Putin ignored every lesson of history, leaving Russia’s economy on the brink

MATTHEW LYNN 3 March 2023 •

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Demand for its oil and gas has been choked off. Sanctions are finally starting to bite. The costs of a war that the Kremlin expected to be over in a matter of weeks are escalating wildly out of control, and the state is increasingly having to rely on borrowing to keep going.

Even supposed allies of the Russian regime, such as the billionaire Oleg Deripaska, are now warning that the country is close to running out of money. 

Vladimir Putin ignored almost every lesson of history when he invaded Ukraine just over a year ago. But the one that might well haunt him the most is this: wars of attrition are brutally expensive, and are usually won by whoever has the deepest pockets and the productive capacity to keep up the fight for the longest. That isn’t going to be Russia. 

It could even be that the total collapse of Russia’s economyis not far away. And if it is, it will happen a lot more quickly than anyone currently thinks.

If we are to avoid a repeat of the events that followed the disintegration of the Soviet Union in 1991 – when the economy fell apart , the oligarchs took control, and Russia ended up becoming a corrupt, gangster state intent on re-establishing its empire – the West needs to be ready. 

It has taken longer than anyone thought, but the economic pressure on the Kremlin is finally starting to tell. True, last year the country got away with a fairly modest 2.2pc contraction in GDP, at least if you believe the official figures. This year, however, is going to be much worse. 

There are estimates that output fell by 6pc to 7pc in the last quarter of the year, and the decline will only have accelerated since then. Europe, including the UK, has managed to wean itself off Russian oil and gas, its main customer, far faster than was expected. The G7 has imposed a price cap of $60 on Urals oil, and while some customers will inevitably avoid that the price has still dropped by 20pc since December, hitting revenues hard. 

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Companies might have been too slow about it – no one knows why the typically sanctimonious Unilever is still there – but they are steadily winding down their operations in the country, laying off staff and closing down units. The Russian budget deficit is climbing at an alarming rate, as tax revenue collapses.

“There will be no money already next year,” Deripaska, the metals tycoon already subject to American, British and EU sanctions, told a conference in Siberia this week. “We will need foreign investors.”

That much is certainly true. The spending on the war has escalated dramatically. According to an analysis by Reuters, the military and security budget has risen to $155bn, or a third of all state spending. Putin and his generals may have planned a lightning campaign leading to a victory parade through the streets of Kyiv within a matter of weeks. But that is not the way it has worked out. 

Instead, Russia is bogged down in a brutal war of attrition along a stretched front line that is consuming men and machinery on an epic scale. And if the fighting is tragically reminiscent of the First World War, then there will be similarities in the economic context, too. The Great War was effectively over once the economic might of the United States was thrown behind the Allies. 

It is possible that China may step in to help Russia out. But it would be rash to count on it. The Chinese, and especially President Xi, are not sentimental, and they are certainly not interested in losers.

It is hard to see that they have anything to gain by bailing Putin out. And without help from China, it is impossible that Russia’s shrinking economy can match the spending power of the West (and the White House announced another $400m of help only yesterday). A total economic collapse is simply a matter of time. 

The West needs to be ready for that. When the Soviet Union fell apart in 1991 the response was a total disaster. The country was allowed to sink into chaos, with GDP falling by a shocking 45pc between 1988 and 1998. 

It was hardly surprising against that backdrop that industry fell into the hands of a corrupt group of oligarchs, and that an authoritarian state controlled by Putin quickly took charge. We ended up with a repressive, militarised regime, threatening its neighbours, and repressing its people. In other words, right back at square one. 

The collapse of 2023 needs to be handled very differently. Like the post-war reconstruction of Japan and Germany, or indeed, the post-Soviet rebuilding of Poland, now on track to be richer than Britain, at least according to Sir Keir Starmer (who conveniently forgets to mention that it will also be richer than Spain and France), it needs to create small businesses, back entrepreneurs not robber barons, and encourage free and competitive markets operating under the rule of law instead of a gangster clique entirely dependent on favours from the Government. 

None of that is going to be easy, but then it wasn’t easy in Japan and Germany, either. It will require massive financial assistance when the Putin regime falls apart to stop output going into freefall, and that will be expensive, especially at a time when we will need to help Ukraine rebuild as well. 

Even more importantly it will take slow, patient institution building. If successful, however, there will be at least a chance of a modern, liberal democracy emerging from the ruins of this dreadful war. And that will be a neighbour the rest of us can finally live with. 

In reality, Russia’s economic collapse is not far off – and this time around the West needs to have a plan ready for when it happens.