How are the Big Sanctions hurting Russia so far?
We’re less than a week into the Big Sanctions, and already we’re starting to see considerable effects on the Russian economy and way of life. I’ll go through those in a moment, but first a quick refresher on what the “Big Sanctions” are, and how they’re supposed to work.
I’ve been using the term “Big Sanctions” so far to refer to two things: 1) The cutoff of Russian banks from the SWIFT bank messaging system, and 2) The restrictions on the ability of Russia’s central bank to conduct transactions with Western banks. These are “big” because they’re unprecedented, and because they’re expected to have a major systemic impact on the Russian economy.
It’s important to remember that these are financial sanctions. Countries are considering halting sales of Russian oil and gas, but the things that have been done so far are mostly about gumming up Russia’s financial system — making it hard for Russian banks to get loans, make loans, process payments, get their hands on foreign currency, and so on. It’s working so far — the ruble is at a record low, Russian banks are closing foreign branches, and there are plenty of other signs of stress in the system.
And let’s also recall that these sanctions have several potential purposes:
To hurt Putin’s rich allies and induce them to pressure Putin to stop the war
To hurt Russia’s ability to sustain its war effort in Ukraine
To increase popular unrest in Russia and thus pressure Putin to stop the war
I’m not exactly sure which of these objectives European and U.S. leaders had in mind when creating these sanctions, and it’s even possible they didn’t know what they expected the results to be. But already we can begin to see how these sanctions will hurt Russia economically. Russian economist Maxim Mironov, who now works at IE Business School in Madrid, summed up many of these effects in an exasperated post the other day:
Maxim Mironov @mironov_fmМеня многие просят прокомментировать санкции. Если вкратце, то мое научное заключение, как профессора финансов, доктора Чикагского Университета - это ПИЗДЕЦ. И двойной пиздец, что жители России, даже образованные, в большинстве своем не понимают, что их ждёт. Объясняю на...
That’s a pretty good overview. Let’s take a look at the two most important areas that Russia will feel the pain: Consumer lifestyles and defense manufacturing.
A huge number of international companies have either pulled out of Russia or curtailed sales there. In addition, Visa, Mastercard, and other consumer finance companies have also pulled out, making it hard for Russian consumers to pay for things (Russia is trying to replace these with Chinese cards, but it’s not clear how well that will work). All this is making it difficult for Russians to get the foreign goods they’re used to enjoying. For example, here’s Russians panic-buying from Ikea before it shutters operations:
This is apparently such a widespread phenomenon that the government is now resorting to rationing of sorts:
Why are all these brands pulling out of Russia? Maybe it’s to appear moral and avoid negative attention from Western consumers. Maybe it’s because Western governments are leaning on them to pull out. But the simplest explanation is that Russians are just not going to be able to pay for these goods, with the ruble crashing and Russian banks unable to make transactions with the West. What company would risk the negative optics of keeping their stores open in Russia just to serve customers who can’t pay?
Now before you laugh and think “Ha ha, look at those Russians who can’t buy fancy Swedish furniture”, realize that one of Russia’s main imports from Europe is medicine. Russians are going to have quite a lot of difficulty getting the medicines they need:
This is just one way in which life is about to get significantly harder for the average Russian. Remember, Russia is not an impoverished country — its GDP per capita (PPP) was about $27,000 in 2019, making it somewhat poorer than a rich European country, but much richer than Ukraine:
In the past 15 years, Russians have become used to living a reasonably comfortable life. It’s a nearly-developed consumer society that has become accustomed to deep economic integration with Europe. Now suddenly that is all being yanked away — Russians are being asked to go back to the economic isolation, shortages, and hardship of the 90s, or even of the USSR, almost overnight.
I can’t say I know what political effect that will have. Will Russians rally around the flag and see this as an attack from the West that they need to resist? Or will discontent over Putin’s pointless war of choice rise and rise? Only time will tell.
The Russian defense industry
A weak ruble and bank cutoffs make it harder to buy imported components and machines for defense manufacturing. For example, precision-guided weapons, vehicle electronics, and communications equipment all need computer chips (semiconductors) to function. There was already a global chip shortage before the war, and now there are signs that Russian manufacturers are having trouble getting their hands on what they need:
Now, as Alperovitch notes, this isn’t just about the weak ruble or bank cutoffs — it’s also about export controls. He mentions the U.S.’ Foreign Direct Product Rule, but many other chip companies, including South Korea’s Samsung and Taiwan’s vaunted TSMC, are also halting sales to Russia. Protocol did a report on Russian dependence on foreign chips last year, and found that European and U.S. companies sell them a lot of microprocessors, while their memory chip imports come mostly from South Korea and the U.S. That’s all done now.
This will hit Russian defense manufacturing immediately. Over the longer term, there will also be the problem that the machines Russians use to make their tanks and planes and rocket launchers and transport trucks will need spare parts as they wear out, and these will be in short supply.
And on top of all that, financial sanctions make it difficult for both the state and defense companies to actually pay their employees! Companies — including state-run ones — generally rely on a lot of overnight loans to make payroll and other payments. Now, with Russian banks in the process of being crippled by asset price plunges and lack of access to the Western financial system, companies may simply be unable to get the cash needed to keep the lights on. This was the upshot of a thread by political scientist Olga Chyzh, and folks who’ve worked in the region seem to agree:
(Note that failure to get paid salary on time will even make it hard for ordinary Russians to buy Russian-made goods at their local stores.)
What this all means is that the Russian military hardware that the Ukrainians are destroying is not going to be easy to replace. The website Oryx maintains a meticulously curated list of visually confirmed equipment losses, and the toll so far is pretty stunning — 845 Russian vehicles lost in the first 11 days of combat, including 130 tanks. And the true numbers are likely to be significantly higher, given that many losses don’t get clear visual confirmation. Already the Russians are starting to supplement their military vehicles with regular old pickup trucks. With the Russian defense industry crippled by sanctions, we might be looking at a severely weakened Russian army for a decade or more.
(And also remember that if Russian consumers are having a hard time getting their hands on medicines, Russian soldiers may also be running out, especially with their supply trucks being constantly blown up by the Ukrainians. That could mean more soldiers out of the fight due to illness or wound infection.)
What about central planning?
I should say a few words here about central planning. Many of the negative effects of sanctions — companies not able to pay their workers, banks not being able to make loans, and so on — might be mitigated by central planning. After all, you don’t really need all this finance mumbo-jumbo to run an economy, right? You can just tell people what to produce, and make sure that they’re distributed food and medicine and other necessities. You can even order producers to produce essential items to replace lost imports, even if they aren’t very efficient and wouldn’t be profitable.
And when I say “you can”, what I mean is “countries have done this before”, the prime example being the USSR in WW2. (Yes, the USSR depended crucially on massive U.S. Lend-Lease aid to avoid collapse during the first dark years of the German invasion, but the Nazis did a lot more damage to Russia than Ukraine is doing). Even the Nazis did it for a while. You can, in theory and in historical example, make a centrally planned economy while dispensing with the fragile and troublesome fictions of finance. Labor hours and tons of steel are real things; rubles and interest rates are just numbers in a computer or on little pieces of paper.
But in practice, this is going to be damn hard. First, the USSR had plenty of practice running a command economy by the time WW2 came around; it’s not the kind of thing you can conjure out of thin air just because Putin yells a command. Second, command economies don’t typically offer their citizens a lot of personal consumption, meaning ordinary Russians will get even madder — the only thing worse than going back to the 90s would be going back to the early 80s.
So I would not bet on the Russian government being able to simply dispense with the fiction of money and order everyone back to work anytime soon.
Russia’s saving grace
Finally, I should say a word about the one economic thing that’s going well for Russia: High oil prices. Remember that oil is by far Russia’s biggest export, so this is going to get them a ton of Western cash that they’d otherwise find it nigh-impossible to get.
This could negate much of the financial devastation from the Big Sanctions. Which is why some Western leaders are now discussing a ban on Russian oil. Remember, Russia can always sell oil to China (probably), but if China’s basically Russia’s only customer, it can exploit that power asymmetry to pay bargain-basement prices for Russia’s black gold. In fact, China already did this to Russia with gas:
So while financial sanctions are gumming up the works of the Russian economy, sanctions on Russian oil would likely be an even bigger move and cause even more economic devastation.
It’s pretty clear that in any conceivable economic or financial terms, this was is not worth it for Russia.
Update: In the comments, Mats Marcusson points me to his excellent deep-dive post on Russian industries’ import-dependence. Here’s my favorite graph, showing the huge foreign (mostly European) contribution to Russia’s machinery, pharmaceutical, electronics, and transportation equipment industries — all things that matter a LOT for the military.
Marcusson also links to this fascinating and very negative evaluation of Russia’s defense manufacturing sector by Russian researcher Vladislav Inozemtsev.