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Russia’s economy still shrunk by about 4% between April and June as compared to the same period last year. But that’s nowhere near the 15% decline that some had expected earlier in the year.
“We were expecting that things like SWIFT and all the blocking sanctions on Russia’s banks would totally crater the Russian economy and that basically, by now going into September, we’d be dealing with an economically much more weakened Russia than the one that we are dealing with,” said one senior US official, referring to the US and European decision to cut some Russian banks off from the SWIFT international banking system.
Another senior US official echoed that, telling CNN that many in the administration had hoped to see the Russian economy suffering more by now, given the unprecedented severity of the coordinated western sanctions.
A separate senior administration official cautioned CNN, however, that the officials crafting the sanctions in the months leading up to the war always believed that the steepest impacts would not necessarily be immediate.
“I think we’ve had, from the beginning, a view that when Russia invaded Ukraine and we imposed the sanctions, they were going to be, in all likelihood, a mid-to-long term sanctions regime,” the official said. “That is because we wanted to keep pressure on Russia over the long term as it waged war on Ukraine, and we wanted to degrade Russia’s economic and industrial capabilities. So we’ve always seen this as a long term game.”
The official acknowledged that while there were some “up-front shocks” to the Russian economy, like when the ruble plunged, Russia was able to rally quickly thanks to its energy revenues. Still, this official and western intelligence officials told CNN that they assess that in the long-term, Russia’s economy will suffer enormously — both from the cost of the war itself and from western efforts to cut it off from global trade.
“There’s going to be long-term damage done to the Russian economy and to generations of Russians as a result of this,” CIA Director Bill Burns told a cybersecurity conference last week. “Russia is going to pay a very heavy price, I think, over a long period of time.”
Slow to target Russian energy
The disconnect between early expectations and reality appears to stem from the fact that many US and western officials underestimated the sky-high revenues Russia would initially reap from rising oil prices, and the willingness of countries like China and India to continue buying Russian oil.
And despite being one of the largest oil producers in the world, Saudi Arabia has also begun buying Russian crude — albeit at a discount — for use in its power plants, freeing up its own oil to sell to other countries, an administration official confirmed to CNN.
“The United States underestimated it, and we were slow in actually starting to think about deploying sanctions against Russia energy interests,” said Jason Blazakis, a sanctions expert who served as the State Department’s Director of the Counterterrorism Finance and Designations Office from 2008-2018.
“I think they made that calculation that these sanctions would have heat and hurt the Russian economy very quickly, in ways they clearly misunderstood and overestimated,” Blazakis said. “The sanctions certainly have made the Russian economy smaller, but not to the extent people had hoped. And certainly not to the point where the Russians were brought to the bargaining table.”
When Russia invaded Ukraine in February, Europe’s continued dependence on Russian oil and gas imports meant the west was unwilling to immediately sanction Russian energy interests. The US sanctioned executives from major Russian banks, like Gazprombank, but waived sanctions on the bank itself and allowed energy payments to the Russians to continue.
“We had been warning Europe for years before the invasion about the need to get away from Russian energy, and they just weren’t willing to do it until it was too late,” said one of the senior US officials.
Russia has now weaponized its gas supplies, shutting off flows through the Nord Stream 1 pipeline — and Europe is bracing for a potential recession as a result of the energy crisis.
As one response to the energy revenues problem, the European Union agreed over the summer to ban all imports of Russian crude coming in by sea. US officials — concerned that such a ban could cause oil prices to skyrocket even more and bolster Russian revenue for the supplies it does continue to sell — have lobbied for the imposition of a cap on the price of Russian oil.
The EU agreed to a cap in principle earlier this month, but it is still unclear how the measure will be enforced.
Signs of strain
Despite those concerns, US and European officials seem to broadly agree that the boon to the Russian economy stemming from high oil prices is not sustainable in the medium-to-long term, and that the Russian economy could start feeling the worst effects of the sanctions in the first half of 2023.
Some believe the downturn could come sooner, by the end of this year. Export controls have also largely choked off Russia’s ability to manufacture new technology and weapons, and Russia has recently turned to Iran and North Korea for equipment like drones and ammunition.
“We expected the decline might be a little harsher, but they’re masking it,” said a source familiar with western intelligence, explaining that western officials believe the Russians are manipulating statistics and being “held up for now” by high energy prices.
“They can hold on and maintain current government spending levels for probably the next two years,” the source added. “They’ll be running a deficit. But it’s really going to hit society towards the end of the year when it’s not possible to pay people working for companies that have shut down and don’t have stockpiled reserves.”
Another European official echoed that sentiment, telling CNN that intelligence suggests that Russian officials are concerned about how they will sustain the labor market as companies begin going bankrupt.
“This is we always thought that there would be an upfront shock to the Russian economy, Russia would then work to mitigate that, but then there would then be these ongoing drags on the economy and on industrial production, which we are now very much seeing,” the senior administration official told CNN.
“I think with the price cap, we have a very effective path forward to address, you know, the one area where they were kind of able to get some excess benefit because of the higher oil prices,” the official added.
Putin spent years amassing hundreds of billions in foreign currency reserves, and Russia’s Central Bank has benefited from a talented central banker who has managed to implement workarounds to keep the ruble afloat, officials say.
But all that is doing is creating the appearance of stability, officials said, as western sanctions degrade key sectors of Russia’s economy — particularly the technological sector — and GDP continues to shrink. Much of the money Russia holds in foreign banks, moreover, has been frozen since Russia’s invasion.
“There is an argument out there that says sanctions failed because they are making cash from oil,” said one senior administration official. “But they’re making a lot less than they would have a year ago, and Russian oil now makes up nearly the entirety of the Russian economy because of the sanctions imposed already on the other sectors, which are working.”
The European official agreed. “The main thing that has kept Putin’s regime floating is the high oil price,” the official said. “Everything else is freezing or frozen already.”
As time goes on, Russian oil production will also decline, the US official predicted, largely because of increased foreign divestiture. Foreign companies have for decades helped maintain Russian oil fields and keep the energy sector efficient — something that Russian companies will struggle to replicate, the US believes.
Russia may turn to China for additional economic assistance in counteracting sanctions. Putin met with his counterpart, President Xi Jinping, at the Shanghai Cooperation Organization summit in Uzbekistan this week.
But although China has made legal purchases and offered rhetorical support for Russia, it has so far done nothing to run afoul of western sanctions. And there is no evidence that it is covertly providing any kind of direct assistance to Russia’s war efforts.
There are also practical limits to the short-term assistance China can provide. The natural gas pipelines to Asia “can’t carry nearly the volume” needed to make up for cutting off sales to Europe for another five years, according to the source familiar with western intelligence.
Export controls choking Russian weapons manufacturing
US and western officials have also sought to use targeted sanctions and export controls as a way to cut Russia off from the technological components it needs to build weapons — items like semiconductors, microchips, aircraft parts and lithium-type batteries.
It is “definitely” working, said the source familiar with western intelligence. US and western officials told CNN that Russia in recent months has been forced to rely on much older weapons and equipment stocks as it has continued to suffer losses on the battlefield that it appears unable to replace.
In one striking example, Russia has been observed using T-64 tanks, a Soviet-era battle tank first introduced in the 1960s.
According to an August report from British defense think tank RUSI, more than 450 foreign-made components had been found in Russian weapons systems recovered in Ukraine, emphasizing the depth of the Russian military’s dependence on western technology — and hinting at a potential weakness.
“Since the controls were put in place, global exports of semiconductors to Russia from all sources have declined by almost 90 percent, leaving Russian companies without the chips they need for a wide variety of goods, including weapons like precision guided missiles and tanks,” US Commerce Secretary Gina Raimondo said on June 29.
Raimondo has also said that US-led sanctions have forced Russia to use chips from dishwashers and other domestic appliances in some of their military equipment.
The export controls have not stopped Russia from purchasing weapons and equipment from pariah countries like Iran and North Korea, however. As CNN has previously reported, Russia purchased weapons-capable drones from Iran over the summer, and is also in the process of purchasing millions of rockets and artillery shells from North Korea for use on the battlefield in Ukraine.
Label of last resort
There is also one potentially powerful tool to further degrade Russia’s economy that the US has decided to leave on the table: designating Russia as a state sponsor of terrorism. Biden said “no” earlier this month when asked whether his administration would do so.
“To me, that’s the thing we are missing,” Blazakis said. He noted that the label would broaden the aperture of countries subject to secondary sanctions for doing business with Russia, and lead to more companies de-risking, or terminating, their operations inside Russia.
“Ukraine is one thing,” Blazakis said, “but doing business and having your actual brick and mortar operation in a country that is a state sponsor of terror — that invites reputational risks that go beyond I think what we’re seeing right now.”
CNN’s Phil Mattingly contributed to this report.