Deep Dive
Shownotes Transcript
I think we can all agree that how the Russian federal government spends its money is an important subject. It's something people like us, informed observers of Russia, ought to know. And so, of course, we're all very excited about the government's new draft budget for 2025 through 2027, which was introduced this week to the State Duma in its first reading.
The proposed spending exceeds earlier predictions with 41.5 trillion rubles, more than $435 billion allocated for next year alone. And that may not even be the final amount. Moreover, a record share of the budget is classified as secret or top secret. We're talking about nearly a third of all proposed expenditures. And the draft budget is also roughly 7,000 pages long, which is a bit much when it comes down to it. So...
Let's talk about Russia's federal spending in broad strokes, without drowning under a mountain of paper. And let's focus on what outsiders care about most, Russia's rising military spending. Welcome to The Naked Profit. ♪
Howdy, folks. Welcome back to the podcast. I'm your host, Kevin Rothrock, the managing editor of Meduza in English. I'd like to begin with a small request to you, dear listeners. If you've never done it before, it would be very useful to us at Meduza if you could leave a review of this show with Apple Podcasts or wherever you're tuning in, if there's an option for that.
reviews, even just rating the show with whatever number of stars you see fit. It all helps put our work in front of more people. Thank you. For this week's show about Russia's draft budget for 2025 and the latest spike in defense spending, I welcome to back Alexandra Pekopenka, a fellow at the Carnegie Russia Eurasia Center in Berlin, a former columnist for the business newspaper Vydomesti, and a former senior advisor at Russia's Central Bank.
She can explain Russia's budget politics much better than I can. So let's just get straight to the interview. How much military spending is allocated in this budget for next year, the year after, and the year after, 2025 to 2027? I guess like what I'm interested in here is like for listeners who don't follow this religiously, is the main takeaway that military spending is skyrocketing, that it's like holding steady, it's rising slowly. We know it's going up. So military spending continued to rise in Russia and
And it's important since the government working assumption last year was that spending 10.4 trillion rubles for the military would be a one-off. So it reached its peak and then it will decrease. And apparently this turned into another elevated military spending in 2025. It's more than 6% of GDP only on army. At the
13.5 trillion rubles, and combined with spending on national security, which is actually declining in real terms, it's more than 8% of GDP and 40% of total budget expenditures. And when you talk about national security, are you talking about domestic stuff as opposed to the straight-up military? Yeah.
Police, prisons, FSB, National Guard, so-called Rosguardia. So their expenditures are actually shrinking. And also, which is important, that the draft budget revealed that military spending will start to fall in 2026. We already saw that. But...
Not by much, dropping to 12.8 trillion rubles or 5.8% of GDP and 5.1% of GDP in 27. Well, basically, this means that in absolute terms, spending on the military will remain higher than the current level for at least three more years, according to these projections. Are they getting the money for this because the tax base is...
bigger because there's more money to be had or are they taxing at higher rates? Yeah. So in 2025, and we can be certain only more or less about 2025. So yeah, there could be some black swans from the side of oil prices.
But for 2025, mostly Putin will pay for military from the rising taxes. So-called non-oil and gas revenues will grow by 73%. And this is mostly because of raised income tax on households and on corporates. And also by...
so-called inflationary tax. So economy is overheated, economy produced more VAT because of inflation and in normal terms, it all goes to budget. And well, the part of this will go to finance the war in a very vague and a very broad terms.
The Russian government expects a rise in turnover taxes, which is to say taxes applied to businesses' total revenue rather than on profits companies make. In other words, turnover taxes require companies to pay a certain percentage of their sales revenue as tax, regardless of what they spent to make those sales. This kind of taxation isn't very familiar to Americans, as there's no federal turnover tax here, and only a handful of states locally impose gross receipts taxes. The Russian authorities say the country's backdrop of macroeconomic trends means more turnover tax revenue for the state.
This likely refers to Russia's most significant economic overheating in 16 years. Production capacity is nearly maxed out and consumer demand is soaring.
Next year, taxes will rise on things like gasoline, alcohol, cigarettes, sugary drinks. Additionally, the federal government expects to collect more than double the income tax revenue it did last year, thanks to recent reforms that raise tax rates on corporate profits from 20 to 25 percent and modify the progressive personal income tax scale, bumping taxes on the highest bracket to 22 percent.
Are they going to have the money that they need right up front or is this deficit spending? It's a little and very comfort deficit spending. So according to Finman, the budget deficit at the end of the year, at the end of 2025, should amount to only half percent of GDP, which more than three times less as the same fresh budget draft forecast for 2024.
And this level of deficit is quite comfort for the state. So they can continue to finance deficit by increasing internal borrowings, which is not very comfortable because of the high key rate. Or they can spend a little bit more from national wealth fund, or they can, I don't know, reduce some other kind of spending and finance.
and cover deficit by reducing spending. So all these options are open for 2025. For 2026, it's still not clear how the situation goes. But three years budget, it's more about expectations management rather than some real vision of Finmin, how situation will goes beyond 2025. And what's the state of the National Wealth Fund today? Is it like still looking good? What's the runway left there?
The National Wealth Fund has been Russia's main tool for eliminating budget imbalances. In the first two years of the full-scale invasion of Ukraine, the government drained it of 4.7 trillion rubles, almost $50 billion. At this rate, economists expected the country's main rainy day reserve to be depleted by next year. But the finance ministry plans to set aside excess oil revenues if prices rise above $60 per barrel. If this pans out, the National Wealth Fund would actually grow next year by almost $20 billion.
It's enough. I don't have the particular figure in my head. So it's more than 5% of GDP by the end of this year, which is more or less enough. And since the government would be able to manage moderate deficits, something will remain in the National Welfare Fund and also...
According to explanation renoted to the budget draft, Tianming wants to put some money, to put some extra oil and gas revenues if they have them in 2025 into national wealth fund. And well, according to Siluanov, next year they want to cover deficit only from borrowings. So I would say that, well, NWF is at a quite comfort level for now.
We don't know for future. I don't have a crystal ball. But I think that, well, the meaning of NWF is quite overestimated. What is the NWF? National Welfare Fund. I've never heard of that rap group, but yeah, go ahead. Yeah. So I think it's overestimated a little bit. So it's like it has a peak.
a huge symbolic role as a sign of some sort of normalization. So if Russia turned into savings rather than spending means some budget policy normalized. But I think that people who already started the bloody war, they can easily spend National Welfare Fund on covering deficit or on expenses and stop keeping
kidding us saying that something can turn into normal since the war is not normal. ♪
You mentioned the legislation's explanatory note. A lot of times I know legislators sort of slip in. The language there is far more interesting than reading like the bill itself. And I wonder, did you notice, did anything stand out to you in that note about the budget? So it was quite long. Sure, sure. You don't have it memorized, right? So in pages, it's 500 pages.
32 pages. Oh my gosh. So I haven't memorized it yet. I haven't finished it yet. Got to get chat GPT on that. Yeah. But there is an interesting that in this document, in the federal budget explanatory note, the word patriotism mentioned 35 times. And it seems like the authorities have allocated money for 16 initiatives to
related to civic and patriotic education of young people. And compared to military spending, of course, it's not a big deal. It's only 50 billion rubles on the next three years, but it's still a significant amount
compared to previous years and seems like people doing this odd patriotic stuff well they will have money instead of public sector who is actual loser of current budget draft
are they the losers in the sense that they're getting less funding or is it just real it's not so it's like absolute less funding it's less funding both for some uh budget items in nominal and in real terms in some items only in real terms so they are affected by budget they also hit by
Workforce shortage, because people can choose to go to the war or to go to military industry, complex to work, and there is shortage of drivers, there is shortage of doctors, there is shortage of police officers, actually.
So there should be problems with national security, with internal security. And there's a very regular complaint of Ministry of Interior that they have shortages there. So they are actual losers of all this construction. And it seems like other spending from defense, well, the budget's starting to bite. In terms of domestic security, I know you've spoken about this on other podcasts and written about it before. I know that when foreigners hear, oh, right,
Russia's at war, there's strife under the rug or something like we're not seeing it, but we're assuming that the public is unhappy with having money taken away from things they were enjoying before. We're hearing that, you know, there's not enough police, that the police are not getting as much money as the military. And I think a lot of wishful foreigners will think, OK, well, that's like that's raising the potential for, you know, unrest. And we like that because we don't like the Putin regime and so on.
In your mind, when you talk about police not getting enough money, prisons not getting enough money, or not getting as much money, let's not say enough, but not getting as much, what do you expect real world people
repercussions to be? Because I'm assuming it's not going to be Pregozhin 2.0, another insurrection or something like that. Those are impossible to predict for one thing, but also that's a very extravagant kind of case. I imagine in your head you have something maybe a bit more grounded in mind, like more prison riots or something. What do you actually expect?
What's been going on lately at Russia's prisons? Well, in recent months, there have been multiple hostage situations perpetrated by inmates allegedly connected to the terrorist organization ISIS. In these incidents, SWAT teams have usually killed all the hostage takers. On and off the streets, Russia is also experiencing a police shortage. According to an investigation by journalists at the independent outlet iStories, nearly one in five positions at the Internal Affairs Ministry and the Federal Penitentiary Service remains unfilled.
You can find these vacancies in more than 50 regions across the country.
First and furthermost, the situation does not bring any kind of danger to Putin's regime, at least for the next couple of years. I don't have a crystal ball to say what happens in 2027. I'm not a social analyst, so I cannot estimate how raised the level of violence and how damaging this is for social order within Russia. But I expect the growing number of accidents in Russian prisons, we already see them a lot.
And I expect the growing number of crimes involving violence and involving weapons, since Roskvarzia, who is under control of weapons circulation within Russia, seems not very capable to do their job because they're underfinanced, because they experience shortage of people there, and because of other reasons.
internal circumstances. So this is not creating something vulnerable for the state of regime, but this means that the Russian society would be less safe
And well, combined to so many people walk through the violence, I mean, the war, it doesn't bring society to some next healthy level. It doesn't improve a social capital. It doesn't improve human capital there. And so it doesn't bring us to some thriving societal processes, but more violence. Well, it's such a grim reality.
You mentioned before that the word patriotism comes up a lot in the explanatory notes and that it's, it seems to be, that's where the money is being sent is to things that have that word in it. And that got me thinking about the way that,
lobbying works in Russian budget allocations. And I wondered if you could say anything about the kind of the shape of lobbying when it comes to Russian federal spending, specifically regarding like the military and the sort of securitization of civilian spending, because it does sound like
Obviously, there's the biggest fight over the biggest piece of the pie is over military spending. And so presumably there's GR firms who are working with defense contractors or trying to lobby their way to get contracts or to get spending allocated to certain things. And there's people in the civilian sector who are trying to make their products seem like they're necessary for national security. Like, how is the war and how has the kind of rise of national defense spending changed the way that lobbying works when it comes to writing the budget?
Well, so it's obvious that we see raising success of military industry lobby since there is an ongoing war which provides a constant demand on its products. They are, well, thriving, but thriving on figures. But potentially, I think that they're not in a very good shape because the source of domestic demand is finite.
and they cannot expand their export portfolios since they are personally on the corporate level and on the country level under heavily sanctions.
But what I find disturbing is that there are consistent supporters in government circles of this idea of demand management through the budget channel, which means that strong budget impulse, which has supporters in the government. And once domestic demand on military production ends, they will try to switch this into, for instance, infrastructure.
And that would be a time for infrastructure lobbyists, which, as we know, are very close to Putin. The most road constructors are Rothenberg family and other kind of infrastructure contractors. But of course, this switch from war footing back into civil war would be a structural shock for the economy.
How confident are you in Russia's ability to do that? Because they'll have to do it to some degree, I imagine, right? They definitely will have to do that since it's not possible that the only military industry complex would be a driver for Russian economy. Why is that the case, by the way? Why can't they just become a giant North Korea and just live on military spending, the whole country's military? Because Russia is much bigger than North Korea. Russia is much more integrated,
to the global economy, even being heavily under sanctions. And actually, Russia doesn't want to be like giant North Korea. So there are still very powerful people in other sectors of the economy. And once the situation with the demand on military industry production will be clear, they will raise their voices. But speaking about patriotism and this kind of expenditures, I don't know, is it a lobby? Is it a simple lobbying effort?
efforts, or there is some reasoning behind that, that once money ends or the source of money, the budget source will soar and the state couldn't afford to pay heavily for military service, for going to the war if the war continues, or if there would be a new war, which we cannot exclude.
100%. So they need people who will go there because of the ideology. And we know that Putinism is not really good in ideology.
But putting money in indoctrination of young people, well, they can bring some additional men into trenches. I don't know if this logic is behind these kind of expenditures, but there is an economic explanation why authoritarian regime like Putin needs ideology, because once they are out of money,
They still need people. Do you see the spending over the last few years in this current draft budget? Is that like a blueprint for creating a new type of middle class? Like I know that, you know, in the past it's been like, at least there's been lots of buzzwords in the media. Like one phrase that comes to mind, I know this wasn't pro-Putin group, but the office plankton. Remember when they used to talk about that a lot? Right.
Like there's just little subsections of the middle class and there's always theories sort of bandied about, about, oh, well, this group has an economic interest in sustaining the regime because they found their little niche here. When you look at the military spending over the last few years in this current budget, do you see like, oh, okay, well, that right there, this kind of spending, they've created like a group of so many thousands of people and so many thousands of families who are going to be invested in either prolonging the war or prolonging the Putin regime or prolonging this like
semi-military footing for the economy? Do you look at that and does that stand out to you or are you thinking, no, it doesn't work that way? No, you're absolutely correct and I think that
Well, war created a whole class of its beneficiaries and the backbone of the middle class by income. Because, well, every time we're using the concept of middle class, let's clarify what kind of middle class we are talking about. So if we're talking about middle class by income, yes, the war created the huge group of recipients.
receivers, military payouts, then of course FSB officers and those who somehow related to the war and related to security services, to security apparatus. They now earn much more money. They invest their money on the domestic market. They make bank deposits. They're buying apartments. They're consuming like crazy. And it's understandable because they were heavily underfinanced
previous years, and now they're living their best life. And yes, in political sense, this creates a very big political problem. So for current government that wants the war ends, they need somehow to reduce their earnings because they are not affordable for the economy. And it's politically hard, I would say. And for Putin's successor, if we came up to the idea that
Putin is mortal and once he will leave us for good. This group of people will consider Putin as their champ since they're thriving under his presidency. And this creates a big problem for his successor. So how to overcome Putin or how to become better or how to become worse? So what to do? And that's the problem.
I had a couple of final questions, kind of more from the Western perspective. Does the fact that Russia has been able to increase its military spending consecutively over the years and that it's obviously, it's still waging its war, its invasion of Ukraine. When you look at that, do you see, is that a damning impact?
of the way Western sanctions were crafted? Or do you look at that and you say, well, with Russia's trade surplus and small capital outflows, like that was always going to happen. The sanctions have kind of, they were crafted and implemented as best they could. Or is,
specifically the military budget, is that like, oh, the sanctions failed, look at what they're able to do? Or do you see that as like, well, you know, this was always going to be something Russia could do, the sanctions, they couldn't have stopped this? No, I think that at the very beginning, it was very unclear how Russia will go under sanctions. And yeah, there was, now we see some commonalities
problems with sanctions design. Would they have been crafted differently with hindsight, like knowing how things turned out? I'm not a policymaker, but I think if the consequences, the current consequences were clear at the very beginning, probably the sanctions were designed differently. We see that sanctions on transactions, for instance, or for payments become a bottleneck for Russia, but it happened only in 2024. If this stuff was clear in 2022, I think that
The biggest part of Russian economy was disrupted earlier and the threat of secondary sanctions, which now works much better than the primary sanctions, was introduced also earlier. Second, this is still a big question on oil. And since the sanctions were designed not to remove Russian oil from the market, but trying to manage the inflow of Russian oil and gas revenues, I think that maybe...
the EU embargo would introduce earlier or it would design a different way. I think we can spend years talking about what was done wrong. There was a room, there's still room for improvement in terms of sanctions, I think, and also in oil and gas sanctions and in sanctions related to transactions.
But we also underestimated the professionalism of Russian economic government and the way Russia manages economies. So its lack of institutional procedures allows Putin and Russian financial bloc to introduce any kind of decisions without any restrictions.
setbacks from the economy. So it was like a hypocrisy. And well, that helped economy a lot. What's like one example of this kind of like policy flexibility? They easily collected money from Gazprom in 2022 without any kind of... So there was the government decision. They easily locked up liquidity within Russian markets, forbid foreigners to withdraw money
In 2022, for the first time since 1998, Gazprom decided not to pay its shareholders dividends for its previous year's results. Instead, the company's controlling shareholder, the Russian state, seized hundreds of billions of rubles, more than $12 billion, in a one-time mineral extraction tax hike.
Whereas in the West, that would require a lot of time. It required time. It required coordination with Parliament for some decisions. It would require intergovernment coordination. And in Russia, it was like one moment decision and it was introduced and it worked.
Last question I had, I'm looking at this rising defense spending, and I wonder if you're able to compare it to the financial and military support that Ukraine has received from the West. There's been a lot of speculation about when Russia's military industrial complex will peak. Like, oh, well, it only has so much capacity, and they're getting there. And then once they plateau, then that'll be good for the West and Ukraine, because then they can ramp up. But in terms of what you're seeing in terms of Russian spending and what we know of
of Western aid for Ukraine. How do those two compare? Well, there was a part of Western strategy to keep Russian gains incremental and raise the costs for those gains, especially economic costs. And I was among those analysts who are repeatedly told that probably Russian expenditures will raise and 2024, it's not the peak.
I think there is no economic logic behind that, but mostly political. And Putin tries to show that there is no economic and financial costs for him to finish not this war, but to achieve his goals, whatever his goals are. So if the stance of the war will require from Putin in 2026 to increase military spending even more, which I doubt, but I think that he will pay this price immediately.
And the point here is how long he can sustain to manage his elites who don't like the war and keep people more or less happy. And so far, so good for Putin anyway. For 2025, he's okay. For 2026, let's gather. Don't have a crystal ball. Yeah, let's gather in 2025 and talk about that.
Thanks for tuning in, folks. This has been The Naked Pravda, a podcast from Meduza in English. Remember that undesirable status back in Russia means our entire news outlet now relies on readers and listeners around the world to support our work. Please visit our website for information about how to become a contributor with one-time or recurring pledges. Thanks again. Until next week. The Naked Pravda