Is Russia Really Facing Economic Problems?

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Georgios Atsalakis, Economist, Associate Professor at the Technical University of Crete
Data Science Laboratory

The picture of the Russian economy is contradictory. On the one hand, the state continues to pay wages and pensions, the defence industry is operating at a high level, and the financial system has not collapsed. On the other hand, economic growth has almost come to a standstill, interest rates remain exceptionally high, energy revenues are declining, and available fiscal reserves are shrinking.

The right question, therefore, is not whether Russia is on the verge of a dramatic collapse. There is insufficient evidence to support such a conclusion. The essential question is how long Russia can sustain a wartime economy without gradually undermining its productive base, public finances, and future economic growth.

The resilience of a wartime economy: When the invasion of Ukraine began, many analysts predicted that Western sanctions would rapidly trigger an economic crisis in Russia. That prediction did not materialise. Moscow possessed substantial foreign exchange and fiscal reserves, low public debt, revenue from hydrocarbon exports, and a central bank capable of imposing strict financial controls.

At the same time, the state drastically increased defence expenditure. Orders for ammunition, drones, vehicles, and military equipment stimulated industrial production, created jobs, and strengthened the economies of certain regions. In the narrow accounting sense of GDP, a tank that is manufactured and subsequently destroyed on the battlefield is recorded as economic output. That does not mean, however, that it increases the country’s long-term wealth.

Military production can therefore support economic activity figures while simultaneously absorbing capital, labour, and raw materials that would otherwise be directed towards infrastructure, technology, housing, and civilian industry. The economy appears active, but an increasing share of its output neither improves living standards nor creates productive capacity for the future.

Economic growth has almost stopped: Official data now reflect this slowdown. According to Rosstat, Russia’s real GDP in the first quarter of 2026 was 0.2% lower than in the corresponding quarter of 2025. The World Bank forecasts growth of only 0.8% for the whole of 2026, while the Bank of Russia expects GDP growth of between 0.5% and 1.5%.

These figures do not describe a collapse, but rather stagnation. Stagnation is particularly concerning when it occurs alongside enormous government expenditure. Under normal circumstances, such a large fiscal expansion would produce a noticeable increase in overall output. The fact that growth remains so weak suggests that the economy is approaching the limits of its productive capacity.

Unemployment is at historically low levels, but this is not exclusively an indication of prosperity. Mobilisation, military casualties, the emigration of young workers, and demographic contraction have created serious labour shortages. Military enterprises and state-controlled industries can offer higher wages, drawing workers away from construction, transport, healthcare, and other civilian sectors. Low unemployment therefore coexists with limited productive capacity.

Inflation and expensive money: The second major indication of economic pressure is the cost of money. In June 2026, annual inflation stood at 6%, above the 4% target, while the central bank’s key interest rate remained at 14.25%. At the same time, the Bank of Russia acknowledges that the economy is slowing and that significant inflationary risks remain.

The situation resembles a vehicle in which the government is pressing the accelerator by increasing military expenditure, while the central bank is applying the brakes by keeping borrowing expensive. High interest rates restrict demand, but they also burden businesses and households. Investment projects are postponed, the financing of housing and equipment becomes more expensive, and highly indebted companies face increasing pressure.

Rosstat data show that total corporate profits in the first quarter of 2026 were approximately 26.5% lower than a year earlier. The proportion of profitable companies also declined. This reinforces the image of a two-speed economy: sectors connected to the state and defence are supported, while a significant part of the civilian economy is burdened by expensive financing and declining returns.

Fiscal reserves are shrinking: Moscow entered the war with a substantial financial safety buffer. For years, part of its oil and natural gas revenues had been channelled into the National Wealth Fund. These resources enabled the government to finance budget deficits, support businesses, and absorb some of the effects of Western sanctions.

The reserve, however, is not unlimited. In April 2026, the Fund’s total assets were equivalent to approximately 5.7% of GDP, but its immediately liquid assets had declined to only 1.7% of GDP. A portion of the Fund’s yuan-denominated assets and gold reserves was sold to finance the federal budget.

At the same time, the federal budget deficit reached 4.58 trillion roubles in the first quarter of 2026 alone, already exceeding the original full-year target of 3.79 trillion roubles. The Ministry of Finance attributed part of the divergence to the front-loading of expenditure. By the end of the first half of the year, however, the deficit had widened to 5.73 trillion roubles, while oil and natural gas revenues had declined significantly.

Russia still has relatively low public debt and can borrow domestically. However, its growing dependence on domestic banks transfers risk from the state budget to the financial system. The more capital that is directed towards the government and military enterprises, the less remains available for productive private investment.

The financing gap is being covered through higher taxes, spending cuts, additional borrowing, and the continued sale of reserve assets, including part of the national gold reserves.

From European to Chinese dependence: Sanctions have not brought Russian trade to a halt. Instead, they have redirected it. Russia has increased its energy sales to China and India, while importing machinery, microelectronics, and dual-use goods through third countries.

China now accounts for approximately 35% of Russia’s total foreign trade, compared with only 16% before the war. This adjustment prevented Russia’s complete isolation, but it created a new asymmetry. China now represents a much larger share of Russia’s external trade and consequently enjoys a stronger negotiating position. Moscow needs access to the Chinese market more than Beijing needs Russia. Russia can therefore continue selling raw materials, but often at discounted prices and under less favourable terms.

As Russia is forced to sell its exports at substantial discounts, it is also becoming increasingly dependent on China for the goods it imports. China has carefully avoided committing itself to major investments in Russia—such as the Power of Siberia 2 natural gas pipeline—that might create future Chinese dependence on Moscow. At the same time, it is flooding the Russian market with inexpensive Chinese products, threatening the viability of domestic Russian businesses.

European restrictions also continue to target the Russian defence industry’s access to advanced components. The fact that the European Union is imposing sanctions on companies based in third countries demonstrates that the circumvention of restrictions remains possible, but is becoming increasingly complicated and expensive.

Europe is raising defence expenditure towards 5% of GDP in response to Russia, seeking to make its territory so decentralised, difficult, and costly to conquer that no adversary would wish to attempt it.

Collapse or structural exhaustion? Russia still possesses substantial advantages: enormous natural resources, domestic production of energy and food, low public debt, strong mechanisms of state control, and the ability to transfer resources from society to the war effort. For this reason, a sudden economic collapse is not the most likely scenario.

The costs, however, are accumulating. Fiscal reserves are declining, civilian businesses are under pressure, access to advanced technology is becoming more difficult, and dependence on China is deepening. Military casualties and emigration are worsening an already unfavourable demographic situation. Infrastructure and non-military investment are moving further down the hierarchy of government priorities.

The true picture can be found in the overall functioning of the economy and in the state’s ability to preserve its productive, military, and social power over the long term. Russia is spending enormous sums on its armed forces and, despite this, has failed to conquer Ukraine. Nuclear weapons cannot repel drones.

There is a risk that Russia will be absorbed into China’s sphere of influence as a supplier of raw materials and a strategic geographical buffer. This could prove to be a strategic mistake comparable to the Molotov–Ribbentrop Pact of 1939–1941, under which the Soviet Union supplied Germany’s war machine with abundant raw materials for two years. Had the Soviet Union not supplied Germany during that period, Germany might not have possessed the resources required to launch military operations on such a scale—and might not have been in a position to attack the Soviet Union itself two years later.

The answer is therefore clear: Russia is facing serious economic problems, but not necessarily an imminent bankruptcy. What it is experiencing is better described as a process of structural exhaustion. The economy may continue to finance the war, but it is doing so by consuming the reserves, productive capacity, and growth potential of the coming decade.

A wartime economy can survive far longer than its critics predict. This does not mean that it remains healthy. It simply means that a genuine crisis does not always manifest itself as a sudden collapse. Sometimes, it takes the form of a gradual exchange of the future for the needs of the present.