China-Russia Economic Trade And Russia's Greatest Economic Paradox

Many analysts these days consider the unexpected growth of the Russian economy amid the escalating war a mystery, but to my mind there is not much that is special in it. If a country possesses a market economy dominated by private enterprises, and the military spending does not exceed 10 percent of its GDP, it can enjoy an economic growth for years without becoming exhausted by its war efforts. Between 1970 and 1990, Israel's military expenditures averaged 18.93 percent of its GDP[1] while the economy grew by 4.63 percent a year on average without a single recession.[2] I would add that Russia's current share of military expenditures to GDP – around 6.7 percent – equals that of the United States in 1986, when the perestroika was well under way, and therefore should not be considered extremely high by historical standards.[3] But what looks, to my mind, much less explicable, is the paradox of the Russian foreign trade – first and foremost of the trade with nation's current most crucial partner, China.

(Source: X)

Russian Companies Succeeded In Finding New Export And Import Markets

Europe, which has been Russia's largest trading partner for three decades in a row, has started to lose its preponderance since the onset of the Russia-Ukraine war. In the first half of 2024, Russia's exports to the EU have decreased by 82 percent compared to the first half of 2021,[4] while imports have fallen by 72 percent.[5] Such a change had profound importance because, for many years, Europe accounted for almost all of Russia's trade surplus, so by late 2023 the latter had largely disappeared as the major trade flows were turned eastward.[6] Nevertheless, for around two years so far, Russian companies succeeded in finding new export and import markets, shipping their oil from India to Singapore while buying industrial goods from China, Turkey, the UAE, and around a dozen other less important old and new trading partners. The sanctions targeting Russian industries (including the EU oil embargo), largely did not affect Russia's trade with non-Western powers, and even increased transactions with some of its minor trade partners.[7]

This refocusing of Russia's foreign trade seemingly came under attack in December 2023, as U.S. authorities announced their intention to sanction foreign banks for suspicious transactions with their Russian counterparts,[8] threatening them with the denial of access to operations with U.S. dollars or Euros and the closure of their corresponding accounts with U.S. financial institutions. The aim was to curtail trade in goods that Russians were able to use in military production, but of course the banks started to distrust almost all deals.

I would argue that this initiative became one of the brightest ones in the entire arsenal of sanctions, since the banks generate a much smaller share of overall revenues from their business with Russian clients than many industrial corporations did, and therefore were ready to terminate (or limit) such transactions. By March 2024, Russian entrepreneurs started to report delays and failures in payments to and from China,[9] and quite soon the payment issues were called the most problematic factor in Russia's foreign trade, where China now accounts for around 34 percent of Russia's total foreign trade turnover, with an even larger share of the automotive,[10] computer, and cellphone markets. In early 2024, 61 percent of new car sales in Russia were the sales of vehicles imported from China, and some additional numbers originated from Chinese cars assembled in Russia from almost-finished vehicles imported into the country.[11]

Chinese Currency Has Become A Rare Asset In Russia

In June, various sources estimated the share of delayed or returned payments by between 30 and 70 percent of the total number of transactions, even while Russia-China trade presented a case of successful de-dollarization, as the Russian ruble and Chinese yuan were used as the invoice currency in more than 95 percent of all cross-border deals. Some Western analysts argued that pressuring China in this way is not a good idea since it will encourage it to use alternative means of payments, and therefore undermine the global domination of the U.S. dollar.[12]

The problems became aggravated in mid-June 2024, when the U.S. imposed sanctions on the Moscow Exchange, which quite soon led to a disfunction of the regular ruble-yuan exchanges that moved to the interbank market.[13] Facing the perspectives of sanctions, many Chinese banks introduced a sophisticated tracking system allowing them to distinguish between "clean" yuans, originating from third countries' banks, and "dirty" ones, that were held by the Russian financial institutions or paid by Russian clients via banks in some "friendly" nations like Kazakhstan or Kyrgyzstan.[14] Almost every week, the Russian media reported that one Chinese bank after another had either limited or terminated dealings with Russian banks – first with those that were put on the Western sanctions lists, and later with many that had never been targeted by any restrictive measures. Moreover, the leading Kazakh and Kyrgyz banks followed the Chinese banks' path declaring the termination of all "suspicious" transactions connected with trade dealings between Russian and Chinese companies.[15]

For several months so far, the problems have been mounting with more than 80 percent of Russian exporters or importers constantly complaining about payment issues arising in Russia-China trade.[16] Russian President Vladimir Putin then arrived in Beijing in May 2024 accompanied by a strong team comprising Russia's leading economic and financial bureaucrats,[17] including the Bank of Russia chairperson, the finance minister, as well as CEOs of all the leading state-controlled banks. Even if it was not announced formally, no one had any doubt that the financial issues – and especially the payment problems – were at the core of the talks. Rather surprisingly, almost nothing has changed after this "historic" trip (though many officials have reported that the situation has changed)[18] – and so last week it was reported that President Putin, meeting with China's deputy-chairman at the Far Eastern Economic Forum in Vladivostok, asked for another bilateral encounter with Chairman Xi in October on the sidelines of the BRICS summit in Yekaterinburg.[19]

I would add that in recent days the Chinese currency has become a rare asset in Russia: On September 4, the overnight interbank loans in yuan were traded at a staggering 212 percent per annum,[20] indicating an unprecedented shortage of yuan liquidity. By the way, just recently Russian sources reported that China has walked out of negotiations about providing yuan loans to the Russian government (the-so called "depositary bridges")[21] that might facilitate the funding of Russian banks and companies in Chinese currency. Until the past few months, a large portion of the payments have been cleared by the VTB bank's Chinese outlet, VTB-Shanghai, but because of its monopolistic position, the bank continuously increased the fees and charges for the dealings, raising them to five to six percent of the sum[22] – and even this would be considered a good solution after it was put under the U.S. sanctions on June 12 and now "undergoes a period of adjustment to the new realities," conducting a limited number of operations mostly for its Russian clients.[23]

The Russian Consumers Are Becoming Accustomed To Chinese Products

In recent days, some Russian media outlets have run stories about how exporters and importers in both Russia and China are now in search of brave men who might be interested in the cross-border courier delivery of gold bars (!) used as a substitute for traditional cash payments.[24] All kinds of financial offsets, hawala schemes, and barter trade have also been practiced when it comes to dealings with China. The imports from China to Russia have started to be diverted to third countries from which Russian firms are formally buying them once again, allowing their Chinese partners to avoid declaring that these goods are sold to the Russian clients. If one reads Russian business daily newspapers, one may conclude that bilateral trade has collapsed.

What comes as a surprise against such developments is the actual volume of current Russia-China trade. Before the U.S. Treasury's announcement of secondary sanctions that might threaten Chinese banks, in 2023, Russia-China bilateral trade in goods reached $240.1 billion according to Chinese customs, an increase of 26.3 percent compared to 2022.[25] But in 2024, the volumes have not decreased, and Russian officials even claim that they can surpass those of 2023.[26] From January through July, Russian exports to China eventually grew by 4.6 percent compared to the same period of 2023 to $74.4 billion, while Chinese supplies to Russia marginally contracted by 2.6 percent to $61.3 billion.[27] Much more interesting are the monthly figures: If one compares the July numbers with those for March, which saw a sharp fall in Russia-China trade that at the time was attributed to the effect of prospective U.S. sanctions against Chinese banks,[28] one will realize that Russian exports dropped by 18.8 percent, while Chinese shipments to the Russian companies increased by 31.1 percent,[29] despite all speculations about the impossibility for Russian importers to pay for Chinese goods. I would add that all these datasets are the ones published by the Chinese customs authorities, which should be treated seriously, as they have not been misleading in the past.

Chinese cars are still shipped to Russian dealers and sold in large numbers. From January through August, sales increased by 65 percent compared to the same period of 2023 while all the top-ten brands sold in Russia were Chinese (nine represented cars assembled in China while one, Belgee, was a Belarus-based subsidiary of China-based automobile manufacturer Geely).[30] The sales of flagship models of Chinese smartphones valued at more than 50,000 rubles ($560) doubled in the first half of 2024 compared to the first half of 2023 both in number and in value, while the overall Chinese share of mobile phones sales in Russia now exceeds 81 percent.[31] Chinese goods are replacing European imports in many sectors, most notably in communication equipment, furniture, and home appliances – with no visible signs of deterioration of the conditions of Russia-China bilateral trade. Russian consumers are becoming accustomed to Chinese products, which compose the vast majority of goods that can be acquired via leading Russian online retailers, and seemingly express no worries about their prospective shortages.

Financial Analysts May Need To Reevaluate The Stance Of The Financial Connections Between Russia And China

This looks like the greatest paradox that cannot be reasonably explained that the Russian economy has presented in recent months. Some time ago, traders argued that the Chinese companies were ready to ship their goods to Russia without prepayment, but by late August this practice was terminated,[32] and so such arguments cannot explain the current stance of the trade that seemingly is not so much affected by payment disruptions.

From almost every point of view, the current situation cannot be satisfactorily explained. One may only suspect that there is some additional payment system already being created based either on cryptocurrency transactions, which is by itself questionable because cryptocurrency is outlawed in China, or that Russian companies have amassed significant sums in their foreign-based accounts in "friendly" countries originating from a part of export proceeds that have not been returned to Russia and therefore might be exchanged into "clean" yuans.

In both of cases, the assets engaged in Russia-China dealings should amount to billions of dollars, and not dozens of billions, which would make them quite hard to hide. Otherwise, one may assume that the payment issue in recent months has been rather a problem in the making, and the transactions, even slowly and with huge fees, had gone through all the time – in this case, all the signals about the deterioration of the situation in August and September must cause a real, and significant, decline in bilateral trade in the coming months between August, for which the data have not yet been published, and October. If the decline does not appear on the books in a month or two, the leading financial analysts should rather reevaluate the stance of financial connections between Russia and China – and the sooner, the better.

*Dr. Vladislav Inozemtsev is the MEMRI Russian Media Studies Project Special Advisor, and Founder and Director of the Moscow-based Center for Post-Industrial Studies.