Sanctions against Russia having little economic impact in the short term

Press Release of October 29, 2015

Russian economy suffering due to weaker local currency – depreciation of the ruble primarily due to the drop in oil prices, not to sanctions

Since 2014, the ruble has fallen by more than 50 percent against the U.S. dollar—and this devaluation is putting the Russian economy under pressure. A study conducted by the German Institute for Economic Research (DIW Berlin) has concluded that the decline in the oil price has primarily been responsible for this devaluation, while the economic sanctions imposed by the Western countries after the annexation of Crimea are playing only a subordinate role.

German Institute for Economic Research (DIW Berlin)

The German Institute for Economic Research (DIW Berlin) is one of the leading economic research institutions in Germany. Its core mandates are applied economic research and economic policy advice as well as provision of research infrastructure. As an independent non-profit institution, DIW Berlin is committed to serving the common good. The institute was founded in 1925 as Institut für Konjunkturforschung (Institute for economic cycle research). Since 1982, the Research Infrastructure SOEP (German Socio-Economic Panel Study), a long-term study, is affiliated to DIW Berlin. The institute has been headquartered in Berlin since its founding. As a member of the Leibniz Society, DIW Berlin is predominantly publicly funded.

“Russia is a major supplier of oil and gas in the global economy: Two-thirds of exports and more than 50 percent of public sector revenues are dependent on oil and gas,” explains Konstantin Kholodilin, Research Associate in Department of Macroeconomics at DIW Berlin. “This makes the country extremely vulnerable to shifts in world market prices.” The price of oil is denominated in dollars. Currently, one dollar is worth more than 60 rubles; at the beginning of 2014, it was worth roughly half that amount. Imports from other countries have thus become more expensive within Russia, and due to inflation, Russian citizens have lost purchasing power. In turn, this is reducing the country’s tax revenues.

Russia's response to the crash of the ruble

Russia initially used its foreign exchange reserves to extend the supply of the U.S. dollars, and to slow down the ruble’s decline. In addition, the Central Bank of Russia raised its key interest rate in order to combat the depreciation. According to Kholodilin, however, this policy is disadvantageous in the long run: “The increase in the key interest rate leads to higher financing costs for consumers and investors, thereby reducing domestic demand.” The counter-sanctions imposed by Russia in response to the Western sanctions have also halted the ruble’s decline somewhat.

Many Western products may no longer be imported, which means that Russian citizens are increasingly must rely on domestic products. But since the quality of Russian products is lower, they are not ideal substitutes. In order to improve their products, Russian manufacturers need access to the necessary technology and machinery, which often must be imported from abroad. Sanctions, however, are impeding this to a large degree.

Western sanctions may increase the volatility of the ruble

Although the Western sanctions have not had a strong impact on the ruble, it is possible that the sanctions have caused an increase in the ruble’s volatility. This is particularly true if the imposed sanctions differ from what had been anticipated in the media. To analyze this effect, the economists examined media reports on sanctions. They came to the conclusion that unanticipated sanctions upset market participants, which indirectly affects the volatility of the ruble.

Russian economy heavily dependent on foreign technology

According to the study’s authors, Kholodilin and Christian Dreger, the sanctions could possibly reduce growth in the long run, because the Russian economy is dependent on the transfer of technology from abroad. Due to the low exchange rate, companies are having an even harder time carrying out their investment plans. Despite this, Kholodilin remains skeptical about the political effectiveness of sanctions: “It remains a question of whether the West is prepared to wait until the sanctions start to have an impact on the economy and thus lead to reshaping the course of policy.”