Drop in Oil Prices May Destabilize Putin's Russia

Drop in Oil Prices May Destabilize Putin's Russia

Since the fall of the Soviet Union, Russia has suffered from capital-flight out of the country.  But with Western sanctions starting to bite, the modern capital-flight is only $100 billion in cash draining out; it also includes a brain-drain of a number of the nation’s top entrepreneurs leaving. This flight is forcing Moscow’s upcoming budget to prioritize spending on infrastructure, cultural projects, pension reform and expanding Wi-Fi access in Moscow’s subways. President Vladimir Putin must use Russia’s oil wealth to stimulate the economy to maintain his overwhelming level of popularity among the Russian people.  But if oil prices tumble, capital and human flight will accelerate and Putin could find himself running a far less stable nation.

AFP News reported that Maxim Shvidkiy’s, managing director of SHFM OVERSEAS Sweden Filial, has seen a jump in the number of businessmen seeking to leave Russia.  “Entrepreneurs returned from their summer vacations, analyzed the situation and have decided to act.” As a consultant to a wide range of industries from tech to trade and manufacturing he commented regarding the brain-drain as Russia’s best and brightest, “It all boils down to one thing — business does not like instability and uncertainty.” 

Human capital-flight has caused so much concern that CEO Herman Gref of Russia’s largest bank, Sberbank, warned that “Today the most popular application among businesses is not the one to set up a new company, to open and register an enterprise but an application to leave, to receive a residence permit.”

These concerns have dramatically influenced the Russian federal budget for 2015-2017 to the Russian Duma legislature today.  Although the economy is currently projected to eke out a 0.5% growth in 2014; foreign investment into Russia has dropped 50% and capital-flight is projected to reach only $100 billion by the end of the year.  

The sanctions forced the government to cut its growth expectation by 70% to 1.2% in 2015 and 2.3% the following year. But this relatively optimistic outlook assumes stable oil prices and the ability for Russian energy companies to be able to borrow internationally, a move that would require the EU and United States to ease sanctions.  

Stratfor Global Intelligence reported that setting the Kremlin’s budget priorities were “the source of a brutal battle within the Kremlin in recent weeks” about the level of defense spending, “whether to bail out Russian firms affected by sanctions, oil price forecasts and what is a tolerable level of debt and inflation for Russia.” 

Stratfor calls Russia a land of revolutions, a fact that hit home to Putin in 2011-2012 when hundreds of thousands of Russians protested his rule.  That is why in this crisis Putin and his Kremlin allies are focused on social spending and economic stimulus to avoid the populace turning on them like they did with Boris Yeltsin in the 1990s. 

Although Putin has iron-fisted control of Russian media and internal security organs means that a popular upsurge cannot directly overthrow him, Stratfor believes that Putin’s continued legitimacy with Kremlin elites only comes from his popularity with the people.  Many of those elites blame Putin for the failures of the Russian security services during the initial phases of the Ukraine revolt that led to the NATO friendly government takeover and the crippling retaliatory sanctions on Russia. Putin is increasingly isolated and must constantly be concerned that he could be ousted like former Soviet leader Nikita Khrushchev was by his own inner circle.

Putin can draw on Russia’s massive reserve funds rather than depending on tax revenues.  Russia has $641 billion in reserves: $467.2 billion in currency reserves, $87.32 billion in the National Wealth Fund and $87.13 billion in the Reserve Fund.  But these funds are contingent on oil prices not falling below $100 per barrel next year. 

Russia’s energy exports are the lifeblood of its economy, because they account for 25% of the nation’s GDP and approximately 50% of the government’s budget.  With giants Rosneft, Novatek and LUKoil already unable to borrow on international markets to fund operations, Putin has already committed to the bailout the companies.  But in the 2008 global financial crisis as oil fell to $50 a barrel, the Russian government was forced to spend $200 billion in the reserves just to stabilize the economy.  Any price fall today would cause a similar cash hemorrhage to Russian reserves.

Before the Ukraine crisis, the Kremlin had planned a massive $770 billion increase in defense spending between 2014 and 2024.  That plan was shelved earlier this year due to the economic crisis and the sanctions.  But in a bold retaliatory move against NATO, Putin has decided to re-launch the defense spending spike. 

Vladimir Putin is juggling allot of balls in the air right now.  It looks like his efforts to stabilize Russia and maintain his high popularity are looking up so far.  But if oil prices tumble, capital and human flight will accelerate and the elites “land of revolutions” will quickly turn against Putin.

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California May Face Similar Utility Crisis that Caused Gray Davis Recall


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