External environment improves for Russia – March trade surplus doubled to $16.8bn compared to average values in January-February; current account surplus rose to $13.4bn. If current trend continues, foreign currency inflows risk to exceed $100bn in 2024 – double the level of 2023 -- allowing Russia to sustain the war in Ukraine.

“The external environment is improving and rising oil and gas budget revenues help to reduce fiscal financing pressure. While sanctions weakened Russia’s macroeconomic stability in 2023, more action is needed in the coming months to hinder its ability to continue the war of aggression in Ukraine,” KSE said in a note.

Fiscal pressure reduced – In March, Russia earned $17bn from oil exports due to steady export volumes (refined products down 7% but compensated for by crude oil up 6% in March vs. February). Due to stable export volumes, higher oil prices, weaker, and tax changes, in the first quarter 2024 budget revenues from oil and gas were 79.1% higher compared to the first quarter 2023. While war-driven economic growth boosted non-oil revenues (+43.2%), allowing higher expenditures (+20.1%).

Macro buffers under minimal use – Due to decreased fiscal pressure, Russia minimally used its sovereign wealth fund this year and kept domestic borrowing at a stable level. Favourable external conditions ease and inflation pressures. CBR has not tightened monetary policy, ensuring sufficient liquidity for the economy.

“Better external conditions and fiscal improvements signal that energy sanctions are not as effective as in the first half of 2023. Price cap compliance is weak, with key Russian crude oil grades well above the $60/bbl threshold,” KSE said.

Enforcement faces challenges due to ongoing issues surrounding pricing information provided through the attestation system. In addition, Russia’s ability to expand/maintain its shadow fleet despite recent OFAC vessel designations undermines the effectiveness of current energy sanctions.

Energy sanctions are less effective than in H1 2023 – The price cap compliance remains weak - Urals averaged $66/bbl in the first quarter 2024 and is currently trading at ~$78/bbl. The respective numbers for ESPO are $76/bbl and $85/bbl. Moreover, despite OFAC designations, Russia managed to maintain its shadow fleet.

Due to the improved fiscal situation, Russia has not tapped heavily into its significantly-diminished sovereign wealth fund this year, and domestic borrowing remains stable and moderate. While ~$300bn in reserves are immobilized in coalition countries, a favourable external environment has reduced pressure on the ruble and inflation. Consequently, the CBR has not needed to tighten monetary policy recently. This ensures sufficient liquidity for the economy.

Economy bounces back, concealing underlying weaknesses – A war-related fiscal stimulus props up growth (real GDP +3.6% in 2023), with military spending potentially adding 2.5pp to GDP in 2024. This hides that the fundamentals of the economy – lack of investment and skilled labour – are eroded by the war and sanctions.