Be prepared for a long journey. That was the subtext of Boris Johnson’s message to MPs when he pledged to tighten sanctions on Russia.
The warning to prepare for a “protracted struggle” was both timely and appropriate. There will be no quick knockout because Vladimir Putin has had time to prepare and is well dug in.
At first glance, it should be an uneven fight. Russia is the largest landmass in the world but has a lower annual production than Italy. Per capita income is about a quarter of that in the UK.
Russia’s economy has gone through different phases since the collapse of the Soviet Union in the early 1990s: an initial shock treatment that led to a deep recession, culminating in a financial crisis in 1998; a strong rebound in the first decade of the 21st century on booming oil and gas exports; and a recent period of stagnation as a failure to diversify the economy took its toll.
After growing at 7% annually On average for the decade before the 2008 global financial crash, Russia’s economy grew at only about 2% per year in the three years leading up to the pandemic.
The result is that the economy hasn’t really evolved, at least in part, since Soviet times. Russia is still rich in natural resources and human capital, but is developing slowly and has limited links with the West.
dr Holger Schmieding, chief economist at investment bank Berenberg, said Russia is a major military power and energy producer, but not a relevant market for most countries. Germany e.g. exports far more to Poland than to Russia.
But, as those who have taken on Russia in the past have had to come into their own, appearances can be deceiving, and there are a number of reasons why a quick West victory seems unlikely.
First, since invading Crimea in 2014, Putin has been actively trying to seal off Russia from the West. With the imposition of sanctions, western imports of meat, fruit, vegetables and dairy products have been banned.
Second, self-sufficiency has been accompanied by an attempt at diversification, with a deliberate policy focus on China. A deal with Beijing – again in 2014 – paved the way for construction of the Power of Siberia – a gas pipeline linking the two countries that opened in 2019.
China is the world’s second-biggest economy and its high energy demand was one of the factors that pushed up global energy prices last year. Putin has already approved Power of Siberia 2.
Third, Russia has used the money it has received from its oil and gas exports to build up a sizeable financial defense. Moscow sits on foreign exchange reserves of around $500 billion (£369 billion) and has extremely low public debt by international standards. While the pandemic has pushed the UK’s public debt to GDP ratio above 100%, it is below 20% in Russia.
This financial firepower could blunt one of the weapons the West intends to use in response to the Ukraine crisis: a ban on Russia from issuing or trading its government bonds in London and New York. The amount of bonds Russia has to sell is relatively small, and only 10% of the total was bought by non-residents last year.
Finally, Putin has some weapons of his own that he may be tempted to use in retaliation against Western sanctions. Russia supplies 40% of the EU’s oil and coal and 20% of its gas. It is the world’s largest exporter of fertilizers and palladium, an important component of the auto industry as it is needed to make catalytic converters.
The Kiel Institute, a German think tank, says halting gas exports would cut Russia’s GDP by 3%, while halting oil exports would result in a 1.2% drop. While western countries could source their energy elsewhere, reducing supply would inevitably lead to rising oil and gas prices.
Even through the most tense times of the Cold War, the Soviet Union continued to provide energy to the West. Cutting off oil and gas supplies would incur high costs, but would be an example of a strategy used earlier in the country’s history: the scorched earth policy.