Russia’s central bank is expected to raise its key interest rate beyond its record of 21 per cent on Friday, as policymakers struggle to tame inflation in what Vladimir Putin described as an “overheating” war economy.
Elvira Nabiullina, the hawkish governor of Russia’s central bank, the CBR, is facing an increasingly loud chorus of criticism from officials and oligarchs who say her efforts to rein in inflation are stifling business. Her persistence in rising rates even as inflation is sliding out of the bank’s control highlights how policymakers have failed to balance irresolvable priorities during the war, according to senior Russian businessmen and economists.
“Either you have enormous spending, or a stable foreign exchange rate and a market economy,” a former senior energy executive said. “You have to sacrifice one of those. You can’t have it all at once.”
Demand is persistently outpacing supply, and the central bank has a limited toolkit beyond high interest rates to address inflation amid low unemployment and weak productivity.
Many economists forecast inflation as high as 10 per cent by the end of 2024, driven by the splurge on defence spending and a corresponding boom in the consumer sector. The CBR estimates annual inflation at 9.6, far beyond its target of 4 per cent.
The rouble has slid about 20 per cent since summer lows to trade at about 103 to the dollar, hit by sanctions limiting Russia’s energy exports and ability to transact internationally. Unemployment is hovering around just 2.3 per cent as defence manufacturers work in three shifts around the clock, paid by ever-growing budget spending, and the civilian sector struggles to keep up.
The economy was receiving “far more money than it can ‘digest’,” the CBR acknowledged in its latest report from early December.
The CBR’s interest rate rises from 16 per cent in July have drawn several prominent critics out into the open in recent months, including longtime Putin associates such as Igor Sechin, the head of oil company Rosneft, and Sergei Chemezov, who runs defence manufacturer Rostec. On Wednesday, Sergei Mironov, the head of a Kremlin-run opposition party, accused Nabiullina of “sabotage” and said her rate rises had made inflation worse.
Nabiullina, 61, has steered Russia through several economic crises since she took over in 2013, including the 2014 financial crisis that followed Putin’s annexation of Crimea and the aftermath of the 2022 full-scale invasion of Ukraine.
That has given her broad leeway from Putin, who has acknowledged the criticism but continues to back her in private, according to people who know them.
At his annual press conference on Thursday, Putin acknowledged that “inflation” and “a certain overheating of the economy”, but said “the government and the central bank are already tasked with bringing the tempo down.”
Putin’s bravado while Russia maintains an upper hand on the Ukrainian battlefield masks a growing concern about how long the Kremlin can sustain the war effort, according to a former senior Russian official. “He can hang on for two or three years like this. But he knows the economy can’t grow with these interest rates. It’s a disaster.”
The gloomy economic outlook might spur Putin to strike a deal to end the war at some point next year, they added. “He knows the USSR collapsed because of the arms race and economic mismanagement. He keeps saying we can’t repeat the USSR mistakes. He needs to stop the war,” the former senior official said.
Several indicators point to deep problems in the economy that the spending boom is increasingly struggling to mask, economists say.
One is wage growth for unskilled workers prompted by a hiring spree in the defence sector. Some salaries rose by as much as 45 per cent in the first half of this year, according to Russian classifieds site Headhunter.
“Your welder was lured over to the defence factory for a huge salary,” the former senior energy executive said. “Now either there’s nobody to hire or you have to hike salaries, and how are you going to make money? Interest rates are so high that you can’t attract money and construction grinds to a halt.”
Elina Ribakova, a senior fellow at the Peterson Institute for International Economics, said the hiring spree was simply aiming “to throw people at the front lines and to produce Kalashnikovs. That is not productivity growth.”
Skilled workers are also in short supply. Russia faces a shortage of 1.5mn highly skilled workers, particularly in construction, transport and utilities, deputy prime minister Alexander Novak said earlier this month.
The rouble’s recent slide also points to how the Russian economy is coming under greater strain as western sanctions target Moscow in more creative ways.
Last month, the US blacklisted Gazprombank, Russia’s main conduit for energy exports and one of the few lenders not already under western sanctions. The listing closed one of Russia’s few open windows to the global economy and the Swift payment system, forcing importers and exporters into increasingly complex and expensive workarounds to transact internationally.
The economy was “overheated because huge commissions for middlemen” involved in these transactions were increasing the price of “everything”, said a person involved in international payments. “There’s nothing you can do about it, and it’s a huge problem for the economy.”
Ordinary Russians are the ones who have felt the greatest financial strain. Across the country, the price per square metre of housing has soared since the start of the war by 30 per cent, according to SberIndex, a data set compiled by Russia’s largest state-owned bank.
This, combined with soaring mortgage rates and a halt of subsidised lending, has made the dream of owning a home unattainable for many. “I regret so much not taking out a mortgage when rates were low. Now it seems we’ll never be able to afford it — at least not in this country,” said Arina, a single mother in her 30s from Moscow.
Unable to buy a flat, the Russians rushed to rent. In Moscow, renting a one-bedroom flat now requires nearly 74 per cent of the city’s average salary — up from 63 per cent just two years ago, according to RBC Real Estate data.
The realities of running a wartime economy meant Nabiullina had few options, Ribakova said.
“She could try to intervene into subsidised loans for the military-industrial complex. Nobody’s going to allow her to do that,” she said. “That’s not the priority. The priority is stronger output growth and the military industrial complex, so inflation is secondary.”
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