13 min read

Late Expectations

Biden's G-7 summit should be the bar for today, not concerns about legitimacy
Late Expectations

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First, a minor correction. In my haste yesterday and thanks to a bit of vague language from the Russian writeup, I suggested that the EU’s current carbon border adjustment mechanism (CBAM) would be calculated off the worst performing 10% of companies based on their emissions from the sectors affected. It will be, but using the worst 10% from within the EU since levying such a tariff on external partners would necessitate a huge increase in reporting requirements, be very difficult to enforce, and ineffective in practice. My thanks to Laurent Ruseckas for flagging that and letting me know.

Today’s analytic hook is yet another graphic from Tatiana Evdokimova — I’m hugely grateful she puts these out so regularly — that highlights the extent to which the current inflationary wave matches levels last seen in 2015 when the ruble had lost over half its exchange value against the USD and initial disruptions from food counter-sanctions took effect amid very high key rates set by the Central Bank:

In 2015, massive capital flight and a banking sector crisis made high interest rates a logical remedy, even if the pain was terrible for households. Right now, those conditions are absent and while rates aren’t going to go anywhere near as high, they’re fighting the wrong problem. Demand has to pull through investment to then rein in inflation. This is why things like infrastructure spending are disinflationary on a longer timeframe — they improve productive capacity to meet demand. Putin acknowledged the problem of inflation at SPIEF. It’s hard to imagine he won’t be fielding questions and talking up how they’re standing up to businesses and telling them what’s what with some precision in the next few months ahead of the elections. But not spending more today is going to produce more inflation tomorrow.

What’s going on?

  1. A new survey of 1,800 Russians in 1Q carried out by Skolkovo-RESh shows that the Mir payments system is safely the largest single payments system used in Russia — 42% of Russians use Mir cardsas their go-to option — but there’s a catch. People using Mir tend to spend less than those using Visa or Mastercard. 54% of respondents cited foreign payment systems as their main. For some inexplicable reason, the researchers didn’t break out which one in their data but the assumption seems safe that Mir leads. So what does that actually tell us? State employees, pensioners, anyone receiving state benefits via the system, and those with the lowest incomes use Mir. Anyone doing alright enough for themselves, not working for the state, and not dependent on social transfers prefers foreign payment systems. In short, we’re not as yet seeing Mir overtake the path dependent relationship of trust that Russians have with US-centric payment systems and the US dollar. Central Bank data shows that in monetary terms, Mir was used for 24% of all domestic transactions 30.4% of new card issuances. It turns out that economic sovereignty requires trust in one’s institutions and institutional arrangements, not just mandates to replace functioning ones, and that Russia remains deeply enmeshed in payments systems it can’t control. We’re far from seeing a situation where the economy could smoothly transition to relying entirely on Mir without massive disruptions, increases in transaction costs, and a considerable deal of uncertainty for Russia’s long-suffering middle classes who neither depend on the state nor work for it.

  2. Adjusting for seasonality within Rosstat’s GDP and output data, it’s far clearer that Russia’s not on a real upswing during the current recovery based on net production. For those less concerned with the vagaries of Russian data, they break down GDP into production and consumption components. The production data shows the current recovery is back to 2017-2018 levels of output with the underlying trend implies considerable downside risks without more domestic demand given the extent of the decline:

    Blue = produced GDP dynamics Yellow = adjusting for seasonality Red = trend

    The theoretically good news is that GDP contracted by less than initially measured in 1Q — 0.7% instead of 1% based on the latest revision. Rosstat’s pretty clearly been pressured to manufacture better outcomes, but it’s a small change that makes sense overall. This dat contradicts the political line taken that things have really ‘recovered’ to pre-crisis levels unless you take pre-crisis to mean the end of 2019 into 1Q 2020 when the economy actually contracted a bit in terms of domestic indicators. Russian production can adjust for export — look at steel or aluminum — but Russia’s value-added manufacturers are ultimately reliant on demand from Russian households. That demand is not on track to really hit 2019 levels or else grow given how much the current wave of spending comes from exhausted savings and borrowing with the Central Bank now hiking rates more aggressively. 2018-2019 was probably peak success for import substitution and localization supported by domestic demand without some sort of fiscal adjustment and a few years of strong real wage and real income growth.

  3. It appears that the presidential administration is planning a mega presser for Putin to be held at the end of June or beginning of July, depending on COVID conditions of course. The traditional ‘direct line’ press conference retains symbolic power for the regime as a means of communicating its awareness of pressing socioeconomic and geopolitical problems and its efforts to address them. This is pretty clearly a campaign move for September. Gennady Zyuganov, leader of the Communist Party, recently drew serious attention to rising levels of inequality and privation as a source of geopolitical conflict globally in an interview with Kommersant fearing a global choice between socialism and fascism — his critique managed to make the point that “it’s the economy, stupid” without offering substantive content and bringing the focus back to Russia. As we’ve seen, A Just Russia has put out its own ideas about raising real incomes and improving equality. Putin has to respond while Dmitry Medvedev deals with United Russia candidacies and other political managers ensure the UR primary results provide a batch of candidates who meet their needs. According to a deep dive from Sergei Shpil’kin for Novaya Gazeta, 97-99% of the votes for the first 22 UR candidates in the primaries may have been written in and totally falsified. The systemic parties have been mobilized to create a false discourse of political change, setting up Putin to either make a big announcement that we might have otherwise expected in April or else engineer some sort of overriding narrative of economic recovery, revitalization, and competence addressing inflation while criticizing the West that manages to last through summer. I do not expect real fireworks since this is mostly about managing public perceptions and Mishustin’s team would likely have at least leaked something about real policy plans by now. Funny how the June 1 deadline Putin gave him for an economic plan came and went without a plan or any mention. There’s a pretty clear clampdown on critical economic coverage at the moment, within bounds of course. That so little is leaking suggests things are really deadlocked and broken on the economic policy front.

  4. In hopes of sustaining its oil export earnings and reducing water use for power, the Iraqi government in Baghdad is now approaching Rosatom with plans for up to $40 billion’s worth of nuclear power projects providing 11 GW of electricity generation capacity by 2030. According to the head of Iraq’s nuclear materials regulator Kamal Latyf, Baghdad would love to see an inter-governmental credit agreement finance construction with Rosatom fulfilling these plans. He stressed that all 8 blocs didn’t have to built in the 2030 timeframe. South Korea’s Kepco hasn’t confirmed it’s in talks — Bloomberg provided the cost estimate for the projects with its coverage — but it’s safe to say that Washington is no doubt looking for partners to step up. Iraq provides a useful test case for both the endurance of Russia’s economic opportunities in the Middle East and the considerable constraints on its power. These projects would only get greenlit with hard security guarantees, a viable financing structure, and tacit acceptance from the US and NATO partners as well. I highly doubt Moscow’s particularly excited by the prospect of having to manage security contractors and ‘grey’ operations protecting a Russian SOE’s assets in a country like Iraq, where these steps might also fly in the face of local militias’ interests and Iraqi political factions trying to preserve and expand relations with Iran. If nuclear deal talks between Washington and Tehran fall through, there will undoubtedly be a chorus of security concerns coming from hawkish US senators and congresspeople demanding action to stop Rosatom in Iraq (never mind that there already are serious misgivings about re-entry into said deal). But Iraq’s heavy dependence on oil exports to finance the national budget and any similar project will likely scare off western contractors unless they receive state support. I’m inclined to see this as a trial balloon trying to extract more out of the US rather than a real ‘opening’ for Russia, but it’s a great example of Russia’s continued relevance — and status as the ‘backup power’ governments in the region (excluding Syria) turn to when they want more from the West.

COVID Status Report

13,397 new cases and 396 deaths reported. The scope of the surge is best reflected by the hard turn in Moscow’s public health response led by mayor Sergei Sobyanin. In complete contradiction to Putin’s past assertion that mandatory vaccinations were out of the question, Sobyanin has made it mandatory for service workers — those likeliest to interact face-to-face with strangers regularly — to get vaccinated. That covers 60% of the Moscow workforce. The latest change was paired with a slight pullback on public restrictions. You won’t be fined if you use park benches. Governor of Moscow oblast’ Andrei Vorobiev has mirrored Moscow’s restrictions with new limits requiring capacity constraints and 1.5 meters of space between participant for public events like cinemas, concerts, museum exhibitions, and so on. The experts polled by RBK link the surge in cases with the season, people ignoring restrictions, and newer variants and mutations spreading across the country, namely resulting from the Indian variant. Like clockwork, the government has publicly refuses any mandate for vaccinations and clarifies it isn’t actually the policy in response to events in Moscow and the surrounding region as the Kremlin waits to see to popular or unpopular the policy is. Gennady Onishchenko, the former Surgeon General, criticized the quality of the national COVID data today as it’s become clear the public health response has fallen short, thanks in no small part to public attitudes. Sad to see that the Kremlin is so afraid of taking measures to save lives and boost people’s welfare, but it’s par for the course. A quick look at the implied reproduction rate per COVID infection based on available data suggests the R rate is shooting up in Russia given the likely systemic underreporting of cases, people simply not getting tests, and regional hospitals not separating patients:

Winning Losses

Tomorrow I’ll cover today’s summit. I need to let the dust settle on the coverage a bit more to have much substantive to say. My only comment is that those claiming it’s somehow an outrage to offer Putin a ‘platform’ next to an American president are whining because they’ve internalized the logic of power Russia’s leadership thrives on. The performance of power, of standing next to an American president and appearing relevant, is confused with an actual substantive concession. Trump may have said a great many nice things about Putin, but thanks to Congress and the National Security Council infrastructure he appointed, US policy just got more and more aggressive against Russia and other states, but without the comforting salve of values-based rhetoric. It was an attempt to be unhypocritically concerned foremost with the exercise of power. Not only was it clumsy and inartful, but it proved to be bad politics with Congress. The American public, however, didn’t seem to mind it as much as many would care to believe. And his term put paid to the idea that the European Union is guided by values in anything it does regarding foreign policy. Performance, however, cannot sustain power. It can only sustain the perception that Moscow has it. That does not mean Russia is an irrelevant state. Biden has to meet with Putin for the sake of diplomatic stability and for his own performative purposes. He’s hoping to offer a reminder that American soft power rooted in the perception of its values actually has a great deal more purchase internationally than cynics, including those in Moscow, often assume. But the urge to “deplatform” Putin is a childish fantasy. He heads a nuclear power astride the Eurasian continent engaged in military activity across several countries and theaters of great import to Europe and the United States as well as an increasingly aggressive and unpredictable intelligence and cyber threat. Meeting is not weakness, nor is doing a joint presser. At a certain point, you just have to act like the adult in the room and not care if Putin makes a scene. American power has different foundations, a different logic, a different future, different challenges, and far more expansive capacity to reinvent and refashion itself than Russia. Its leadership ought to act accordingly. The commentariat ought to accept that reality as well.

In line with the last few weeks in this newsletter, I instead want to highlight what did not happen at the G-7 meeting in Cornwall, a grouping that continues to exclude Russia and wields far more power over international affairs than Russia in structural terms. Laurence Tubiana, quoted by Emma Howard Boyd in an op-ed for the FT,  brilliantly summarized the tragedy of climate talks and failure to reach an initial agreement to quickly phase out coal power: “In the face of a perfect storm of planetary crises, the world’s richest democracies have responded with a plan to make a plan.” We were left with a repeated promise of $100 billion annually for green investment across emerging markets and countries most in need of foreign help to finance development after having promised the same figure in 2009 and never delivered. G-7 members will end support for coal by the end of this year, but that doesn’t address at all the expansion of coal power on emerging markets and need to support decommissioning en masse. Perhaps the most important and unsung contribution was a promise to double the efficiency of lighting, cooling, refrigeration, and motor systems by 2030. There were bits and bobs about carbon storage — hated by activists and grudgingly accepted by people who’ve worked in the energy space as a necessity — but all in all, Cornwall proved to be weak tea for the resurrection of a golden age of democracy Biden wishes he could will into being.

Once upon a time, weaning America from Middle East oil was depicted as a national security priority. Oil was linked to a cycle of endless deployments, violence, and dependencies that trapped the United States in the Middle East. The U shale revolution shifted this narrative and the appropriate lobbies quickly found ways to refashion the logic of a permanently expanded US footprint across the region. What’s so bizarre today is that even when these fora inevitably fail to produce significant breakthroughs, the Democratic Party in the United States is terrible at communicating the urgency of a huge increase in green energy and infrastructure investments as a matter of national security and competitiveness. We can complain about Putin, exaggerate the stability of the system over which he presides, and fret about a Sino-Russian entente, or we can build a future that will inevitably rewire the internal logic of the Russian state and political system and seek to regain industrial capacities China has successfully fostered. That left and left-leaning political figures in Washington are so reticent to link climate to American power is a disastrous communications failure, one proven by the passage of an industrial policy bill on bipartisan grounds using the excuse of competing with China as cover.

The G-7 was a platform for an American president to make it clear that the fight for an emissions-free economy is perhaps the single most important arena of global competition at the moment. It touches on all facets of statecraft at once — industrial and trade policy, fiscal systems, domestic and international tax regimes, migration, energy security and military action, diplomacy, everything. It’s part of a larger story Adam Tooze frequently returns to when writing about climate geopolitics, one I don’t know I agree with entirely but I think captures the problem: “We are well past the point at which the West decides the future of the world’s climate.” Russia’s dream of a multipolar world, at least concerning climate, has materialized when it comes to carbon. Just not on terms kind to Russia and in a manner that still afford the world’s wealthiest democracies the opportunity to shape somewhat decisively the context for emissions reductions because its own energy system and export model developed to serve Europe and will be restructured and changed by decisions made by European importers. Now we face a reality where a surge of demand for renewable energy components risks increasing carbon emissions significantly in the short-run:

Had Biden gone into today’s summit with a more substantive climate agreement and infrastructure bill addressing climate needs, he’d have arrived in a much stronger negotiating position. Not perhaps for the optics or even by the standards of ‘hard power’ in geopolitics, but in terms of showing what the United States remains capable of. The United States remains the only economy out there that will exit the COVID crisis without any significant medium-term scarring:

This is just to emphasize the extent to which it is America’s fiscal might shouldering the burden of dragging the global economy forward, Russia included. Haltingly, Trump’s tariffs and the new spending and regulatory directives from Washington are expanding US solar manufacturing capacity (in the heart of Trump country in Ohio, no less). Offshore wind is finally approaching reality with new leasing rounds in the Northeast:

If Biden can’t deliver at G-7 summits, then he must do what he can to help Chuck Schumer corral the Democratic lobby to pass more at home. Saving face after Trump offers diplomatic ‘wins’ and a form of political capital Russia understands very well. That capital, however, can only be cashed in if the right investments and concrete commitments are credibly made. When it comes to security or NATO, there is no risk of US policy going particularly off the rails or wrong. Russia’s boxed in. But on climate, that’s where the rhetoric of confrontation can be made material. Maybe, some day, the Transatlantic security commentariat will realize that the weeds of fighting climate change are where the biggest impact can be realized facing Moscow. Until then, we’ll be trapped relitigating the same policy disagreements and fights — many of which remain vital — without making substantive headway. Attacking the rents upon which Russia has built its power should be core to any transatlantic partnership looking for an ‘off-ramp’ from the current impasse. The status quo is simultaneously intolerable and quite easily maintained until that link is appreciated and not reduced to sanctions as a reflexive punishment.

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