Debt and the War Economy

Western Debt

A useful article from Ian Proud confirms the view that in addition to assessing the forward movement of Russian attritional war against both Ukraine and the West, a similar logic is at play at the financial level (Proud).

Proud notes that the G7 has promised Ukraine a loan of $50bn, based on interest on $329 billion of stolen Russian assets in Europe and the USA (prompting I would add - surprise, surprise - Russian preparations for the seizure of Western financial assets in Russia). The idea is that Ukraine will repay the loan using the interest. The loan will consist of a series of loans by G7 member countries, with the US topping up the fund by the required amount so it hits the $50bn mark.

Ukraine’s economy, Proud notes, is currently around $180-190bn in size - around 11 times smaller than Russia’s economy and 131 times smaller than the US economy. $50bn represents around 27% of Ukraine’s yearly GDP. Ukraine has been borrowing this amount every year since the war started - $58bn in 2022, $46bn in 2023 and is set to borrow $52bn in 2024. In three years, Ukraine will have borrowed 82% of GDP. The government spends almost twice as much each year as it receives in income from taxation and other sources.

Note, says Proud, that the members of the European Union are not allowed to run a budget deficit of more than 3% of GDP (and Ukraine is supposed to be setto join the EU? - Seems highly unlikely). 

In addition to a yearly budget deficit of 25% since the wsr began capital to stop its currency going into meltdown. The official defence budget for 2024 of $28.6bn is half of what Ukraine actually spent on defence in 2023. Ukraine’s war spending in 2023 accounted for one third of total economic output. Ukraine’s debt seems fated to spiral out of control. There are no plans for Ukrsaine to repay any of the debt. Ukraine stopped making payments on existing external debt in 2022 when the war started. “Ukraine has become addicted to taking on debt and then refusing to make payments on that debt’”. 

Who will repay the G7 countries their loans then? Since the US acts as though it can continue to freeze Russia’s frozen reserve assets even after war finished. Russia has little motivation therefore to stop fighting if it feels that massive sanctions and the theft of its assets will continue. It gains a surplus of around $50bn each year in its exports. Russia has sufficient resources to keep fighting, even if the fighting results in a barely shifting stalemate.

“The longer the war continues, the more indebted and delinquent Ukraine becomes. Putin knows that practically all of the foreign money that Ukraine borrows comes from western countries that are bankrolling Ukraine’s fight. And we have already seen the sands shift in western support with pure hand-outs transitioning to actual loans. So, over time, the west will increasingly offer Ukraine debt rather than freebees”.

Russia will not be repaying this debt because wants its frozen money back. Stealing Russian assets, therefore will lead to potential further escalation, “prolonging Ukraine’s suffering, and ramping up its unsustainable debt still further.” In effect, Ukraine is using Western credit cards to pay for its wa

Rudssian Debt

I noted in a recent post that the Russian Central Bank had increased the main rate of interest by a full two percentage points. This has been seized upon by critics of Russia as evidence to support their thesis that the country is in the grips of “overheating” as a result of huge and unsustainable government expenditure on defense which would surely finish off its economy.

My response was that the increase in the main rate of interest to 18% should better be interpreted as evidence of strong and determined action to remedy inflationary tendencies amidst an overall positive macro-economic outlook. The two main positive features are an extraordinarily low debt-to-GDP rate of 0.5% (indicating that government expenditure is actually well under control) and an overall annual growth of GDP of over 3%.

To these indicstors can be added strong advance movement in real wages, which have been rising year-by-year since 2018, first at 1%, increasing to 3% by 2021, and most recently (2023) hitting 6%, and will probably end 2024 at only a little less. Since the SMO began, real wages have risen by 14%, and this increase has been spread fairly equitably across the country.

All this is extremely good news for the average Russian household and an indicator of remarkable economic resilience in the face of Western sanctions on Russia. In his broadcast on July 27, Alexander Mercouris notes first, that the Central Bank’s response to sanctions was somewhat wobbly in the period 2014-2017, but was eventually corrected by effective Central Bank monetary intervention, including a rise in interest rates to 20%, which pulled inflation down to as low as 2%. The same phenomenon is now also at play, with an interest rate of 18% amidst indications that the rate of inflation has levelled off at between 7% and 8%.

Secondly, Mercouris notes that the increase in real wages began well before the beginning of the SMO, and is not, therefore, mainly the consequence of additional military expenditure. Rather, the increase in real wages, coupled with what by Russian standards were relatively low interest rates, encouraged a leap of 25% in household consumer expenditure and an increase in borrowing. This is the main culprit of “over-heating” and is now being effectively corrected by the Central Bank. Or, to put it differently, Russia’s main economic problem is a low rate (approx 2.6%) of unemployment, a problem that Russia will probably have to fix by increasing immigration, as well as taking measure to boost the birth rate and increase productivity.

The Battlefields

The main developments in recent days are mainly to Russian advantage. Russia continues to take more territory in the Kostyantynivka-Vodiane-Vuhledar area and to establish control over the important T05-24 suppy road between Kostyantynivka and Vuhledar. They are about two kilometers from a significant Ukrainian stronghold on the T05-24 and already abut the road further south. Russian forces have penetrated the southeast of Kostyantynivka, and are in the process of taking farms to the south of the settlement, having already establised control of most of the territory to the south. Further north there are still clashes to the northwest, west and southwest of Krasnohoriivka, but Russia now controls between 75% and 95% of the settlement.

Significant Russian gains continue to be made west of Avdiivka and Ocheretyne. In the past six months in the Avdiivka region alone, Russia has acquired 400 square kilometers. Russia has taken Lozuvatske, and is moving westwsrds to Lysychne and Ivanivka. It has taken Pohres and is moving towards Vovche to the south and Vesele to the west. It has already taken Yevhenivka and Voskhod (west of Sokil). Russia is FPV droning the supply road between Hrodivka and Pokrovsk, about ten kilometers from Vesele. Russian forces are moving down the railway towards the sizable settlement of Zhelanne, south of Vesele, which may be suitable for the build-up of Russian troops. Russia is in the process of taking territory south of Vovche down towards Novoselivka Persha (now under Russian control).

Further North, Russia continues to make gains in and around Niu-York. It is advancing from Yurivka (Russian held) toward the north-south axis of Valentynivka, Pantelemoriivka and Oleksandropil. It has acquired or is in the process of acquiring settlements on the eastern border of the Toretsk conurbation, including Pivnichne, Zalizne and Druzhba.

In Chasiv Yar, west of Bakhmut, Russian forces are moving south from Kalynivka, hitting supply roads to central Chasiv Yar, improving their strength north of the settlement. Further north in Siversk area, there are many Russian strikes on territories west of Russian-held Ivano-Darivka and Spirne, and south of Siversk. Russian forces have entered Pereizne and Fodorivka.

In south Kupyansk, Russian forces continue to attack positions west of Dibrova and towards Zarichne, Torske and Lyman. In the north of Kupyansk, Russia has conrol of Pishchane and is moving south toward Stelmakhivka and southeast to Berestove.

The situation north of Kharkiv, in Vovchansk and Lyptsi remains much the same.