By Mark Hollingsworth, UnHerd, 11/15/24

Tanks. Howitzers. Missiles. Since Russia’s invasion of Ukraine, the West has delivered a mountain of aid to the beleaguered Kyiv government. The Pentagon alone is estimated to have sent over £50 billion in military support, even as tiny Luxembourg managed to organise bullets and bulletproof vests. That bounty is echoed at the civilian level too, from Albanian ambulances to Belgian sleeping bags to Irish pickup trucks. All told, some 41 countries have committed something to the Zelensky government, which by March 2024 encompassed over $380 billion.

Yet amid this bonanza, Volodymyr Zelensky faces a looming threat: the prospect of paying out millions of pounds in damages to companies and individuals who argue their assets were illegally nationalised by the Ukrainian government. More than that, opposition lawmakers worry that, unless corruption is addressed, the money of generous Western donors risks being syphoned off and diverted by officials.

Even before the war began, in February 2022, corruption had long been a problem in Ukraine. Yet the situation has arguably worsened since then: earlier this year, to give one example, evidence emerged of a $40 million corruption scheme involving the purchase of arms by the military. Funds earmarked to buy weapons were allegedly stolen by officials and company executives, with some of the proceeds transferred to foreign accounts. Not least given the importance of foreign aid to Ukraine, procurement fraud is a sensitive issue: wartime profiteering could present an obstacle for future funding by the USA and EU.

Yet these accusations pale next to the seizure of commercial assets by the state. At least 17 Ukrainian companies and 1,611 citizens have been sanctioned by Zelensky’s administration, after the Kyiv government invoked special military laws allowing it to take control of private firms. The fear among Ukrainian businesspeople is that this is being carried out as a ploy to nationalise their assets without compensation.

“Nobody is safe,” says Julia Kiryanova, CEO of Smart Holdings, an investment conglomerate, which has been targeted and subjected to police raids and seizure of assets. Kiryanova claims sanctions are being used to force fire sales of profitable banks and firms, which will then be exploited by politically connected Ukrainian businessmen to enrich themselves. Certainly, the alleged redistribution of corporate assets — under the guise of sanctions, and absent the rule of law — is eerily reminiscent of the notorious privatisation of state assets in Russia in the Nineties.

Nor are Ukrainians the only ones to suffer here. As UnHerd can reveal, last month Zelensky received a letter from a Dutch finance company, accusing him of violating international law and claiming it had lost its vast investment in Ukraine’s biggest bank. The letter, a request for arbitration by a Dutch financial company called EMIS Finance BV, suggests the Zelensky government breached a bilateral investment agreement. The treaty supposedly protects Dutch investors in Ukraine — but in 2023, the Kyiv government nationalised Sense Bank without offering any compensation.

In particular, EMIS Finance claims it lost £420 million in non-performing loans to ABH Ukraine Ltd, the majority shareholder of Sense Bank. Thanks to these indirect investments, EMIS Finance argues it has the status of a protected investor.

A spokesperson for the Ukrainian Ministry of Justice confirmed the government had received EMIS Finance’s letter about commencing proceedings. “In accordance with the standard practice of the Ministry of Justice,” a spokesperson said, “we do not comment on pending or potential legal matters which may affect the interests of Ukraine.”

The state takeover of Sense Bank can be traced back to October 2022, when the Ukrainian parliament passed legislation allowing the government to nationalise insolvent banks. But that left a hitch: Sense Bank was solvent. Even the National Bank of Ukraine (NBU) admitted as much, stating that despite losses and outflows, the institution was healthy. As Katerina Rozhkov, the chairperson of the NBU noted in January 2023, there were “no factors” that threatened the bank’s solvency.

Not to be dissuaded, the Kyiv government promptly changed the law, last May passing new legislation allowing banks to be declared insolvent if some of its shareholders were sanctioned. In the case of Sense Bank, three of its indirect shareholders had indeed faced sanctions from both the UK and Ukraine, with the latter imposed by a body called the National Security and Defence Council. That, in turn, meant the bank could be declared insolvent, despite the state of its accounts and the positive noises from regulators.

A month later, on 5 June 2023, President Zelensky duly signed a bill authorising the sale of 100% of Sense Bank’s stock to the Ukrainian Ministry of Finance — with no compensation for shareholders. It was now officially owned by the state, and a few days later the Economic Security Bureau seized hundreds of assets belonging to Sense Bank, encompassing everything from shopping centres to apartment blocks. A new CEO and board of directors were swiftly installed too, with the transformed Sense Bank due to be reprivitised next year. The IMF, for its part, is currently choosing an internationally recognised financial advisor to prepare the bank for sale.

Not that the alleged victims here are quietly accepting their fate. Beyond EMIS Finance’s letter to Zelensky, ABH Holdings, the Luxembourg-registered former owner of Sense Bank, has filed a $1 billion lawsuit against Ukraine in the international arbitration court. Based on the bilateral investment treaty between Ukraine and Luxembourg, ABH Holdings seeks compensation for what a spokesperson calls the “illegal expropriation of Sense Bank by the authorities through enforced nationalisation done in an arbitrary, disproportionate, and discriminatory manner. By combining methods of corporate raiding and war profiteering, the Ukrainian authorities have unlawfully taken the bank from its rightful owners”.

Once the case is heard in court, Zelensky’s role will likely become clearer. The president, after all, is also head of the very National Security and Defence Council that enacted sanctions against key Sense Bank shareholders. Zelensky also nominated the National Bank of Ukraine’s governor, who strongly supported the nationalisation of Sense Bank and rejected a proposal to sell the institution to independent non-sanctioned investors.

This lawsuit is progressing, but the Ukrainian government is anxious for the court hearings to be held in secret, and for the evidence to remain confidential. ABH Holdings rejected this suggestion, insisting that Ukraine abides by the international arbitration rules stating that “confidentiality is neither agreed nor envisaged”.

In the meantime, the EMIS lawsuit against Ukraine is proceeding — nor do experts expect the legal cases against illegal nationalisation to end there. “This conflict has one primary consequence,” argues Baiju Vasani, a UK barrister who specialises in Ukrainian investor state cases. “It increases the number of arbitration cases against Ukraine brought under international investment treaties for breaching international law. I expect these cases to pile up in the next few years, as foreign nationals and companies seek billions of pounds in damages for their stolen property.”

Together with the latest news from across the Atlantic — with Donald Trump potentially poised to cut off aid to Kyiv and even impose a peace treaty on the country — the next few months could be rocky indeed for President Zelensky. For the moment, though, Sense Bank belongs to his government.

***

RT: Pentagon warns Ukraine about corruption

Corruption will be the “primary impediment” to Ukraine’s post-conflict recovery, the Pentagon’s inspector general has warned in a new report, which identified the country’s defense ministry as “a key player in many corruption scandals.”

In a quarterly report to Congress published this week, Inspector General Robert Storch noted that “corruption continues to complicate Ukraine’s efforts to achieve its EU and NATO aspirations.”

“Judges, politicians, and officials have been charged with corruption and the Ministry of Defense has been a key player in many corruption scandals,” the report stated, citing information from the US State Department and media outlets.

Earlier this year, the Security Service of Ukraine (SBU) announced the discovery of a major embezzlement ring at the country’s defense ministry. According to the SBU, five suspects attempted to steal 1.5 billion hryvnia (around $39.6 million) in state funds intended for the purchase of mortar shells…

Read full article here.

YouTube link here.

By Simplicius, Substack, 11/13/24

Just a day after we wrote about the ‘rumored’ new plan for the US to hold Ukrainian elections next year to give intransigent Zelensky the boot, The Economist made it semi-official by acknowledging that, ‘suddenly’, Zelensky is facing a ‘power struggle’ at home:

https://www.economist.com/europe/2024/11/12/volodymyr-zelensky-faces-a-power-struggle-in-2025

It’s in line with how Biden’s advanced dementia was just “abruptly” discovered by figures and organs of the establishment, only after becoming convenient and politically expedient enough for them to make it public. Similarly here, as soon as the memo-from-above’s arrival, The Economist sprang into pre-conditioning the ground to sell the narrative that Zelensky’s regime is now on uncertain footing; they would have never been allowed to even suggest that Zelensky faced danger at home until it became necessary to do so.

The article opens up with the admission that funeral ceremonies for soldiers in Kiev have “become more frequent” after the recent ramp-up of Russia’s offensives, a testament to the AFU’s own mounting death toll at a time when they’re desperately trying to sell the opposing claim about ‘astronomical Russian casualties’.

“For now, there are two dates on Kyiv politicos’ lips: January 20th 2025, the date of Mr Trump’s inauguration, the first moment for any possible ceasefire and lifting of military law, and May 25th, the earliest mooted date for an election.”

An election during pinnacle of wartime seems unthinkable, they write, but:

“Still, some groundwork appears to have begun. Regional election headquarters are mobilising, and work on candidate lists is beginning. The representatives of one likely presidential rival to Volodymyr Zelensky say that Ukraine needs elections; but they worry about making a public statement to this effect, fearing a fierce backlash from the presidential office.”

Then, of course, comes the obligatory backstab:

Not only did Economist now roll out some “internal polling” that seemingly didn’t exist before, but the big kicker is the predictable insertion of Zaluzhny as new heir to the throne. That’s not to mention the suggestive lay out of their preferred outcome:

“But a former colleague of the president says his best move might be to step aside regardless, and keep to his original promise only to serve one term. ‘Zelensky has only one way out to get out with an intact reputation,’ this source says. ‘That is to run elections [without him] and go down in history as the man who united the nation in war.’ The alternative is to risk being associated with a military collapse or an incomplete peace.”

Ah, so a ‘dignified bow out’ just like the same establishment forces asked of Zelensky’s fateful partner-in-crime Joe Biden. Remember, it’s either the “easy way” or the “hard way”, as Pelosi said; the same stands for Zelensky. Take your free trip to Tel Aviv or we can begin raising the level of ‘encouragement’. After all, recall Zaluzhny was directed to step down from his role as general for a long time, and it was only after his direct subordinates began to be assassinated did he heed the warning and do as he was told.

The other excerpt from the article which went viral today was the following:

“The army is censoring the most negative news to avoid fanning flames back home, he says. A senior military official agrees. Even Mr Zelensky is being shielded from the truth. ‘It’s not even that he’s being kept in a warm bath,’ the source says, using a local idiom to suggest the president was being cocooned by his top officials. ‘He’s being kept in a sauna.’”

Well, now, would you look at that? So maybe when Zelensky spouts off those ridiculous numbers about Russian losses, he’s not exactly the most trustworthy source? As preposterous as it may sound, given the above, it may even be the case that Zelensky actually believes the figures that only 30,000 or so AFU troops have died. He could very well think he’s winning the war based on his info-cocoon; scary thought.

The article ends with an interesting affirmation that Russia intends to capture the capital of Zaporozhye province, i.e. Zaporozhye city itself:

“In Kurakhove, Russian forces are outnumbering Ukrainian forces by at least six to one, and a Ukrainian retreat seems inevitable soon. Ukraine is on the back foot in the Kursk region it in turn occupies, where Russia is trying to push its soldiers out with the assistance of thousands of North Korean troops. Fighting is also beginning in Zaporizhia province for what Ukrainian intelligence believes will be an assault on the provincial capital, an important industrial hub.”

If that is indeed one of the main targets of the new coming offensive, it would seem to sketch a potential Putin plan for ending the war: one can theorize that Putin could “make it easy” on Zelensky, or whoever’s in power at the time, by taking the decision to give up Zaporozhye out of their hands. If Russian forces can capture Zaporozhye city and most of the province itself, then that would already be a major point of Russia’s negotiations demands accomplished. Given that Zaporozhye is much bigger and more consequential than Kherson, it represents a much bigger roadblock to Ukraine acceding to Russia’s terms….

By Anatol Lieven, Responsible Statecraft, 11/21/24

The UK has apparently given the greenlight for Kyiv to use its Storm Shadow missiles for attacking inside Russia. While the British government has not commented publicly, the Ukrainian military used the missiles to strike Russia for the first time on Wednesday.

In keeping with most British military “decisions,” its actions Wednesday followed the Biden Administration’s approval to allow Ukraine to use its own long-range ATACMS in the same way.

The British government seems to have forgotten that two months from now, the Biden administration will no longer be in office and the Trump White House may not take kindly to what some of its future members see as British support for a preemptive Biden attempt to wreck Trump’s peace agenda in Ukraine.

From the point of view of Britain’s own security interests (which do not appear to play any part in British establishment thinking about Ukraine), British citizens just have to hope that after January the Russian government does not retaliate against the UK — for if it does, they may not receive much sympathy from Washington.

The official argument for the ATACMS and Storms Shadows decision is to put Ukraine in a stronger position before peace talks are initiated by Trump. Russia seems certain to try to gain as much territory as possible before these talks begin, and the Ukrainian armed forces are in serious danger of collapse.

This is a dangerous gamble, because the missiles (which are guided to their targets by U.S. personnel) risk infuriating Russia without giving really critical help to Ukraine. It is especially dangerous for the UK, because if Putin feels impelled to live up to its promises to retaliate without attacking U.S. interests and alienating Trump, he could well feel that the UK makes a safertarget — it is at least a gamble based on rational calculations.

This is not exactly what the government and the British security establishment have beensaying. Like some East European governments, and influential political voices in Western Europe, the British government is still talking of helping Ukraine “win” — not to achieve a better compromise.

Like the Biden administration, British and NATO language of the “irreversibility” of Ukrainian NATO membership, and the necessity of Russia leaving the Ukrainian territory it has occupied suggest opposition to any conceivable peace settlement that Trump could seek to achieve. If the UK is seen by Trump to be deliberately sabotaging his peace agenda, this will be hugely damaging to the American-British relationship, and put Britain in an extremely exposed position.

Such an interpretation by Trump is likely to be encouraged by the talk in Washington, London and European capitals about “Trump-proofing” aid to Ukraine, and suggestions by European analysts that Europe both should and can support Ukraine in continuing to fight even if the Trump administration withdraws U.S. support.

At ameeting in Warsaw this week, European foreign ministers pledged (without giving any details) to increase aid to Ukraine. Furthermore – in words, which if meant seriously, would make peace impossible —declared:

“(that we) remain steadfast in our support for a just and lasting peace for Ukraine, based on the UN Charter, reaffirming that peace can only be negotiated with Ukraine, with European, American and G7 partners by its side, and in making sure that the aggressor will bear consequences, also financial ones, of its illegal acts that violate rules set out in the UN Charter.”

This is lunacy. It is not even likely that Europe will be able to sustain present levels of economic aid to Ukraine for long. Budgets all over Europe are under intense strain, leading to bitter politicalstruggles. The German coalition government has just collapsed due to a fight between its constituent parties over how to pay simultaneously for support to Ukraine, German re-armament, German industrial regeneration and social welfare.

Berlin had already announced radical cuts to its bilateral aid to Ukraine. For the European Union to take up the full burden of existing European aid — let alone replace that of the U.S. — would almost certainly require acceptance of EU control over collective European debt, through a huge issue of “Defense Eurobonds.”

This would, however, likely be opposed by dominant elements in the German Christian Democratic Union (CDU), which seems certain to be the dominant partner in a new coalition after elections now due in February. Their opposition stems not only from their own convictions, but also from the fear that ceding German economic sovereignty in this way would deeply anger many Germans and give a strong boost to support for populist opposition parties of the Right and Left.

As to Europe replacing the U.S. in terms of military support for Ukraine, this looks absurd. In critical areas like air defense systems, European military industries are not remotely capable even of providing for their own countries’ defense, let alone of providing what Ukraine needs.

Earlier this year, European governments rebuffed Ukraine’s appeal for more air defense weapons. These shortages extend across the board. Almost unbelievably, the British government’s decision on Storm Shadows occurred simultaneously with an announcement of further deep cuts to the UK armed forces, including its last amphibious assault ships and a large proportion of its transport helicopters.

Europe can of course buy from the U.S. — but only if Washington is capable of supplying systems for Ukraine and for Israel and adequately supplying America’s own forces for possible war with China. Is it likely that a Trump administration angered by Ukrainian and European rejection of a peace deal would prioritize weapons for Ukraine, even if the Europeans were paying for them?

The utterly confused state of British and European thinking about the military realities of the Ukraine conflict and Europe’s role is in large part due to the pitiful ignorance of military matters on the part of politicians — and therefore governments — who with the rarest of exceptions have never served in the military themselves, or bothered to study military issues, or devoted serious study to any foreign country.

This makes them completely dependent on advice from their foreign and security establishments; and for decades now, these establishments have outsourced to Washington not just responsibility for their national security, but thinking about it.

If you ask most members of European think tanks to define the specifically British, or French, or Danish interests in the Ukraine War, they are not merely incapable of answering, they clearly regard the very question as somehow illegitimate and disloyal to the U.S.-mandated “rules-based order.”

But the America to which these Europeans are loyal is the old U.S. foreign and security establishment — not the America of Trump, which they do not understand and deeply hate and fear (just as they do their own populist oppositions). Indeed, until a very few months ago the great majority of European politicians and experts simply refused to believe that Trump could possibly win the elections.

Many have now lost their heads entirely, and are just running around in circles. Others, like the Poles and Balts, have their heads firmly screwed on, but back to front.

As to the British government and security establishment, since the U.S. elections they have resembled their predecessor King Charles I, who according to legend went on talking for half an hour after his head had been cut off. Perhaps given time they can grow a new head of their very own. But in the meantime, for people in this embarrassing position, a period of silent inaction would seem to be the wise course to adopt.

By Ben Aris, Intellinews, 11/14/24

Russia’s economy has been battered by sanctions and high inflation, but there is no chance of a major economic crisis occurring anytime in the next three to five years, says a new authoritative report from CASE. [https://case-center.org/wp-content/uploads/2024/11/case-241112-en_fin2_compressed.pdf]

The authors of the report are amongst the keenest observers of Russian economics. Sergey Aleksashenko is a renowned Russian economist who served as Deputy Finance Minister of Russia from 1993 to 1995. Dmitry Nekrasov held various positions in Russia’s Federal Tax Service and Presidential Administration during Dmitry Medvedev’s years in the Kremlin. And Vladislav Inozemtsev is a famous Russian economist in exile who is the founder and director of the Center for Post-Industrial Studies and former professor at the prestigious Higher School of Economics in Moscow.

Inozemtsev has been well ahead of the curve, being the first to predict how the Russian economy is cooling as the military Keynesian effects start to wear off in August. The theme of Russia’s growing economic problems has been take up by many of Russia’s opponents and culminated in a recent article from opposition publication Meduza predicting that Russia faces a wave of bankruptcies in 2025 thanks to the soaring cost of borrowing.

But in his latest paper, Inozemtsev takes some of the wind out of the sails of this pessimistic outlook. The reports general conclusion is that “Russia has been able to withstand the blow caused by the Western sanctions due to a combination of factors, including its well-developed market economy, its indispensable position as a supplier of primary commodities to the global market, highly professional responses by its government officials, and the West’s inability to isolate Russia on the international stage.”

“An unbiased assessment of Russia’s economic capabilities presented in the report excludes almost any chances of a serious crisis caused by internal factors in at least three-to-five-years perspective,” the report concludes, running counter to the predictions that Russia’s economy will run into a brick wall in 2025.

Growth without development

Russia’s economy was expected to collapse after the extreme sanctions were imposed in 2022. And indeed, the first few months were a shock. But during the summer it unexpectedly boomed and in 2024 it has been the European economies that have fallen into recession as the boomerang effect of the sanctions begins to bite. The West underestimated how fast and how successfully Putin could reorient his trade to the Global South and how deeply integrated Russia is into European economies.

Since mid-2023, the Russian economy has undergone important structural changes: military spending has increased, the geography of foreign trade has changed and the citizens’ real disposable incomes have grown as wages are driven up by a chronic labour shortage. Together, all this has provided the Russian economy with strength and stability and made it capable of meeting the needs of Kremlin’s military machine in the years to come while providing the necessary financial resources for funding welfare programmes on a scale preventing an increase in protest sentiments, the authors say. The flourishing oil trade means Russia has plenty of money, but the war has killed off meaningful progress.

“The current stance can be described as a “growth without development”, being characterised by a quantitative increase in the volume of production of long-mastered products, an expansion of the service sector, and limited modernisation of infrastructure without significant technological progress.

Indeed, in many respects Russia’s economy has gone backwards. CBR Governor Elvira Nabiullina warned companies at the start of the war they might need to go back “two generations of technology” to keep their factories running.

And even more worrying for the global economy, sanctions have created a new class of Bandit Counties that champion massive violations of intellectual property rights, illicit foreign trades and the use of non-traditional forms of international settlements.

“The Kremlin sees opportunities for institutionalising this model and is laying it down as the basis for its geopolitical claims, trying to establish itself as a leader of a “non-Western” community of nations.

Getting it wrong

The authors point out that analyst keep getting Russia wrong, overestimating the power of sanctions, underestimating the quality of the country’s economic leadership and its ability to remake its markets in the face of sanctions.

In April 2022 the World Bank predicted Russia’s GDP would decline by 11.2% by the end of the year, but the final estimate came to only minus 2.1%. In 2023, the Russian economy grew by 3.6% against the January IMF forecast of 0.3%; and in 2024 its growth could achieve 3.8-4.0%, while at the start of the year international experts gave a figure of just 1.3%. These are not small mistakes. They belie a deep misunderstanding of what is happening in Russia, the authors argue, and lead to very poor policy recommendations.

“We believe this disconnect is largely subjective, reflecting essential features of three main groups of analysts.

“The first group consists of long-time Russia specialists who view current events through a Soviet-era lens, interpreting Putin’s dictatorship as an attempt to restore the Soviet system.

“The second group includes analysts who work for Western governments or NGOs, and feel compelled to propose sanctions and restrictions, projecting confidence in their effectiveness.

“The third group is made up of experts with Russian backgrounds, including those former politicians who despise Putin and are convinced of his regime’s imminent collapse.

“The deep biases of these groups hinder objective assessments of the Russian economy’s current state and prospects,” the authors opine.

Sanctions don’t work because the “international community” is in reality only the handful of counties that make up the Global North, and even in Europe, within the EU itself, the willingness to impose sanctions is weakly followed or enforced. Turkey’s propensity to continue to act as a way-station for trade with Russia, Austria and Hungary’s continued imports of Russian gas and Germany’s luxury carmakers that continue to export top of the range cars to Moscow via Minsk are only a few of the manifold examples of how sanctions are being undermined. The West’s failure to get China and India on board and refusal to join the regime by the real “international community” of the Global South, which makes up 90% of the world’s population, blows a major hole in the sanctions regime.

Another miscalculation is to put all the growth at the feet of the military-industrial sector. The civilian sector has also flourished. Several things have gone into this growth but among the most important was Russian businesses reacted to sanctions by investing heavily into retooling factories to replace hard-to-obtain Western technology, and booming consumption fuelled by the rapid rise in real disposable incomes.

In 2023, the largest increase in gross value added was recorded in the hotels and catering enterprises (by 10%), in the information and communications sector (10%), in financial and insurance activities (8.6%), in wholesale and retail trade (7.3%) and in construction (7.0%), which reflects an increase on the share of final consumption expenditures in GDP to 68.7% from 64.9% in 2022, including the share of household expenditure to 49.8% from 47.4%.

“It seems that the development of the Russian economy in the last two years, as well as the real effect of sanctions, should have led to a re-evaluation of the quality of the expertise used by policymakers – but this has not happened yet,” the authors say.

Russia’s robust growth

The introduction of the twin oil price cap sanctions at the end of 2022 and start of 2023 were also misunderstood. When the budget figures were released in March 2023 and showed a massive deficit for 2022 and collapsing tax revenues in January 2023, the oil sanctions were hailed as huge success. However, the numbers were misleading.

“Bureaucratic factors became more important: the excessive strengthening of the ruble exchange rate under the influence of paramount currency restrictions and the Ministry of Finance’s sluggishness in changing the methodology of determining the price of oil for tax purposes [which used to be based on the price of the sanctioned Urals blend, but was changed to a Brent benchmark],” the authors explain.

“When these factors ceased to have an effect, budget revenues stabilised and soon began to increase rapidly, outpacing economic growth – the Ministry of Finance began to collect an “inflation tax” of additional revenues from VAT, profit tax and personal income tax, caused by a significant excess of the inflation rate over what was anticipated in the draft budget,” which bne IntelliNews reported on at the time and also discussed in an oil podcast, but was not well understood by most commentators.

In 2023 the Ministry of Finance had to dip into the National Welfare Fund (NWF) for RUB3.46 trillion to cover a 17% of the budget shortfall. In 2024, the budget spending to date is fully funded by revenues – although it may not stay that way, as typically 20% of all spending usually happens in December. Currently, the official forecast for the deficit is 1.7% of GDP of around RUB3 trillion, increased from 0.8% earlier in the year. For 2026, the Ministry of Finance is expecting the budget deficit to be flat.

“One should add that the Russian government’s debt is insignificant by modern standards,” say the authors. Debt is expected to reach 18.1% of GDP by the end of 2024, which leaves a huge space for domestic borrowing. The Ministry of Finance is planning to issue RUB4 trillion of domestic debt in 2024 (nearly double pre-war levels), tapping the estimated RUB19 trillion of liquidity in the domestic banking sector. That is enough money to continue Putin’s war in Ukraine for years.

The growth of real disposable incomes during the war was an even bigger boon, as it came after the longest period of their fall in Russian history – from 2014 to 2021 – ironically caused by the chronic labour shortage as men were bled away from the labour pool to fight on the frontlines. In three years since the start of the aggression against Ukraine, this figure will grow by at least 17.5% (4.0% in 2022, 6.9% in 2023 and, according to the government forecast, about 7% in 2024).

Domestic consumption has become a bigger growth driver than the booming raw material exports. It has created a new War Middle Class and is fuelling activity in the civilian segment of industry. At least until mid-2024, the rate of income growth accelerated (the maximum figure of 8.1% was recorded in the first half of this year) with ever higher pay going to soldiers, who earn three times the average salary.

The growth of incomes is part of the reversal of Putinomics that war has brought with it. Pre-war the Kremlin effectively ran an austerity budget, starting in about 2012 when Putin launched a drive to modernise the military. The CBR hoarded cash, building up a huge $600bn reserve, debt was paid down and investment into non-strategic sector was muted. Since the war started, the Kremlin has opened the spending spigot and money has poured into wages and investment, as much as is needed to get the job done. From mid-2023 to mid-2024, the Kremlin paid RUB3 trillion in military salaries, equivalent to the entire budget deficit.

While many commentators have pointed to the huge military salary bill as a weakness, the Kremlin doesn’t appear to think so. The current 2025-2027 budget proposal keeps military spending at 6% of GDP and this is not seen to be excessively high, but the current budgetary structure looks sustainable over a three-year horizon, maintaining the massive military spending. What is spent on salaries can be offset to a large extent by what is earned on taxing consumption and growth. Already the non-oil part of the budget revenues is easily outstripping those from oil.

A dramatic U-turn in strategy, the reversal of Putinomics has unleashed years of pent-up growth. Another side-effect of the spending is to undo some of Russia’s legendary income inequality, as the poorest regions have been the biggest winners of the Kremlin’s largesse, as that is where most of the military factories are located as a legacy of the Cold War. Putin stressed the importance of balanced investment into both civilian and military parts of the economy in his guns and butter speech in May and more generally, the Kremlin continues to push its National Projects 2.1 agenda aimed at improving the lives of the average family.

“With the outbreak of the war, a trend in the transformation of social policy became especially noticeable: the efforts of the authorities and budget funds are directed at those Russians who either belong to less well-off social strata,” say the authors, “or do not show a tendency to emigrate.”

“It should be noted that in Russia a significant part of both individuals and businesses does not experience profound economic discomfort either from Putin’s aggression against Ukraine or from the Western nations’ reaction to it,” the authors add. “The main effect of sanctions has so far been felt by the upper middle class, which has historically taken the most critical stance vis-à-vis Vladimir Putin and his policies.”

And the upper middle class are actually making money from the strain the economy is under. Sky-high interest rates are threatening SMEs, but they have also become a cash cow for the middle class, which are depositing their cash in banks for the interest income that can be earned. Over the first nine months of 2024 retail deposit soared by 53.8% year on year and companies are also placing so much of their cash in deposit accounts the CBR is currently planning to impose special restrictions on corporate deposits in order to keep this cash in circulation.

Sale of the century

“The first and most important circumstance is the free market character of the Russian economy, which has been underestimated by analysts,” the authors argue.

Most of Russia’s detractors have tried to paint Putin as reverting to Soviet control. The famous Yale University report that predicted Russia’s economy was headed into oblivion, mentioned the word “Soviet” 19-times, although few modern economic commentators make any reference to the Soviet Union today. The report was debunked by bne IntelliNews at the time, and by Russia’s performance since.

As Putin established control over Russia’s largest corporations, the idea of the “étatisation” of the Russian economy, and consequently about its growing similarity to the old Soviet system, spread amongst the Western expert community. It was argued that the state controls 100% of the railway and pipeline infrastructure, and that by 2018 the share of state-owned companies in overall corporate revenue had reached 63% in the oil and gas industry, 79% in the machine-building sector and 92% in banking. The observers therefore arrived at the conclusion that Russia’s economy could collapse just as easily as the Soviet one once did.

But this ignores the fact that half of Russia’s economy is privately owned and that even the leading state-owned enterprises operate in highly competitive environments. As part of Putin’s hybrid ZAO Kremlin model, the state purposely sets up two big state-owned companies to directly compete against each other and also encourages privately owned business to also keep their feet to the coals. It has been a successful model that ensures both state control over key sectors but also efficiency and competitiveness in the leading state-owned enterprises.

“Many large state-controlled corporations (one may just look on the banks) operate in a highly competitive environment, acting as if they were owned by private capital,” the authors conclude.

The Kremlin’s changes to the regulations after sanctions were imposed – most importantly the legalisation of “parallel imports” that undid a decade of intellectual property rights rules – that opened up a plethora of new opportunities to sell famous brands royalty-free.

Likewise, the departure of scores of foreign brands, many of which simply sold their Russian businesses to their Russian managers, was probably the largest transfer of property in Russia’s modern history. What was in effect the appropriation of decades of FDI has also opened huge opportunities for entrepreneurs as they took over businesses worth billions of dollars at knock-down prices.

In just the car sector – by far the worst hit of all the sectors by sanctions – all the Western brands have left but Russian carmakers and the leading distributors have taken over their businesses. The Renault-Nissan sold the largest car concern in Russia Avtovaz for just one ruble, while the sector as a whole has completely recovered after production came to a complete standstill in 2022. The team that took over the McDonald franchise claim its replacement Vkusno i Tochka (Tasty. Period) is now more profitable and its predecessor. There are similar stories in nearly every sector of the economy.

The Yale report claimed the departing international companies had revenue that was equivalent to 40% of GDP, but this revenue didn’t leave the country; it was simply taken over by Russian businessmen.

“No less important is the fact that property became the main reason for non-resistance to the authorities, since fears of losing it perfectly disciplined the Russian entrepreneurs. In other words, the private and market nature of the Russian economy made it much more resilient than the Western policymakers had expected,” the authors wrote.

The commodities backstop

Russia’s economy has always been strong thanks to the bedrock of the commodities subsidy. Even during the chaotic 90s, Russia has suffered from multiple crises, but the economy has always bounced back relatively quickly and each crisis did progressively less damage than the last one.

“Despite a probable slowdown in economic growth in the second half of 2024, Russia looks safe from the collapse of the existing economic model in the near future: the budget remains balanced, and real disposable incomes are expected to grow further. Of course, the increased military spending provokes growing inflation, but for now it is kept within single-digit numbers,” the authors argue.

This resilience is thanks to the subsidy the country earns from the export of things like oil and metal. The best way to understand this is from the so-called non-oil deficit. For all of Putin’s reign until the war in Ukraine the headline budget has been in surplus, but if you magically remove the oil and gas revenues then the non-oil budget has been around -4% of GDP in the non-crisis years. In other words, the Kremlin has used the oil and gas income to subsidise the rest of the economy. In times of crisis the non-oil deficit can blow out to -13% at its most extreme in the past, as the Kremlin taps its cushion of cash to ease the pain.

[Table mot here]

As the table shows, the government continues to rely on its raw materials subsidy to cushion the cost of the war by running a non-oil budget deficit of around 8% of GDP. This is a high number, but not the most extreme non-oil deficit Russia has ever run. For comparison, in 2020 during the pandemic the government ran a 9.8% of GDP non-oil deficit, equivalent to RUB10.4 trillion.

Put in other terms, the war in Ukraine is now stressing the government’s finances less than coronavirus global pandemic did.

Russia’s oil and gas revenues occupies the most attention, but Russia exports a cornucopia of raw materials and commodities. Another miscalculation the Western sanctions has made is how deeply these inputs are integrated with the global economy.

As of 2021, in addition to the export of more than 7.8mn barrels of crude and refined oil per day, it also sold 240bn cubic metres of natural and liquefied gas, 227mn tonnes of coal, 43.5mn tonnes of steel, 37.6mn tonnes of mineral fertilisers, 49mn tonnes of grain, as well as large volumes of timber, aluminium, nickel, uranium and many other commodities, which collectively accounted for 78% of all exports and were worth a whopping $385bn in 2021. This made Russia the world’s largest supplier of crude and primarily processed raw materials.

As bne IntelliNews has reported, the vast majority of the sanctions on Russia have failed to make much of a dent in the export business. Russia has either found new markets in Asia for things like oil, or it has offered discounts to win over new customers. At the same time, the West has turned a blind eye to the daisy chain of transhipments of Russian commodities or the more obvious transubstantiation of say Russian crude oil into Indian petrol that allows Russia to continue to trade.

Despite all the introduced restrictive measures, Russian exports decreased from $491.6bn in 2021 to $425.1bn in 2023, or by a mere 13.5%.

“Overall, this creates a trend that is alarming for the West and highly significant for Russia: Russia is not simply “falling into China’s embrace” the authors wrote. “Rather, Moscow is transforming into a centre of an “alternative model of globalisation,” operating outside the frameworks of Western-controlled institutions and established rules. This trend could prove far more dangerous than the much-discussed “export of corruption” to Western countries… As recent years have shown, the use of unconventional payment systems, the export of pirated products, and the smuggling of goods from Western companies – all of these practices are much easier to implement than previously assumed.”

“Viewing all of this as merely a way to circumvent sanctions is extremely short-sighted, as the Kremlin has set its sights on fundamentally undermining the existing system and has reasonable grounds for hoping to succeed,” the authors conclude.