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Gosplan, deficit, inflation: the future of Russia's economy under sanctions

In the days of war, Russia's economy resembles a falling elevator. The country's leaders are hastily shifting the economic system to government control, seriously considering nationalization, and citizens are seeing all the usual market instruments disappear. The global blockade is having an immediate effect. Foreign currency, goods and services and even their brand names keep disappearing.

The next day after the first Russian bombs fell on Ukrainian soil, I wrote that because of this Russia would lose 10 to 15 years of development at best, or three to four decades at worst. Now, on the fourteenth day of the «struggle for peace,» we can see that the worst-case scenario is coming true. What we've got is not just a severe economic crisis, it's the collapse of the entire economic model. Time jumped back thirty years, and it's 1991 once again, only turned inside out. Perhaps 1984 is just around the corner.

This may sound surprising, considering that Putin has promised to respond to sanctions with «maximum economic freedom». But promises are one thing; the reality is another. And even if criminal responsibility for economic crimes, including non-payment of taxes, is indeed abolished, it will hardly help the country, which is rapidly sliding back toward government control. In the Soviet Union, too, almost no one was put in jail for failing to pay taxes.

No billionaires, no stock exchanges.

Shares of Russian companies cannot be sold for any price. Since February 27, the Central Bank has been reporting daily that trading on the stock market will not resume the next day. In fact, this means that all the big private capitals have been reset to zero. What will their owners do? Work as chief administrators of their own enterprises? Their role will not differ from that of the Soviet directors during the late years of the USSR: they could do whatever they wanted with their plants, but they couldn't sell or mortgage them. This, in turn, will push them towards the position of a temporary owner who'd rather sell the inventory and equipment at whatever prices and distribute the proceeds among themselves and their cronies through inflated salaries and phony purchases. Seeing this, the government is likely to establish a tight control over the actions of the «economic führers» by telling them how much to produce, how much to pay the main groups of employees and suppliers, and how much money to receive for their managerial skills.

Formally such an enterprise will remain privately owned, but in reality it will become part of the public sector. There are only two ways to avoid this: either to close the company altogether, or to somehow restore its profitability and at the same time the owner's hope that it will be he who gets the profit. But if there were any hope for profit, the stock prices would not plummet, and the stock exchanges would not be closed.

If there were hope for profit, the stock prices would not plummet, and the stock exchanges would not be closed

Of course, developed countries have had «stock vacations» in their history, too. For instance, on July 31, 1914, with the outbreak of World War I, all major European stock exchanges were closed, as well as the New York Stock Exchange. In New York, stock trading resumed four months later, in London - six months later, and in St. Petersburg – only on January 24, 1917, a month before the February Revolution, after which trading was closed for decades.

No loans or foreign currencies

Banks, too, operate in a manner that cannot be called normal. They are cut off from the outside world. It is impossible to pay for a purchase abroad with an ordinary bank card, not even for an entertainment or educational digital product. It is impossible to transfer money to your foreign account. It is forbidden for Russian banks to publish their accounting statements – otherwise it will become clear how much money the depositors have taken from them and how difficult their financial situation is.

It is possible to withdraw dollars from the foreign currency account only upon special request to be submitted a few weeks in advance, and only up to 10,000 dollars; this rule may also be violated, some bank clients say. The banks are also forbidden to sell cash currency to individuals at the market rate, something the banks had been doing uninterruptedly for thirty years. (However, on March 9 it was still possible to buy a dollar for 134-140 rubles in Moscow at «operational cash offices», that is, exchange offices outside the bank branches). Bank debtors, if they can prove that their income has decreased by thirty percent, may postpone their debt payments until October.

In addition, foreign currency debts will be repaid in rubles, or in the currency of the debt subject only to only «special permission». And it will be even worse for creditors from countries that have imposed sanctions against Russia. They will have to open so-called «C» accounts in Russian banks, i.e. ruble-denominated accounts, and everything that is owed to them will go into these accounts. What they will then be able to do with their ruble accounts in Russian banks is described vaguely. Putin's decree № 95 of March 5, 2022 «On the temporary order of the performance of obligations to certain foreign creditors» states: «The regime of C-type accounts is established by the decision of the Board of Directors of the Central Bank of the Russian Federation, which is subject to official publication». That is, the decision is the Central Bank's to make.

Creditors from countries that have imposed sanctions against Russia will be even worse off

As for me, in this situation the special permissions and special regimes introduced by decrees remind me of a joke about renting one meter of the state border. The opportunities for corruption here are enormous. The world may crumble, but still Rabbit's friends and acquaintances won't miss an opportunity to get rich. As in Soviet times, «the store-keeper and merchandiser» will decide who will be rich and who will be poor.

No foreign trade

Okay, says the reader. But what if I am not a creditor and not a debtor, not an issuer and not a shareholder, not a depositor, not a customer of foreign online stores and not a buyer of foreign currency? What if I am a pensioner who visits the store to buy laundry detergent? There's a problem here, too. Procter & Gamble, with its brands Tide, Ariel, Myth, Dreft, and Tix, received 44 percent of all revenue from the sale of detergents in Russia. Now it has announced that it is stopping all investments in Russia, ceasing all advertising campaigns, and narrowing its range to «basic health, hygiene and personal care items.» The second largest detergent supplier Henkel produces Persil, «Laska», Losk, Deni and «Pemos» and holds 26 percent of the market but it is now also stopping investments. So, these products will disappear and at best be partially replaced by more expensive and lower quality ones.

Other kinds of household chemicals will also go the way of the washing powders, as will all other goods. It is estimated that more than 340 companies and brands have already left or are planning to leave Russia. Oil and gas, energy, heavy industry, finance, construction, cars, airplanes, bicycles, electronic and household appliances, furniture and household goods, software, Internet services, video games, clothing, jewelry, watches, cosmetics, alcoholic and soft drinks, audit and consulting services – the leading brands are saying goodbye to the Russian market in all sectors. Leaving are the products which are made in Russia and styled «a la Russian goods»: the juices «Dobry», «Lyubimy», «Ya», «Fruktovy Sad», «My Family», along with the milk brands «Domik v derevne» and «Vesely Molochnik», and also the «Russian Dar» kvass from PepsiCo, which sold its drinks even during the Afghan War in the Soviet era. Coca-Cola is also leaving, and the McDonald's restaurants are closing.

PepsiCo, which was present even during the Afghan war in the Soviet era, is also leaving

Businesses that still want to bring something to Russia are unlikely to be able to do so, because the largest container carriers - Maersk, MSC, Shipco, Hapag-Lloyd, CMA CGM - have stopped accepting delivery orders to Russian ports. Although Russia has a land border with China, almost all Chinese goods come to us in containers by sea. Widespread breaks in supply chains are inevitable.

And if we somehow succeed in raising the capacity of the Trans-Siberian Railway and other railroad routes linking Russia with China, it is not very clear what Russian buyers will use as payment. The Bank of Russia's foreign assets have been frozen, seven Russian banks have been cut off from SWIFT, the United States and Britain are imposing an embargo on fuel from Russia, and European Union leaders are planning to cut their purchases of Russian gas by two-thirds by the end of the year. Curiously, the Central Bank decided to indicate the volume of its international reserves only as of February 18 for the next three months. Perhaps, this approach will soon prevail in the publication of other economic data.

The hope to replace the missing imports with domestic products is mostly wishful thinking. The country does not have and will not have any manufacturers who are not heavily dependent on foreign technology, capital, equipment, specialists or consumables for a long time to come. Many enterprises will simply shutdown because of the lack of imported machine tools, microchips and spare parts. It's time to remember that even Stalin's industrialization would not have taken place without the huge contribution of Western industrialists and engineers. Those who long for Soviet military-industrial «greatness» often underestimate this fact. Now we will see with our own eyes the long and agonizing road to complete economic autarchy and the degradation that awaits us at the end of this road.

What's next?

In the next month Russia will face an acute supply crisis, decline in production, and price hikes. As for prices, Rosstat has already noticed something curious even by the results of the first week: consumer prices from February 26 to March 4 grew by an average of 2.2%, but cars, vacuum cleaners and TV sets went up in price by 15-17% at once. The disproportion here is quite expected: the crisis will be chaotic, uneven and confusing; it will hit different sectors, regions, enterprises, and social groups with different intensity. Somebody may even win something in this turmoil, and win a lot, but it is impossible to predict in advance who it will be.

If all your competitors collapse before you, you become a monopolist. If you managed to buy key resources just before your supplier raised prices or shut down production, you can be a big winner. If your creditors disappeared without leaving a successor, and you were able to collect from your debtors, you are in luck. And if you have connections with those who will decide on bans and permissions, on price regulation, on the distribution of quotas, on special licensing regimes, on government orders, on subsidies, on access to the outside world, then you have all chances to get rich - you just have to quickly orient yourself in the endless series of changes.

In any case, there will be a colossal redistribution of wealth, to the unpredictable detriment of both ordinary people and the former bigwigs. Obviously, for the Putin regime, which is used to deciding who gets what, this process, which is beyond control, will be a nightmare. The government will most likely try to «regain control» with a variety of interventions that will only worsen the chaos if there is too few of them; otherwise, they will lead to an almost complete governmentalization of the economy.

Either way, there will be an enormous redistribution of wealth, and in an unpredictable way

One of such measures, which is already being discussed today, is nationalization. Once the foreign owners of Russian factories decided to shut down production, it was proposed that those factories be taken away from them and handed over to the state or to «loyal» local businessmen. Another popular idea is the direct administrative regulation of profits and losses, so that no one gets too poor or too rich contrary to the government plans. The third is to divert rare and valuable resources to «priority needs» by commands from above. We do not yet know what will be in deficit and what will be a priority, but the «advocates of a strong state» in power certainly cannot resist the temptation to manage those needs.

If all these ideas materialize, we will have a full-fledged State Planning Committee. Moreover, in the course of its creation, it is likely to destroy even those segments of the market economy, which, without the intervention of the authorities, could have successfully adapted even to the isolation and external blockade. The market, if not broken, is a very adaptable mechanism. But the logic of the Kremlin is incompatible with the market, and under the promise of «maximum economic freedom,» the country is once again undergoing a great anti-capitalist revolution.

P.S. A step towards «real economic freedom» and away from the planned economy was made on March 9 - a law was signed allowing individuals to buy gold bars, including 1-gram bars, without paying VAT. Perhaps this will allow people to make savings with the ruble rapidly depreciating and the financial institutions collapsing. Will this measure remain just words or will we soon see the emblem «Au» instead of «$» on the signs outside the exchange offices?

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