The Russian Economy: Why Natural Resources Are Its Only Hope (Part 1)

In my last two posts I discussed Europe’s dependence on Russian natural gas and I argued that it is unlikely that this dependence will disappear anytime soon. By focusing on Russia’s prospering natural gas and oil industry I think that the past two posts downplayed the negative effects that the Russia/Ukraine conflict has the potential to bring upon the Russian economy. In this post and the next one I will elaborate on some of these negative effects and argue that Russia’s natural resource industry is one of the only bright spots in an otherwise grim view for the future of the Russian economy. As a recent Economist article, “From Bad to Worse,” emphasizes, the three most notable negative effects of the Russia/Ukraine conflict are: (1) Sanction tightening, (2) a cut off of foreign lending + investment into Russia, and (3) a fall in the value of the ruble.

1.    Sanction Tightening

Although the sanctions placed on Russia as a result of the Ukraine conflict have been minimal (mostly because gas-dependent Europe refuses to risk endangering its natural gas supply), their potential negative effect is magnified by what Alexander Kilment of Eurasia Groups calls the ‘scare factor.’ The scare factor is essentially the idea that trade sanctions cause investors to expect further sanctions and trouble in the future. Shares of Russian companies that do business abroad, especially shares of those with administrative officials whose names are on the sanctions list, have fallen greatly. What makes this even worse is that the effects of the scare factor have been hitting the Russian economy where it hurts most: its energy companies. As the article states,

Shares in Novatek, a gas producer, fell sharply when the restrictions were announced, on fears it might struggle to do deals with foreign partners or raise capital abroad because Gennady Timchenko, a friend of Vladimir Putin’s named on the American sanctions list, owns 23% of the company and sits on its board.

The article suggests that this effect could spread to other large Russian energy firms such as Rosneft (an oil company) if the American government sanctions Igor Sechin, Rosneft’s current boss.

Even given these potential drops in shares, however, I have confidence that Russian energy firms will thrive. Apart from the European dependence reason I have discussed in previous posts, another key international player has entered the Russian energy game as a result of the sanctions: China. China is taking advantage of the sanctions by urging Russian firms to sign long term trade contracts that would quell some of China’s ever-growing natural resource demand. Gazprom, for example, is on the cusp of signing a deal to sell gas to China. In the next post I will elaborate on the other two negative effects: cuts in foreign lending and a drop in the value of the ruble.