Departing Prosperity: Negative internal and external factors are very likely to push the Russian economy into a pre-crisis state this year

The reverse phase of the ‘military cycle’

The Russian economy has entered a new phase of its 'military cycle'. From 1999 to 2008, the economy recovered from the crisis of the 1990s amid rising oil export revenues, with average annual growth rates reaching 6.9%. After the 2008 crisis, as economists had predicted, growth slowed sharply, averaging just 1.2% annually from 2009 to 2019, despite generally high oil prices. Following the COVID downturn (–2.7%), the economy unexpectedly posted high growth, at around 5.9%, driven by a sharp increase in export revenues (up to $494 billion) and the fiscal stimulus of 2020, when expenditures rose by 25% in nominal terms and 19% in real terms compared to the previous year. In this sense, 2021 became a kind of prologue to the shift of the economy onto a war footing, demonstrating the effect of expanded budget spending.

With the onset of war and the imposition of sanctions, contrary to forecasts, the economy, after a slight downturn, entered a growth trajectory higher than in the previous decade — about 4% in 2023 and 2024. This was supported by three factors: (1) the exceptionally high export revenues of 2022, which exceeded the average annual export income of the previous 13 years by 42%, or $175 billion; (2) strong fiscal stimulus and massive investment in the military-industrial sector; and (3) forced private sector investment due to the need to adapt to sanctions (including reconfiguring supply chains and trade infrastructure toward the East) and the opportunities opened up by import substitution. Thus, all three main possible drivers of economic growth – increased external revenues, increased government demand, and increased private sector investment – were operating in the same direction.

However, the forced investments of 2022–2023, as anticipated, proved to be a one-time phenomenon. Moreover, they (with the exception of the import substitution component) did not create new capacities or capabilities in the economy but merely replaced lost ones. The direction of the fiscal stimulus led to the reallocation of limited material and human resources from the civilian to the military sector (→ Oleg Vyugin: The 2025 Crossroad). The result was not just overheating, but a structural distortion of the economy, which in turn triggered inflationary pressures even against the backdrop of increasingly tight monetary policy. The main paradox of this imbalance is that the burden of high interest rates is borne primarily by the civilian sector, whose lag behind domestic demand growth is a structural source of inflation (→ Re:Russia: The Decline in Inflation May Be Temporary).

Late 2024 and early 2025 show numerous signs of a trend reversal: 'military Keynesianism' has run out of steam, and its consequences are now a drag on the economy. The index of output for core economic activities (the indicator most closely aligned with GDP) showed just a 0.3% increase in February year-on-year. By contrast, in February of the previous year, the figure was 9.4%! Experts from the Centre for Macroeconomic Analysis and Short-Term Forecasting (CMASF) describe the situation in Russian industry as stagnation. According to their calculations, output levels are stuck at the levels of late Q3 2024. According to Rosstat data, manufacturing output dipped slightly in January and rose by a similarly modest amount in February (adjusted for seasonal and calendar effects). But CMASF estimates that, excluding utilities and the defence industry, civilian output fell by 0.4–0.5% in February compared to January.

The list of sectors showing negative growth continues to grow. According to Rosstat, in January–February, year-on-year, slight negative dynamics were observed in the production of food and beverages, wood processing and furniture manufacturing, and coke and petroleum product manufacturing. More significant declines (3–6%) were recorded in metallurgy and the production of other non-metallic goods. In civilian mechanical engineering, all subsectors are in decline, according to CMASF. Vehicle production, still far from pre-war levels, fell by 7.5% in February after an 8.3% drop in January. Overall industrial output grew by a modest 1.2% year-on-year – thanks largely to the military sectors.

However, stagnation in the economy is a broader phenomenon, affecting both investment and consumer demand. CMASF analysts describe current lending rates as 'anti-investment', noting that the range of industries where profitability is lower than the yields on government bonds (OFZs) is expanding. In these sectors, it is more profitable to shift into income-generating securities than to maintain business operations. The drop in consumer demand is most noticeable in the segment of durable goods, largely due to shrinking consumer lending (although from the perspective of disinflation, this may be seen as a positive development).

Business sentiment surveys point to the same trend of stagnation, with signs of a shift into negative territory in the civilian sector. Rosstat’s business confidence index in manufacturing has returned to early 2023 levels, before economic growth had begun. Meanwhile, the Global Russia Manufacturing PMI, calculated by S&P Global based on surveys of purchasing managers, fell to 48.2 points in March from 50.2 in February and 53.1 in January (a value below 50 indicates a decline in production and orders). According to S&P Global’s press release, the March data signals a further deterioration in the manufacturing sector, with a drop in both domestic and external demand. The decline in output has worsened companies’ financial performance. Hiring remains stable for now, as firms still hope for an improvement in the situation.

The Central Bank's most recent (March) consensus forecast predicts 1.7% growth, while the HSE Development Centre’s February survey forecasts 1.5%. According to the baseline forecast from the Bank of Finland's Institute for Emerging Economies (BOFIT), the Russian economy will grow by 2% in 2025, followed by 1% growth in both 2026 and 2027. In addition to high borrowing costs, investment opportunities are constrained by declining profits, rising labour and material costs, and increased tax burdens, analysts from the institute note. Moreover, most of this year’s additional budget spending will go toward military needs, meaning the disproportion between the military and civilian sectors will persist. The population’s purchasing power will decline slowly, as full employment and accumulated savings will support private demand. However, the economy does not produce enough goods to meet this demand. As a result, inflation will also decline slowly.

At first glance, BOFIT’s forecast (like others) suggests a return to the trajectory of the 2010s – slightly above 1% annual growth – but that is misleading. Unlike in the 2010s, a significant portion of growth will now be driven by the military sector, whose role will remain substantial even if hostilities decrease. Overall, the massive economic stimulus has led to the accumulation of a substantial 'output gap', meaning output has deviated upward from the economy’s potential. This effect was already noted in 2021 by Central Bank analysts and peaked in 2023–2024 (some economists estimate the gap to be more than 3% of GDP). This implies that, in order to return to equilibrium (and achieve sustained disinflation), the economy must go through a period of growth below potential, or even a recession. However, it is unlikely that the Russian authorities will allow this, and they are expected to continue investing in the military sector. This means inflation will remain elevated, and the civilian sector will likely experience weakly negative growth for an extended period.

This generally corresponds to the 'pro-inflationary' scenario described by the Central Bank in its ‘Main Guidelines of Monetary Policy’, which anticipates a slowdown in growth to 1.5–2.5% in 2025 and zero growth in 2026. However, the Central Bank’s forecast underestimated the impact of structural imbalances in the Russian economy. The Central Bank’s scenario projected 2024 inflation at 8–8.5% and 5.5–6% for 2025. In reality, inflation exceeded 9.5% at the end of last year and crossed into double digits in early 2025. This suggests the economy is following a more problematic path than the Central Bank’s scenario predicted, with growth likely to approach zero already this year.

However, the Central Bank’s analysts had assumed that export revenues in 2025 would remain at last year’s levels, while BOFIT analysts, in their March 24 forecast, expected a gradual and moderate decline in oil prices to around $60 per barrel for Urals. Since then, however, the situation has changed, making their scenario look overly optimistic and increasingly unlikely.

‘Resource sovereignty’ and its cracks

Toward the end of the 2010s, a concept of 'resource sovereignty' began to take root within the Russian elite. This idea was based on the assumption that Russia’s exports of oil, gas, and coal played too significant a role in the global energy balance to be easily displaced, thereby securing Russia a stable position in the global division of labour on the one hand, and providing a reliable, albeit volatile, source of income on the other. The ability to redistribute this income domestically was seen as making the Russian economy resilient under almost any scenario, regardless of foreign investment inflows. In contrast, its limited dependence on foreign capital was viewed as a source of long-term stability and autonomy, while a restrained investment policy – trading short-term growth for financial cushions – was seen as enhancing Russia’s geopolitical independence. This economic ideology appears to have been one of the underlying justifications for Putin’s decision to invade Ukraine.

Indeed, over the past 13 years, mineral products have accounted for 50–70% of Russia’s exports, generating an average of $280 billion annually (about 80% of which came from oil and oil products). In 2024, mineral products made up 61% of Russia’s exports, totaling $264.1 billion, according to the Federal Customs Service (FCS). The agency does not provide a more detailed breakdown by commodity groups, but according to the Finnish Centre for Research in Energy and Clean Air (CREA), Russia earned €242 billion from its 'energy sovereignty' triad: €104 billion from oil, €75 billion from oil products (the same estimate is cited by the International Energy Agency), €40 billion from gas, and €23 billion from coal.

Structure of Russian exports by commodity groups, 2012-2024, $ billion

Immediately after the war began, developments initially unfolded in a way that largely aligned with the Kremlin's expectations. The surge in energy prices brought Russia unprecedented export revenues in 2022, despite sanctions. However, the situation then began to take a less favourable turn. A drastic reduction in gas exports to Europe (estimated by CREA to have fallen from €46 billion in 2021 to €16.6 billion in 2024) resulted in a loss of about one-third of Russia’s gas export revenues. Subsequently, an increase in oil supply from non-OPEC+ countries and the sluggish growth in global oil demand led to the breakdown of the cartel’s ability to sustain high oil prices. (In its March report, the IEA revised its 2025 oil demand growth forecast downward by 100,000 barrels per day, to 1 million bpd – an amount that could be fully covered by non-OPEC+ countries.)

As a result, the mega-cartel reversed course, adopting a strategy of regaining lost market share through lower prices. In April, OPEC+ unexpectedly raised production quotas. According to the previous plan, the cartel was to gradually add 2.2 million bpd to the market over 18 months. In May, a modest increase of just 138,000 bpd had been expected, but under the new plan, the increase reached 411,000 bpd. In absolute terms, the largest quota increases went to Saudi Arabia (+169,000 bpd) and Russia (+54,000 bpd). However, the price of Brent crude fell to $60 per barrel, with Urals dropping below $50.

The oil market surplus, driven by increased production from non-cartel exporters, is the underlying reason behind the collapse of the OPEC+ deal, the shift in supply strategy, and the decline in prices. The trade war initiated by Donald Trump has only intensified this effect. Notably, the highest tariffs were imposed on countries that in recent years had accounted for a significant share of demand growth: Thailand, the Philippines, Vietnam, Malaysia, Indonesia, and China. A 90-day delay in implementing the tariff hikes for most countries briefly brought Brent prices back to $65 per barrel.

The situation bears some resemblance to 1997, when OPEC increased production expecting continued strong demand, only for consumption to suddenly collapse due to the Asian financial crisis, notes Bloomberg columnist Javier Blas. Global oil prices fell by around 50% that year, with Brent dropping below $10 per barrel. That said, it may be premature to talk about a full-scale global economic crisis today. A recession seems more realistic. For example, JP Morgan estimates a 60% chance of one occurring this year.

In any case, the chaos sown by Trump in global trade and the increasingly likely trade war between the US and China will put further pressure on global economic growth – and, by extension, on oil demand. Blas estimates that the market could find equilibrium at $50 per barrel for Brent. Forecasts from investment banks, cited by Reuters, place expected prices in the $55–65 range. At $50 per barrel, many US oilfields become unprofitable and may begin cutting production – but this won’t happen overnight; it could take several quarters or even years. In any scenario, if Trump does not ease sanctions on Russia, the price of Russian oil will remain at least 10% below global market levels.

Russian gas export revenues are also under pressure. Since January, Russia has stopped exporting gas via its last remaining direct route to Europe – the pipeline through Ukraine. In 2023–2024, this route delivered about 15 billion cubic metres annually, or roughly 10% of Russia’s total gas exports (including LNG). Shutting down the Ukrainian transit route translates into an annual revenue loss of about $4.5 billion, according to Sergei Vakulenko, an expert at the Carnegie Berlin Centre. Some of the lost volume will likely be offset by increased supplies to China via the Power of Siberia pipeline, from 31 to 38 billion cubic metres. But the price, of course, is significantly lower than on the premium European market. According to Reuters, European consumers paid an average of $481.70 per 1,000 cubic metres, while China paid $271.60. Thus, increased deliveries to China will offset less than 30% of the lost European revenues, resulting in a shortfall of over $3 billion.

According to CREA, in 2024 Europe imported €7.3 billion worth of Russian LNG. But the future outlook remains uncertain. In January 2025, two medium-scale Russian LNG plants on the Baltic (Portovaya and Vysotsk) came under US sanctions. Both halted exports. If exports do not resume, total Russian LNG exports could fall by about 5% in 2025, according to IEA forecasts. In the second half of the 2020s, new LNG terminals are expected to come online in Europe, increasing supply. The EU’s future energy strategy remains unclear amid rising tensions with the US, but from a technical standpoint, once the new terminals are operational, Europe will be capable of fully phasing out Russian gas.

In any case, a model developed by economists at the Kiel Institute for the World Economy projected a 0.4% reduction in European GDP if Trump’s tariffs remain in place. Industrial demand for gas is expected to decline. For the same reason, a similar decrease is anticipated in Asia, particularly in China. European gas futures responded to these risks with a marked drop. Since Trump announced the tariffs, they have fallen by nearly 20%. In any case, by the second half of the 2020s, gas export markets will be significantly restructured compared to the 2010s, and Russia’s share in them will be at least halved.

Finally, coal – a less prominent but still significant component of the 'energy sovereignty' triad (in pre-war years, coal accounted for about 4% of Russia’s total export revenue) — is also under pressure. Russia’s coal industry is steadily heading toward crisis. In 2024, Russia exported 196.2 million tons of coal – 8% less than in 2023, Vedomosti writes, citing Argus data. But export revenues fell even more sharply, by over 20%. In 2025, exports are expected to shrink further to 166.5 million tons (78% of 2023 levels). At current prices, this would yield only 45% of 2023 revenue, amounting to a loss of around $16 billion. The main issue is intense competition in Asian markets, particularly from Indonesia and Australia. China, the world’s largest coal importer, increased its purchases by 14% in 2024 – but cut Russian coal imports by 7%, down to 95.1 million tons, according to Bloomberg. Beyond Russia’s higher production costs compared to some rivals, another factor is the price of delivery and logistical difficulties due to an overloaded railway system on the Asian export routes. As a result, part of Russia’s market share in China has shifted to Mongolia.

Problems with coal exports not only reduce revenues but also create additional domestic issues. Around 150,000 people are employed in coal mining, and another 500,000 work in adjacent sectors. The economic and social stability of entire regions depends on coal exports. In 2024, PJSC Raspadskaya, the operator of Russia’s largest coal mine, reported a net loss of $133 million, down from a profit of $440 million the year before. Mechel recorded a loss of 37.1 billion rubles, compared to a 22.3 billion ruble profit the previous year. According to NEFT Research, cited by Kommersant, about 60% of coal companies, accounting for 40% of total production, are unprofitable. Kommersant also reports that the government is preparing support measures. These include 73 billion rubles in subsidies aimed at reorienting coal exports from the eastern direction to southern (North Africa) and western (Serbia, the Balkans, Turkey) markets. However, experts doubt that this or other measures will be effective and suggest that authorities consider a strategy of 'managed industry contraction' – essentially shutting down some operations.

Caught between two forces

The energy crisis triggered by Russia’s invasion of Ukraine and the resulting sanctions has spurred new investment in the energy sector, which has revealed its global vulnerabilities. Geopolitical risks and Trump’s pivot away from the 'green agenda' have also redirected investor attention toward traditional energy sources. At the same time, the tariff war promises to slow global economic growth and thus dampen demand for energy commodities. As a result, the baseline scenario now assumes falling prices and continued reductions in Russian revenues across all components of the 'energy sovereignty' triad.

In the ‘Main Guidelines for Monetary Policy’ published in late November 2024, the Central Bank outlines four scenarios – the worst of which is called 'Risk Scenario (Global Crisis)'. It is based on two key assumptions: a global financial crisis in 2025 and a wave of deglobalisation triggered by the US–China trade war. In this extreme scenario, Russia’s GDP contracts by 3–4% this year. While the likelihood of a full-blown global financial crisis currently appears low, the second assumption, deglobalisation, now seems highly probable.

The decline in export revenues will not lead to catastrophic consequences for the Russian budget. In the first quarter of 2025, according to the Ministry of Finance, the budget was executed with a significant deficit of 2.17 trillion rubles, or 1% of GDP. In the first quarter of 2024, the deficit amounted to just 295 billion rubles, or 0.1% of GDP. According to the government’s original plan, the deficit for the entire year of 2025 was not to exceed 0.5% of GDP, but the Ministry of Finance has already acknowledged that the final figure will be noticeably higher.

Oil and gas revenues in the 2025 budget were expected to decrease only slightly compared to 2024 – from 11.131 trillion rubles to 10.94 trillion. As previously noted (→ Re:Russia: The Non-Victory Budget), the budget’s baseline assumption of an average annual price of $69.70 per barrel of Russian oil initially appeared overly optimistic. In January, the average price of Urals crude was $67.66 per barrel, in February this was $61.69, and in March, $58.99. At the same time, the ruble exchange rate at the beginning of the year also failed to meet the government’s expectations – it had projected an average of 96.5 rubles per dollar. As a result, oil and gas revenues for the quarter amounted to 2.64 trillion rubles – nearly 10% less than a year earlier.

Nevertheless, under almost any realistic scenario, the Russian authorities possess sufficient tools to cover the deficit. These include around 3.3 trillion rubles in liquid assets in the National Wealth Fund, substantial gold reserves, and the ability to borrow on the domestic market. However, in reality, the decline in export revenues will significantly affect the balance of payments, the exchange rate, import capacity, credit availability, and the prices of investment goods, while also dampening domestic consumption. In other words, it will lead to a notable contraction of economic activity. This will in turn produce secondary effects on the revenue side of the budget through reduced non-oil tax income (such as VAT and corporate profit tax), and exacerbate debt-related problems for households, companies, and financial institutions that issued subsidised loans backed by government guarantees.

Thus, the combination of two factors – the accumulated negative potential of 'military Keynesianism' and a sharp decline in export earnings – is, in our view, likely to bring the Russian economy into a condition that can be described as 'pre-crisis', even under a highly probable and not the worst-case scenario.