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In the wake of a black swan In trying to predict the effects of sanctions, economists in Russia and abroad failed to realize that 2022 had no economic precedents

Source: Meduza
Peter Kovalev / TASS

Shortly after launching the invasion of Ukraine, Russia topped the global list of sanctioned countries, incurring three times more cumulative sanctions than Iran. As Russia lost half of its foreign assets, the U.S. dollar exchange rate spiked to 130 rubles. Responding to the Central Bank’s monthly survey, Russian economists projected an eight-percent shrinkage of the country's GDP and a 20-percent annual inflation rate, while also predicting that the dollar conversion rate would hover around 110 rubles. But none of those forecasts materialized, thanks to the fossil fuel exports that generated a trade surplus, and to fiscal policies that helped cushion the ruble. Meduza’s special correspondent Margarita Lyutova explains how the Russian economy managed to survive 2022, and what challenges might be awaiting it in 2023.

Did sanctions against Russia actually work?

At the outset of the war and the sanctions, many economists thought it would be a matter of only months before the Russian economy plunged into a deep crisis. Those forecasts, says UCLA economist Oleg Itskhoki, were conditioned by the expectation of a banking crisis followed by a deep recession. In reality, by countering the sanctions with unprecedented damage-control measures, Russian officials were able to keep hard currency from draining out of the country and to forestall a bank run.

What helped Russia most, says Itskhoki, was export revenue. By late March, it became clear that Russia’s revenue from exports was enough to cover all of its currency needs. In the early months of the invasion, sanctions barely grazed Russia’s mineral fuel exports. The only country to have banned Russian oil was the U.S., which hadn’t been a major customer anyway. Meanwhile, the EU went on buying Russian oil and gas.

In March 2022, a barrel of Russian Urals oil cost more than $90. With the help of the favorable exchange rate (which hovered around 102 rubles to a U.S. dollar that month), the Finance Ministry was able to report a record revenue of 1.2 trillion rubles (close to $12 billion) from oil and gas in a single month. But April set a new record: 1.8 trillion rubles (pushing $22 billion) in revenue, also brought by oil and gas. The economy was being flooded with money from abroad. This, however, precipitated a new kind of crisis, driven by a trade surplus.

According to an estimate published by the Bruegel analytics company, by March, with the sanctions in place and foreign companies rapidly exiting the Russian market, imports from three-quarters of Russia’s trade partners (including Europe, China, and the U.S.) shrank by 40 percent, in comparison with March 2021. In April, imports continued to shrink, now reduced by 50–80 percent compared to a year before. These estimates, however, have not been officially confirmed: immediately after February 24, Russia stopped publishing its trade statistics.

As a result of the trade balance shift, the Russian economy landed in a “striking situation without any historic international analogies,” says Itskhoki. Russia was making money from energy exports but couldn’t spend its earnings. Ordinarily, a crisis means something different: the goods are there for the purchase, but the country doesn’t have the means to buy them. Russia’s trade surplus, on the other hand, helped cushion the ruble, preventing the economy from crashing. By June, the forecasts elicited by the Central Bank became a little brighter. Still, economists projected a 7.5-percent reduction of the country’s GDP — tantamount to a significant recession. (In 1998, when Russia defaulted on its foreign debts, its GDP contracted by 5.3 percent. In 2009, in the wake of the global financial crisis, it shrank by 7.8 percent.)

By the end of 2022, however, it became clear that the economists had all been wrong: in actuality, Russia’s GDP would only contract by half, or possibly even by only a third, of the rate predicted by the pessimists.

Running the Central Bank in wartime conditions

The banker’s dilemma How Elvira Nabiullina and her team have tried to save Russia’s economy amid war and sanctions

Running the Central Bank in wartime conditions

The banker’s dilemma How Elvira Nabiullina and her team have tried to save Russia’s economy amid war and sanctions

Alexander Isakov, the head Russia specialist at Bloomberg Economics, attributes his own predictive errors to over-reliance on the sanctions of 2014–2015 as a model of what could be expected in 2022. In reality, the new round of sanctions was trying to hurt Russia where it couldn’t hurt anymore, since its larger banks and companies had already lost their access to international finance. Picking the wrong analogies resulted in forecasting mistakes, says Isakov. Most calculations drew on sanctions against Iran to predict the impact of new sanctions, he explains,

But recent quarters have shown that Russia’s trajectory is closer to the South African experience in the 1980s, with a slight recession and a slight drop in market competition due to the departure of international players, and with increased profits without increase in production.

Still, even if quality statistics do finally reveal that the economy has shrunk by “only” four percent, this is no small loss, given that, before the war, 2022 had promised Russia a three-percent growth, putting the real gap at about seven percent, points out Oleg Itskhoki. And even these numbers in themselves are deceptive, since they say nothing about the sanctions’ real effect on Russians’ standard of living.

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Per-capita income and the standard of living

The best statistical indicator of how average Russians might actually be feeling financially is what’s called “real per-capita disposable income” — that is, income left over after basic expenses, adjusted for inflation.

According to the federal statistics agency Rosstat, the first three quarters of 2022 saw a 1.7-percent contraction in real per-capita income, compared to the same period in 2021. The Economic Development Ministry expects a 2.2-percent contraction of the economy, based on the final figures from 2022. This isn’t much, compared to other recent crises of the Russian economy — notably, the blow that followed the annexation of Crimea in 2015 (when oil prices hovered just above $50 a barrel, and Russians’ per-capita income dropped by 4 percent).

In her review of the Russian economy in 2022, Natalia Orlova, head economist at Alfa Bank, pointed out that it was the federal budget that helped cushion per-capita income, as the share of government welfare payments in the overall income structure rose from 20.6 percent in 2021 to 21.7 percent by late October 2022. These infusions are likely to continue in 2023, writes Orlova, thanks to the nearing 2024 presidential election. (Traditionally, Russia prepares for elections by increasing the amount of available welfare.)

The official 2022 average salary data also paints a bright picture. According to Rosstat data, real salaries (that is, salaries adjusted for inflation) fell by only 1.5 percent over the first three fiscal quarters. But Rosstat’s monthly reports are not very informative, says Vladimir Gimpelson, an economist who studies the Russian labor market. Gimpelson thinks that average salary data are compiled to mislead:

Every month, companies report to Rosstat on their total salary spending and number of employees. Rosstat divides one by the other to get an average salary. So, if a token “Gazprom” adds the salary of a token [Gazprom CEO Alexey] “Miller” to the coat-check guy’s salary and then divides the sum by two, that figure will be their “average salary” — and if the CEO gets a raise while the coat-check person gets a salary reduction, that average may very well increase.

In addition, only large and medium-sized corporations have to report salary data, though they employ only 32 million Russians, in the context of a 72-million-person labor market. This means that Rosstat has no monthly data on the remaining 40 million Russian workers employed by small business and other small entities, where salaries generally are significantly lower than in larger companies and organizations. This is why, Gimpelson sums up, it’s impossible to interpret Russia’s salary data in any meaningful way.

Russian economists scrutinize a Yale economic forecast

‘A commendable effort’ A widely cited report predicting doom for the Russian economy has come under scrutiny from economists

Russian economists scrutinize a Yale economic forecast

‘A commendable effort’ A widely cited report predicting doom for the Russian economy has come under scrutiny from economists

What about the unemployment rate?

Salary dynamics are the Russian labor market’s main way of responding to economic crises. Gimpelson stressed that “salary flexibility” is very much a feature of the Russian market, where salaries can easily fluctuate up or down, and where, statistically, companies deliver about a third of employee wages in the form of bonuses and other variable forms of compensation. This means that a company can reward its employees when it turns a profit, or, on the contrary, transfer some of its losses to employees, by withholding their bonuses. But these dynamics cannot be traced on the basis of official salary data.

“Salary flexibility” is also one of the main reasons why Russia has a stable low rate of unemployment, which has hovered around 5 percent since 2012, only to drop to the record low of 3.8 percent in 2022, against the backdrop of the war. When faced with financial problems, employers generally try to avoid layoffs, opting instead for wage cuts (by withholding bonuses, asking employees to take unpaid leave, and tweaking other variables built into their compensation structure).

Another factor that contributes to Russia’s low unemployment rate is the paucity of the unemployment assistance provided by the state, which pushes people to find any kind of work at all rather than to try to live on what’s now 12,792 rubles (or $176) a month — a sum too little to make ends meet and often too embarrassingly small even to show up to collect it at the unemployment office, Gimpelson explains.

In one of its conference reports, the International Labor Organization pointed out that countries where people have no financial cushion, be it in the form of savings or adequate unemployment assistance, will always be able to boast about low unemployment, simply because, for lack of financial security, people are forced into jobs, whatever those jobs might be. Russia’s low unemployment rate is also helped by a workforce structure in which the categories of “self-employment” and freelancing camouflage a potentially significant share of unemployed people.

All these factors make Russia’s economy quite resistant to rises in unemployment — at least on paper. In addition, about half of the 32 million Russians employed by medium-to-large corporations work for state-run organizations funded by the federal budget. Of the remaining 16 million, five million work in industrial goods production — a sector that has been especially hurt by the sanctions and the departure of foreign companies since the war began. Still, even if jobs in that sector had been cut by a draconian 30 percent (which would be 1.5 million jobs), the difference would not be statistically impressive, says Gimpelson:

Suppose that half of them will find new work or else leave the job market, and the other half will claim unemployment. That’s an enormous figure, but these 750,000 are just one percent of the workforce. So, we’ll have a rise in unemployment, from four percent to five. Who cares?

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‘People won’t like what’s happening at home’ With prices and unemployment on the rise, Meduza’s sources say Kremlin officials fear Russians are in for a rude awakening this fall

How the Kremlin tries to keep economics separate from politics

‘People won’t like what’s happening at home’ With prices and unemployment on the rise, Meduza’s sources say Kremlin officials fear Russians are in for a rude awakening this fall

Are Russians saving or spending?

To really grasp how ordinary Russians’ home economics might have changed in 2022, we need to know not only their real income, but also how they spent that money over the course of the year.

Retail industry statistics can help us here, and the first three fiscal quarters of 2022 have already shown a 4.3 percent drop in grocery retail sales, as compared to the year before. When it comes to products other than food, retail has shrunk much more dramatically, by 14.3 percent. This marks a very slight improvement from the 17 percent drop in retail revenues in April and May, as compared to the same period in 2021. Alfa Bank economist Natalia Orlova thinks that this suggests a prolonged sag in consumer demand.

Consumption is unlikely to recover in 2023, either, and this is partly due to emigration, Orlova explains. When leaving Russia for other countries, the new emigrants also moved their savings to foreign banks. By September, based only on information made available to the Russian Central Bank by international tax treaties, total assets deposited by Russians in foreign banks had more than doubled since the beginning of the year, topping $66 billion. This can only translate into a sinking consumer demand back in Russia, according to Orlova.

Meanwhile, those who have remained in Russia are becoming more frugal. In late October, Russian Central Bank head Elvira Nabiullina connected the propensity to save with “increased uncertainty” and warned that it might take a while for consumers to get used to the new goods that have replaced the assortment of imported goods they once knew.

But the fact that people must adapt to the reduced choice of goods is itself a marker of a reduced quality of life, points out Konstantin Sonin, an economics professor at the University of Chicago: “If a person used to have lunch at McDonald’s, and now he has to eat at some other place, it means that he is doing something that makes him feel worse.”

Will the ruble hold up under pressure?

Last summer, against the backdrop of a trade surplus, the U.S. dollar traded at less than 60 rubles. This, however, did not stop imported goods from becoming more expensive, due to logistical problems. Although the summer saw some recovery of import volumes, this hasn’t reversed the basic situation of the trade surplus, in which the Russian economy’s export revenue exceeds its spending on imported goods.

Oleg Itskhoki predicts that Russia’s export revenue may shrink in 2023, either as the result of lower oil prices or due to a possible recession, be it in the eurozone, the U.S., or China. Sanctions and price caps have the ability to drive oil prices down — by as much as 20 percent, Itskhoki estimates, but possibly even by 50 percent, if an economic recession enters into the dynamic. Either way, the ruble is unlikely to stay strong in 2023. The prices of imported goods, on the other hand, will grow, and their supply will continue to shrink.

Other economists, too, predict a weakening of the ruble in 2023. The Alfa Bank head economist Natalia Orlova forecasts that, in 2023, the U.S. dollar will trade at about 70–80 rubles. Alexander Isakov (Bloomberg Economics) thinks the exchange rate will stay around 76–78 rubles to a dollar. The average conversion rate predicted by respondents to the Central Bank’s December survey was 70 rubles to a dollar.

2023 and the Russian economy

Natalia Orlova estimates that Russia’s GDP will shrink by 6.5 percent in 2023 instead of the 2–3 percent seen in 2022. The drivers of this contraction will be the dampening of consumer demand and investments, as well as the reduced export potential.

The more optimistic forecasts rely on the established pattern of recovery, following each year that saw a recession in Russia since the late 1990s. But the current crisis, Orlova says, is different. Heli Simola, a senior economist at the Bank of Finland, echoes Orlova in her skepticism. Simola expects that the Russian economy is in for a “prolonged, painful recession”:

Recent forecasts anticipate a 7–8% drop in Russian GDP in 2022–2023, that is, a decline similar to those seen in Russia’s major economic crises in 1998 and 2008. The difference is that the Russian economy bounced back rapidly after these earlier crises, whereas Russia’s current outlook is gloomy for years to come.

Although “the direct effect of sanctions on the Russian population is limited,” she writes, “all Russians will suffer for many years from a deteriorating standard of living from Russia’s ill-conceived war.”

Capping oil prices to stop a war

The bid to cap Russian oil prices The U.S. and its allies want to limit the price of Russian oil to hinder Moscow's ability to fund the war. Would that work?

Capping oil prices to stop a war

The bid to cap Russian oil prices The U.S. and its allies want to limit the price of Russian oil to hinder Moscow's ability to fund the war. Would that work?

Reportage by Margarita Lyutova

Translation by Anna Razumnaya

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