Cooling in Russia: Experts see risk of recession

If there is one thing the West misjudged after Russia began its war against Ukraine, it was the resilience of the Russian economy to Western sanctions.

Experts attribute this largely to the competence of the decision-makers at the helm of the Russian economy and its financial system. But now, a disagreement about the current state of the Russian economy has publicly erupted among this part of the Russian nomenklatura: "The figures indicate a slowdown," said Economics Minister Maxim Reshetnikov at the International Economic Forum in St. Petersburg over the weekend, referring to Russian economic growth.

At first, this even sounded like reasonably good news. The 2.5 percent gross domestic product growth forecast by the Russian Ministry of Economic Development for 2025 is considered too high. According to general opinion, it poses the risk of overheating and inflation.

Russia's Economy Minister Maxim Reshetnikov speaks of a recession

Source: IMAGO/Russian Look

But then Reshetnikov continued: "All our figures are like a rearview mirror. According to the current business sentiment indicators, it seems to me that we are already on the verge of a recession," he added, according to the RBK media group.

The Russian Economy Minister cited the high key interest rate, which the Russian National Bank had only slightly reduced from 21 to 20 percent at the beginning of June, as a hindrance to growth and hampering investment. Russian companies have been complaining for months that high borrowing costs are hindering investment activity and contributing to an increase in bankruptcies, Reshetnikov said. Putin himself dismissed warnings of a recession: "Stagnation or even recession must not be allowed under any circumstances," the Kremlin chief said at the forum. It sounded like an order.

Guests in St. Petersburg: Russian President Putin (left) with Sky News Arabia Managing Director Nadim Koteich (front) and Bahrain's National Security Advisor Sheikh Nasser bin Hamad Al Khalifa.

Source: IMAGO/ITAR-TASS

In contrast to the Minister of Economy, Finance Minister Anton Siluanov and Central Bank Governor Elvira Nabiullina were also more optimistic about the state of the Russian economy. They described the Russian economy as "cooling down" or "recovering from overheating," forecasting modest positive GDP growth of 1.4 to 2.5 percent for 2025. The latter assessment is also shared by the World Bank, which forecasts a 1.6 percent increase in the Russian economy for 2025.

But do these indicators of prosperity, which are considered fundamental, actually represent healthy economic growth?

Observers now doubt this: “Over the past two years, Russia’s economy has been running like a marathon runner on fiscal doping – and now the effect of this doping is waning,” said Alexandra Prokopenko , a fellow at the Carnegie Russia Eurasia Center think tank in Berlin last winter.

What the former employee of the Russian Central Bank understands by "fiscal anabolic steroids" are the enormous military spending the Russian state has undertaken since the outbreak of the war in Ukraine. The estimated defense budget for 2025 is expected to be 13.5 trillion rubles (127.4 billion euros). And the Kremlin chief announced over the weekend that the Russian defense industry will be further expanded. However, Putin said Russia must move away from a division between civilian and purely defense companies.

Russia's military spending now amounts to between 7 and 8 percent of its gross domestic product (GDP)—a record in the country's post-Soviet history. In the last budget before the invasion in fiscal year 2021, military spending was still at 3.6 percent of GDP.

As a result, people's incomes in Russia are rising – and this poses risks: the Russian economy is threatening to overheat. Consumer spending is driving up prices. According to official figures, the inflation rate is currently around 10 percent .

For this reason alone, the Russian central bank has almost no choice but to keep the key interest rate at a record high of 20 percent. But if it does so, what Economics Minister Reshetnikov warns about will happen: investments will dry up. If the central bank lowers the key interest rate to stimulate the economy, the Russian economy risks continuing to overheat due to war-induced government spending. It's a dilemma—and both sides are right.