War decreases the strength of an economy. (Romesh Vaitilingam/VoxEU)
If you visit Ukraine amidst its current tragic circumstances, you may be struck by a sense of normalcy in areas away from the front lines. Many shops, schools, restaurants, and other facilities remain open and fully operational, even as Russia intensifies its military efforts. Internet and communication networks, as well as banking systems, continue to function effectively. Despite significant geographic disruptions, there are no signs of rationing or food shortages for most families. This raises the question: how has Ukraine managed to maintain such resilience?
The apparent normalcy of Ukrainian society today is largely due to the unexpectedly strong performance of the country’s economy in 2023. While Russia’s invasion caused Ukraine’s GDP to plummet by 29 percent in 2022, the economy rebounded, with GDP rising by 19.5 percent in the second quarter and a further 9.5 percent in the third quarter of 2023. Although these figures are still about a quarter below pre-war levels, and the number of people living in poverty has increased by 1.8 million since the invasion, the stability of Ukraine’s economy is remarkable given the scale of the conflict and the fact that Russia currently occupies 18 percent of Ukrainian territory.
Ukraine faces immense financial challenges, with an estimated $486 billion needed to restore the country to its pre-war state. In the meantime, Ukraine is prioritizing economic growth, aiming to attract private sector investment and increase tax revenues as part of its strategy to rebuild and sustain its economy during these trying times.
Since Russia’s unprovoked invasion of Ukraine, the country has faced extensive international sanctions designed to weaken its ability to finance the conflict. Key measures include severe restrictions on Russian banks and the freezing of most foreign exchange reserve assets held by the Russian Central Bank. To mitigate the impact on Russian society, essential items like food were excluded from the sanctions.
These sanctions, combined with a significant reduction in global trade with Russia, have led to a contraction of the Russian economy. The Russian Ruble has depreciated by 40 percent since the invasion began, and GDP growth is projected to decline from 3.2 percent currently to 1.8 percent by 2025. In response, Russia implemented policies such as boosting interest rates and enforcing strict capital controls to stabilize its economy. These measures were effective in the short term, with Russia’s GDP increasing by 5.2 percent in Q1 2024 compared to Q1 2023. However, the long-term sustainability of these measures remains uncertain due to mounting economic pressures.
While many products have been restricted from trade with Russia, the most significant blow to its economy has been the sharp decline in revenue from the fossil fuel sector, which has plummeted by over 40 percent. Despite these challenges, Russia has demonstrated resilience similar to Ukraine. Unemployment rates are at an all-time low, driven by the constant demand for workers in military factories and facilities. However, this increase in employment has also fueled inflation, which has disproportionately affected lower-income Russians. To address this, wages get increased and sets off a cycle of inflation which is in fact caused inflation in Russia to 16% today, a level double the central bank’s target rate.
Russia’s highly skilled economic ministry was able to avoid an economic collapse in 2022 but what is becoming the tragic overarching issue is the impossibility of maintaining the current Russian economy at its current level.
Written by Aniruddh Sajan
