Russia Struggles Economically and Politically

Sanctions are only part of Russia's economic woes. Low oil prices and the effects that ongoing tensions with the West are having on Russia's investment climate will make the Russian economy one of Moscow's greatest challenges in 2015, inflicting both social and political pressures on the Kremlin. Market hysteria aside, the Russian economy will continue to decline in 2015, but it will not sink to the depths of the 1998 crisis.

Russia will go into recession officially in 2015 as inflation rises to double digits, foreign investment remains low and capital flight remains high. With the decline of oil prices, the Russian ruble will continue to weaken, its value changing chaotically. Additionally, the major Russian firms – including energy, banking and industrial firms – will have limited access to credit and will face mounting debts.

According to the Russian government’s current budget, which is based on oil at $80 per barrel, Russia could face a fiscal crisis unless Moscow makes deep spending cuts and withdraws a large amount from its cash reserves. Russia does have approximately $400 billion in those reserves as of December 2014, but the debate over where and how much to spend will only add to friction within the Kremlin. Russia will have to prioritize financial assistance for many strategic state firms and banks, such as Rosneft, Novatek, VTB Bank and Sberbank. Social spending will be key for Moscow as it tries to mitigate the social costs of the recession, such as increasing inflation and higher unemployment, by subsidizing gasoline prices or capping food prices. The poor economic situation will likely spur demonstrations across Russia, though the government will be able to manage the unrest.

Russia will increase defense spending moderately this year but will postpone its large armament programs until after 2015. This will allow Moscow to maintain its current military presence and projection in the former Soviet periphery, but Russia's long-term overhaul of its military and defense sector will be put off for the time being.

Amid Russia's economic troubles and its standoff with the West, divisions will grow deeper among the Kremlin elite over how to address the country's various crises. The declining economy means that the Kremlin's power circles will have less money to draw from for their own clans and companies. Moreover, Russian President Vladimir Putin will face increasing pressure from many oligarchs, whose companies and fortunes are in massive decline. However, the Kremlin will focus mostly on the elite and on companies in the business of energy and banking, such as Rosneft, Novatek, Sberbank, and VTB, instead of the oligarchs and most of the private sector. The increasing competition among the elite will force Putin to spend more time arbitrating, though this will keep the competing clans focused on each other instead of the Russian leader, enabling Putin to manage any potential challenges to his rule this year.

Ukraine's Internal Challenges

Like Russia, Ukraine will face significant economic challenges this year. With a gross domestic product decline of 7.5 percent in 2014 and an ongoing separatist conflict in eastern Ukraine, Kiev comes into 2015 under significant economic and financial strain. However, foreign financial assistance is likely to keep Ukraine afloat this year. The International Monetary Fund and foreign governments will follow through with their current commitments and provide Ukraine with additional financial assistance as needed. Such aid will require the implementation of significant new austerity measures, including cuts in subsidies and social spending, which will lead to some protests. Ukraine's weak economy and volatile political situation will allow Russia to exert influence over Ukraine in areas like energy, trade and security matters, though on the whole Kiev is likely to maintain an economic and political orientation toward the West.

Ukraine also will encounter greater domestic security challenges as far-right and nationalist groups seek to pressure the government with protests. Some armed far-right groups that fought in eastern Ukraine will remain active throughout the country. On the other side of the spectrum, Russia-backed groups are likely to launch terrorist-style attacks in Ukrainian cities such as Kharkiv, Odessa and Mariupol, though these attacks will be limited in their scope and effectiveness.

On the energy front, a deal that Kiev and Moscow reached at the end of 2014 for the resumption ofnatural gas imports from Russia will continue into the early months of 2015 in order to avoid major energy shortages in Ukraine during the winter. However, periodic cutoffs could occur later in the year as the two sides negotiate over a longer-term agreement regarding natural gas pricing and deliveries. A large-scale cutoff that affects Europe is unlikely for 2015.

On foreign policy, Ukraine will take steps to integrate further with the European Union within the framework of the EU Association Agreement, and Kiev will seek to increase cooperation with NATO and the individual militaries of NATO states. However, actual EU and NATO membership will not be considered for Ukraine. A low-level frozen conflict will continue with pro-Russian separatists in eastern Ukraine, but Ukraine will not seek to militarily regain control of Crimea and the self-declared republics in Donbas.

Date: 2016-04-22; view: 603