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Russia Prepares to Blink Under Sanctions Pressure

Russian President Vladimir Putin appears ready to cooperate with the European Union to remove economic sanctions–after having gained enormous international leverage through his surprise military intervention in Syria.

Russian Finance Minister Anton Siluanov warned Moscow’s Tass News Service on October 27 that Russia’s $80 billion National Reserve Fund, set up to sustain the nation after the EU and U.S. began punitive sanctions, has already spent $40.85 billion on economic subsidies this year and will be wiped out in 2016.

The next day, German Foreign Economics Minister Sigmar Gabriel told Die Welt News that after meeting with President Putin to discuss bilateral trade, it was his personal opinion that EU sanctions on Russia should be eased.

This is the first time that a leading Western coalition member has talked about cutting sanctions since Russia annexed the Crimea.

The Western sanctions against Russia that begangin March 2014 were designed to undermine financing and investments in Russia’s resource-based economy over a five-year period. But that was before the global economy headed into a downturn and crude oil prices crashed by over 50 percent.

The combination of challenges accelerated the damage to Russia’s economy, and is beginning to foment internal unrest. Russia is “getting to the point where financing delays in key projects, along with financing constraints on Russian companies and Western firms doing business in Russia, could cause irreparable harm to the economy in the not-too-distant future,” according to Stratfor Global Intelligence.

Prior to the sanctions, Russia was positioned for a spectacular increase in natural gas and crude oil production from development of the Arctic’s Kara Sea, whose deposits are estimated to be comparable to Saudi Arabia. Huge production from the Kara Sea was expected to come online by 2017, and would have more than offset expected declines in Siberia’s Soviet-era fields.

But key to the development opportunity was huge amounts of Western financing and access to ExxonMobil (XOM-NYSE) knowledge and technology for deep off-shore energy exploration. This evaporated with the sanctions.

Russia tried to self-fund development for the last year, but on September 15, the Russian Energy Ministry officials stated that the ministry does not expect drilling to return to the Arctic Sea until 2020 at the earliest.

Russia has had very little ability to effectively respond to Western sanctions. Cutting energy deliveries to Europe would be painful to the West in the short term. But such action would permanently burn relationships and just cut Russian cash flow.

Russia’s central government has cut its budget by 10 percent across the board, except for defense. As a result, popular social programs have been slashed, and even funding to host the World Cup 2018 has been severely restrained.

The Russian economy contracted by 4.30 percent in the third quarter of 2015, versus about 1 percent growth for the same period last year. Although the media have focused on the stability in Moscow and perhaps St. Petersburg, the economic decline in Russian provinces has become much more serious. Debt in Russia’s 83 regions has risen by 100 to 150 percent since 2010. Russia’s economy minister suggested that possibly 60 of those 83 regions are in crisis mode, and 20 may have already been defaulting on their debt. As Russia faces food shortages and other issues, Stratfor believes Moscow is “stepping up its security apparatuses within the regions, stepping up its control within the governors and within the mayors.”

Stratfor sees Russia is becoming even more involved in Syria to prop up Bashar al-Assad as a strategy to force engagement with Western interests: “Although discussions between Russia and the United States–whether about Ukraine, Syria or sanctions–have largely broken down, U.S. Secretary of State John Kerry and Russian Foreign Minister Sergei Lavrov are still communicating.”

Moscow’s key objective for 2016 is winning relief from the sanctions. Stratfor believes Russia will “use whatever it can–Ukraine and Syria included–to present itself as a willing partner.”

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