Russian President Vladimir Putin (R) and US President Donald Trump before their meeting in Helsinki, Finland, 16 July 2018. Photo: Brendan Smialowski / AFP
The Russian economy, which has been fuelled by military spending and fiscal stimulus, is on the verge of a serious cooling. Excessive government spending, tight monetary policy and Western sanctions are creating the preconditions for stagnation, which the Kremlin is trying to avoid. At the same time, Washington may unexpectedly provide Moscow with an economic respite, as US President Donald Trump is actively promoting the idea of a quick deal to end the war in Ukraine. Reuters writes about this.
Trump’s approach is a cause for concern in Europe, as previous US contacts with Russia were conducted without the involvement of Ukraine and European allies. Moreover, Trump has actually blamed Kyiv for the outbreak of the war, which is a powerful political bargaining chip for the Kremlin and could bring Moscow serious economic benefits.
According to Oleg Vyugin, former deputy chairman of the Central Bank of the Russian Federation, the Russian authorities are faced with a choice: either to reduce the militarisation of the economy and find a diplomatic way out of the conflict, or face years of inflation, falling living standards and the threat of a social explosion.
While Russia is unlikely to drastically cut defence spending, which already exceeds one-third of the budget, the prospect of a peace deal could ease sanctions pressure, facilitate imports and encourage the return of Western businesses.
Financial pressure and the labour market
Russian financial markets are already reacting to the potential easing of sanctions. The ruble has risen to a six-month high, and hopes for economic stabilisation are keeping investors from panicking. However, the Central Bank of Russia sees no reason to cut its key policy rate, which remains at 21%.
The economic instability is exacerbated by a record budget deficit – in January 2024 alone, it amounted to RUB 1.7 trillion, which is 14 times higher than a year ago. The Russian Ministry of Finance has already revised its budget plans three times in an attempt to balance spending.
Labour shortages remain one of the key challenges for the economy. Military conscription and emigration have pushed the unemployment rate in Russia to a record low of 2.3%. This increases the pressure on the labour market and leads to further inflation.
Between a stick and a carrot
The Russian government is trying to balance military and civilian spending. So far, defence sector employees have been paid high salaries, while private businesses have faced rising lending rates and limited access to investment.
Some companies, such as Melon Fashion Group, have been able to take advantage of the changing market conditions and benefit from reduced competition. However, most businesses are forced to cut back on operations, which could be an additional factor in the economic downturn.
The Trump administration is using the situation in its geopolitical games. The United States is hinting to the Kremlin that it may ease sanctions if it makes concessions on Ukraine, but is ready to impose even tougher restrictions if it does not. This makes Moscow vulnerable to political pressure and forces the Kremlin to consider options for a diplomatic way out of the war.
