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This Russian empire will crumble just like the last one
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This Russian empire will crumble just like the last one

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This Russian empire will crumble just like the last one

Russia has already annexed the Crimea. Its agents are reported to be fomenting rebellions across the Eastern Ukraine. Its troops are massing on the border, and President Vladimir Putin has talked admiringly of the old Soviet empire just as he appears intent on recreating it in purely Russian colors.

The world is quite right to be worried that Moscow has imperial ambitions across its region, just as it did through most of the 19th and 20th centuries.

But the last Russian Empire was undone by the weakness of its economy, and this one will be as well. Putin may act tough, but he has not put in the place the economic foundations for a bid for great-power status.

After a burst of growth based on development of its oil fields and other natural resources, it has run out of steam. Growth has stalled, and has now gone into reverse. If it annexes the Ukraine, the costs of the occupation will drain its resources.

A great power is an expensive thing to run — just ask the Americans, and before them the British. The Russians won’t be able to afford it, and that means in the medium term they will fail.

How far Putin plans to push his ambitions in Ukraine is not yet clear. He may simply wish to put a pro-Moscow regime back in power. He may want to bring the country back under full Russian control, or at least its eastern regions. That remains to be seen. What is already clear is that the crisis is taking a toll on the Russian economy at a moment when it cannot afford it.

Russia has already slipped back into recession. Output shrank in the last three months.

The International Monetary Fund has cuts its growth forecast for 2014 to 0.2% from 1.3%, arguing that the estimated $100 billion that had fled the country since the unrest in Ukraine started has already hit output.

The ratings agency Standard & Poor’s has cut its rating to just one level above junk. The ruble USDRUB +0.00% has dropped by 8% against the dollar, and the central bank has jacked up interest rates from 5.5% to 7.5% to defend the currency, and try to stem the money heading abroad.

That could hardly have come at a worst time. The Russian economy was already weakening, and its place among the BRICs — supposedly high-growth countries — looked more like a joke all the time. The decade up to 2008, the first since Putin took power, saw average growth rates of 7%. Between 2008 to 2012 that dropped to 4%. Now it is down to around 1%. Nor is it likely to pick up any time soon.

Oil and gas, along with a few other natural resources, are the mainstay of the Russian economy. Russia provides 24% of Europe’s gas, and 30% of its oil. It is planning to export gas to China, but the pipelines have not been built yet.

Russian stock market
The Micex index has fallen since the Ukraine crisis began in February.

But it does not do very much else. Russia has not managed to create any manufacturing industries that can export abroad, nor any retailers than can serve anything other than the domestic market. How many Russian companies has anyone heard of outside of the resources sector? China has created plenty, and so have Brazil and India, and much of Eastern Europe. But Russia under Putin’s brand of oligarch-controlled, state-dominated capitalism has completely failed.

Worst of all, its demographic crisis has resumed — and it is worse than ever. Between 2005 and 2010 its working age population rose by 5%. Now it is falling by 1% over a five-year period. Between 2015 to 2020 it will drop by 6%. It is very hard to grow an economy when the workforce is shrinking — just ask the Japanese.

Putin’s ambitions to expand his influence are only going to make the economy worse.

Ukraine has a basket-case economy. It has hardly grown at all since the collapse of the Soviet Union. The heavy industries it inherited from Communism were redundant and it has not been able to replace them with new ones. While Poland, its neighbor to the west, has boomed, Ukraine has stagnated.

If Russia takes responsibility for Ukraine, it will be saddling itself with huge liabilities at precisely the wrong moment. East Germany, with a population of 16 million, almost bankrupted wealthy West Germany after re-unification. Ukraine with a population of 45 million, could bring Russia to its knees.

Sanctions will make matters worse. When economies are closed off from the rest of the world, they lose their competitiveness — and Russia doesn’t have much of that to start with. The grip of a small group of oligarchs will be strengthened, and the few genuine entrepreneurs Russia has will find the rest of the world closed off to them.

The reliance on energy and natural resources will only increase. And yet, in the medium term even that is at risk. Europe is sitting on vast reserves of shale gas, and only needs to find the political willpower to wean itself off Russian energy. The aggressiveness of Putin’s foreign policy may well be the spur to make that happen. If oil and gas goes into decline, Russia may well face bankruptcy.

None of that, of course, means that Russian stocks are not worth buying at these levels. The economy is bad shape, but that is already in the price. The Moscow market trades at around four times earnings. Its natural resources are still valuable, even if they are poorly managed. If assets are being given away for practically nothing, there is no reason not to buy them.

But it does mean than Putin’s imperial ambitions are futile. Empires are based on economic strength, not the other way around. The Russians can annex the Crimea and probably take control of Ukraine as well if it wants to. There is no sign that Europe or the U.S. will go to war to defend it.

And yet the weakness of its economy led to the collapse of the Soviet Empire — and the weakness of the Russian economy will lead to the eventual collapse of this one as well.

This Russian empire will crumble just like the last one - Matthew Lynn's London Eye - MarketWatch

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I keep waiting for it to blow up, and it just doesn't. There's the odd bit of incendiary like news and the market reacts for a day and then retreats back. Hopefully common sense prevails, and then just as I'm typing I realise we're talking about politicians :-) so anything can happen.

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