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A (Contrarian) View from Ukraine: Russian Sanctions

It was reported in a Ukraine newspaper a few days ago that President Putin is preparing for his first meeting with President Trump, which is likely to take place later this year. Putin is making good use of the lead time by instructing his intel apparatchiks to develop a psychological profile on Trump. Their orders are to "figure out how to crack him at the first meeting." This meeting, which could be the most important event of Trump's first year in office, will have ramifications for his entire presidency. It could be just as important for the Russian president.

Since Trump took office, news has been streaming out of Russia about détente with the US. It is widely anticipated that Russia will press to have sanctions dropped, and widely feared in Ukraine that Trump will acquiesce. We have a different take on this matter.

In our view, Russia is complicit in the imposition of Western sanctions, if not directly, then through strategic military adventures that were sure to elicit a predictable response from the West. You'll need to know something about the state of Russia's economy and political climate, and a little about Kremlin mindset to understand why. Also consider that if Putin was successful in annexing Crimea, he'd acquire a prosperous industrial region and warm-water winter port. If he wasn't, he'd have distracted a restless populace and quelled political dissent. He couldn't lose and, so far, he hasn't.

The "Ukraine Crisis" as it was dubbed by the Russian English-language media, came to a head during the fall of 2013/early 2014. The Kremlin was pressuring then President Yanukovych to reject a trade deal with the EU, a move that met with violent protest in Ukraine and eventually to Yanukovych's ouster. At the time, Russia was offering Ukraine, already over-burdened by external debt, ever more US dollar credits to purchase Russia's natural gas. Ukraine was forced into an unsustainable, record trade deficit, which lead to an economic collapse in 2014. Two simultaneous crises, political and economic, crushed Ukraine.

There's another side to this story, however, from the Kremlin's point of view. The fact of the matter is that the "Ukraine Crisis" was a subterfuge. Russia has been embroiled in its own domestic, political and economic crises, albeit ones hidden from public view, which became the motivation for aggressing against its neighbour.

As early as 2012, Putin was caught in a vise of two slow-moving crises. One was failing trust in his leadership. By very early 2013, Putin's approval index (provided by Levada through mid-2014 and then calculated according to their methodology to the present, see Charts 1–4 below) dropped to an all-time low of 24 points. This is in contrast to a high of 76 in 2007, a time of economic boom. At the same time, an economic crisis was brewing: ever diminishing economic growth and severe loss of competitiveness, aka "Dutch disease." In early 2013, a rare, working meeting of Kremlin insiders who deal on economic issues was held by then newly re-elected president Vladimir Putin. A public transcript of the meeting reveals that then Economic Development, now economic advisor to Putin, Minister Andrey Belousov, explained to the audience, including Putin himself that the "economic slowdown ... job losses ... were due to domestic issues: costs, and [the] ruble's real increase."

Already stalling in 2012–13, and in the face of widely expected and imminent monetary-policy normalisation by the US Fed, Russia's oil-dependent and non-competitive economy was at risk of an imminent, severe downtown. To fix both crises -- boost the low approval ratings, and prepare the economy for the inevitable macro adjustment -- Russia's leadership set its sights on active measures against "near abroad" nations. The first was Ukraine, which was seen as a convenient, weak and easy target.

The Crimea annexation and military incursion into Eastern Ukraine, as well as the military build-up on the western borders with NATO members, were all measures taken by Putin to bolster the electorate's view of his leadership. That aim succeeded -- Putin's Levada approval rating soared back into the 70–80 range despite a collapsing economy. Another aim was to put blame on the West for the inevitable macro adjustment of the Russian economy and resultant sharp contraction of consumption by the Russian public. And that aim succeeded, too. So much so that Finance Minister Anton Siluanov proclaimed on 6 February 2015, with a noticeable sigh of relief, "Dutch disease is over." Echoing Siluanov's statement, Vladimir Mau, head of Russia's Presidential Academy and among the top brass of Russian economic thinkers, said on 26 March 2016, "After 25 years of inflation, now there is no Dutch disease [in Russia's economy]."

It should be noted that between late 2013 and throughout 2015, Russian authorities steadfastly switched to a free-floating regime of the ruble, which was necessary to get rid of the above-mentioned Dutch disease. Hence, from the outset, this was a policy decision and not a response to market conditions.

All along the way, Russia has been actively engaged in political instability campaigns in Ukraine and other neighbours in the region. In our view, it brought Western sanctions on itself, as part of a deliberate strategy.

This situation is fluid, however. Sanctions were useful at first to lay blame for domestic issues on the West. But with presidential elections in May 2018, approaching and the World Cup in June–July 2018, they're becoming a burden. We see signs that a change is afoot.

We expect a shift in the Kremlin's stance regarding the sanctions in a lead-up to presidential elections in 2018. They are already discussing a "70/70 strategy" meaning that a successful outcome would be that 70% of the voters take part in the elections and 70% of the votes go to Putin. While the state tightly controls the media and, therefore, public sentiment, Russian leadership does care a lot about the legitimacy of power. Hence, while a Putin re-election in 2018 is nearly certain, there is a vital need for the Kremlin to portray Russia domestically and internationally as a "strong" player, especially while dealing with the leaders of the G7 nations on issues like nuclear weapons and terrorism, among others.

Viewed from the outside, the Kremlin may seem like perfectionists. But they are not. They manager by crisis in the sense that they not only solve problems that befall them unexpectedly, but they create problems as a counter-measure to true crises.

The US, and the West in general, should seek to gain deeper insights into the Kremlin mindset if they are to effectively negotiate with a very wily adversary.

Chart 1 . Surveys of public opinion by Levada:
January 1995 through January 2017
  Chart 2 . Survey of current conditions in Russia:
Difference between those who say Russia is heading in the right direction and those who considers it the wrong one
Source: Levada.ru, author.   Source: Levada.ru, author.
Chart 3. Survey of public attitude to Vladimir Putin.
Difference of those who approve and those who disapprove
  Chart 4 . Survey of public attitude to Dmitry Medvedev. Difference of those who approve and those who disapprove
Source: Levada.ru, author.   Source: Levada.ru, author.


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