In 2012, Russian President Vladimir Putin issued a series of decrees that required the regions to raise salaries by 10 percent and spend money on dilapidated housing. The salary edict has cost the regions $56 billion since 2014 alone, while the social spending requirement has cost some $42 billion since its enactment in 2012. Regional leaders and the Russian media have called Putin's orders "unfunded mandates," since the federal government has not contributed to the projects.
In addition, the economic stagnation affecting the country as a whole is beginning to reach the regions and cities. For the first time since 2010, the Kremlin is running a budget deficit. Russia's Ministry of Economic Development has predicted that the economy will contract 3.2 percent this year, followed by nominal growth of 0.7 percent in 2016. The estimate is largely based on low oil prices and the federal government's heavy reliance on energy revenues, which make up nearly 50 percent of the Kremlin's budget and 25 percent of GDP. But the Russian economy had begun to slow even before oil prices sank in 2014; the country's GDP grew by only 1.3 percent in 2013, compared with 7-8 percent growth in the mid-2000s.
Federal aid to the regions has also fallen sharply in recent years, from $56 billion in 2012 to $28 billion in 2014. Federal budget cuts have slashed regional funding by another 15 percent in 2015. The tightened purse strings have not affected all regions equally; politically sensitive and unsecure regions, such as Crimea, Chechnya and Dagestan, all receive high levels of funding from the Kremlin. Just last week, the Russian government announced plans for 30 anchor investment projects in Chechnya and Dagestan over the next year. Still, nearly all of the other regions have seen their financial support dwindle.
European and U.S. sanctions have only added to Russia's economic woes. Foreign direct investment into Russia fell by more than 50 percent over the past year. At the same time, capital flight reached $151 billion in 2014 and is following a similar trajectory this year. Regional governments are finding it increasingly difficult to refinance their debt because of the West's unwillingness to invest in Russia, and they are being forced to borrow at nearly twice the going rate. The region of Belgorod, for example, placed 5.3 billion rubles' (around $82 million) worth of five-year notes at a rate of 12.65 percent, compared with its 8.3 percent rate in 2013.
Moscow's Attention Turns Toward Stability
In response to their mounting financial burdens, Russia's regional governments have already begun to slash their spending. According to the Higher School of Economics, 26 regions have cut funding for education, 21 have reduced spending on health care and 16 have slashed social security spending in the first half of 2015. For months, minor strikes have taken place across Moscow after 28 hospitals shut down and 7,000 medical employees were laid off. Teachers in Novosibirsk have protested repeatedly in 2015 in response to a 20 percent cut to their salaries.
As pressure continues to build at the regional level, Russia's cities and citizens will increasingly feel the effects of economic deterioration. So far, the country has not seen large-scale protests emerge, in part because Russians tend to weather economic hardship better than most. But public sentiment can turn quickly, just as it did in the 1998 financial crisis. The Kremlin is preparing a series of financial, political and security measures to ensure that the regions remain stable in the years to come. Next, Stratfor will look at other sources of pressure in the Russian economy and how the Kremlin will respond.