In Brief: Russia Has an Inflation Problem
The war in Ukraine has caused a sharp rise in military spending that is overheating the Russian economy.
With Vladimir Putin’s war in Ukraine going on two and a half years, the prospect of this conflict ending anytime soon seems like a whimsical and fleeting dream. But it’s not just rising casualty numbers that have Russians on edge. It’s the impact the war is having on Russia’s economy.
As National Review’s Desmond Lachman observes, “The specter of high inflation is haunting Russia.”
Russia is no stranger to socially destabilizing bouts of high inflation. Indeed, in the early 1990s, in the wake of the Soviet Union’s collapse, Russian inflation reached 2,330 percent. And in 1998, during Russia’s debt crisis, inflation spiked at 84 percent.
Russia’s current rate of inflation, 9%, has doubled since last year.
One factor contributing to the recent uptick in Russian inflation has been the continuing impact of the West’s punishing sanctions, particularly on Russia’s financial sector and technology imports. Some of that impact has been blunted by a surge of imports from Europe to Central Asian countries, which then forward them to Russia. China, too, has filled quite a bit of the gap. According to CEPA, China’s exports to Russia, including its exports of dual-use components covered by Western export controls, have increased by 60 percent since February 2022. Sanctions have limited Russia’s access to international financial markets, which has depressed investment, although some of this too is offset by China.
Lachman notes another factor pushing the inflation rate in the wrong direction — a labor shortage due to the number of young Russian men fighting in Ukraine.
However, the main source of Russia’s current inflation problem would seem to be the sharp rise in military spending that has caused the economy to overheat. One measure of the pressure that military spending is putting on the economy is the fact that such spending has approximately tripled since 2021. It now accounts for around 28 percent of the country’s overall budget expenditures and amounts to some 7.5 percent of GDP. This is around twice the corresponding share of defense spending in the U.S. economy.
The Russian Central Bank has responded by hiking interest rates, now up to 18%, in an effort to protect the ruble. But with the war dragging on with no end in sight, this spells a continued campaign of high interest rates.
All of this means that while Russia’s overall economy may have been kept afloat to date by increased spending on guns, there has been less room to spend money on butter. At the same time, the prolonged maintenance of high interest rates is bound to curb private-sector investment and risks plunging the nonmilitary economy into a recession as the central bank tries to slow inflation. That is the last thing that Russia needs at a time when Russia’s poor demographics are being reflected in a shrinking labor supply.
