Why Is Russia’s Economy Still Growing?

The United States and G-7 announced a slate of new economic punishments against Russia, adding to existing imposed sanctions in response to the invasion of Ukraine. Yet despite it all, the Russian economy is expected to grow this year at a rate of 3.2 percent, according to the International Monetary Fund (IMF)—compared to the 2.7 percent growth forecast for the United States. Russia’s relative economic success comes seemingly as the result of a decision to orient the Russian economy toward supporting the military—an intertwining that could intensify under Russia’s new defense minister, and economic intellectual, Andrei Belousov.

What do the West’s latest sanctions consist of? What is Belousov’s economic philosophy? And what has Russia’s wartime economy taught us about economics in general?

Those are a few of the questions that came up in my recent conversation with FP economics columnist Adam Tooze on the podcast that we co-host, Ones and Tooze. What follows is an excerpt, edited for length and clarity. For the full conversation, look for Ones and Tooze wherever you get your podcasts. And check out Adam’s Substack newsletter.

Cameron Abadi: With its latest sanctions against Russia, what exactly is the United States doing that it wasn’t doing before?

Adam Tooze: It’s an extension of secondary sanctions. Secondary sanctions are the real killer form of sanctions where you punish people who do business with sanctioned entities, not just the sanctioned entity itself. So it’s the way in which you really spread the damage and spread fear and panic around the world economy. It’s what the United States has been trying to do with Iran. So back in December, the White House issued an executive order that gave the Treasury the authority to apply secondary sanctions to foreign financial institutions if they were acting for or on behalf of about 1,200 entities that were key to the Russian defense sector. What they’ve done now is to widen that very substantially to 4,500 Russian entities, including those that were already sanctioned in Russia that didn’t necessarily have anything to do with Ukraine. So basically, what the U.S. is saying is every significant piece of the Russian economy is part of the war economy. It includes the two big banks in the Russian economy, including Sberbank, a systemically relevant actor and the basic bank for the vast majority of Russians. You’ve got private bank accounts, and these sanctions apply to those. So this is very comprehensive stuff.

And the question is how far those who have in recent months and years been willing to go on doing business with Russia will continue to be willing to do so with the threat of U.S. secondary sanctions progressively widening. The intended target here is clearly China, which is the crucial partner for Russia in breaking through the wall of sanctions around the country. It’s understood that there have been talks between the Chinese and the Russians to establish what, in another situation, we might have called bad banks. In other words, banks which are basically going to be sacrificed to sanctions-busting, that will be understood to not be able to pursue business anywhere within reach of the American law. And that might provide a conduit. Who knows how the Americans would react to that if they were on the Chinese side. Would they dare to, as it were, extend tertiary sanctions to people who did business with people who did business and so on? But I think that is the way in which the Americans are upping the ante. And I think it points to the fact of general frustration with the effectiveness of sanctions on the Russian economy—and on the other hand, with a sense of impending urgency with regard to Ukraine’s situation.

CA: The G-7 has also approved economic assistance of its own to Ukraine that is tied to new penalties against Russia, right?

AT: Yeah, so this is coming out of the G-7 meeting that’s going on right now in Europe. For some time, they’ve been discussing the question of how to mobilize, quote unquote, make use of the resources that were sanctioned in the beginning of the crisis when the Europeans and Americans imposed sanctions on Russia’s foreign exchange reserve. That’s hundreds of billions of dollars that are sitting idly in accounts, mainly in Europe. And the idea is to use those for Ukraine’s benefit. One proposal was just to confiscate them outright. There was a considerable degree of resistance to that, led notably by Germany.

Instead, the idea that has emerged is to somehow make use of the profits from those, the revenues that are generated from Russia’s frozen sovereign assets—the interest on the piggybank of Russian assets. There’s been a big argument back and forth over this. And apparently from the G-7, we are having a communiqué that says approximately $50 billion in financial support for Ukraine will be mobilized on the back of the revenue from the Russian assets. So they’re not actually going to confiscate the Russian assets. They’re going to impound the revenue from the Russian assets. And then that flow of revenue will be used to support a loan, one would imagine, of some kind for Ukraine. This is going to be directed to a variety of different purposes, they’ve said. Military purposes, but also financial support for Ukraine.

So what we’re seeing here, following the United States’ announcement of intensified sanctions on Russia, is the flip side, namely, positive support for Ukraine at Russia’s expense. Stopping short, however, of the full, all-out confiscation of Russian assets, which is worrying from the German point of view, notably, because it’s problematic in legal terms and, from the point of view of ultimate negotiations, would compound the difficulties of reaching a settlement.

CA: How would you describe the economic philosophy of Andrei Belousov, Russia’s new defense minister, based on what he’s done until this point in his career?

AT: He is, I think, above all, a profoundly regime-oriented, statist economic thinker. He’s somebody who used to mix quite freely with the sort of economists that we now find on the outside of Russia. So despite his cultural background, his intellectual background, his faith commitments, he was once upon a time a highly internationalized Russian technocrat who appears, if you like, to have gone to ground inside the Putin system and to have emerged in this crisis as an extremely safe pair of hands that Russian President Vladimir Putin trusts with the management, I think, above all of the military-industrial complex. A large part of what remains of the Russian industrial infrastructure will be under his control de facto through the procurement of the defense ministry. And he’s that kind of guy, somebody who can be trusted with that slice of business.

Belousov is—and you can read this online, it’s a rather interesting document—the author of Russia’s equivalent of what China described as, you know, the China 2025 doctrine. In other words, a long-range projection of Russia’s future, a thing called Russia’s Concept of Technological Development until 2030. So this is, as it were, the industrial policy side of Putin’s regime, which outlines a program of investment in higher degrees of Russian self-sufficiency, rebuilding the industrial infrastructure, investing in tech. It’s a little bit polemical to put it this way, but the Russian equivalent of the Inflation Reduction Act or Bidenomics, if you like, is what he would be seen as standing for. Technological sovereignty, but a hard hand also against the oligarchic business sector. He was a man who pushed hard for an excess-profit tax at various points. So he’s fiscally austere, technologically nationalist, but future-orientated, statist in his thinking.

CA: It seems like the various sanctions on Russia have made the country more dependent on its military-industrial complex for its continued economic growth. Has that dependence served to extend the war by increasing the incentives in Russia for its continuation? Is that a potential paradoxical effect of the West’s sanctions?

AT: I was part of a group of people who early on in the war were saying that the idea that we were going to be able to use sanctions to squeeze Putin into submission always was premised on the idea that they would go on running the economy normally, or as they had been doing before the crisis. But because the way they ran the economy before the crisis in Russia was in fact rather austere—they had huge government surpluses, massive balance of trade surplus—it struck many of us that the war might actually provide the opportunity for a pivot toward a kind of war Keynesianism, which would in fact use the war, as you were suggesting, as an opportunity to take a more expansive view of economic management, which had always previously been ruled out. They managed the previous shock of 2014 and the sanctions that followed through tight monetary and fiscal policy. What if you went in the opposite direction? And I think that is indeed what we’ve seen. What that means is that the economy, at the very least, is not going to be the force that drives Russia to seek peace, right? Which I think was part of the original idea of the sanction regime, that this would be a mechanism.

And I’m not going to say the opposite is the case, but it certainly doesn’t look as though the economy is going to serve that function. Employment is humming along. Industry in key areas is being revived to meet the needs of the industrial economy. And Russia has found plenty of people to buy its exports of oil, notably, which is more fungible than gas. But it’s also finding places to buy the raw materials and the subcomponents that it needs to keep its own war machine going. And that does create a kind of momentum. There will then be a class of people whose interests are indeed associated with continuing this. If the war effort was total, like in World War II, where you’re talking about 40 percent to 50 percent of the economy being taken over, then, you know, it’s hard to see that anyone really has an interest in maintaining that state of affairs. But the kind of balance we’ve got right now with military spending hovering below 10 percent while building a large constituency for that spending, and meanwhile the economy hums along, sure, it’s not a recipe for high productivity growth over the next 20 to 30 years, but from the point of view of just maintaining the home-front morale and putting money in people’s pockets, it’s a pretty successful formula. And so to that extent, the idea that the economy was going to call a halt to any of this, that, I think, has proved completely—well, it’s just naive to assume that was going to happen.

CA: Has Russia’s wartime economy revealed anything about economics that we didn’t entirely appreciate or even understand before?

AT: I think we’ve learned that large economies like Russia, and Iran for that matter—because Iran and Russia are large societies with large economies which have sophisticated divisions of labor, squads of engineers, computer scientists, doctors, pharmaceutical experts—they’re pretty hard to kill, economies like this. They really are pretty hard to repress. And I think this has been confirmed again and again. And their survival is even more assisted if, in key respects, they have something to sell that there is a market for. And that’s, in both cases, oil. And in the Russian case, huge amounts of oil, for which they have found really large markets. They’re earning hundreds of billions of dollars a year in export revenue. If you then add in a geopolitical ally, which is China and which keeps the door open, you’re on a high road to nothing in terms of actually stopping the economy.

Can you deflect Russia’s economy from a high-productivity growth path? Of course you can. But then Russia wasn’t on that anyway, because whilst Russia was locked into the role of an oil and gas exporter, it wasn’t on a high-productivity growth path anyway. Is the one that it’s going to end up on optimal? No, it’s clearly not. But it’s a choice between second, third, and fourth best, if you like. And they may be in a third-best situation rather than the second-best situation. But they’re not in a fourth or fifth, let alone a kind of collapsing, situation at all. So I think all of these are things we understood, but I think Russia surely has put it beyond dispute. And this also then presumably pertains to the even larger and even more sophisticated player that is China, where the idea that through targeted sanctions you can substantially deflect the course of history, I would have thought, at this point, it seems very naive to imagine that.