Buyers in Moscow. The Russian economy has proven more resilient to sanctions than some economists initially expected, but experts now predict a decline. Credit… Yuriy Kochetkov/EPA, via Shutterstock
Russia’s economy shrank sharply in the second quarter as the country felt the brunt of the economic fallout from its war in Ukraine, which experts say is the start of a years-long slump.
The economy shrank by 4 percent from April to June compared with a year earlier, Russia’s statistics agency said on Friday. This is the first quarterly gross domestic product report to fully reflect the change in the economy since the invasion of Ukraine in February. That was a sharp reversal from the first quarter, when the economy grew 3.5 percent.
Western sanctions, which have stripped Russia of about half of its $600 billion in foreign currency and gold reserves, imposed severe restrictions on dealings with Russian banks and cut off access to American technology, prompting hundreds of major Western corporations to pull out of the country .
But even as Russian imports dried up and financial transactions were blocked, forcing the country to default on its foreign debt, the Russian economy proved more resilient than some economists initially expected, and the drop in GDP reported on Friday was not as as serious as some expected in part because the country’s coffers were flush with energy revenues as world prices rose.
But analysts say the economic damage will get worse as Western nations increasingly turn away from Russian oil and gas, critical sources of export earnings.
“We thought it would be a deep dive this year and then we would level off,” Laura Solanko, a senior adviser at the Bank of Finland’s Institute for Economies in Transition, said of the Russian economy. Instead, there is a milder economic downturn, but it will continue into next year, putting the economy into a shallower recession for two years, she said.
Russia, a $1.5 trillion economy before the war began, acted quickly in the days after the invasion to soften the impact of the sanctions. The central bank more than doubled the interest rate to 20 percent, severely restricted the outflow of money from the country, suspended trading of shares on the Moscow Stock Exchange and loosened bank regulations so that lending would not stop. The government also increased social spending to support households and loans to sanctioned businesses.
The measures blunted some of the impact of the sanctions. And while the ruble recovered, Russia’s finances benefited from high oil prices.
“Russia weathered the initial sanctions shock” and “has been relatively resilient so far,” said Dmitry Dolgin, chief economist covering Russia at Dutch bank ING. But, he noted, unless Russia succeeds in diversifying its trade and finances, the economy will be weaker in the long run.
Retail trade fell by about 10%, the statistics agency said, while wholesale activity fell by 15%.
Michael S. Bernstam, a research fellow at Stanford University’s Hoover Institution, said Friday’s data was consistent with other reports from Russia. He also expects the economy to worsen in the second half of this year and then again in 2023.
Loading in St. Petersburg. The outlook for Russia’s energy industry, a major part of the country’s economy, is dim. Credit… Anatoly Maltsev/EPA, via Shutterstock
As the war drags on, many countries and companies will seek to permanently end their relationship with Russia and its domestic companies. Businesses will have trouble getting spare parts for Western-made machines, and software will need updates. Russian companies will have to rearrange their supply chains as imports freeze.
The outlook for Russia’s energy industry, central to the country’s economy, is deteriorating. The United States and Britain have already banned Russian oil imports, and the country’s oil output will fall further early next year when the full impact of the European Union’s import ban takes effect. Russia will need to find customers for roughly 2.3 million barrels of crude oil and oil products per day, about 20 percent of its average output in 2022, according to the International Energy Agency.
So far, countries including India, China and Turkey have taken some of the lost trade from Europe and the United States, but it is unclear how many new buyers can be found.
Dependence on Russian natural gas is also decreasing. In the last week of June, total gas imports into the European Union from Russia fell by 65 percent from a year earlier, according to a report by the European Central Bank. Some of these declines were imposed on Europe because Russia was reducing its gas supplies. But European countries have increased their efforts to find alternative sources and, for example, are rapidly developing infrastructure for additional liquefied natural gas imports.
The economy will suffer as “the depletion of investment import stocks, the imposition of the EU oil embargo, greater financial pressure on households and their increased dependence on the state” will be affected, while the ability of the central bank and government to provide cash and fiscal support is limited, writes ING’s Mr. Dolgin.
Inflation in Russia was over 15 percent in July. Credit… Yuriy Kochetkov/EPA, via Shutterstock
Shortly after the invasion of Ukraine, inflation in Russia soared as households scrambled for goods they expected to become scarce. In July, inflation was over 15 percent, according to the Russian Central Bank. However, there are already signs that inflation is slowing and as a result the central bank has cut interest rates to 8 percent, lower than before the war.
The bank said last month that business activity had not slowed as much as expected, but that the economic environment “remains challenging and continues to significantly constrain economic activity.”
The bank forecasts the economy will shrink by 4 to 6 percent this year, much less than it initially expected immediately after the war began. This 6 percent figure is also consistent with the latest update from the International Monetary Fund.
The economy will experience a deeper contraction next year and will not return to growth until 2025, the central bank said on Friday. The bank predicts that inflation will be between 12 and 15 percent by the end of the year.
In the coming months, supply chain issues will pose challenges as businesses constrained by sanctions try to alter their supply chains to replenish stocks of finished and raw goods.
“I don’t think the Russian economy is doing well at the moment,” Ms Solanko said. But the idea that sanctions and the departure of companies from Russia will lead to a rapid collapse of the economy has never been realistic. “Economies just don’t go away,” she said.
Russia’s economy will experience a deeper contraction next year and will not return to growth until 2025, the central bank said on Friday. Credit…Maxim Shipenkov/EPA, via Shutterstock
— Eshe Nelson and Patricia Cohen, reporting from London.
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