Ukraine crisis: Some costs and benefits for Russia so far

Russia’s central bank this week confirmed that some $64 billion in assets held by Russians headed for the exits in the first three months of this year—roughly matching the total for all of 2013. 

Questions:

1. Whatever we think about Russian moves on Ukraine, from the economical point of view, is it anything Russia can gain from it or is more less a net loss?

2. Does Putin care?

Answers:

Anders ÅslundSenior Fellow, Peterson Institute 

1. The sheer market volatility in Russia has in the course of march wiped out ca 2% of expected GDP for the year as a whole. The sanctions have barely started taking effect as yet, and they will do much more. I would expect Russia’s GDP to fall by 2-3% this year given what is already in the cards. Russia can only lose form its aggression in the short and medium term. Crimea and the waters around it contain plenty of oil and gas, but it will take years before Russia would be able to exploit that.

2. Clearly, Putin is not very sensitive, but his expectation is that Western sanctions will abate, and I do not think so this time, because Putin cannot be satisfied with only Crimea. Then he has lost 96% of Ukraine. Therefore, he must proceed either to win the rest or to destabilize it, and either action will lead to ever more Western sanctions against Russia, and Putin has no friends.

Richard ConnollySenior Lecturer in Political Economy, Centre for Russian and East European Studies, University of Birmingham

1. My guess is that the annexation of Crimea will, over the medium-term, turn out to be a modest loss for the Russian economy. The Crimean population of 2 million, with a per capita income well below the Russian average, will no doubt be a net drain on federal resources. In this respect, Crimea will be like many other Russian oblasts, especially its neighbours in the Southern Federal District.

However, because of its modest size, we should be wary of inflating the costs of supporting Crimea. Compared to the total federal budget – and compared to the cost of supporting other poorer oblasts in Russia – Crimea will be very small.

Now, you mention capital flows. It is true that capital flows have increased in size over the last two months. However, they were already increasing in size before the Ukraine/Crimea crisis. Why is not clear. Some say that this is because of the poor investment climate in Russia. Others suggest that global factors (Federal Reserve ‘tapering’ being the most obvious factor) are more important. I would imagine that there is truth in both arguments, but I would place emphasis on the global explanation. Lots of other emerging economies have seen capital flows increase in the past six months or so (Turkey, China, Brazil, India, etc). So, while the current crisis hasn’t helped, I don’t think we should overstate its importance.

We should also mention the positive side of Russia’s intervention in Crimea (from the Russian perspective, that is). Geopolitical instability has contributed to a tighter oil market, helping keep prices at their current levels. Moreover, the depreciation of the rouble (again, something that was already in motion due to the Federal Reserve policy of ‘tapering’, which is affecting all emerging markets, and also the CBR’s policy of moving to a free float) is not all bad news. It might cause a rise in inflation for Russian consumers and importers (inflation rose in March), but with Russia’s main export product – oil – priced in dollars, and the government’s expenditure priced in roubles, the pressure on the Russian budget has actually eased.

As for sanctions. Anything that threatens investment in Russia is likely to be a problem. I wrote a short piece on the subject.

Foreign investment is very important to the Russian economy. However, I think that geopolitical relations between Russia and the West are a long way off being so bad as to threaten these investments. Even if Russia were to occupy some eastern cities (Luhansk’, Donetsk, etc), I would still think the position of major foreign investors would be unaffected. Certainly, if the current crisis remains limited to Crimea then I see no major problems for Russia.

2. Does Putin care about all this? My guess is that so far the benefits (acquiring Crimea and preventing Ukraine from ‘turning to the West’) have outweighed the modest economic costs incurred so far.

Jack Sharples, Lecturer, University od Glasgow, European University of St Petersburg/European Geopolitical Forum

Despite the economic costs, Russian policy towards Crimea has resulted in some gains. Russia now has control over the Sevastopol naval base, which it was leasing from Ukraine and paying for with gas price discounts on the basis of the ‘Kharkiv Accords’. The Russian media are also reporting that the natural gas resources in Crimea’s continental shelf could be substantial, and that in mid-March Gazprom requested permission from the Crimean authorities to develop those resources. Finally, Russia seems to have handed responsibility for Ukraine’s difficult economic situation over the the IMF and its partners. This means that the Russian government will not disburse the rest of the $15bn loan promised in December, and that the gas price discount (also agreed in December) has been canceled.

Sean RobertsSenior Research Fellow, The Finnish Institute of International Affairs

The answer to the second question is fairly straightforward. Yes, Putin is worried about the state of the Russian economy, including the financial implications of Crimea’s annexation and the economic costs of the broader Ukraine crisis, although it is worth stating that Russia’s economic woes largely predated the crisis in Ukraine. Overall, Putin’s concerns with the economy are completely understandable, as his fate and his legacy are directly tied to economic factors. The first question is a little more complicated to answer, as the situation in Ukraine is currently in a kind of suspended animation ahead of next month’s elections, but with all the signs suggesting that Kiev will eventually sign the second part of the Association Agreement with the EU. When/if this happens, Ukraine will become a dead loss for Russia, and Moscow will have to finally reconcile with the fact that Ukraine will not be joining the Eurasian Customs Union. In addition, Russia will have to deal with the  psychological fall-out of Ukraine moving firmly into the EU’s orbit of influence, as well as a number of practical problems that this will entail. These practical problems touch on security (how to reorganise Russia’s defence industry to lessen reliance on Ukrainian components), trade (how to prevent the dumping of cheap goods from Ukraine into Russia) and relations with Kiev (how to normalize relations – at minimum to ensure Gazprom is paid the money it is owed). But, at this moment in time, May’s elections still seem a long way away. If Russia cannot entice Ukraine into its own economic bloc, then plan B is all about preventing Ukraine from building closer ties with the ‘West’. This is why the idea of a federal Ukraine, independent of either Russia or the EU, has its value from the Russian perspective.

Peter ToumanoffAssociate Professor of Economic Marquette University

There are some obvious short-term benefits from Putin’s current policy toward Ukraine and Crimea. Crimea and Sevastopol are extremely important strategically if not economically. Can it become an economic asset some time in the future? Possibly in some alternative reality in which Russia is perceived as an attractive tourist destination.  Some of the costs of the annexation of Crimea are mitigated by forcing Europe to subsidize Ukraine’s debts for its energy imports at now higher prices.  However, the economic costs, which include capital flight and what will be future reluctance in the west to have economic relationships with Russia, are considerable. Finally, this will hasten already on-going efforts by Europe, especially Germany, to develop alternative sources of energy.  I don’t think Putin cares because, domestically, his moves are very popular and strengthen his power within Russia. The danger is that, having unleashed extreme nationalist rhetoric and activism within Russia, he is unable to control those dark forces and further drives away westerners but also educated and dissenting Russians as well.

Shinichiro Tabata, Professor, Slavic-Eurasian Research Center, Hokkaido University

First, you should see that out of $50.6 bln of net capital outflow in 1Q14, $19.6 bln was cash foreign currency. This means that Russians converted rubles into foreign cash. This amount ($19.6 bln) was very big, only comparable to its annual data in 2008 ($24.8 bln). I’d like to suggest that the significant increase in net capital outflow in 1Q14 was not caused by the outflow of capital of Russian companies, but by households that do not rely on the ruble under a current uncertain situation.

Concerning your question, from a purely economic point of view and from a longer perspective, to gain a territory is of course a gain. It is true for any territory, I suppose. But in this and a couple of succeeding years, Crimea will be a burden for the Russian economy because of a heavy subsidy from Moscow, even without taking account of the influence of economic sanctions.

 

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