- The Washington Times - Monday, March 24, 2014

Russia is paying a heavy price for its annexation of Crimea, with its financial markets crashing, economic growth falling, and foreign investors and citizens pulling money out of the country at a frenetic pace.

Though the economic pain has been more self-inflicted than the result of limited sanctions imposed by the U.S. and European Union, the sanctions have helped create panic that has prompted investors and businesses to pull $70 billion out of the country in the first quarter after having withdrawn $63 billion in all of 2013.

“The deteriorating geopolitical situation has already had a negative impact on Russia’s economy,” said John Piecuch of Standard & Poor’s Corp., which last week warned that the outlook for Russia’s debt and economy had darkened. S&P said growth in Russia this year will slow further from the anemic 1.3 percent rate posted last year.

Some analysts say the Russian central bank’s emergency efforts to stem the ruble’s 10 percent nose dive against the U.S. dollar this year could push Russia into a recession. Rather than nurturing economic growth, the central bank has had to raise interest rates dramatically and sell $11 billion out of Russia’s $500 billion war chest of reserves to defend the currency.

Russian Economy Minister Alexei Ulyukayev acknowledged the dire situation Monday by telling reporters that growth in the first quarter likely will clock in at “around zero.” But he insisted that Russia will have to contend more with stagnation than recession this year.

Relationships torpedoed

Beyond snuffing out growth and driving up interest rates and inflation, casualties of the Crimean takeover include hopes that Russia would pursue free market reforms to make its economy less corrupt, government-centered and dependent on the sale of oil, gas and other commodities, Mr. Piecuch said.

Russia is not totally invincible and in some ways the damage is already done,” with its economy suffering for the foreseeable future, said Lilit Gevorgyan, European economist for IHS Global Insight.

“The fear of interstate war in the past weeks made the investor community rethink their future plans with regards to Russia, which already had a troublesome profile with private investors,” she said.

The stampede from the country and the threat of further sanctions from the West raise major questions about whether the extensive ties Russia cultivated with Western businesses in the past two decades were for naught.

“The lost future business opportunities is something that would be hard to quantify but expected to be felt by the Russian economy, especially if the standoff with the West continues for an extended period of time,” Ms. Gevorgyan said. “It is not only the capital but also the Western know-how that Russia needs to overhaul its economy, and these are unlikely to come in when diplomatic relations are frozen.”

Stiffer sanctions?

The light-handed sanctions imposed by the U.S. and EU last week, targeted at government officials and business people close to President Vladimir Putin, will cause little immediate economic pain beyond Russia’s weak markets, nor will they prompt Mr. Putin to reverse his takeover of Crimea, she said.

The U.S. and EU are considering more severe sanctions targeting Russian companies, but European nations — which have far more extensive trade ties with Russia than the U.S. — are wary unless Moscow attempts further aggressions in Ukraine or elsewhere in Eastern Europe.

Ms. Gevorgyan said sanctions would have to be onerous to have any significant effect and in the end are unlikely to work.

“To inflict immediate economic pain on Russia, EU and U.S. have to impose far more serious economic and energy embargoes, cancel large contracts, freeze assets of a whole range of state-run Russian commercial entities, and target far more government-linked business people over a sustained period of time to send the Russian economy into dramatic decline, wiping away the wealth of the country’s business brass,” she said.

But such far-reaching sanctions also could set back fragile recoveries in the U.S. and Europe and inflict broader harm on the global economy. That is why many analysts do not expect more drastic measures unless Mr. Putin tries to extend his army’s reach into eastern Ukraine.

Russia is a $2 trillion economy that has veto power at the United Nations Security Council and influence over its immediate neighborhood and further afield, with plenty of countries willing to trade regardless of Moscow’s fallout with the West,” said Ms. Gevorgyan. “Hence the isolation tactics, applied to the likes of Iran, are probably unlikely to work in case of Russia.”

Risk of backfiring

Frank A. Verrastro, an analyst with the Center for Strategic and International Studies, also cautioned against trying to punish Russia with full-bore sanctions. He said such moves would boomerang and hurt the U.S., EU and global economies, especially if they involve boycotting or trying to block the sale of Russia’s 7 million barrels a day of crude oil exports.

“In the absence of Russian barrels, world oil prices would undoubtedly spike, causing economic pain for the United States and its sanctions partners” that would rival the pain of lost oil revenue in Russia, he said.

EU nations, in particular, would be better off adopting strategies to wean their economies off of a significant dependence on Russian oil and gas over the long term, he said, such as developing the significant shale oil and gas resources in Europe. The U.S. could help by expediting liquefied natural gas exports to Europe and allowing some sales of surplus American crude oil, he said.

Timothy F. McCarthy, author and former chairman of Nikko Asset Management, said Russia no longer deserves support from U.S. investors and corporations that rushed to do business when Russia was viewed as one of the most ascendant markets in the past decade.

Russia is not in the same investment league as Brazil, India and China,” he said. “The evidence of a corruption-stifled economy has been building over the past decade. In Russia today, the breadth and depth of corruption is so pervasive that it saps the energy from most all economic sectors and simply stunts any chances for growth.”

Transparency International ranks Russia 127th out of 177 nations for good governance, while illicit financial outflows typically are seven or eight times the amount in China or Brazil, he said.

“Clearly, Russian citizens do not want to invest their own money in Russia,” and with a rapidly declining population, the outlook for long-term growth in Russia is just as bleak or bleaker than the rest of Europe, Mr. McCarthy said.

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