Russia is more than twice as large as the contiguous 48 U.S. states, with an educated population and far more natural wealth than you’d expect to find in an area even as vast as 6.6 million square miles. Shouldn’t such a nation be the envy of the world, its undisputed superpower? Yet Russia’s gross domestic product (GDP) only comes in at number 11 in the world, according to International Monetary Fund (IMF) figures.

While the United States ranks as the world's largest economy with a nominal GDP of $21.44 trillion in 2019, Russia's nominal GDP comes in at $1.64 trillion. In terms of GDP, Russia trails much smaller countries, such as the United Kingdom, Italy, and France. This is far lower than the country's inputs—such as literacy levels and access to capital—would indicate. How then does Russia make its money, and why doesn’t it make more?

Key Takeaways

  • In terms of gross domestic product (GDP), Russia trails much smaller countries with a nominal GDP of $1.64 trillion in 2019.
  • Russia's economy is dependent on the export of oil and natural gas, both of which are under the control of the Russian government.
  • This lack of economic diversification puts Russia at a disadvantage when demand for its energy products plummet, which then causes the Russian economy to contract.

Dissolution of the Soviet Union

Since the 1991 dissolution of the Soviet Union, the Russian economy has fared better than those of most of the 14 other smaller republics of the former USSR. The Western-friendly Baltic states of Latvia, Estonia, and Lithuania are now each firmly ensconced as full members of the European Union and have fared far better economically. Meanwhile, Russia’s economy—based primarily on extracting resources from the Earth—hasn’t translated into significant general wealth for its 144 million citizens.

Officially, Russia abandoned communism decades ago. But reality matters more than labels. While post-Soviet Russia ostensibly enjoys a market economy, its leaders have deemed its dominant energy sector too crucial to leave to the caprices of independent buyers and sellers. Oil, natural gas, electricity, and more are under de facto control of the federal government.

For instance, the Russian government owns a sliver more than half of Gazprom (LSE: OGZD), the world’s largest natural gas extractor. The publicly traded company is the successor of the Soviet Ministry of Gas Industry. Every sixth cubic foot of natural gas on this planet is processed courtesy of Gazprom, whose chairman happens to be Russia’s former prime minister, Viktor Zubkov.

Russian Government Controls Energy

No matter the source of energy, the Russian government controls it, resulting in untold profits for the nation’s oligarchic class. For example, Inter RAO, the nation’s primary electric utility, is owned by a consortium of state-owned enterprises. The idea of energy extraction and refinement being open to private enterprise, something taken for granted in the United States, is quite literally a foreign concept in Russia.

Russia’s oil production rivals its natural gas production. As of 2019, the country is the third-largest oil producer in the world, behind the United States and Saudi Arabia. In 2018, the nation accounted for 11% of the total world oil production and averaged 11.4 million barrels of crude a day, through several companies.

The largest of these include Rosneft (LSE: ROSN), Lukoil (LSE: LKOD), and Surgutneftegas (LSE: SGGD). While all three trade on the London Stock Exchange (LSE), Rosneft is owned 70% by the Russian government, and Surgutneftegas's ownership structure is all but impenetrable to outsiders. To interpret the sometimes convoluted logic behind how the Russian energy industry and its major players operate, one needs to examine its ultimate principal owners, the Russian government.

Russian Politics and the Economy

The majority party in Russian politics is United Russia, which was founded by President Vladimir Putin and holds most of the seats in both the national and state legislatures. Officially, United Russia seeks to overcome "economic backwardness," according to an official party document, sometimes referred to as "Go Russia." The document describes this backwardness as "an addiction to surviving off exporting raw materials" and "the certainty that all problems must be solved by the state," both listed ambitions seeming to contradict real-world activity.

With a political class sworn to regaining the nation’s former stature (to say nothing of its former territory), it’s not surprising that the Russian government capitalizes on opportunities to invade its weaker neighbors that were once part of the Soviet Union. In 2008, it was Georgia. In 2014, it was a bigger prize: Ukraine.

These invasions came at a heavy economic price for Russia. Following the Ukraine invasion in 2014, the United States and other countries imposed economic sanctions against Russia. The heightened geopolitical tensions dampened investor demand for Russian investments. These factors, along with high inflation and a sharp decline in oil prices in late 2014, caused the Russian economy to contract 3.7% by the end of 2015.

The Bottom Line

A large nation’s economy isn’t exactly adaptable to change when the economy is so homogeneous that two-thirds of its exports are either petroleum or its distillates. For Russia, this became even more apparent in early 2020 during the COVID-19 pandemic. The country experienced yet another drop in demand for its oil and gas exports as a result of the quarantines and the Saudi-Russia oil price war. With economic conditions deteriorating, Russian manufacturing also took a hit, with the sector reporting in April 2020 its sharpest decline in over a decade.

Given what’s essentially a one-note export business that operates at the mercy of global price movements, the paradox is that Russia leaves little opportunity for the populace to operate enterprise-free of government influence. All this in a nation with more raw potential than any other might hope for.