Russia’s heavy military spending is acting as an income inequality equaliser. A raft of Russia’s poorest regions are the biggest winner from the militarisation of the Russian economy, as state money pours into fixing up factories in the far flung regions and there are triple-shift job options 24/7 for anyone that wants it. Sanctions have also spurred import substitution that has only boosted regional production further.

Typically, Russia’s domestic defence facilities are located far from Russia’s western boarders in smaller poor towns in remote regions. And it is exactly these regions that have received the investment as the state beefs up defence production or converts former civil production to producing weapons.

The change has been rapid and extensive. Last week Defence Minister Sergei Shoigu boasted that Russia is now “producing more weapons than we need” and the excess is being sent to warehouses rather than the front line in Ukraine. Industrial production and fixed investment has soared in the last two years, since the “special military operation” began over two years ago.

The economies of poor regions have had a second fillip: the recruitment drive to bolster Russia’s armed forces as well as the partial mobilisation in 2023 has also concentrated on the poorer regions. Offering wages that are treble the national average or move, Russia’s Defence Ministry has been able to recruit over 30,000 volunteers a month so that the Russian army is now estimated to be 15% larger than it was at the start of the war.

As bne IntelliNews reported, these high wages show up in the regional banking statistics where deposit accounts have swelled in the last two years, painting a very clear picture of where the Defence Ministry is recruiting most of it fresh soldiers and adding to the flourishing remote regions.

“In last year’s report by Russia’s Federal Tax Service, one striking feature is the sharp increase in regional contributions to the country’s consolidated budget in 2023 compared with 2021. These contributions – and, accordingly, regional revenues – collectively increased by a record 36%, with most of that growth occurring in 2023,” political analyst Ekaterina Kurbangaleeva said in a note for Carnegie Endowment for International Peace.

According to RosStat, two of three regions showing the biggest growth are also traditionally amongst the very poorest: the Amur region (176%) and Tula region (103%) both which lie in the frozen tundra of Russia’s interior. The third was St Petersburg (87%), Russia’s second largest and one of its wealthiest regions.

But what is even more surprising is the mineral rich regions, which are amongst the wealthiest thanks to the high wages they pay to offset their high cost-of-living – goods have to be flown in to many of these remote regions as there are no road or rail links with the “mainland” – do not feature in the top twenty of the recent soaring tax takes. The gas-rich island of Sakhalin in Russia’s Far East is the only exception.

These raw material producing regions are amongst the dozen or more net contributors to the federal budget, while most of the remain regions, from a total of 49 regions – were net recipients to the budget before the war.

That has suddenly change. The top twenty regions – all of which increased their tax contributions to the budget by at least 50% compared with 2021 – include regions that have always well below the average net contributors to the budget, even in Russia’s boom years in the noughties.

The list of regional names with soaring tax contributions will be familiar to explorers and adventures, as they are almost all to be found deep in the Russian wilderness: Chuvashia (72%), Smolensk (72%), Kurgan (69%), Transbaikal (66%), Mari El (64%), Bryansk (58%), Pskov (53%), and even Tuva (57%) and the Jewish Autonomous Region (49%), two legendarily poor regions.

Conversely, the incomes of traditionally wealthy raw materials regions that are usually net contributor, such as Khanty-Mansi, Yamalo-Nenets, Moscow and Tatarstan, have also grown, but very modestly compared to others, reports Kurbangaleeva.

“For some Russian regions, the country’s invasion of Ukraine means they face shelling and dwindling export revenues due to growing sanctions. For others, it means an unprecedented influx of cash as they profit from the flywheel of war and growing domestic consumption,” writes Kurbangaleeva. “By the end of 2023, there was no doubt that the incomes of regions, enterprises, and people who had been struggling for decades to make ends meet had drastically increased.”

The story is the same in almost all of the above regions, with the exception of Transbaikal: their tax returns (and therefore regional revenues) remained at about the same level in 2022, and then exploded in 2023.

“The once hopelessly impoverished Transbaikal and Jewish Autonomous Region are also among the leaders, having started from a low baseline,” Kurbangaleeva said.

The war spending has ironically had a beneficial levelling out effect on huge income disparities between regions in Russia. As bne IntelliNews recently reported, the Putinomics model for the last two decades – hoard cash, pay down debt, invest very little – has been overturned. Now in an effort to militarise the country, the state sate is spending and investing freely, and prepared to leverage its balance sheet to raise more resources. As many of the defence sector factories are in remote poor towns, this change has brought a previously unheard of prosperity to Russian living in out of the way regions and lifted the economy to 3.6% growth last year, and similar growth expected for this year.

“This growth is no longer cyclical – it’s structural,” Elina Ribakova, non-resident senior fellow at the Peterson Institute for International Economics said in a recent opinion piece for the Financial Times.

The main beneficiaries are regions that were once subsidized, primarily located in central Russia, the Volga region and the Urals, as well as some regions of the Far East that were once the country’s poorest.

Winners…

“The list of regions that have benefitted from the war reveals that these are territories with significant machine-building assets that have seen an avalanche of budget funds come pouring in from state defence orders,” Kurbangaleeva says. “Related industries such as food production, clothing, and footwear have also benefited greatly.”

The economic stimulus is not only coming from a military Keynesianism effect; rising real incomes are also fuelling a domestic consumption boom. Russia’s labour market is drum tight, after unemployment fell to an all-time post-Soviet low of 2.8% in April. The shortage has been pushing nominal wages up by over 10%, well ahead of the current 7.6% inflation rates, leaving Russians with more real rubles in their pocket and they have gone shopping. At the same time, sanctions have forced many international products out of the market, leaving local producers to step in as import substitution gather pace.

The revenues of the footwear industry and textile production have doubled, while that of clothes manufacturing has more than tripled. At the same time Russia’s manufacturing PMI index remained a robust 54.3 in April – one of the strongest results in Europe – driven by strong growth in both the miliary and civil production gains.

“These industries owe their growth not only to defence industry orders, but also to import substitution, which finally became a reality after the exodus of foreign manufacturers and a reduction in exports,” says Kurbangaleeva.

Another winner from the war is Russia’s own hospitality industry, whose revenues have doubled in the last two years, with by far the main growth seen in 2023. Western airlines have stopped servicing Russia, making trips to somewhere like Paris long, arduous and expensive. Russian holiday makers now prefer their Soviet-era stomping grounds in places like Belarus or the Crimea instead.

...and losers

There have been losers too. The lavish spending on factories seems to have bypassed the poorest regions of the North Caucasus – Chechnya, Ingushetia and Dagestan – completely where their tax contributions have barely changed since from before the war.

Other regions demonstrating a drop in tax contributions in the last two years include three regions with traditionally strong metallurgy industries: Lipetsk, Kursk and Belgorod. They all saw their incomes plummet in 2022, although even they still managed to bounce back somewhat in 2023, as they lost major export markets in the EU due to self-sanctioning.

The metallurgical regions are all currently trying to re-orientate their exports, like the oil sector, to new customers in Asia. However, unlike the oil producers, which have the use of Russia’s shadow fleet at their disposal, the metal-makers have to rely on Russia’s railways and the eastbound routes are all clogged as other every commodity that Russia produces has the same strategy.

But the really big losers at the end of 2023 can be counted on the fingers of one hand: Chukotka, Altai and Kaliningrad, says Kurbangaleeva.

“Metallurgy has taken a hit as it can’t export as easily anymore: specifically the production of cast iron, steel and rolled steel, as reflected by the fall in taxes paid by regions with strong metallurgy industries. This fall is linked to the reduction of export opportunities: domestic consumption alone simply does not need so much metal, even taking into account defence orders,” says Kurbangaleeva.

Other clear losers include timber processing, paper and pulp, amongst other things that have likewise lost their markets. Russia's paper and pulp company Segezha had been investing heavily into Russia’s “green gold” and was poised to become a major player on the European paper, pulp and packaging market where most forestry resources have been tapped out. However, now cut off from that huge and undersupplied market, Segezha is also forced to look east for customers. Segezha’s problems goes some way to explaining the tax losses of regions that play a major role in the timber industry, such as Karelia and Komi in Russia’s northwest.

There was also drop of about 25% in the production of medicines and medical goods, as well as an almost 30% reduction in medical services, as Russia was cut off from inputs. “It would appear that import substitution in [the pharmaceutical sector] is not going well,” says Kurbangaleeva.

 

Bringing a taste of prosperity to regions that have been miserably poor for most of Russia’s post-Soviet modern history will also have important political consequences.

The inhabitants of these regions have long been ignored by the Kremlin, suffering from the old Russian adage: “God’s too high and the Tsar is too far.”  But now money from the centre has arrived and transformed their lives; Russian patriotism is currently at an all-time high.

“These people are capable of providing Putin’s regime with significant and sustainable support: not just because of their “imperial mentality” or under the hypnotic influence of propaganda, but for the most pragmatic of reasons. Quite simply, it is in their interest to do so,” says Kurbangaleeva.