15 January 2020 **Is Russia a Resurgent Great Power** **Competitor in Central Asia?** Dr. Leif Rosenberger Chief Economist ACERTAS
The Pentagon says Russia is a resurgent great power competitor. Is this true in Central Asia? This paper looks back at Russia’s economic performance in Central Asia when global oil prices were low. An understanding of Russia’s success or failures will help US strategists decide on whether it should compete, retreat or engage Russia.
Russian Financial Turmoil. If the beginning of greater Chinese economic interest in Central Asia gave observers a glimmer of hope that Central Asia was somehow disengaging itself from the Russian economy, the dramatic events since early 2014 demonstrate how the economies of Central Asia suffer from Russia’s economic woes. These events also show how the military, political and economic trends are also inter-connected. The economies in the Central Asian states (CAS) suffered directly as a result.
The perfect storm of falling global oil prices, Western sanctions and capital flight hammered the Russian currency.  Over the course of 2014, the ruble lost half its value to the US dollar, despite heavy foreign exchange (FX) interventions by the Russian central bank. In mid-December 2014, the ruble dropped to new record lows against the USD (1:73) and the EUR (1:92). In a draconian effort to strengthen the ruble, the Russian central bank raised interest rates from 6 ½% to 17%. Admittedly, this tight monetary policy was successful in strengthening the ruble. But at what cost? High interest rates are drove the Russian economy into a deep recession in 2015. Forecasters said Russia would experience an estimated economic contraction of the Russian economy in the range of 3 to 6% of GDP. 
To make matters worse, confidence in the Russian economy evaporated. Russia experienced severe capital flight. Russia’s net capital outflows of the private sector surged from USD61 bn in 2013 to USD152 bn in 2014. As a result, FX reserves dropped from USD470 bn at end-2013 to USD313 bn in February 2015. While the current level of FX reserves was still comfortable in terms of import cover (9.2 months) or in relation to external debt payments falling due the following 12 months (estimated at about USD150 bn), EH Economic Research persuasively argued that the future level of Russia’s FX reserves should be monitored closely and was not fail safe. 
Central Asian Vulnerabilities. It’s important to understand that all the countries in Central Asia were vulnerable because of their economic ties to Russia – through trade, labor, remittances and investment.  Therefore, all Central Asian economies were affected by Russia’s economic problems. However, the impact of Russia’s ruble crisis in 2014 and the Russian recession in 2015 on Central Asian economies were uneven. Each Central Asian economy had different financial vulnerabilities and therefore was at risk in different ways to Russian economic woes.
Russia Cuts Gas Imports. The combination of Western sanctions over Russian aggression in Ukraine, the ruble crisis and the gathering Russian recession made it unaffordable for Russia to keep importing the same amount of energy from Central Asia as in the past. So, in early February 2014 the Russian state-owned energy company, Gazprom, announced that it would reduce its gas imports from Turkmenistan and Uzbekistan. Russian gas imports from Turkmenistan were cut from 10 B cu meters in 2014 to 4bn cu meters in 2015. Russian gas imports from Uzbekistan were cut from 4.5bn cu meters in 2014 to 1bn cu meters in 2015. The gas cutbacks contributed to reduced export earnings and government revenue, lower economic growth and a reduction in foreign currency inflows and reserves for both Turkmenistan and Uzbekistan.
Difficult Transition. In time, Uzbekistan and Turkmenistan hoped to offset the export sales they were losing when Russia opted to reduce its gas imports. But unlike moving from one oil supplier to another oil supplier, Uzbekistan and Turkmenistan understood that replacing natural gas suppliers would prove more difficult than replacing oil suppliers for several reasons:
Not Fungible. For instance, unlike oil which is fungible with one global price, gas is not fungible because there is no global gas market. Instead there is only a collection of different regional gas markets, each with its own prices. In short, gas is generally location specific.
Long Term Contracts. There are a variety of reasons for this market reality. For instance, the natural gas trade is based mostly on long-term contracts between buyer and seller. Despite Russian actions, the coin of the realm is trust and reliability. Most gas producers who export have already designated a buyer – they therefore cannot easily keep the gas away from the market.
Inflexible. Gas pipeline contracts are also inflexible and set up on a long-term basis. Thus, it’s unlikely that Turkmenistan or Uzbekistan would be able to redirect to China much of the gas Russia used to buy. That’s because the pipeline’s capacity would have been set in advance. Even if this was not the case, storing it would be expensive for Turkmenistan or Uzbekistan.
Rigid Infrastructure. In addition, much of the world’s gas is still transported regionally by pipeline, rather than across ocean by tanker. What distinguishes gas from oil is that gas depends on an expensive, and usually rigid, infrastructure for delivery (pipelines or LNG facilities).
High Sunken Costs. That means big upfront investments in infrastructure and development under long-term contracts. High sunken, fixed costs make restricting gas output very costly relative to oil. This binds buyer and seller closely, as redirection of gas flows is difficult, if not impossible.
Difficult to Transport. A gas cartel is also difficult to execute because gas is generally more difficult to transport than oil. Of course, the exception to the fixed location for natural gas is the liquid natural gas (LNG) market. Even so, LNG back then supplied less than 10 per cent of global gas consumption.
Stiff Competition. Unlike oil, with its largely captive car-owning customer base, natural gas faces stiff competition with other fuels, particularly in power generation.
Easy Substitution. Not surprisingly, alternative fuels (clean coal and nuclear energy) are relatively easy substitutes for natural gas. OPEC is comforted by its knowledge that higher oil prices need not trigger a substitution away from oil. In contrast, higher natural gas prices will often trigger a change in demand, as manufacturing and power plants easily switch to coal, nuclear and other energy alternatives.
Options. While Russian actions to cut gas imports and the obstacles to replacement cited above are pretty much the same for both countries, the responses of Turkmenistan and Uzbekistan were quite different.
Turkmenistan. Russia’s decision to reduce its gas imports from Turkmenistan from 10bn cu meters to 4bn cu meters reinforced Turkmen President Berdymukhamedov’s determination to find alternative markets for gas exports.  In fact, diversifying gas export markets would continue to be the main plank of the government’s economic and foreign policy. In this regard, China had been importing Turkmen gas through multiple lines of the Central Asia-China pipeline since late 2009. Turkmenistan continued to shift its foreign policy focus away from Russia as more gas export routes underscored the importance of alternative ties with China, Iran and eventually the EU, Afghanistan, Pakistan and India.
Uzbekistan. Russia’s decision to reduce its gas imports from Uzbekistan from 4.5bn cu meters in 2014 to 1bn cu meters in 2015 drew a somewhat different response from Uzbek President Karimov. He was looking to China as a “counterweight” to Russian influence. In this balance of power game, Chinese President Xi Jinping signed investment deals worth $15 billion with the Uzbek government in September 2013. With the continuing expansion of the Central Asia China pipeline, Uzbekistan intended to increase westward gas exports to 5bn cu meters by 2016. Not to be outdone, Russian President Putin visited Uzbekistan in early December 2014. Putin announced that Russia was cancelling $865 billion in Uzbek debt to Russia, roughly 97% of total debt. That placated Karimov, who described Russia as a “stabilizing force.” 
Currency Responses. On the currency front, Turkmenistan and Uzbekistan also responded quite differently to Russia’s ruble crisis in December 2014.  Turkmenistan’s 20% devaluation of its currency (the manta) kept its exports competitive and protected its foreign reserves. However, the weaker Turkmen foreign exchange rate against the US dollar made imports more costly and increased inflation, the cruelest tax of all for the working poor in Turkmenistan. In contrast, the Uzbek government traditionally saw control of its currency (the som) as an essential means of maintaining its political rule. The 9% depreciation of the Uzbek som in 2014 was not enough to clear the market and keep its exports competitive. This misalignment of the som made the som stronger than the Russian ruble. As a result, its export earnings and inflows of foreign exchange fell. For example, Uzbek car exports to Russia were 35% lower in January 2015 than a year earlier.  To protect its foreign reserves, Uzbekistan planned to turn to tighter currency controls. This made it more difficult for Uzbek businesses to get access to foreign exchange. It also deterred foreign investors.
Tajik and Kyrgyz Currencies Fall. We saw earlier how the Turkmen and Uzbek natural gas exports were vulnerable to the December 2014 Russian ruble crisis and recession. Similarly, the remittances from the Tajik labor force and the Kyrgyz labor force both located in Russia were also vulnerable to the December 2014 Russian ruble crisis and current recession. In addition, the remittances accounted for a large share of each country’s overall economy. Remittances sent home from Russia accounted for 50% Tajikistan’s GDP and 30% of Kyrgyz Republic GDP. 
To make matters worse, new Russian labor laws cut the number of Tajik and Kyrgyz migrants and their remittance flow even more. Tighter labor migration regulations in Russia would also influence remittance flows. On 1 January 2015 a new Russian labor regulation was introduced which required labor migrants in Russia from states outside the EEU -- a free trade zone that came into force at the same time -- to pass exams on Russian language and culture and undergo medical tests and buy health insurance. The cost was about $500, a sum that was simply unaffordable for most migrant workers. Citizens from the EEU member countries such as Kazakhstan and the Kyrgyz Republic since 8 May 2015 were exempt.
With the demand for migrant workers falling, Russia was using labor migration as a tool to apply political pressure on Central Asian states to tow the party line in Moscow. Data from Moscow showed better Russian treatment for citizens from EEU member countries like Kazakhstan and the Kyrgyz-Republic than for citizens from countries like Uzbekistan and Tajikistan (both outside the EEU).
History helped the various parties involved to estimate the nature and extent of falling remittances from Tajik and Kyrgyz workers in Russia over ensuing years. Back in the 2008 Russian ruble crisis, there was a one-year time lag from the low point of Russia’s economic contraction in 2008 to when remittances fell to a 30% low in Central Asia in 2009.
During that economic crisis, Kyrgyz remittances fell 22.5% in 2014 and then accelerated to a 50% collapse in just the two-month period of January and February of 2015. That suggested to the parties involved that the worst of the one yeartime lag had not come by then. While Tajik remittances only fell 8.3% in 2014, IMF predicted a 30% fall in Tajik remittances in 2015.
Falling Currencies and Intervention. Less demand in Russia for Tajik and Kyrgyz workers led to less demand for Tajik and Kyrgyz currencies.  As a result, the Tajik currency (the somoni) and the Kyrgyz currency (the som) fell 15% against the US dollar in 2014. As we saw in Turkmenistan and Uzbekistan, a weaker exchange rate can play havoc with a country’s financial stability. For instance, debt rose in US dollars. Imports of food cost more, which worsened the standard of living of the working poor. Inflation also rose.
To mitigate downward movement of their foreign exchange rates against the US dollar, the central banks in Tajikistan and Kyrgyz Republic intervened to support their currencies. Both central banks started to draw down their foreign reserves to defend their floating exchange rates against the US dollar. Since the minimum safe level for foreign reserves is at least 3 months of import cover, the foreign reserves of the Kyrgyz Republic fell to a relatively safe level of 4 months of import cover. That relatively safe level of reserves reduced the financial risk, thus paving the way for the IMF to approve a $92 million financing plan under its extended credit facility in Mid-May 2015 to help offset the impact of the Russian ruble crisis and its recession in 2015. 
Unfortunately, Tajikistan was in a far more dire situation.  Tajikistan’s reserves fell 63% from the end of 2013 to the end of 2014, leaving it with a dangerously low figure of just over 1 month of import cover. That meant Tajikistan had to find more radical ways to protect their foreign reserves needed for essential imports.
With this in mind, the Tajik central bank introduced foreign-exchange controls in March of 2015. Tajik currency controls would arguably have the same negative impact on Tajikistan’s economy as it will the Uzbek economy. Some Tajik businesses were concerned that they would be unable to import the goods they needed for production. That in turn could lead to shortages, inflation, lost production and even slower GDP growth. 
Potential for Social Unrest. As the December 2014 Russian ruble crisis turned into a Russian recession in 2015, migrant workers from Tajikistan and Kyrgyz Republic were forced to return home. The physical return of migrant workers combined with weaker remittance flows, higher inflation and the lack of jobs or financial support from the government back in the home country increased the risk of social unrest in 2015. However, most of the governments in Central Asia were authoritarian and were intolerant of dissent. Therefore, the Central Asian rulers planned to crack down on any protests. The one exception to a crackdown was the Kyrgyz Republic which was more economically and politically democratic.
Kazakhstan: A Breed Apart? Historically, the Kazakhstan currency (the tenge) tended to follow movements of the Russian ruble against the US dollar. That was certainly true back in 2009 and it was true again in 2014 when the devaluation of the tenge was preceded by a falling ruble. In many ways, that’s because the economic profile of the two economies are similar. Both are oil and metal exporters. For instance, 40% of Kazakhstan’s imports came from Russia in 2015. The two economies were also part of a Eurasian Economic Union (EEU). In addition, the 20% devaluation of the tenge was a response to a declining Kazakh trade surplus due to declining oil production. Unfortunately, the 20% devaluation of the Kazakhstan currency in February 2014 did not end the downward pressure on Kazakhstan’s foreign exchange rate. The fall of global oil prices from over $100 a barrel in June 2014 to $ 70 a barrel in early December 2014 put new downward pressure on both the Russian ruble and the Kazakhstan tenge. The December 2014 ruble crisis and the 2015 Russian recession reduced Russian imports of products made in Kazakhstan.
As a result, Kazakhstan currency once again became overvalued against the US dollar and threatened to devalue their foreign exchange rate by 10-15%. However, there were risks to a second devaluation. For instance, rumors of an impending bankruptcy triggered a run on three banks and capital flight to the US dollars at the time of the February 2014 devaluation. In addition, this first devaluation caused a lot of public anger (in the form of protests in the streets).
Not surprisingly, the ruling elite would try to mitigate the need for a second devaluation near the presidential election in April 2016. The good news was the Kazakhstan central bank and the national oil fund still had about $100 billion in foreign reserves – or almost 4 times the size of the annual external financing requirement. The bad news was these foreign reserves were needed for other purposes (such as fiscal budget support) and therefore would not be sustainable for indefinite import cover.
Negative Consequences. The combination of low oil prices, capital flight and US and Western sanctions created a ruble crisis in Russia in December 2014. At the time, hardly anyone gave a thought to how this “perfect storm” would reverberate in Central Asia. Now we know that the second and third order onsequences hammered the economies in Central Asia, a region that had nothing to do with Russia’s aggression in Crimea and Ukraine.
Russia’s December 2014 ruble crisis turned into a deep recession in Russia in 2015, which in turn spilled over into financial turmoil in Central Asia. Russia cut gas imports from Turkmenistan and Uzbekistan in 2015. But unlike the ease of replacing one oil customer with another oil customer, replacing a natural gas buyer did not happen overnight.
At the same time, a Russian economy in a tailspin cut wages of migrants from Tajikistan and the Kyrgyz Republic and sent other workers home from these two countries. To make matters worse, new Russian labor laws cut the number of Tajik workers in Russia and their remittances even more. Kyrgyz workers were exempt from these new regulations since they joined the EEU in May 2015.
In the 2008 Russian ruble crisis, there was a one-year time lag before remittances hit a 30% low in 2009. There was a similar one-year time delay before Tajikistan and Kyrgyz Republic felt the worst of the financial turmoil. In any event, the flow of remittances from these workers declined as well. Reduced remittances led to falling standards of living and even more downward pressure on Tajik and Kyrgyz currencies. Returning Tajik and Kyrgyz migrants also swelled the ranks of the jobless, thus fueling socioeconomic disaffection and increasing the potential for unrest.
The risk of large-scale unrest was probably greatest in the Kyrgz Republic, where citizens enjoyed more democratic freedoms and where such events have an established record. Elsewhere, authoritarian governments in Central Asia cracked down on upstart protesters.
While Kazakhstan is the strongest economy in Central Asia, it was also vulnerable to financial turmoil because of its EEU membership with Russia and its trade dependency on Russia. For instance, 40% of Kazakhstan’s imports came from Russia. While the eventual rise in global oil prices (to about $65 a barrel) gave Kazakhstan a brief breathing spell from strong downward pressure on its currency, Kazakhstan remains at risk to Russian financial problems in the future.
All Central Asian economies except Uzbekistan faced financial turmoil because of downward pressure on their currencies. Imports became more costly, thus worsening living standards and raising inflation. Uzbekistan had the opposite problem. The Uzbek som’s 9% depreciation in 2014 was not enough to clear the market and create a currency realignment. As a result, Uzbek som remained over-valued. That overpriced Uzbek exports and reduced inflows of foreign reserves. That in turn led to a vicious circle of currency controls, businesses short of imported goods, falling GDP and rising unemployment.
At the beginning of this paper we noted that the Pentagon claims in 2020 that Russia is a resurgent great power competitor that is challenging U.S. power and influence in the world. Is the Pentagon right? Certainly, in Central Asia the Pentagon overstates Russia’s economic power and influence in Central Asia. The negative impact of lower global energy prices, the ensuing recession in Russia in 2015 and the currency instability in Central Asia exposed the weaknesses in Russia’s sphere of influence in Central Asia. At a minimum, Russia’s weak economic performance in Central Asia means that Russia is not a great power competitor in this part of the world. The point is Central Asian countries can’t count on Russia. As a result, Russia’s weak economic performance in Central Asia also provides China with a window of opportunity to use its Belt and Road Initiative to fill the gap.
As for America, former US Secretary of Defense James Mattis once said, “You don’t want to miss an opportunity because you were not alert to the opportunity. So, you need to have that door open.” Unfortunately, an impeached Donald Trump was not alert to this economic opportunity for shared prosperity with Central Asian states in Central Asia during his embattled first term in office. Trump’s Fortress America mindset kept this door closed to Central Asia. What if Trump loses the upcoming US presidential election and a Democratic president replaces Trump with a more open-minded approach to Central Asia? America may get another chance to compete for power and influence in Central Asia. But perhaps Henry Kissinger puts it best, “Opportunities cannot be hoarded; once past they are usually irretrievable.”
If low oil prices once again should occur, US strategists should help Central Asian economies make sensible adjustments to the negative impact of lower global oil prices, a likely recession again in Russia and the phase of regional instability that low oil prices would unleash again. Over the longer term, US strategists should explain that financial turmoil is likely to occur again unless the Central Asian states reduce their financial vulnerabilities to Russian meltdowns. US strategists should help Central Asian states explore creative ways to diversify their economies.
As Russian power and influence wanes, should America compete, retreat or engage China in Central Asia? Chinese economic engagement with the U.S. in Central Asia should not automatically be opposed or feared by America. Chinese economic engagement with Central Asia via its Belt and Road Initiative could potentially help foster shared prosperity in a positive sum game with America.
 For a recent account of the Russian oil industry, see Rachell Maddow, Blowout, Crown, New York, 2019
 EIU says Russia’s economy will contract by 3 and ½% of GDP and Euler Hermes (EH) Economic Research online says the Russian economy will shrink by 5 and ½ % of GDP.
 EH Economic Research online, 30 May 2015
 See Paolo Sorbello, Ruble Collapse a Problem for Central Asia, The Diplomat, 21 December 2014.
 EIU, Turkmenistan: Country Report, 2nd Quarter 2015, p. 4.
 EIU, Uzbekistan: Country Report, 1st Quarter, p. 4.
 See Radio Free Europe, Radio Liberty, Russia: Money Troubles: Russia’s Weak Ruble Pulls Down Neighbors’ Currencies, 11 December 2014.
 See Economist, Contagion, 17 January 2015.
 See David Trilling, Ruble decline hits home in Central Asia, Asia Times, 24 October 2014
 See Ankit Panda, Central Asia’s Ruble Awakening, The Diplomat, 3 February 2015.
 EIU, Kyrgyz Republic: Country Report, 2nd Quarter, 2015, p. 11.
 See Catherine Putz, Tough Times Ahead in Tajikistan, 27 May 2015.
 In fact, IMF calculated that for every 1% contraction in the Russian GDP, Tajikistan and Kyrgyzstan contract 0.5%.