The economic impact of the Russian invasion on Ukraine

Large-scale migration, a deep recession and severe damage to industrial capacity are among the main effects

(for The Chartist)

A month and a half into the latest phase of the Russia-Ukraine war, Russia’s attempt to take the Ukrainian capital, Kyiv, appears to have been checked, and its forces to have withdrawn from Ukraine’s northern regions, leaving large-scale human and material destruction in their wake. The purpose of the withdrawal, according to military analysts, may be to regroup and refocus on expanding Russia’s territorial hold on the eastern Donbas regions of Donetsk and Luhansk, parts of which have been under de facto Russian control since 2014-15.

While the course of the war will determine the political, social and economic future of the main protagonists—that is, of Ukraine and Russia—and will also have a significant impact across the Eurasian continent more broadly, its outcome remains uncertain. Nonetheless, it is already possible to say something of the scale of the damage done to Ukrainian society by way of an assessment of the war’s economic impact so far.

Population movement. Probably the most striking development of the war, following the Russian invasion of February 24th, is the sheer scale of the population movement it has triggered. The UN estimates that almost 11 million Ukrainians—or around one-quarter of the country’s inhabitants—have been internally displaced or turned into refugees. This figure breaks down to six and a half million who have travelled to regions within Ukraine away from the worst of the fighting, alongside more than four million who have fled abroad, many to neighbouring Poland, in what the World Bank describes as “the largest refugee crisis in Europe since World War II”. The Ukrainian government, moreover, suggests that thousands of its citizens may have been deported by the Russian army to “filtration camps” inside Russia. From the perspective of economics, the relocation and removal from the economy of a large part of the labour force represents a severe disruption to production, as well as to household consumption, through which the turnover of economic activity is maintained.

Economic policy and output decline. Amid war, the Ukrainian government has pared back its activities to the basics—that is, to ensuring military and food supplies, and to keeping the banks open, while reducing taxes to aid businesses, and offering a small stipend, of UAH6,500 (about £170), to those who have found themselves displaced. These efforts have been greatly aided by a step-up in funding commitments from Western governments and international financial bodies, such as the IMF and the World Bank.

On the day of the invasion, the Ukrainian government fixed the exchange rate of the hryvnya (UAH, the national currency) to the US dollar and introduced exchange controls, limiting the sums of hryvnya that can be converted into foreign denominations. As with the Russian rouble, therefore, which has been subject to similar restrictions in response to the imposition of unprecedented economic sanctions, the exchange rate of the hryvnya can no longer be read as a barometer of economic actors’ confidence in the country’s prospects. On the one hand, by preventing a more drastic fall in the currency, the level of inflation imported through the higher cost of foreign goods is likely to be constrained. On the other hand, since this is only achieved by restricting the ability of firms to obtain inputs from abroad, the damage to supply chains and the shortages in output that this induces are likely to boost prices sharply, so undermining living standards, even as the uncertainty of full-blown interstate conflict scares off investment and forces households to refocus their diminishing resources on day-to-day survival.

Owing in part to these exchange controls—but also to Russia’s naval blockades of Ukrainian Black Sea ports, through which large volumes of Ukraine’s trade are usually conducted, as well as to the Ukrainian government’s imposition of restrictions on agricultural exports to try to forestall food shortfalls at home—in March, the Ministry of Economy reports, the US dollar value of Ukraine’s exports fell by half, compared with February, and the value of imports by two-thirds. For January-March as a whole, the ministry says, national output contracted by 16%, compared with the same period of last year. It is on estimates like these that officials now suggest that Ukraine’s real GDP could fall by at least one-third this year, while one recent forecast, by the World Bank, points to a still steeper drop, of 45%. For comparison, in the downturn of the Great Depression in the US in the early 1930s, real GDP fell by a cumulative 30%.

A decline in production of such magnitude, and the scale of the fall in average living standards that it implies, indicates very sharp and very fast increases in the rates of unemployment and poverty across the country.

Damage to physical capital. Alongside migration and deep recession, Ukraine’s production facilities and infrastructure is a third area in which the impact of the war can be sketched. Up to now, the damage here appears extensive. This is because, alongside missile strikes on military and administrative targets, and the artillery bombardment of east Ukrainian cities such as Kharkhiv, Chernihiv and Mariupol, numerous reports suggest that the Russian military is targeting Ukraine’s industrial capacity and transport infrastructure as a means of undermining Ukraine’s capacity to fight. Moreover, the Ukrainian military has blown up bridges to hinder the Russian advance. According to a cautious assessment by the Kyiv School of Economics (KSE) from mid-March, the cost of verifiable war damage to infrastructure such as airports, bridges, power plants, factories, warehouses, residential housing and hospitals came to US$63bn. Government ministers put the cost much higher. At the end of March, for example, Yuliya Svyridenko, the economy minister, said that Ukraine’s losses had reached US$565bn, which seems to combine estimates of lost income and the destruction of productive assets (as Ukraine's national wealth was in the range of perhaps US$500bn-600bn in 2021, this looks high, and may involve some double accounting). 

In conclusion, large-scale migration, a deep recession and severe damage to industrial capacity have been among the main economic effects of the Russian invasion for Ukraine. Whether the actual scale of the fall of Ukrainian living standards this year matches some of the dire forecasts produced will depend on the duration and geographical spread of the military conflict. In contrast, the pace of Ukraine’s post-war recovery, once it begins, will depend on the degree of damage done to the country’s physical capital, the speed and scale of return of refugees from abroad, and the size of the reconstruction funds available.