Russia’s gas blackmail: Putin is bringing a knife to a gun fight

Maximilian Hess

On Wednesday, Russian President Vladimir Putin escalated the geo-economic war between his country and the West by suspending gas deliveries to Poland and Bulgaria, citing the two countries’ refusal to pay in Russian roubles.

The move, decried by the West as “blackmail”, yet again demonstrated Putin’s belief that Russia’s status as a commodities exporter will enable it to withstand and counter the crippling sanctions imposed on its economy since its invasion of Ukraine.

In reality, however, Putin’s move is akin to brining a knife to a gunfight.

The decision to suspend gas deliveries to two European nations will not only fail to strengthen the Russian economy, but it will significantly increase the Kremlin’s long-term economic losses.

But to understand why Putin’s move will not deliver the desired outcome, we first need to look at his motivations for making it.

Sanctions have cut Russia off from foreign exchange reserves worth hundreds of billions of dollars, Russian imports are cratering amid restrictions on dual use and computer technologies, and Western firms are pulling out from Russia or “self-sanctioning” by refusing to sell goods there.

Putin, however, still appears to be under the impression that he can win the economic war being waged over his invasion of Ukraine. On the surface, it seems like there is some reason for the confidence the Russian state displays: the rouble has more than recovered its value from before sanctions were introduced, hitting a two-year high against the Euro on April 27, and Russia is once again growing its foreign currency holdings on the back of sky-high hydrocarbon prices.

All this, of course, belies the real state of the Russian economy. First of all, the interruptions to supply chains caused by sanctions are crippling Russia’s production capacities. In March, for example, there was a whopping 72 percent drop in passenger car production in the country. The Kremlin is also all but certain to formally default on its foreign debts in the coming days, which will make financing a future rebuilding of the economy extremely difficult. Moreover, Russian wealth abroad is increasingly under threat and the much celebrated exchange rate recovery has only been achieved thanks to extreme capital controls.

The Central Bank of Russia and Putin’s advisers in the finance and economy ministries know that the rouble sustaining its value is overwhelmingly dependent on hydrocarbon prices and continued Russian state control over trading. They are also wary of how much rouble liquidity has already decreased in light of the existing sanctions on Russia’s banking system. As Putin’s brutal war on Ukraine continues, sanctions are expected to expand. Washington has warned that it may still cut off rouble convertibility entirely and there is no significant Western demand for roubles.

This is precisely why Putin has ordered European gas firms to pay for the natural gas they buy from Russia in roubles. Payments for gas in the local currency would leave the window open for rouble convertibility – something the Kremlin desperately needs given oil prices are unlikely to remain so elevated permanently.

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