Executive summary

• The non-military segment of the Russian economy continues a slow but steady decline. The recession is deepening and may lead to a protracted period of stagnation.
• The earlier increase in the key interest rate enabled the Bank of Russia to control inflation and strengthen the rouble; but this led to higher borrowing costs and a decline in credit demand.
• The lowering of rates, which began in May, has not altered the general negative trend. The real interest rate remains high (18 per cent against the current 4 per cent inflation), which continues to restrain economic activity.
• The strengthening of the rouble in Q2 2025 should have made imports more attractive, but the economic contraction prevented this.
• Military production remains the working engine of the economy. A potential cessation of military operations in Ukraine brings with it the risk of a drop in economic activity, and until credit demand recovers this could lead to an even deeper recession.

The monetary sphere

The key interest rate

In May the Bank of Russia indicated its readiness to ease monetary policy, by lowering the key interest rate to 20 per cent from 21 per cent¹. This decision, however, was clearly not driven by the current macroeconomic situation.

Inflationary pressure undoubtedly eased, but largely due to the slower rise in non-food prices (see Fig. 1). The key factor was the strengthening of the rouble, which allowed importers to increase profits without raising retail prices. Imports account for around 40 per cent of non-food retail sales, which makes this sector of the economy especially sensitive to currency fluctuations.

Despite the high interest rate, the demand for loans from the corporate sector remained stable, which may be partially explained by the restructuring of bad loans through the capitalisation of unpaid interest. The growth of private deposits slowed down.

In any case, fiscal policy during the first half of the year remained relatively loose. By the end of the six-month period, the annual budget deficit limit had already been reached.

In addition, the effects of the tight monetary policy are clearly visible in the economy demonstrated by:

• A decline in household demand for credit.
• A slowdown in civilian sectors, particularly those sensitive to interest rate fluctuations, such as automobile production, manufacturing of agricultural machinery, and the production of construction equipment and building materials.

The Bank of Russia’s policy has faced widespread criticism, most notably at the St Petersburg Economic Forum in June 2025, where a majority of participants argued that reducing the key interest rate was the only way to halt the economic downturn. It appears that the Kremlin also favoured easing. In response, the Bank of Russia was compelled to act.

Nevertheless, despite lowering the interest rate, the Bank of Russia did not indicate further guidelines for its policy. The statement issued by the Bank after the meeting contained only a general list of risks and scenarios, but there were no clear signals as to the regulator’s future actions.

The exchange rate

The rouble continued to grow steadily against the US dollar throughout Q2, although the pace of growth had slowed down considerably: from April to June 2025 it strengthened by 6.6 per cent, after an increase of 29 per cent in the period from December 2024 to March 2025 (see Fig. 2). By mid-2025 the rouble rate had almost returned to pre-war levels, despite inflation over this period having increased by more than 35 per cent.

The strengthening of the rouble came as a surprise to everyone, including for the financial authorities, who were initially unable to account for it. In fact, the current account, which is the basis for the movement of the national currency, did not strengthen over this period, remaining at a low, if stable, level. This suggested that the rouble should be gradually weakening, something that had been observed since the middle of 2022 (see Fig. 3). But the actual situation contradicted the theory: counter to expectations, the rouble was steadily becoming stronger.

The majority of experts believe that high interest rates were one of the key factors behind the rouble’s appreciation. On the one hand, exporters who held balances in foreign currency accounts suffered exchange rate losses, while converting currency and placing roubles on deposit generated exceptionally strong revenues². On the other hand, the market saw an influx of funds from non-residents who are able to work in the carry trade segment³. They could convert foreign currency into roubles in the countries of the Commonwealth of Independent States (CIS)⁴ and in Türkiye, which meant that this capital inflow was invisible to the Bank of Russia.

There is another possible explanation for the strengthening of the rouble. Russia has a persistently positive current account balance, a structure that typically results either in the sustained outflow of capital or in the appreciation of the national currency. The latter, in turn, drives up demand for imports by making them cheaper.

From the start of the war, the Russian authorities significantly restricted the outflow of capital, which turned the rouble into a limited convertible currency. By the end of 2024, the internal mechanisms restraining capital outflow were tightened. External sanctions also played their part in limiting cash outflows from Russia.

As a result, Bank of Russia data shows that major exporters are selling 100 per cent of their foreign currency earnings, while customer demand for foreign currency is falling. In H1 2025, the Russian population purchased the equivalent of 464 billion roubles – half the amount bought during the same period last year.

The rouble strengthened by 37 per cent in the period from December 2024 to June 2025, which should lead to a growth in imports.⁵ This pattern is typical of a growing economy; yet, in contrast, many sectors of the Russian economy are steadily sliding into recession, leading to reduced demand for imported goods.

This currency situation appears unstable. There are various factors which could change the course of the rouble in the near future:

• Traditional seasonality and increased demand for currency from importers purchasing goods for the New Year.
• The beginning of interest rate cuts makes holding roubles less attractive.
• Falling oil and gas revenues, coupled with slowing growth in other budget revenues will make it increasingly difficult for the Finance Ministry to secure the funds needed to meet expenditures.
• Declining profitability of exports that were already marginal, such as grain and coal.

The banking sector

As a rule, problems in the banking sector start to appear when the real economy passes the bottom of the recession. This is the point when it becomes clear which companies have remained solvent and which have gone bankrupt, turning earlier loans into losses for the banks. Companies which have survived the recession are still able to make debt restructuring agreements with the banks, thereby easing their balance sheets. But those which have been declared bankrupt cannot count on any kind of agreement.

By the middle of this year, Russian banks looked in good shape. Their combined profit exceeded last year’s, which allowed them to increase their own capital by more than 11 per cent over the previous six months. The growth of the banks’ liabilities slowed down, and was just three per cent for the six-month period. This reflects the sluggish state of the economy, and the reduction in the banks’ assets is a harbinger of a further fall in the months ahead.

The regulatory activity of the Bank of Russia was low. The only noteworthy development was the announcement that a new version of the principles for determining systemically important financial institutions (SIFI) was being prepared.⁶ These new principles should come into force at the start of 2028, and will allow the supervisory body to use up-to-date information on the condition of the banks, and revise the SIFI list more frequently.

Besides this, the Bank of Russia was waiting for an extraordinary session of the Board of Directors (this took place on 25 July 2025) to discuss regulatory requirements. It tried to coordinate the various elements of requirements for banks and prudential regulations.

The budget

Total revenue

The federal budget is having problems with revenue. So far this year, revenue is no higher than it was last year, despite the inflation, significant increases in taxation and the ongoing redistribution of revenue in favour of the central authorities (see Fig. 4). It should be noted that the increase in the personal income tax rate has not yet been reflected in budget revenues since the payment deadline is in July. Nevertheless, even the expected increase of around 200–300 billion roubles is unlikely to improve the situation.

The 2025 revenue plan was not initially considered overly ambitious for the Finance Ministry – projecting a nominal revenue increase of only 4.8 per cent – yet there are doubts it will be achieved. To meet the target, monthly revenues in H2 2025 would need to exceed those of H1 2025 by 20 per cent. A barrier to this could be oil and gas revenues and VAT, which are notably lower than those forecasted.

Oil and gas revenues

In June, oil and gas revenues for the federal budget fell below the 500 billion rouble ($6.3 billion) mark,⁷ which is one and half times lower than the level for November 2024 to February 2025.⁸

The size of oil and gas revenues depends on three factors: the amount of oil extracted in Russia; the export price for oil; and the rouble exchange rate. Production volumes have remained stable over the past year, with Russia failing to significantly increase output after OPEC+ decided to raise quotas. At the same time, changes in the other two factors had a severe impact on oil and gas revenues.

The Ministry of the Economy publishes the export price for oil, which the Finance Ministry uses when calculating revenue. In June, this was almost 20 per cent lower than it was at the end of 2024 and the start of 2025. Over the same period, the value of the US dollar against the rouble declined by about 20 per cent, leading to a drop in rouble-denominated revenues.⁹

The worsening situation in the Middle East led to a jump in oil prices, which was reflected in the Ministry of Economy’s assessment of the results for June: the export price rose from $52 per barrel to almost $60. This naturally resulted in higher oil and gas revenues in July. To neutralise the effect of rising oil prices, the US dollar exchange rate would have to fall by 15 per cent. This would amount to less than 69 roubles to the dollar, which seems unlikely.¹⁰

According to preliminary estimates, achieving the oil and gas revenues planned for 2025 will not present a significant problem for the Finance Ministry. Even if the rouble price for Russian export oil remains at the June level (4,100 roubles per barrel) for the remaining five months of the year from August to December, then, according to the Finance Ministry’s own figures, this will bring in 8.6 trillion roubles, against the 8.3 trillion set out in the revised budget. If the rouble price for oil stays at the July level (4,700 roubles per barrel), the Finance Ministry will receive almost 9 trillion roubles of oil and gas revenues, which would represent an increase of 700 billion roubles on the forecasted budget revenues.

Value Added Tax (VAT)

VAT revenues come from two sources: a tax on domestic production and an import tax. The tax on domestic production is approximately the product of two indicators: the economic growth rate and inflation. Given that this tax is received regularly, it is the main mechanism for the treasury to obtain inflationary income. In this situation, the noticeable slowdown in VAT revenues in the first months of this year seems natural, since the rate of economic growth and producer price inflation have declined significantly.

The position with import VAT is more straightforward, but less favourable from the fiscal point of view. If dollar-denominated import volumes remain stable, the rouble revenue flowing into the treasury depends entirely on the exchange rate. In the first six months of this year, the treasury was down by around 450 billion roubles because of the strength of the rouble. In Q2 alone, monthly losses amounted to some 100 billion roubles per month (see Fig. 5).

Expenditure

In H1 2025, government spending was 20 per cent higher than in the same period last year, despite the statutory limit allowing for only a 5 per cent increase (see Fig. 6).

At the same time, expenditure is distributed evenly, and at the current monthly level the expenditure budget will be fulfilled by 100 per cent by the end of the year. However, the Finance Ministry has tended to increase spending radically in the last few weeks of the year, and it is highly unlikely that this year will be an exception. Final expenditure for 2025 is likely to be 5–6 trillion roubles (12–15 per cent) higher than the permissible level, which means that inflationary pressure will be keenly felt at the start of next year.

The budget deficit

By mid-year, the budget deficit had already reached the permitted limit of 3.7 trillion roubles,¹¹ but this is unlikely to affect expenditure policy in the remaining months. Current legislation allows for the established deficit limit to be exceeded over the course of the year. In any case, as the experience of last year showed, the Ministry of Finance is permitted to exceed the annual deficit without formally making any changes to the budget law.

Over the first five months of the year,¹² more than 92 per cent of the deficit was financed by internal loans, an increase in regional budget funds, off-budget funds and enterprises in the Treasury accounts and a reduction of the balances of the federal budget funds.

The National Welfare Fund (NWF)

According to the results for the first half-year, the liquid part of the National Welfare Fund (NWF) increased by 300 billion roubles. However, this nominal growth does not reflect the real picture for several reasons:

• In June, assets were transferred to the NWF amounting to 1.286 trillion roubles. These were Chinese yuan and monetary gold, which had been previously placed in federal budget accounts. But this accounting gain does not represent a genuine increase in assets; it is simply a case of resources being moved between the Finance Ministry’s accounts.
• In the first half of the year the liquid part of the NWF fell by 570 billion roubles, as a result of the strengthening of the rouble exchange rate, because these resources are mainly held in foreign currency.
• While the NWF resources were not formally used to cover the deficit, in H1 2025 the government directed 473 billion roubles to finance separate programmes which were not included in the federal budget.
• Recipients of NWF funds in previous periods returned just over 100 billion roubles.

As a result, excluding the effects of currency overvaluation and internal accounting operations, the NWF spent 367 billion roubles in the first six months of 2025 – equivalent to just under 10 per cent of the Fund’s liquid assets at the start of the year.

Considering that the current exchange rate of the rouble is scarcely different from what it was at the start of 2022, the Kremlin’s financial reserve has halved over the course of the war, from 8.5 trillion roubles to 4.1 trillion (see Fig. 7).¹³

The real economy

Industry

According to figures published by the Federal State Statistics Service, Rosstat, industrial production in Q2 was marked by high volatility. Officially, output increased from March to June by 1.8 per cent.¹⁴ However, this growth is based exclusively on activity in the sectors connected to military production. Without them, industrial output has been steadily falling by 0.3 per cent per month from the start of the year. In civilian industries, this decline has been underway since February. The production of automobiles and basic construction materials (especially cement) has been rapidly decreasing.

The Centre for Macro-Economic Analysis and Short-Term Forecasting, CMASF, captures a depressing picture: excluding the military-industrial complex, Russian industry has been stagnating since the spring of 2023, and remains in a state of steady decline due to the high rates of the Bank of Russia and the slow growth of credit (see Fig. 8). There is no certainty that reducing the interest rate from 21 per cent to 18 per cent will reverse this trend.

Fig. 8. Dynamics of Russian industrial development, 2021–2025

The following tendencies can be determined in specific industries:

1. Stabilisation in the production of hydrocarbons. Following a sustained decline in hydrocarbon production of 0.5 per cent per month from June 2024, output rose by 0.5 per cent in March 2025, followed by a further 1.1 per cent increase in April. Growth then continued at a more moderate pace in May and June. The main reason for the increase was the decision by OPEC+ to increase quotas for oil production, which came into force in April. This halted the decline in oil and gas production.

2. A slowdown in the growth of oil-refining volumes. This slowdown has occurred against the background of declining exports, while demand from the domestic market remains high.

3. Compensatory growth in the production of foodstuffs. After negative results in Q1 (on average, down 0.9 per cent each month), a small upturn has been noted in Q2 (an increase of 0.4 per cent per month, including 0.4 per cent in June).

4. Continuing decline in the production of construction materials. After a relatively stable period in 2024, there has been a serious decline in the area of construction materials from the start of 2025. If the decline averaged 1.2 per cent per month in Q1, this increased in Q2 to an average of a 1.9 per cent decline, and in June it was 2.1 per cent. As a result, by July output in this sector had almost returned to its level of five years earlier – the summer of Covid-hit 2020.

5. Continuing decline in production in the automotive industry. After a sharp drop in production in January and February (on average by 9.8 per cent each month), spring saw a brief revival (up by six per cent on average in March and April). However, in May and June output began to decline sharply (by 11.5 per cent and 5.3 per cent, respectively), due to a fall in demand for commercial vehicles, such as goods vehicles and buses.

Agriculture

Experts and officials had different views of the expected grain harvest. The Ministry of Agriculture forecast a harvest of around 135 million tonnes, which has been the average in recent years. Experts, however, announced a more cautious forecast, of between 125 and 128 tonnes, which would match the figure for 2024.

The wheat harvest is expected to be 10–12 per cent lower than last year’s harvest, due to a serious drought in the southern regions of European Russia. Production may be a quarter lower than last year’s. At the same time, the oilseed harvest may exceed that of recent years. High margins, driven by the absence of export taxes and sustained external demand, have spurred widespread sowing, which in turn has boosted production.

Even with a moderate decrease in the harvest, the current season should allow Russia to maintain export volumes of grain at the level of the last agrarian year (53–55 million tonnes, from 1 July to 30 June). However, the strong rouble and the high cost of credit will have a negative effect on this sector.

Construction

According to Rosstat, construction output in Russia increased by 4.3 per cent year-on-year in H1 2025. However, the detailed figures which might support this assessment are unavailable.

A significant drop in the amount of new housing has been witnessed in the second quarter (down 20 per cent on last year). This has been seen both in publicly-constructed housing, which has been falling since the start of 2024, and also privately-built homes (see Fig. 9).

Transport

Railways and pipelines account for 90 per cent of cargo transport in Russia, and the volume of goods transported is shared more or less equally between them. Although road transportation is gradually increasing, it still plays a minor role in the economy, accounting for only 7.4 per cent of all cargo transport (compared to 4.8 per cent in 2019).

The Russian Railways’ cargo volumes have been falling for the past 21 months. This drop has varied between 1.9 per cent and 9.4 per cent, the biggest being in May 2025. In H1 2025 this amounted to 46 million tonnes, a fall of 7.6 per cent on the same period in 2024.

The biggest drop in the first six months of the year was for grain (down 36.4 per cent), construction materials (down 19.5 per cent) and ferrous metals (down 17.2 per cent). The only areas where volumes increased were fertilisers (up 4.8 per cent) and non-ferrous metal ores (up 2.9 per cent; see Fig. 10).

One of the few positive signs was that overall cargo turnover, measured in tonne-kilometres, fell by only 1 per cent compared with H1 2024. In other words, on average each tonne of cargo was transported slightly further (by 5.6 per cent). This points to an increase in the transit component or a shift in the structure of shipments towards longer-distance routes.

Standard of living

According to official figures, households’ real incomes grew in the first quarter by 8.3 per cent. Considering that real wages, which account for 44 per cent of total income, increased by 3.4 per cent, and pensions and benefits (which make up 16.5 per cent of all income) went up by only 1.5 per cent, the principal segment of the growth was interest on bank deposits, which more than doubled, although it accrues to a very narrow segment of households. According to the Deposit Insurance Agency, in Q1 2025 three quarters of all deposits were accumulated on just four per cent of accounts.

The unevenness of the growth in income is supported by the sharp decline in sales of new automobiles. Over the six-month period sales fell by almost 30 per cent year-on-year (Fig. 11).

There was a marked decline in non-credit sales: while 48.6 per cent of cars purchased in 2024 were bought on credit, this share rose to 71 per cent in the first half of 2025 (and to 83 per cent for private sales), indicating a decline in the population’s real purchasing power.

Conclusions and forecasts

The Russian economy is moving slowly but steadily towards recession, with the risk of sliding into a prolonged period of stagnation.

The Bank of Russia was able to avoid runaway inflation in 2023–2024 by sharply raising the interest rate. This led to a notable strengthening of the rouble and a lowering of prices for non-food products. But these measures to avert a crisis had serious side effects. Segments of the real economy not engaged in military production came under pressure from excessively high interest rates. These rates directly restricted companies’ access to finance and indirectly weakened demand, including lower leasing activity and a decline in mortgage lending. In addition, the budget lost a significant share of revenue tied to the exchange rate, including oil and gas income and VAT on imports.

The Bank of Russia began to lower interest rates in May, but this move is unlikely to stop the negative trends. Even after a further reduction in July 2025, interest rates stand at 18 per cent, with a much lower current rate of inflation (last three months annualised), which the Bank of Russia assesses at four per cent. This indicates that the economic slowdown is ongoing, with the budget shortfall and the widening federal deficit likely to persist in the coming months.

In Q3, a great deal of attention will be paid to rouble performance. On the one hand, August and September represent a period of heightened demand for foreign currency from importers who are preparing for the New Year. For them, a strong rouble makes imported goods more attractive. On the other hand, strengthening the rouble to pre-war levels against a background of 40 per cent accumulated inflation is unsustainable. If the Bank of Russia decides at its 12 September meeting to lower interest rates again – potentially by 200 to 300 basis points due to seasonal deflation – this could significantly reduce the attractiveness of rouble assets for investors, with the risk of weakening the exchange rate and accelerating price growth.

Against this backdrop, a major external risk for the Russian economy is the potential cessation of hostilities in Ukraine. In the short term, this would slow the growth of military spending and, in the longer term, lead to its reduction. As military production is currently the only significant driver of economic activity, any weakening of this factor before credit demand from households and businesses recovers could deepen the recession and entrench it as the norm.

Endnotes

1. On 25 July 2025, the Bank of Russia went further, lowering its key rate by 200 base points to 18 per cent. ↩︎
2. The presence of a controlled bank (part of the same group) allows large exporters to place rouble funds on overnight deposit in the Bank of Russia, where the interest rate is only 100 base points lower than the key rate. ↩︎
3. A carry trade is a strategy that involves borrowing in a currency at a low interest rate and reinvesting in a currency or financial product with a higher rate of return. ↩︎
4. The CIS came into being shortly before the USSR collapsed at the end of 1991. It originally encompassed the 12 states which still made up the Soviet Union in December 1991 (Estonia, Latvia and Lithuania had already left the USSR), but now has eight full members and one associate member. Georgia left the CIS after the Russian attack on the country in 2008; Ukraine ceased to participate in the organisation after the Russian seizure of Crimea in 2014 and formally left four years later; Moldova ceased participation in 2022. Turkmenistan signed the original charter in 1991, but never ratified it. It has been an associate member since 2005. ↩︎
5. An indirect confirmation of this hypothesis is the high figure in the ‘Errors and Omissions’ column of the balance of payments for the first quarter of 2025: it was more than $8 billion. ↩︎
6. These are banks, insurance companies or other financial institutions whose failure could trigger a financial crisis. They are sometimes known as being ‘too big to fail’. ↩︎
7. At the time of publication (August 2025), the USD exchange rate is roughly 79–80 roubles. Owing to sharp fluctuations in the exchange rate and to ensure consistency with historical data, all further amounts are presented in Russian roubles. ↩︎
8. Income added tax, which is an important part of oil and gas revenues, is paid four times in the annual cycle: in April, July and October (to show the quarterly results), and in March of the following year to indicate the annual result. ↩︎
9. For the purposes of analysis and short-term forecasting, the rouble price of export oil is used here (the export price in US dollars multiplied by the dollar to rouble exchange rate set by the Bank of Russia). ↩︎
10. Estimates show that in July, oil and gas revenues will more than double compared to June (1,010–1,050 billion roubles against almost 495 billion rubles), since the quarterly payment of the added income tax is made in July. ↩︎
11. In addition, the Finance Ministry had to compensate for negative exchange rate differences on foreign currency assets, amounting to more than 650 billion roubles in H1 2025. These losses arose due to the strengthening of the rouble. In the budget methodology, such losses are equated to an increase in the deficit. ↩︎
12. Data for June will be available only in late August. ↩︎
13. In relation to GDP, the liquid part of the NWF has fallen by more than three times, from 6.25 per cent of GDP at the end of 2021, to 1.9 per cent (forecast) of GDP in mid-2025. ↩︎
14. From here on, seasonality is excluded. ↩︎