The parliamentary elections, which took place on December 4, have led to full-scale political crisis in Russia. The extent of fraud was so great that hundreds of Russian citizens, accustomed to a closed political system, took to the streets all over the country. It is safe to say that many Russians do not consider the new composition of the Duma (the lower chamber of Russia’s parliament) legitimate.

Some are wondering whether all of this political turmoil will have an effect on the economic situation in the country. At least in the short run, the crisis will have very little impact on the Russian economy. However, while the ongoing political crisis does not directly affect Russia’s economic landscape, it will increase political risks and complicate the environment for investors. This will add to the pressure on Russia’s balance of payments and increasingly constrain its financial sector.

Political crisis

According to official figures, on December 4, the ruling United Russia party received about half of the votes (49.3 percent) and 238 seats, of 450, in the Duma. But observers have discovered and given publicity to many instances of fraud which have called into question the election results. Two of the most respected analytical centers in Russia, Dmitry Oreshkina's Mercator Group and the Voice association, have estimated that United Russia’s results were inflated by 15 to 20 percent.

This has led to civil protests on a massive scale. On December 10, between 80,000 and 100,000 people representing various political and civil organizations convened in Moscow in the largest civil assembly since 1991. Their slogan was “For fair elections!” Similar protests took place that day in over 140 cities in Russia and many other countries. Significantly, most of the protesters are young (between twenty-five and thirty-five years old) and middle class—a group that has, in the past, hesitated to participate in any kind of opposition movement.

The dramatic public reaction in the wake of the election seems to have caught Russian authorities off guard; they are finding it difficult to formulate a consistent line of conduct. After the election, but before the December 10 protest, President Dmitry Medvedev declared that the election was fair and the results were credible.¹ After December 10, however, he posted a brief message on his Facebook profile announcing that, while he does not agree with the political protest slogans, he will establish a commission to review any fraudulent activity. Prime Minister Vladimir Putin, for his part, reacted with customary anti-West rhetoric, accusing the United States of financing the demonstrations in Russia. After the meeting on December 10, however, he did not comment on the protests for several days. His reaction can probably be inferred from a statement by the party’s press secretary who maintained that election fraud affected no more than 0.5 percent of votes.

It is difficult to forecast what will happen next. Undoubtedly, the Russian authorities will try to destroy the anti–ruling party movement; their job will be made easier by Russian legal norms, which dictate that meetings and demonstrations cannot take place without official permission. The winter season will also, obviously, make it difficult for the protesters to organize numerous large demonstrations. The presidential election, meanwhile, is still a few months off. According to rigid legal norms, the list of election candidates is limited to representatives of four parliamentary parties: Vladimir Putin, Gennady Zyuganov, Sergey Mironov, and Vladimir Zhirinovsky. Any other potential candidate will need to collect 2 million signatures in his support within a month. But even this does not guarantee a spot on the list, as the Central Election Commission can choose to declare these signatures void or incorrectly issued (as it did, for example, in 2008 with Mikhail Kasyanov).

If the protest movement can keep its momentum going until the spring, the political situation could escalate. The legitimacy of the coming presidential election is already tarnished due to the widespread perception that the parliamentary elections were fraudulent and that the election commission’s work cannot be trusted. Few people, in fact, doubt today that the scale and magnitude of fraud in the presidential election will be comparable to that observed in December. If it is comparable, many Russians may not accept Putin as president of the country upon his return to the Kremlin.

It is difficult to envision a good scenario for Russia. Assuming that presidential candidates get equal access to television and that there is no fraud, the most likely outcome is the advance of Vladimir Putin and Gennady Zyuganov into the second round. Voters would then find themselves between a rock and a hard place. If any of his rhetoric is to be believed, Zyuganov, the leader of the Communist Party, is a backward-looking politician, nostalgic for Joseph Stalin’s reign and supportive of a Soviet-style economy. This is hardly a credible approach to the challenges Russia currently faces.

Economic trouble around the corner?

The charged political environment in Russia has not directly affected the country’s economic situation for the time being. But its long-run influence—in the form of the delegitimization of power in Russia—will reduce political stability, which for many years served as an anchor for investors.

As a whole, the Russian economy has performed well enough in 2011; estimated GDP growth for this year is 4.3 to 4.5 percent—well below pre-crisis numbers but not too bad compared to many European countries. Several factors contributed to this growth.

First, the annual average price of Russian oil was slightly less than $110/barrel, a record high. This resulted in a small fiscal surplus (0.5 to 0.7 percent of GDP) and has enabled the government to inject some revenue into a reserve fund. Owing to the intensity of developments surrounding Iran, oil prices will likely remain high in the first half of 2012. The federal budget will be sustainable, though it will balance at a higher price ($115/barrel) than in 2011 ($105/barrel). At the same time, starting in 2012, the government will have new commitments to increase its military and security expenditures.

Second, inflation is low. After sharp growth last year, world agricultural prices fell significantly this year. This helped the Russian monetary authorities bring consumer inflation down to a record low of between 6.3 and 6.5 percent. Although basic inflation has started to rise somewhat, it will likely slow in the first half of next year, as the government postpones the indexation of controlled prices and tariffs (for gas, electricity, and transport) from January 1 to July 1.

Third, this year’s good harvest follows last year’s drought, resulting in growth from a low base. In 2011, according to Rosstat, agriculture will provide a GDP gain of 0.8 percent (though this may be an overestimate, since last year, the negative effect of a small harvest did not exceed 0.4 percent of GDP).

Finally, Rosstat has revised its 2010–2011 data on construction, which caused the 2011 GDP figure to increase by another 0.3 percent.

Russia has done well this year, but it cannot be described as a safe haven. Investors face heightened risk due to the newly unstable political landscape. The financial sector is also vulnerable—and could become more so if investors pull back further.

Developments in the Russian financial sector today resemble those that occurred in the fall of 2008—though they are less intense. Since last August, the majority of the Russian banks and the companies have been unable to raise debt in external markets. As a result, they are not only incapable of obtaining new credits and loans, but are having to repay old loans upon maturity.

Second, the repayment of corporate foreign debt has increased pressure on Russia’s balance of payments. Despite record-breaking trade and current account surpluses, foreign reserves have dwindled since August. This means that capital outflows (in all forms) have been “eating” away at the current account’s positive contribution to the balance of payments.

Third, it appears once again that the Russian banking sector does not have sufficient liquidity; in order to purchase foreign exchange for their clients (repayment of an external debt), banks have been actively borrowing funds from the Ministry of Finance and the Bank of Russia. The intensity and scale of this process correspond to what was observed in the fall of 2008.²

Fourth, the state-owned banks are the first to demonstrate the deterioration of their financial position and to request help from the government. So far, three banks (VTB, Rosselkhozbank, and Gazprombank) have either already received a governmental decision to help or are expecting such decisions to be made shortly.

High oil prices are likely the main difference between the current situation and autumn 2008. This factor enables Russian authorities to neglect many problems and issues, including the need to take steps toward improving the investment climate, and to postpone institutional reforms. Lost time on making needed changes will undoubtedly mean future decisions will be much tougher. The current political turmoil only complicates Russia’s challenges further.

Sergei Aleksashenko, former deputy minister of finance of the Russian Federation and former deputy governor of the Russian central bank, is a scholar-in-residence in the Carnegie Moscow Center’s Economic Policy Program.

^{1. President Medvedev also publicly characterized the chairman of the Central Election Commission as a “magician” and thanked him after official results were announced.}

^{2. It is important to note that, unlike three years ago, Russian banks keep their currency position balanced; this provides them with a certain amount of stability and protects the Bank of Russia from excessive demand for its foreign exchange reserves.}