The Collapse of the Russian Economy?

The fate of the Russian economy in 2015 and the possible repercussions from a continued rapid diminution in the international exchange value of the ruble on domestic political stability in the Russian Federation remain open questions.  Significantly, it appears improbable, in the near term, that existing levels of shale oil production from already operational North American wells is going to abate in any way that will place upward pressure on global commodity prices for crude oil.  With the fracturing of OPEC unity on limiting output levels to increase prices and Saudi Arabia and other Gulf states committed to high levels of production in order to maintain market shares, it is likely that daily crude oil prices will remain below $70 per barrel in major commodity markets for at least another three months and perhaps longer.  Moreover, given the continued effect of U.S. and European economic sanctions in response to Russian involvement in Ukraine, neither the Russian government nor financial sector firms possess ready access to Western monetary capital resources.  Under these circumstances, Russia will experience a significant contraction of economic activity and a substantial price inflation as the ruble's value continues to disintegrate. 
            Several conclusions from the present Russian economic trajectory appear somewhat clear:
1.  Russian governmental and monetary authorities are incapable of alleviating the current foreign exchange market stress on the ruble in the absence of an appreciation in crude oil prices:  The source of the current economic crisis is intimately related to the present dive in crude oil prices, which is exaccerbating the effects of punitive U.S. and European capital market restrictions against Russia.  Neither Russian Central Bank President Elvira Nabiullina nor Russian Finance Minister Anton Siluanov possess effective policy tools to contest the global supply glut in crude oil markets arising from the combined impact of increased North American shale oil production and rising output from the Gulf states.  The most that Russian monetary authorities can accomplish through utilization of domestic monetary tools is to sharply increase interest rates in an effort to stave off conversion of rubles into foreign currency and protect the Russian banking system.  So far, efforts in this direction appear to have been only moderately effective in preventing the extraction of funds from Russian banks and capital flight.  As ruble-denominated assets become increasingly illiquid, the financial system will continue to bleed capital at an accelerating rate.  Ultimately, the prime lever in determining the fate of the Russian financial system will be the relationship between global pricing of crude oil and the production price of North American shale oil, as the control mechanism for new investments in shale oil production capacity.  This relationship can only manifest a long term effect, however.  In the immediate future, Russian monetary and financial authorities will continue to manage the negative effects of depressed oil prices without an adequate means of stabilizing the value of the ruble. 
2.  The Russian economy is too rigidly dependent on extractive revenues from petroleum and other natural resources - in the aftermath of the current crisis, efforts must be made to diversify domestic production in order to generate the capacity for a more diversified export portfolio, driven by a more diverse, flexible, and entrepreneurial private sector.
A portrait of Russia's export portfolio to the world demonstrates the depth of the pain that its economy is currently enduring with a decline in crude oil prices.  Crude oil constituted precisely thirty-three percent of Russian exports in 2013 and the combination of crude oil, refined pretroleum products, and gaseous hydrocarbons/natural gas constituted sixty-eight percent of Russian exports for the same year (see United Nations, International Merchandise Trade Statistics, Yearbook 2013: Russian Federation, at: http://comtrade.un.org/pb/FileFetch.aspx?docID=5347&type=country pages).  Emphatically, the Russian economy is very highly dependent on exports of petroleum products and especially dependent on the sale of unrefined petroleum in ways that make the economy hyper-sensitive to price fluctuations in global petroleum markets.  Moreover, the remainder of Russia's export portfolio is dominated by extracted raw and minimally processed minerals, including raw aluminum, pig iron, and raw nickle (see Observatory of Economic Complexity (OEC), "Learn More About Trade in Russia," at: http://atlas.media.mit.edu/profile/country/rus/).  Each of these commodity markets is liable to exhibit sensitivities to global macroeconomic fluctuations, impacting their uses in progressive stages of manufacturing operations.  In particular, the recent slowdown in Chinese manufacturing is likely to produce a constriction in demand for a range of Russian extractive commodity inputs, generating a decline in economic activitiy partly independent of the effects of negative fluctuations in petroleum markets.  Such patterns reinforce the larger problems inherent in the evolution of the Russian economy since the breakup of the Soviet Union.  The rapid privatization of highly centralized state capitalist enterprises and their subsequent consolidation into the hands of a small number of oligopolistic private capitalist firms in the extractive sectors, intimately tied to state agencies and oligarchic administrative patrons, promoted particular patterns of specialization, driven by global market pricing, to the detriment of a broader diversification of productive activities for export markets. 
             Approaching the transformation of the Russian economy in the aftermath of the Soviet system as an overdeterminist, I have to concede that it might have been difficult for other outcomes to have obtained in the absence of some significant foreign intervention in the political transition to electoral democracy (i.e. support for the development of a legitimate multi-party, pluralist democratic model) and capital investment in non-extractive manufacturing and services.  In point of fact, the radically deregulated, market orientation of the economic transition in post-Soviet Russia, combined with the stiffling of political democracy as ethnic Russian nationalists like Putin moved to crush incipient drives for autonomy by non-Russian minorities, enabled olipolistic firms dominating the extractive sectors to steer the economy's development into a course wholly consistent with the frozen logic of Ricardian comparative advantage.  In the end, high level private sector players and political oligarchs alike tied their hopes to the continued appreciation of petroleum prices on global markets, and they now suffer a fate driven by the rapid course of technological change (i.e. hydraulic fracturing) that they could not otherwise have foreseen.
            In the near term, high-level domestic stakeholders in Russian economic health will continue to frantically hope for a leveling off of global crude oil supplies to drive price increases and restore petroleum revenues, even as Russian suppliers produce and market every last drop of oil that they can produce at maximized output capacity.  What else can they do but keep digging their own graves?  In the long run, the commodity market events of the last two months make it clear that the Russian economy needs to gradually restructure itself from the ground up to accentuate production across a range of diverse markets for goods and services destined for domestic consumption, by smaller, more nimble, flexible, and entrepreneurial firms.  In the process, maybe some such producers will, over a prolonged gestation period, accumulate the expertise in production and marketing savy necessary to enter export markets with a more diverse range of higher stage commodities and, as such, elevate Russia's stature as a legitimate home for an active, advanced, innovative, and fully integrated base for domestic demand and export-driven growth.  Meanwhile, maybe an incipient strata of free-thinking, entrepreneurial, and outward looking Russian economic players can collectively steer the government of the Russian Federation away from its seemingly endless, militarized inward orientation, transfixed on the domination of Eurasia and the reconstruction/reconstitution of Russian imperial space.       
3.  The Russian government is investing too heavily in defense spending, by virtue of United Russia's aggressive policies against internal ethnic and sectarian minorities (e.g. Muslim ethnic groups in the North Caucasus) and its muscular interventions in neighboring states (e.g. Georgian South Ossetia and Abkhazia, Crimea, Ukrainian Donetsk and Lugansk) - the government needs to reduce defense expenditures and invest more heavily in non-defense infrastructures, education, and other areas more amenable to long term economic growth. 
This conclusion is not entirely original: Russian Finance Minister Anton Siluanov has been making this argument at least since early autumn of 2014 (see Lidia Kelly, "Finance minister warns Russia can't afford military spending plan," Reuters News Agency (7 Oct. 2014), at: http://www.reuters.com/article/2014/10/07/us-russia-economy-spending-defence-idUSKCN0HW1H420141007).  Under pre-existing plans for a thorough upgrading of Russian military technologies, the Russian Federation apparently had planned to budget 23 trillion rubles through 2020 for military spending.  Under present circumstances, with the collapse of the value of the ruble in international exchange markets and restrictions on the export of technologies to Russian military contractors in response to Russian involvement in eastern Ukraine, it appears improbable that such a scheduled upgrading will take place in the absence of a major reconfiguration of other governmental budget priorities.  In other words, aggressive military spending will only come at the expense of virtually every other domestic line item in the budget of the Russian Federation. 
             Taking for granted that the capacity of the Russian Federation to make significant military investments is being presently compromised, it is still worth asking why such military upgrades might be deemed essential within the Kremlin - what is at stake in the current vision of Russia's place in the world, focused critically on the country's military prowess?  In my view, we are witnessing the final breakdown of a political culture with its roots in pre-Romanov Tsarist Russia and the struggle to expand Muscovite hegemony across an expanding geographic sphere against diverse non-Russian Eurasian ethnic groups, most critically Muslim "Tatars" of various ethnic and linguistic origins.  As an historical matter, non-Russians (i.e. non-Muscovites) are not, at least from the time of Ivan "the Terrible" in the late Sixteenth century, incorporated as coequal subjects under the domination of the Muscovite tyranny.  This pattern of ethnic and sectarian exclusion, not palpably challenged within the Soviet period beyond the first decade of Bolshevik rule, sets up an insurmountable ideology of managing ethnic differences through "Russification."  That is to say, Russians have spread across Eurasian space, in turn disseminating both language and cultural norms, supported by military supremacy over outlying ethnic groups.  This internal pattern, enforcing the need for the military supremacy of the Russian state against subjected ethnic groupings, compounds Russia's ongoing antagonism with the West, with the Europe of the Enlightenment, the egalitarian humanism and liberties of the French Revolution, and the march of free market capitalism in the advanced industrial economies of Western Europe.  Emphatically, Russia's military strength counteracts its perceived economic backwardness, its latent cultural hyper-conservatism, and its adamant embrace of political autocracy against the potential chaos of a robust democracy. 
                 At this point, the Russian Federation appears to have little choice - it will embark on a reduction of its military expenditures and withdraw from certain of its current military commitments or it will face a potential default on its international financial obligations at a time in which its avenues for financing current expenditures of the state are being constricted in response to its overly aggressive relations with certain of its neighbors. 
4.  A reconfiguration of Russian governmental spending will necessarily involve a transformation in domestic policies toward insurgent movements within the Russian Federation and toward neighboring former Soviet states - emphatically, United Russia's vision of a militarily muscular Russian hegemony over Eurasia has to meet its demise. 
With the economic facts on the ground in mind, we need to resituate Russia's role, as the preeminent military power in Eurasia, against the reality that Russia cannot, at present, afford financially to play policeman against its neighbors when the grandiose visions of Putin and United Russia for a return to empire get violated by the autonomous visions of Chechens, Dagestanis, Georgians, or Ukrainians for a future liberated of domination from the Kremlin. Most significantly, a liberatory window is opening for non-Russians within the boundaries of the Russian Federation that may not remain perpetually open. If the Chechens, Dagestani, and Ingush in the Northern Caucasus could ever succeed in breaking free from Putin's grip, now is probably the time for these Muslim minorities to aggressively act. To be clear, the collapse of global crude oil prices may signal the start of a brutal new war for control of the North Caucasus, pitting Sunni Muslims from the region and from multifarious other places against the military forces of the Russian Federation and their pro-Russian Orthodox neighbors (e.g. the Ossetians).  If this occurs, moreover, it seems likely that Putin will be forced to take his foot off Kiev's throat in the struggle for Donetsk and Lugansk, though probably will not alter the situation with Crimea.  Emphatically, the capacity of the Russian Federation to maintain control within its present military investments is being critically compromised by the degeneration of Russia's fiscal capacity.
            Against this situation, the U.S. and EU need to tread exceptionally carefully to ensure that the Russia's military position, particularly in its struggle against militant Salafist movements in the Caucasus, is not so damaged to the point that Western security is, simultaneously, threatened.  On the one hand, NATO must rigorously enforce its defense commitments to the Eastern European and Baltic states that now count themselves as coequal members - as the Russian Federation loses its grip on internal political stability, its neighbors need to be insulated as much as possible from efforts by Russia to lash out against neighboring independent sovereign states.  On the other hand, NATO cannot intervene militarily to either hasten or forestall the breakup of the Russian Federation.  However, it is certain that the process through which the current Russian Federation is transformed will have ongoing repercussions for the EU and the U.S.  It might be in the long term best interests of Sunni Muslim populations in  the North Caucasus region to achieve greater autonomy if not full blown sovereignty (i.e. secession from the Russian Federation), but, if such a transformation comes through a war against Putin's government, drawing in multifarious foreign Salafist forces under the aegis of Al Qaeda or, now, the Islamic State, then the long term interests of the U.S. and EU in the maintenance of peace in the Caucasus and the neutralization of sources for the growth of militant Salafism internationally will be impacted.  Succinctly, it is in the long term interests of the West to disarm the current context in the North Caucasus of a standoff between dogmatic Russian nationalists and militant Salafist Sunni Muslims.  It may be too late to avoid the confrontation that will be coming to this region and to Russia as a whole, but we need, as much as possible, to persue a middle ground and seek to restore peace to the region and procure autonomy for non-Russian groups to the exclusion of Islamist militants (again, assuming and hoping that such an outcome is still possible).
           In these terms, the West will need to manage a breakdown of the current Russian Federation through tactful diplomacy and craftsmanship in the selective introduction and lifting of economic sanctions and trade/capitalization agreements.  Such a task can only be conceived as a long term initiative, framing Western strategies in confrontation with the Russian Federation and pursuing a deepening democratization of Russian constitutional institutions and a thoroughgoing mass liberalization in Russian culture.  Perhaps we will know that such a reframing of Western relations with Russian has borne fruit if at some point, say fifty years from now, we will no longer conceive of how the government of Russia could ever have been ruled over by someone like Putin.