Russia's economy holds up amid sanctions, but growing challenges test Putin

Western sanctions have hit Russian banks, wealthy individuals and technology imports. But after a year of far-reaching restrictions aimed at degrading Moscow's war chest, economic life for ordinary Russians doesn't look all that different than it did before the invasion of Ukraine.

There's no mass unemployment, no plunging currency, no lines in front of failing banks. The assortment at the supermarket is little changed, with international brands still available or local substitutes taking their place.

Crowds might have thinned at some Moscow malls, but not drastically. Some foreign companies like McDonald's and Starbucks have been taken over by local owners who slapped different names on essentially the same menu.

 

Economically, nothing has changed, said Vladimir Zharov, 53, who works in television. "I work as I used to work, I go shopping as I used to. Well, maybe the prices have risen a little bit, but not in such a way that it is very noticeable.

Russia's economy has weathered the West's unprecedented economic sanctions far better than expected. But with restrictions finally tightening on the Kremlin's chief moneymaker oil the months ahead will be an even tougher test of President Vladimir Putin's fortress economy.

Economists say sanctions on Russian fossil fuels only now taking full effect such as a price cap on oil should eat into earnings that fund the military's attacks on Ukraine. Some analysts predict signs of trouble strained government finances or a sinking currency could emerge in the coming months.

But other economists say the Kremlin has significant reserves of money that haven't been hit by sanctions, while links to new trade partners in Asia have quickly taken shape. They say Russia isn't likely to run out of money this year but instead will face a slow slide into years of economic stagnation.

It will have enough money under any kind of reasonable scenario, Chris Weafer, CEO and Russian economy analyst at the consulting firm Macro-Advisory, said in a recent online discussion held by bne IntelliNews.

Russia will keep bringing in oil income, even at lower prices, so "there is no pressure on the Kremlin today to end this conflict because of economic pressures, he said.

As the economy teeters between sanctions and resilience, what everyday Russians can buy has stayed remarkably the same.

Apple has stopped selling products in Russia, but Wildberries, the country's biggest online retailer, offers the iPhone 14 for about the same price as in Europe. Online retailer Svaznoy lists Apple AirPods Pro.

Furniture and home goods remaining after IKEA exited Russia are being sold off on the Yandex website. Nespresso coffee capsules have run short after Swiss-based Nestle stopped shipping them, but knockoffs are available.

Labels on cans of Budweiser and Leffe beer on sale in Moscow indicate they were brewed by ABInBev's local partner even though the company wrote off a stake in its Russian joint venture and put it up for sale. Coke bottled in Poland is still available; local colas," too.

ABInBev says it's no longer getting money from the venture and that Leffe production has been halted. Wildberries and Svyaznoy didn't answer emails asking about their sourcing.

But it's clear goods are skirting sanctions through imports from third countries that aren't penalizing Russia. For example, Armenia's exports to Russia jumped 49% in the first half of 2022. Chinese smartphones and vehicles are increasingly available.

The auto industry is facing bigger hurdles to adapt. Western automakers, including Renault, Volkswagen and Mercedes-Benz, have halted production, with sales plunging 63% and local entities taking over some factories and bidding for others.

Foreign cars are still available but far fewer of them and for higher prices, said Andrei Olkhovsky, CEO of Avtodom, which has 36 dealerships in Moscow, St. Petersburg and Krasnodar.

Shipments of the Porsche brand, as for those of other manufacturers, aren't possible through official channels, he said. Whatever is on the market is scattered offerings of cars that were imported by individual persons or through friendly countries by official channels.

Unlike European automakers, some corporations are far from bailing.

While 191 foreign companies have left Russia and 1,169 are working to do so, some 1,223 are staying and 496 are taking a wait-and-see approach, according to a database compiled by the Kyiv School of Economics.

Companies are facing public pressure from Kyiv and Washington, but some have found it's not so easy to line up a Russian buyer or say they're selling essentials like food.

Moscow residents, meanwhile, have downplayed the impact of sanctions.

Maybe it hasn't affected me yet," 63-year-old retiree Alexander Yeryomenko said. "I think that we will endure everything.

Dmitry, a 33-year-old who declined to give his last name, said only clothing brands had changed.

We have had even worse periods of time in history, and we coped," he said, but added that "we need to develop our own production and not to depend on the import of products."

One big reason for Russia's resilience: record fossil fuel earnings of $325 billion last year as prices spiked. The surging costs stemmed from fears that the war would mean a severe loss of energy from the world's third-largest oil producer.

That revenue, coupled with a collapse in what Russia could import because of sanctions, pushed the country into a record trade surplus meaning what Russia earned from sales to other countries far outweighed its purchases abroad.

The boon helped bolster the ruble after a temporary post-invasion crash and provided cash for government spending on pensions, salaries and above all the military.

The Kremlin already had taken steps to sanctions-proof the economy after facing some penalties for annexing Ukraine's Crimea peninsula in 2014. Companies began sourcing parts and food at home and the government built up huge piles of cash from selling oil and natural gas. About half of that money has been frozen, however, because it was held overseas.

Those measures helped blunt predictions of a 11% to 15% collapse in economic output. The economy shrank 2.1% last year, Russia's statistics agency said. The International Monetary Fund predicts 0.3% growth this year not great, but hardly disastrous.

The big change could come from new energy penalties. The Group of Seven major democracies had avoided wide-ranging sanctions against Russian oil for fear of sending energy prices higher and fueling inflation.

The solution was a $60-per-barrel price cap on Russian oil heading to countries like China, India and Turkey, which took effect in December. Then came a similiar cap and European embargo on Moscow's diesel fuel and other refined oil products last month.

Estimates differ on how hard those measures will hit. Experts at the Kyiv School of Economics say Russia's economy will face a turning point this year as oil and gas revenue falls by 50% and the trade surplus plunges to $80 billion from $257 billion last year.

They say it's already happening: Oil tax revenue fell 48% in January from a year earlier, according to the International Energy Agency.

Other economists are skeptical of a breaking point this year.

Moscow could likely weather even a short-term plunge in oil earnings, said Janis Kluge, a Russian economy expert at the German Institute for International and Security Affairs.

Even cutting Russian oil revenue by a third "would be a severe hit to GDP, but it would not bankrupt the state and it would not lead to a crash," he said. "I think from now on, we are talking about gradual changes to the economy.

He said the real impact will be long term. The loss of Western technology such as advanced computer chips means an economy permanently stuck in low gear.

Russia may have successfully restarted factories after the Western exodus, but the business case for producing something sophisticated in Russia is gone, and it's not coming back, Kluge said.