What Russia’s budget reveals about the war in Ukraine

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ON A TYPICAL day Tambov Bread Factory, 400km (250 miles) south of Moscow, produces 30 tonnes of bread in 60 varieties. Lately, though, the plant has been churning out more than just baked goods. According to Russia-1, a state-owned television channel, Alexander Rudik, the firm’s boss, received a request from the Russian military to retool his assembly line last year. Today the bakery assembles 250 military drones per month.

Although Tambov’s “drone bakery” can be dismissed as propaganda by Russia’s state-controlled media, it nevertheless speaks to the militarisation of the Russian economy, which is gearing up for years of fighting in Ukraine. The country’s latest budget, passed by the State Duma, Russia’s parliament, on October 26th, will boost defence spending in 2024 by nearly 70% to 10.8trn roubles ($115bn)—nearly a third of total expenditure and almost three times what had been forecast in 2021. Military outlays—on equipment, salaries and payments to the families of soldiers killed in battle—will be three times higher than spending on education, health care and the environment combined, and will account for 6% of GDP.

Spending on weapons, ammunition and other military kit has helped to prop up Russia’s economy in the face of sanctions by Western governments. Industrial production is on course to grow by 4% in 2023. Retail sales are up by double digits. Government finances are relatively healthy, too. After recording a deficit of 1.8trn roubles in January, the government has kept its budget balanced for the remainder of the year thanks to a 26% jump in non-oil and gas revenues. “In the third quarter of this year we had a budget surplus of over 660bn roubles,” Vladimir Putin boasted this month.

But the fiscal outlook rests on shaky assumptions. The draft budget assumes that oil and gas revenues will increase by more than a quarter in 2024 to 11.5trn roubles, on the expectation that Brent crude will average $85 per barrel and Urals crude $70. If oil prices drop, revenues will come in below target. The budget also assumes that the rouble will average roughly 90 to the dollar in 2024. If the currency appreciates, however, earnings on oil and gas exports will fall in rouble terms, squeezing government revenues. GDP growth may also fall short of expectations. The finance ministry has pencilled in 2.3% for 2024, more than double the IMF’s forecast.

Even if the government can generate enough revenue to finance its war machine, the long-term economic outlook is bleak. A devalued rouble makes imports more expensive, driving up inflation and requiring the central bank to keep interest rates high, stifling investment. The Bank of Russia’s key interest rate is 15%. Although higher defence spending will boost growth in the short term, it will also divert resources from education, health care and other public services while crowding out private investment. Higher taxes will constrain growth further.

Russia is shifting to a long-term war economy. But, according to Mr Rudik, the “drone bakery” is also preparing for peacetime. Tambov’s drones will keep flying, he told Russia-1, to deliver bread to customers.■