Global Trend

Crisis for the Russian Bear
 
Nearly thirty year ago, on November 9th, 1989, the Berlin Wall fell.  Two year later, on Dec 25, 1991, the Soviet Union ceased to exist and the Cold War officially ended.  Since then, the real GDP of the Russian Federation has grown about 25%.  Meanwhile the GDP of the United States has grown by 91%, from a much larger starting point. Because of its role as the world’s second largest energy producer and holder of the world’s largest nuclear arsenal Russia remains a Geo-Political power.  But in every other respect, it’s just another poor eastern European country facing a bitter “demographic winter.”
 
As the brilliant George Friedman recently wrote in Geopolitical Futures, “Vladimir Putin failed to keep his promise to create a modern economy. And now he has to pay the price.”

According to a poll conducted by the Russian Public Opinion Research Center, only 33 percent of Russians said they trusted the president:  its lowest point in 13 years.  In a country like Russia, this type of result should be seen as an indicator of deep discontent arising from significant social and economic problems.

This mood is certainly not unprecedented for Russia.  Over a quarter of a century ago, the Soviet Union collapsed because things simply “stopped working.”  The Soviet state was the center of society and managed the economy. After Josef Stalin died, there was a sense of hope in Russian society about the economy - and that hope sustained the government, even when it failed to meet expectations. But by the 1980s, ordinary Russians’ belief that they could provide for their families and that the gulf between them and the bureaucratic elite would diminish, had faded. What changed their minds was not envy or anger - Russians had grown to expect a certain level of inequality - but a lack of hope. They had little and were not going to get more.  Worst of all, they lacked hope for their children.

This situation was a result of four factors.

- First, the inherent inefficiency of the Soviet apparatus, which could not build a modern economy.

- Second, the misallocation of available goods, not only to the elite, but also to a thriving black market that frequently operated in foreign currencies, which most Russians lacked.

- Third, the decline of oil prices, which shattered the state budget. And,

- Finally, a surge in defense spending, designed to both match U.S. spending and convince Russians that although they might be poor, they still lived in a powerful country. This was not trivial for a nation that had lived through the German invasion.

In 1991, when the Soviet Union collapsed, there was no revolution. There was simply exhaustion.  The elite were exhausted from trying to push the boulder of the Soviet economy and society up a steep hill.  And the people were exhausted from standing in lines for hours to buy basic necessities. The general sense of failure was apparent not only in faraway capitals but in Russians’ own lives.

The Politburo had selected Mikhail Gorbachev, on March 10, 1985, to solve these problems. He promised openness and restructuring.  But the openness only revealed the catastrophic condition of the economy, and the restructuring, carried out by those who had created the disaster in the first place, didn’t work.  All Gorbachev did was legitimize the fears and fatigue that had festered in the Soviet Union and allow them to eat away at what was left.

Upon the dissolution of the Soviet Union, Boris Yeltsin replaced him, but did nothing to solve the lingering economic problems.  The Soviet Union was gone, and many took advantage - from Western financiers, consultants and hustlers, to Russians who figured out, frequently with Western advisers, how to divert and appropriate what little wealth Russia had.

Privatization requires some concept of the private.  In a country that had lived for generations by the old socialist principle of “money is theft,” the oligarchs embraced the concept with a vengeance.  Russia’s elite bureaucracy was just as inefficient as the Soviet Union’s, and, as shown in Kosovo, other nations held it in contempt.

Yeltsin couldn’t last.  His replacement was Vladimir Putin, who had roots in both the old Soviet Union and in the new Russia.  He had been an agent of the KGB, the Soviets’ main security service.  And through his time as deputy to the mayor of St. Petersburg, he was enmeshed with the oligarchs who became the holders of Russia’s wealth.

For a country as vast and poorly connected as Russia a strong central government and secret police have always been key to holding the nation together.

Putin came to power because of his connections.  After Yeltsin, Russians craved a strong leader, and they drew comfort from the fact that Putin had ties to the KGB.  They accepted his links to the oligarchs as simply part of how the world works.
 
Putin promised to make Russia prosperous and respected in the world.  But to do so, he had to build a modern economy.  Russia was highly dependent on the export of raw materials, particularly oil and natural gas.  Putin couldn’t control the price of these commodities, so Russia was always vulnerable to fluctuations in global supply and demand.  Putin had a choice: allow the economy to deteriorate and the country to descend into chaos or centralize governance once more.  He chose recentralization, concentrating power in Moscow and distributing funds from the state budget to the regions.  When oil prices were over $100 per barrel, Putin had an opportunity to make massive investments in new industries.  But he was beholden to the oligarchs, and they to him.  Any economic reforms could have jeopardized this relationship.  It’s not so much that Putin missed the chance to modernize but rather that his path to power prevented it.

Then, in 2014, oil prices plunged.  Though they have recovered from their lowest point, real prices remain low by historical metrics.  Western sanctions have also taken a toll.  Until 2018, Russia had two reserve funds, stocked with profits from the oil boom.  But following the collapse in energy prices, one fund was depleted, and since January 2018, only the National Wealth Fund remains.  To try to replenish the state budget, Putin decided to reform the pension system.  Just seven months after his re-election in March, he signed an unpopular bill into law that will gradually raise the age of retirement for women from 55 to 60 and for men from 60 to 65.

Hence the 33 percent “trust rating,” discussed earlier.  Putin promised to make Russia a modern, powerful nation.  He has failed to deliver on the first point, and his forays into Syria and elsewhere haven’t compensated for deteriorating economic conditions.  Older Russians are reminded of what was and what had been abolished; younger Russians are encountering conditions similar to those their grandparents told them of.

According to Friedman, there are two possible paths forward.

One is the old Russian solution of empowering the secret police to crush the opposition, though it isn’t clear that today’s Federal Security Service, or FSB, has the same power its predecessor organizations had.  The recent poisoning of a former Russian spy in Britain was likely intended to send a message to current FSB agents, not only to frighten them, but also to tell them that they need to uphold the integrity of the Russian nation.

The other path is a re-enactment of the fall of the Soviet Union.  Few are eager to relive the 1990s, but collapse is not always the result of a vote.  If oil prices remain low, sanctions remain in place, reserves continue to dwindle, and the FSB is more interested in “doing business” than in sacrificing for the Russian state, then it’s hard to see an alternative scenario.

Either way, Russia and the world around it face some unsettling times as Putin tries to play the “bad hand” Russia has been dealt.

Given this trend, we offer the following forecasts for your consideration.

First, in the medium-term, no foreign power will come to Russia’s aid.

Each one demands too much and offers too little.  There’s a fantasy in Russia about an alliance with China, but Moscow is far away from Beijing, and as we highlighted in Trend #1, China’s problems are even more urgent than Russia’s.

Second, the Kremlin will continue escalating external conflicts as a way to rally public support and morale.

We already see that in Ukraine.  But this must be done very carefully.  Russia is ill-prepared for the aftermath of a conflict it could lose.  Similarly, it lacks the resources for a conflict that would last longer than those at the top anticipate.  A debacle like “1980s Afghanistan” would undermine morale and likely strengthen America’s strategic position.

Third, disastrous demography, economic sanctions, crumbling infrastructure, and ethnic conflicts will force Russia to increasingly resort to repression as a means of holding the country together.

On top of this, Russia still faces the conditions that caused the Soviet decline in the 1980s: low oil prices and high defense costs.  As George Friedman observes, “Today, the people aren’t angry, but they are resentful, and in due course they may simply become exhausted, as they did in the 1980s.  Russia is vast and needs a strong central government to hold it together, but central governments are not good at managing economies.  Thus, the secret police force will be tasked with holding the country together.  If it can’t or won’t, then a Gorbachev-type leader may rise-up to reform the economy, and a Yeltsin-type leader may follow to preside over the nation’s revolutionizing.”  And,

Fourth, the United States, western Europe and Japan will benefit from Russia’s weakness, but not its collapse.

Despite the modernization of China’s military, only Russia poses a threat to U.S. strategic dominance in the 2020s.  Despite its weak economy, Russia still has the nuclear firepower to launch a devastating first-strike if it was willing to accept the consequences of Mutually Assured Destruction.  More realistically, portions of that arsenal could fall into the hands of terrorists, if Russia was plunged into anarchy.  Therefore, the United States and NATO should be prepared to make certain Russia’s decline is orderly.  

 
References

1. Geopoliticalfutures.com. January 29, 2019. George Friedman. The Russian Crisis.

https://geopoliticalfutures.us11.list-manage.com/track/click?u=781d962e0d3dfabcf455f7ef-f&id=4601ba01ad&e=e19ee8814d  

2. Vice.com. October 25, 2018. Tim Hume. Putin Just Threatened Europe: No New U.S. Nukes on the Continent.

https://news.vice.com/en_us/article/pa9ndm/putin-just-threatened-europe-no-new-us-nukes-on-the-continent

3. Geopoliticalfutures.com. January 7, 2019. Xander Snyder. Oil in 2019: Booms, Busts and the United States.

https://geopoliticalfutures.com/oil-2019-booms-busts-united-states/