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. Last Updated: 07/27/2016

Windfall From Iranian Fray

To the surprise of many, the Russian government last month decided against supporting sanctions on Iran. But despite President Dmitry Medvedev’s posturing, Russia’s current opposition should not be so surprising.

Russia’s opposition stems partly from a simple calculation: It has an immense amount of money to make if the tension regarding Iran continues and a substantial amount to lose if a rapprochement occurs. In light of Russia’s recent realization that its financial resources do have their limit, analysts should expect economic considerations to play a larger role in foreign policy going forward.

One factor above all influences Russia’s near-term stability: the price of oil. The financial crisis has caused a significant contraction of the country’s economy, and the state’s preferred countermeasures have not come cheaply. Over the past year, the Central Bank has spent roughly $200 billion defending the ruble. The government has provided $50 billion to support companies with large external borrowings, as well as $40 billion to its banking sector. Throughout the first nine months of this year, the government has run a budget deficit of approximately $100 billion, or 11 percent of its gross domestic product excluding oil and gas revenue. In short, the government has been burning through its cash at an alarming rate. Its reserves have fallen from their peak of about $600 billion in 2008 to $433.9 billion today. In the event of significant further economic difficulties over the next two years, the government could find itself lacking ammunition if it continues spending at its current rate. As a demonstration of its desire to increase its resources, the government recently announced its first long-term bond auction since 2000.

Meanwhile, the consistently high price of oil has buoyed the economy. Through its mineral extraction tax and export duties, the government collects roughly 85 cents on the dollar for every barrel of oil exported. Through October, the price of Urals blend has averaged $57.40 per barrel, with Russia exporting an average of $7.35 million barrels per day. A rudimentary calculation shows that the government has collected $357 million per day. This will mean a total of $130 billion for the year if the current price holds. Based upon these production levels, a $1 increase in the average price of oil for the year increases revenue by about $2 billion.

While there have been several geopolitical events affecting the price of oil, the Iranian nuclear impasse has been a significant contributor to the commodity’s dramatic price swings. Every time a new incident erupts, Russia reaps the reward of the increased oil price. The upside is even higher for Russia if tensions were to result in an actual conflict and Iranian officials were to make good on their pledges to block the Strait of Hormuz. Whether or not this could be accomplished is subject to debate, but any effort to block the strait would certainly cause a dramatic spike in the oil price. A 2006 Standard & Poor’s analysis of a potential closing of the strait forecasted oil rising to $250 per barrel, netting Russia a windfall upward of $400 billion. This is not to imply that Russia would actively attempt to precipitate a conflict, but there is very little downside for it if one occurs.

The Kremlin thus faces the following decision matrix: Assuming the Iranian situation influences the oil price upward by a conservative estimate of roughly $3 or $4 a year, Russia stands to gain $6 billion to $8 billion, not to mention any benefits to the price of natural gas and the maintenance of its gas supply monopoly to Europe. A thaw between Iran and the West stands to increase the downward pressure on the price of oil, in addition to any lost revenue if Iran becomes a significant gas supplier to Europe. Given this calculation, Russia’s position regarding sanctions seems much more logical.

With $433.9 billion in reserves, Russia is not yet at a point where the price of oil is its paramount concern. But the country’s leaders have learned a lesson from the economic crisis that the government’s resources do have limits. As they focus more of their attention on the struggling economy, there should be little surprise that economic factors play a more prominent role in their foreign policy decisions.

Mac Broderick is an emerging market consultant based in Washington.