The Russian economy is teetering on the brink. Oil and natural gas prices are plummeting. Economic growth is shrinking. Western sanctions are causing massive hardship for corporations looking to roll over debt and obtain financing. The situation is bleak, in spite of the protestations from the Kremlin.
The question is, where does Russia go from here? Unfortunately, there doesn’t seem to be anywhere but down at the moment. Russia is highly dependent on the production of oil and gas to fill its federal coffers and maintain the standard of living Russians, and Muscovites in particular, have grown used to. The economy shrank mid-single digits in 2015 and 2016 doesn’t look any better.
Oil has not yet bottomed. Iranian production is just now coming on the market and will add supply to an already overburdened supply chain. Chinese and U.S. demand is shrinking and although the crude price collapse has hurt the shale oil industry and American producers have taken hundreds of rigs offline, these wells can be turned back on with a flick of a switch. In other words, production can be restarted and ramped up in North Dakota and elsewhere in the U.S. very easily. In short, oil could hit the $20 handle and stay there for a long time. This would continue to devastate the Kremlin’s ability to rebuild its military and maintain acceptable social spending levels.
Speaking of social spending, healthcare and education spending have already been cut and are causing unhappiness in Russia. This will continue. There simply is no choice. The resources are not there. The Kremlin has attempted to rebuild foreign currency coffers but this has been problematic at best. At current rates of spending, these funds could be depleted rapidly with no relief in site.
The Kremlin will continue to ramp up military spending in a drive to modernize the Russian armed forces, with a goal of a majority modern force by 2020. Putin is keen to wield this instrument of power on the world stage but it is expensive. It’s the old guns or butter argument. I would bet money on the guns.
The Kremlin for sure understands it predicament; hence, the crackdown on free media and political opposition.
However, one thing one should NOT do is underestimate Russian President Vladimir Putin, who may very well have aces up his sleeve and could surprise the world once again with actions to spike the price of crude oil. To quote former U.S. Secretary of State Madeleine Allright, “What’s the point of having this superb military that you’re always talking about if we can’t use it?” However, this will only serve as a short-term bandaid. The hard work of diversifying the Russian economy away from hydrocarbon production seems to be course the Kremlin has no interest in taking.