin-linked think tank, the Center for Macroeconomic Analysis and Short-Term Forecasting, said this month that Russia could face a systemic banking crisis by October if problem loans continue to rise and depositors start withdrawing funds en masse.
Russia had also heavily relied on taxing its biggest energy giants to help fund its war machine. But this month, Putin extended tax breaks to Russia’s two biggest energy majors, Gazprom, the state gas monopoly, and Rosneft, the Kremlin oil champion, which have both faced growing financial pressures.
Once the cash cow of the Russian economy, Gazprom racked up a net loss of $12.9 billion last year, according to Russian accounting standards, the result of losing its main market in Europe since the beginning of the war. It has burned through its cash reserves, which in early 2022 stood at $27 billion and now total only $6 billion to $8 billion, while it also appears to have added more than $20 billion in additional debt.
The Russian oil industry is also facing a growing crunch. Even before the new blocking sanctions were imposed, Rosneft reported a 70 percent drop in its net profit to $3.6 billion for the first three quarters of this year compared with the previous year as oil prices fall. Across the oil sector, a combination of ever tougher sanctions cutting off much needed equipment and limiting options for selling crude is forcing many companies to focus only on extracting oil from the most accessible wells — and could force them to shut down others.
“There are only so many buyers with an appetite for sanctioned oil,” Kennedy explained. “When you do the numbers, it looks like somewhere between 1.6 million and 2.8 million barrels per day will get stranded without firm demand. At the moment, a lot of unsold oil is being stored on the water in tankers.”
Wider woes
Russia’s economic troubles are starting to seep through to the wider population. Consumers have started tightening their belts, according to a recent report by Russian state bank Sberbank, cutting spending on clothing by 8.7 percent at the beginning of December compared with the previous year, on household goods by 8.8 percent, and on health and beauty by 5.9 percent.
High interest rates and lower revenue have left companies in crisis across the country — and many pass their problems onto workers, either by furloughing staff, cutting their work hours or simply failing to pay their wages.
In Nizhny Tagil, dozens of shift workers clad in orange hard hats at Novoleks copper mining and processing plant recorded a video this month complaining that they had not been paid in two months. Izvestia newspaper reported dozens of similar cases involving at least 34 companies.
According to Russia’s statistical agency, Rosstat, in October the total of unpaid wages had almost tripled year-on-year, reaching more than $27 million, with more than 26,000 complaints to Russia’s labor agency this year.
Last month, 300 workers building a nuclear reactor in the Ulyanovsk region went on strike, complaining they had not been paid for two months.
“There’s absolutely no way for people to pay their loans anymore. A lot of debt has piled up,” said a worker spokesman standing with dozens of others in a video message to Alexander Bastrykin, head of the Russian Investigative Committee. “The living conditions at the site where we work are also terrible. The toilets are overflowing and not being emptied.”
Russia’s Kuzbass coal mining region is one of the hardest hit, where 18 of the region’s 151 coal companies have ceased operations and another 30 are in critical condition, according to regional governor Ilya Seredyuk. Likewise, Russia’s metallurgy sector is in decline, despite high demand from military production plants.
Despite the growing difficulties facing the population, few in Moscow’s elite expect the economic woes to translate into social unrest, or that it will make any difference to Putin’s calculus.
“The growth of economic problems won’t lead to social or political problems. But next year will be the first difficult year of the military operation,” said a Russian academic close to senior diplomats.
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