Since the start of the Russian invasion of Ukraine, there have been plenty of dire warnings about Russia’s inevitable collapse. Indeed, the intervening time saw Russia face numerous setbacks and challenges, most recently the Ukrainian incursion into its territory in August, not to mention its Central Bank’s key rate hike to the very restrictive 19% in September, and to 21% on 25 October. And yet Russia muddles on, maintaining economic and political stability. But this does not mean these warnings lack a kernel of truth.
In the short term, Russia’s stability is predicated on three simple things: oil revenue, manpower and President Vladimir Putin’s health. As long as sufficient money comes in, the frontline troops have enough strength to fight, and Putin is in charge, things are unlikely to deteriorate drastically. However, several long-term challenges lurk beneath the surface that have so far been kicked into the future or papered over with money. Sooner or later, the government – in fact, any government in charge at the time, whether it is Putin’s or not – will be forced to face them, or deal with the consequences.
The economy
Too much adrenaline
Overheating is an economic diagnosis widely accepted for Russia in 2024. In practice, this means the economy is divided into two sectors – military and civilian. The former is the main beneficiary of the oil revenue, due to the war, taking form in abundant government funding and discounted loans from the state. This results in defence factories hoovering up the workforce, actively hiring and hiking up salaries nationwide – real wages rose 7.8% in 2023 – to ensure the production lines work around the clock to service as much of the invading army’s demands as they can.
Meanwhile, the civilian sectors receive nothing other than a tax hike (from 2025), and has practically lost the ability to borrow, given the Russian Central Bank’s key interest rate – which defines rates for commercial lending – rising to 19% last month. This comes just as costs are rising because salaries need to compete against the overpaying military sector, and Western sanctions have added a premium on anything related to exports – on which the economy still relies across the board. The labour force being shrunk by army recruitment and emigration does nothing to help matters.
The situation is further complicated by the fact that the war spending has created a segment of beneficiaries in the population, such as families of army volunteers. The Kremlin’s spending on military wages since 2022 is estimated at around RUB 3trn (USD 33bn) – compared with the total budget expenditures, planned at RUB 37trn (USD 412bn) in 2024. Sanctions-driven import substitution has also led to growth in certain sectors, such as production of food and clothing, or domestic tourism.
Coupled with the overall salary growth, all this has boosted consumer spending – and by extension inflation (9% in 2024, so far). High returns on deposits due to the high key rate help slow down spending, but do not stop it, especially when the public expects inflation to remain high and is rushing to turn roubles into goods before the former lose value. The same applies to the banks - consumer borrowing has also risen since 2022, and a state-backed subsidy programme triggered a mortgage boom, raising fears of a real estate bubble.
Comedown imminent
This is an economic tangle with many implications. A recession is likely if the adrenaline injection into the economy from the war spending stops. But some things are very hard to roll back, like salary increases, and others can take decades to undo, like the sanctions premium. Their impact may very well undercut what competitiveness is still left in the Russian economy. This is a worrying prospect for the Kremlin given that the oil prices remain subject to fluctuation, the green transition is putting pressure on the fossil fuels, and Russia’s oil output is expected to fall amid a lack of investment in exploration. It is too early to say whether the country will still be able to pay its bills by the time Putin is due at the ballots again in 2030, but it definitely cannot be ruled out. More so because those bills may be higher than anticipated. For example, chronically underfunded infrastructure, such as dams or power plants, are already experiencing regular breakdowns. The costs of bringing the utilities networks alone up to standard are estimated at up to RUB 20trn (USD 223bn).
Politics
Might makes right
Politically, the biggest problem remains the absence of functioning institutions. As is often the case in personalist authoritarian regimes, these have been replaced by elite factions. In Russia’s case, these are notoriously bad at cooperating or adhering to rules (as evidenced by the nationalisations of several Russian companies lacking political patronage since 2022). The war, with its expediencies, has further curbed the rule of law. This is hampering the investment climate, and disincentivising the many potential investors from Russia’s non-Western partners who might still consider entering this market. And in a crisis – such as massive unrest or a leader’s passing – the response of the ruling establishment is likely to be inefficient at best and at worst, descend into a bout of infighting, instead of dealing with the problem at hand.
The situation is not completely black-and-white, however. At the very least, Russia has a layer of competent civilian bureaucracy below the top decision-makers. But even the level-headed chairwoman of the Central Bank, Elvira Nabiullina, lacks influence on a par with Putin’s inner circle. Political instability remains a risk.
Decentralisation pending
Another issue to consider is Russia’s regions. While the scenario of Russia’s breakdown is favoured by the media, it is unrealistic. The ethnically Russian majority has no clear fault lines, and individual populations in the likes of Arkhangelsk, Krasnodar or Vladivostok do not think of themselves as independent nations. Meanwhile, most ethnic minorities, such as in Tatarstan or Sakha (Yakutia), simply lack borders between their regions and other countries. They would be surrounded by Russia in a case of a secession, with South Caucasus being the main exception.
While some change to Russia’s borders cannot be fully ruled out, a much more likely prospect is decentralisation. The country is currently a federation in name only, with the Kremlin having installed an über-centralised governance regime. Demands for more authority being given to the regions is all but inevitable, and even in its most benign form, Russian politics would become more complicated with an increasing number of influential stakeholders. Unless the central government – weakened under this scenario – can build a constructive relationship with them, a political deadlock between the Kremlin and the regional barons would be established, mimicking a situation that already poisoned Russia’s politics in the 1990s.
Security
The return of men with guns
Finally, Russia’s steady decline in crime and violence since the 1990s may very well reverse. Russia has an estimated 500,000 soldiers in Ukraine, many of them expected to be discharged if and when the war is over. This could result in hundreds of thousands of men returning home unemployed, accustomed to high military salaries with a skill for violence, with many potentially experiencing PTSD. Coupled with the prospects of an economic downturn and the fact that the war has greatly eased access to firearms, this strongly suggests a rise in violent crime. This is already starting in fact, based on the increasingly classified state statistics on the matter, Russia police forecast a 7% rise in felonies in 2024. A full breakdown of public order seems unlikely, but it will get worse before it gets better. Russia has seen gunfights in the streets before, throughout most of the 1990s.
Business implications
With a population around 140m and 2023 GDP of USD 2trn (at the current exchange rate), Russia remains a significant economic power, if not a top-tier one. Before the annexation of Crimea in 2014, and to some extent even up to the start of the current invasion in 2022, it was a reasonable investment destination. The war in Ukraine became a prohibitive blight on its business climate. However, the problems outlined above will not go away even if Russia were to withdraw troops tomorrow, make reparations to Ukraine, and drop its largely Kremlin-enforced imperialist ideology. Even investors who have worked there before and are considering what possible conditions for return could be would need to acknowledge that this would not be the same environment that they once knew.
In the more realistic scenarios without a geopolitical about-face, Russia will remain a source of risks, regardless of the course of the war. Some are practical. For instance, travelling to Russia, be it employees going for personal reasons, or staff working to wrap up pre-war business activities, may mean increasing exposure to violent crime. The uncooperative nature of the Russian elite implies that any change of power might involve violence and bring to the throne a leader as truculent as the incumbent. Geopolitical risks would be sustained, if not increased, as the lure of a "small victorious war" remains strong. An economic downturn in Russia is highly likely to have a domino effect from Georgia to Kyrgyzstan, and impact even bigger players such as Turkey or the UAE. In other words, you do not need to be in Russia to face its risks. Business activity in the post-Soviet space, and much of the rest of Eurasia, would do well to be approached with scenarios that factor in the longer-term risks of the region’s biggest, but problem-ridden state.