Russian policy towards the economy of occupied Ukrainian territories: crawling de-modernization

ABSTRACT

The Russian invasion of Ukraine marks a return to the “old” (imperial, colonial) wars aimed at seizing the neighboring state’s territories and resources, and the violent assimilation of its population. Russia has changed its objective from gaining political leverage over Ukraine to enlarging its territorial control, based on the geostrategic and geo-economic value of the land. This is because Russia was no longer able to employ its soft power, with a gray-zone conflict effectively keeping Ukraine in its geopolitical orbit. Drawing on fieldwork, process tracing, and document analysis, we explain the de-modernization of the political regime and the economies of previously and newly occupied territories of Ukraine, by the export of Russian institutions and the employment of tactics of societal destabilization.

KEYWORDS:

• Occupation
• economy
• de-modernization
• armed conflict
• Ukraine
• Russia

Introduction

During the period from February 2022 to September 2022, the goals and means of the Russian military campaign in Ukraine gradually evolved from a declared rapid change of the political regime in Kyiv and Ukraine’s return to the geopolitical orbit of Russia to the seizure and attempted annexation of the Ukrainian territories, formally announced on 30 September 2022 (Sauer and Harding 2022).

Russia’s engaging in what some authors identify as a “colonial, imperial, or predatory” war (Mälksoo 2022) aimed at seizing the territories and resources of Ukraine and assimilating its population is made worse by the self-de-modernization within Russia and the forced de-modernization of the occupied territories. The following analysis focuses on understanding what drives Russian policy regarding the occupied territories in the Russian-Ukrainian war. Although Russia’s strategic goal in Ukraine has remained unchanged (the return of Ukraine to its geopolitical orbit), Russia has exhausted the possibilities of the gray-zone conflict aimed at destabilizing the pro-Western political regime in Kyiv, and so has resorted to open use of military force. Empirical research on the occupied territory of Donbas in 2014–21, and the newly occupied territories in 2022, demonstrates that Russia brings a different economic policy to the newly occupied territories, based on the assessed geostrategic and economic value of the territory, and the associated military and political costs of the conflict (Malyarenko and Wolff 2018). The Russian invasion of 2022 is clearly a fight for the territory, resources, and population of Ukraine, and Russia has demonstrated continuity in its occupation tactics, tested in Moldova, Georgia and East Ukraine, including societal destabilization, population segregation, and instrumental violence.

This paper develops an analytical framework for understanding Russian policy regarding the economies of the occupied territories and explaining the major impetus for de-modernization. It includes two case studies on Russian policy toward `old´ occupied territories (the self-proclaimed Donetsk People’s Republic (DPR) and the Luhansk People’s Republic (LPR) referred to jointly as the DPR/LPR) and “new” occupied territories (the Kherson and Zaporizhzhia oblasts).

The causes and consequences of the de-modernization of the territories under Russian occupation

The de-modernization of the Ukrainian territories occupied by Russia occurred, first, as a result of the export of Russian political and economic institutions to the occupied territories and, second, because Russia purposefully implemented a policy of de-modernization in the territories. The Russian economy and public administration system are much more centralized than in Ukraine. For example, different estimates of the share of the public sector in the Russian economy range between 33 and 46%, with a strong trend of strategic nationalization under Putin’s regime (Arshakuni and Yefimova-Trilling 2019). The share of the public sector in the Ukrainian economy is only 8% (Ministry of Economy of Ukraine 2021). The Ukrainian decentralization reform of 2015–21 enhanced the powers and financial authority of territorial communities that started collecting between 5% and 122% more in local taxes and spending between 46% and 569% more on local infrastructure development (Harus and Nivyevskyi 2020). Finally, after 2014, association with the European Union (EU) became a key factor influencing the Ukrainian economy. This is reflected both in the regulatory environment, where Ukraine has made significant progress in good governance, and in economic relations, where the EU has become Ukraine’s primary export and import market, accounting for 39.4% of total exports and 39.8% of total imports (European Commission 2022).

Between 2014–22, the political regime in power in the territory where Russia exercised its control directly (the illegally annexed Crimea) was different from that where Russia exercised its effective control through proxies (the self-proclaimed Donetsk People’s Republic and the Luhansk People’s Republic (DPR/LPR)). The political regimes in the DPR/LPR have been much more autocratic than in Russia itself, with the absence of even a semblance of parliamentarianism, independent judiciary, and free media (Marandici and Leșanu 2021). In addition, unlike in Crimea, where Russian investments in the economy amounted to USD 24 billion between 2014 and 2021 (Kommersant 2022a), investments in the industry and infrastructure of the self-proclaimed DPR/LPR were almost unnoticeable, which contributed to the rapid degradation of the territories. We explain Russia’s different approaches regarding the illegally annexed Crimea and the proxies DPR/LPR by the differing value of their geo-economic and geo-strategic potential for Russia, the different roles that the territories were intended to play in Russia’s playbook, and by the differing degrees of loyalty of the local populations. As regards the latter, a poll carried out between February 8 and 18 2014, while allowing for a significant margin of error, found 41% of Crimea’s residents to be in favor of unification with Russia, compared with 33% in Donetsk, 24% in Luhansk and Odesa, 6% in Kyiv, and almost no support in the western provinces (Paniotto 2014). The significantly lower support for unification with Russia in the Donetsk and Luhansk regions led to the emergence of more rigid autocratic political regimes, whose task was to keep these territories, and their partly disloyal populations, under occupation.

The economic consequences of Russian direct (illegal annexation of Crimea), or proxy (the DPR/LPR) occupation of the Ukrainian territories included (i) the transfer of production assets (capital, labor, land, and natural resources) from Ukraine to Russia; (ii) losses in efficiency and productivity due to the requirement to adapt to the Russian economic and legal systems and interruptions in supply chains; and (iii) the migration of the labor force out of the occupied territories (Olekseyuk and Schürenberg-Frosch 2019). Together, these factors played a significant role in the de-modernization of the occupied territories.

However, Ukraine’s policy toward the occupied territories is also important. The different economic consequences of the occupation in the Donbas, Crimea, and newly occupied territories have resulted from two key factors. The first factor is the level of hostilities between Russia and Ukraine in the 2014–21 period and 2022. The second factor is the attitude of Russia and Ukraine to potential political and horizontal economic arrangements between them (both formal and informal), as well as between the territories controlled by the Ukrainian government and the occupied territories. In the cases of Crimea and East Ukraine, the level of armed confrontation was either inconspicuous (a comparatively nonviolent illegal annexation of Crimea) or relatively low (a gray-zone conflict over the DPR/LPR in 2014–21) (Uppsala Conflict Data Program 2022). Some transport and trade ties between Ukrainian-controlled and illegally annexed/occupied territories remained in place until February 2022. There is significant evidence indicating the existence of horizontal arrangements between the belligerents in Donbas and businesses in Ukrainian-held territory which enabled the transportation of goods and avoided the destruction of industrial facilities (Mirimanova 2017). In 2014, Kyiv kept the door open for the reintegration of Crimea and Donbas by diplomatic means, in part by establishing the Crimea Free Economic Zone (FEZ), which never functioned, but which was supposed to allow Ukrainian residents to continue economic activities in the territory of occupied Crimea (Verkhovna Rada of Ukraine 2014a). The Ukrainian legislation provided similar opportunities for the temporarily occupied territories of Donbas (Verkhovna Rada of Ukraine 2014b). Thus, the process of erosion of social and economic ties between Ukrainian-controlled and Russian-occupied Ukrainian territories between 2014 and 2021 took place gradually, which largely dampened the economic consequences of the Russian occupation.

The shift toward conventional war in February 2022 almost immediately caused the complete severing of economic and social ties and supply chains between Ukraine-controlled and the occupied territories. The movement of individual civilians between Ukraine-controlled and occupied territories has also become more challenging, which has led to the current displaced-to-total population ratio exceeding the Donbas scenario (Astrov et al. 2022). Thus, the gradual economic isolation of illegally annexed Crimea and the DPR/LPR, which took place over several years, has become highly streamlined in the newly occupied territories.

DPR and LPR: republics created for war, not peace

The DPR/LPR suffered the rapid de-modernization of their political systems, economies, and social standards over eight years of proxy occupation. The de-modernization of the occupied DPR/LPR territories between 2014 and 2022 became a demotivator for the populations of other eastern Ukrainian regions that did not support the Euromaidan Revolution in 2014 (Arel 2018). At the same time, the model of occupation and administration of the territories of the DPR/LPR has become an example for Russia to follow in the newly occupied territories in Ukraine in 2022.

The conflict in eastern Ukraine started quickly in April 2014; it went through a high-intensity phase in 2014–15, a low-intensity phase in 2015–19, and, from 2019 to 2021, the conflict stagnated (Uppsala Conflict Data Program 2022). It was frequently defined as a gray-zone conflict (Adamsky 2018; Dani 2020) or as a hybrid war (Galeotti 2016; Suchkov 2021). Russia’s intent was to disrupt the consolidation of a pro-Western, stable regime in Kyiv by maintaining control over the DPR/LPR and solidifying the dependence of those local regimes on Russian support (Relitz 2019; Charap 2020).

The Ukrainian position, according to law No. 2268-VIII (Law of Ukraine 2268-VIII) of 18 January 2018, was that Russia had occupied parts of Ukraine’s Donetsk and Luhansk oblasts (DPR/LPR are referred to as “the Russian occupational administrations”). Kyiv had eventually abandoned efforts to reintegrate the DPR/LPR by military means. Ukrainian authorities and military commanders explained their unwillingness to reintegrate Donbas by military means by pointing to the potentially enormous number of casualties among the Ukrainian military and civilian population during the armed conflict (ZN 2016). However, they purposefully strengthened the economic and social strangulation of the occupied territories, in an effort to motivate their residents to move to Ukraine-controlled territories. As Oleksander Turchinov, head of Council of National Security and Defense of Ukraine, suggested in an interview with newspaper Facty on 26 December 2016, “I am a supporter of this option – to prohibit any movement of goods and cargo… My personal position is: there is a war and everyone must work for victory. Complete isolation of the occupied territory will bring the terms of its liberation much closer”. As part of a zero-sum diplomatic game with Russia, Kyiv’s policy of isolating the self-proclaimed republics was consistent until the start of the Russian-Ukrainian full-scale war in 2022. The gradual curtailment of economic relations between the government-controlled and occupied territories began in 2015. These relations were brought to a complete halt by 2018 (Verkhovna Rada of Ukraine 2018), although the consequences were painful for the Ukrainian economy as well. Nevertheless, for the Ukrainian elite and society, the issue of the blockade of the DPR, LPR, and Crimea has always had greater political than economic significance; therefore, it has been the subject of political speculation and competition (Milakovsky 2018). As an alternative to the strategy of complete isolation, the Transnistrian scenario (economic and social reintegration of de facto states without political reintegration) has always been considered by Kyiv as undesirable, because its implementation would strengthen Russia’s levers of influence on Ukrainian domestic and foreign policy (School for Policy Analysis NaUKMA 2021).

Before their illegal annexation by Russia, the DPR and LPR were territories in which the laws of neither Ukraine nor Russia applied. Their own institutions were weak and corrupt, and their political regimes tended toward warlordism. Those ambiguities were broadly exploited by Russia to avoid legal responsibility for war crimes and minimize the political, economic, and military costs of the conflict. The treatment of the populations of the DPR/LPR included massive limitations on human rights and freedoms, including the freedom of movement, imprisonment and deportation of pro-Ukrainian activists, the seizure of private property, and violent passportisation (US Mission to OSCE 2018).

It is possible to identify two key factors that determined Russian economic policy toward the DPR/LPR in 2014–22. First, at the root of the policy is the Kremlin’s vision regarding the functions of the self-proclaimed republics as political and military leverage over Ukraine. The second factor is Russia’s economic interests as a whole and the interests of individual Russian businesses. These two factors could either work together or in conflict. Indicatively, the military operations themselves played only a slight role in the downward economic spiral in the DPR/LPR. For example, even pro-Kremlin sources explained the further decrease in the DPR’s economy and worsening negative trade balance with Russia in 2019–20 as a result of COVID-19 (Polovyan, Lepa, and Grinevskaya 2022).

The main purpose of Russia’s economic policy regarding the self-proclaimed republics was in line with Russia’s general efforts to force Ukraine to implement the Minsk agreements, integrating the DPR/LPR with Ukraine as autonomous regimes (Potočňák and Mares 2022). In practice, this meant that, while keeping the DPR/LPR as instruments of influence over Ukrainian domestic and foreign policy, Russia would not have to invest in the maintenance and development of the economic, industrial, transport, banking, and communications infrastructures, ensuring a minimum level of population survival through social and welfare payments (Malyarenko and Wolff 2019).

The amount of Russian funding of the DPR/LPR has never been officially revealed. Still, according to various sources, Russia is estimated to have spent approximately 500 billion rubles (about US$8 billion) over eight years. (Kommersant 2022b). These funds were primarily used to pay pensions and salaries to members of government agencies, the army, the police, and education and healthcare workers. Although the DPR/LPR formally tried to create a semblance of a tax system, there is no VAT, but there is a turnover tax of 2% and a profit tax of 15% (Hromadske International 2019). However, according to the Republics’ leaders, the system was never debugged, and the volume of Russian aid exceeded the revenues from the occupied territories (Kommersant 2022b). The data indicates that 90% of the trade turnover of the self-proclaimed republics was with Russia, and the share of imports from Russia was 72% (Tyunina 2021). This makes it possible to assess, in general terms, the degree of the Republics’ dependence on Kremlin funding.

During the period of proxy occupation, the economy of the DPR/LPR suffered significant decline leading to stagnation. According to analysts with the Russian newspaper Vedomosti, on 15 November 2021, the main bases of the economy of the DPR/LPR were metallurgy (36% of industry), electricity generation (27%), the food industry (12%), and resource extraction (9%). In 2018, Donbas’s total GDP in constant local currency prices dropped to just 38.9% of its 2013 level. The decline in major industries, such as metallurgy, continued in the following years and in 2020 comprised 45% (Savelyeva 2022). Indicatively, in 2017, the industrial output of the occupied territories of DPR was three times lower than the government-controlled part of Donetsk province, while before the war they were almost equal (Mykhnenko 2020). Even though in 2017, after a three-year shock period, the management of the economies of the DPR/LPR fell under Russian supervision, and metallurgical enterprises were transferred to ZAO VneshTorgServis, registered in South Ossetia, this, nevertheless, did not save the industry from a severe contraction and nonpayment of wages (Skorkin 2021).

As for pure economic factors, for historical reasons, many Donbas enterprises had similar production technologies and product ranges as Russian enterprises, which created tough competition in international markets and often resulted in Russian investors taking control of Ukrainian enterprises, bringing them to bankruptcy, and dismantling and selling equipment (Melnyk 2022). Similar tactics were used in the Donbas after the beginning of the Russian occupation, when the most technologically advanced enterprises were transferred to Russia, and the equipment of dozens of others was sold for scrap (Promyslovyi Portal 2020). The remaining industrial DPR/LPR enterprises periodically either stand idle or operate at 30–40% capacity. The only exceptions are “DonFrost” (production of refrigerators) and “Silur” (steel ropes), which sell their products in Russia. The food industry (dairy, meat, and bakery products), oriented toward the local market and controlled by leaders of the occupation administrations, has seen some development. However, most of the food products are imported from Russia (Gmyria and Kobets 2021).

Thus, over eight years, a rather primitive economic model has developed in the DPR/LPR, in which Russia finances the self-proclaimed republics through public sector salaries, pensions and welfare payments, and energy supplies. In turn, the DPR/LPR is a sales market for Russian food and consumer goods, predominantly of low quality. Hence, objectively, the restoration of the main sectors of the economy of Donbas does not appear to be in the interests of Russian businesses.

In addition, instead of investment projects in the territories of the DPR/LPR in 2014–22, and, most likely, after 2022, Russia implemented a policy of brain drain through targeted recruitment programs for residents of the DPR/LPR. The problem of the flight of labor resources had become so catastrophic that the DPR/LPR authorities adopted decrees restricting the travel outside the territories of entire social groups of people, primarily young people and representatives of important professions, including medical doctors and nurses, and public utility workers (ZN 2018). In addition, after the Russian invasion in February 2022, the DPR/LPR became a supplier of “cannon fodder” for the Russian army. By mid-June 2022, Russia had forcibly mobilized at least 100,000 people in the occupied DPR/LPR territory (Euromaidan Press 2022).

Although the Russian government announced large-scale investments in the economies of the DPR/LPR after its illegal annexation, these announcements appear to be propaganda. The DPR/LPR authorities estimated the total need for funding at 3.5 trillion rubles (about US$57 billion), while the Russian Federal Target Program for 2014–20 provided just 978 billion rubles for Crimea – as noted, for example, in Trud.ru newspaper on 1 July 2022— hence in other words, to date, Russia has only confirmed that it will finance the infrastructure and social security programs of the DPR/LPR. According to experts from Novaya Gazeta on 17 March 2022, Russia “simply does not need the economy of the DPR/LPR,” because Russia has many similar, historic industrial territories in which it does not need to invest, for example, the Urals.

Geostrategic shifts in Russia’s intentions in the Azov and Black Sea regions

Significant portions of Kherson and Zaporizhzhia oblasts were taken by Russian forces in the early days of the invasion in February 2022. According to Oleksiy Danilov, secretary of the National Security and Defense Council of Ukraine, as he noted in a Liga.net article on 18 June 2022, Ukraine had expected the main Russian attack to come from the territories of the DPR and LPR, and consequently concentrated its most combat-ready units there. This left southern Ukraine relatively unprotected from an invasion from Crimea, which enabled the rapid Russian advance. However, unlike the occupation of Crimea and Donbas in 2014, this was primarily a military success.

It should be noted that most of the local population in these areas consider themselves ethnic Ukrainians (“Ukrainians by nationality”) − 87% according to an opinion poll conducted in late April 2022 - with only 5.5% identifying themselves as ethnic Russians. Moreover, according to a poll conducted in the region before the war started, only 8% of respondents supported the idea of unification with Russia (Reiting Group 2022). Thus, the context in which Russia’s occupation of Kherson and Zaporizhzhia unfolds today is very different from that of Donetsk and Luhansk after 2014.

Economically, the newly occupied territories also significantly differ from the Donbas. First, they are much more self-sufficient. In 2013, before the start of the conflict, subsidies in the budgets of the Donetsk and Lugansk regions amounted to 60.2% and 55.9%, respectively (Ekonomichna Pravda 2014). In 2021, subsidies in the budgets of the Kherson region amounted to 15.3%, and in the Zaporizhzhia region, 11.8% (Detsentralizatsiia 2021). Second, there are significant differences between the economic structures of Kherson and Zaporizhzhia, and the Donbas. Kherson region exports are vegetable products (36.7%), foodstuffs (20.3%), animal or vegetable fats and oils (11.3%), metals (6.2%), and machinery/electrical (6.2%). Evaluating the economy of the occupied part of the Zaporizhzhia region is somewhat difficult. Although its exports are dominated by metals (61%), machinery/electrical (12.2%), vegetable products (7%), animal or vegetable fats and oils (6.8%), and mineral products (6.3%), a significant part of the industry is in Zaporizhzhia’s north, which remains under Ukrainian control (Department of Statistics of Kherson Region 2021; Department of Statistics of Zaporizhzhia Region 2021).

The methods used by Russia to establish and maintain control of the newly occupied territories before their de facto annexation in 2022 were generally the same as those used in 2014. However, compared with the process in the Donbas region, they were significantly “fast tracked.”

Similar to what occurred in Donetsk and Luhansk eight years earlier, the expulsion of local Ukrainian elites from Kherson, Mariupol, Berdyansk, and Melitopol during the Russian invasion has facilitated the transfer of power to local pro-Russian activists willing to cooperate with the Russian occupation forces, as noted in an Economist article on 27 May 2022. This set the scene for Russia’s consolidation of full control over the occupied territories. In the first stage, which began prior to the actual occupation, local Ukrainian resistance was crushed by brutal force, including civilian massacres (Mutch 2022), and the systematic and indiscriminate shelling of populated areas. The intent was to instill fear in the local population and force them to flee the area. Beginning in early March, the Russian army began blocking humanitarian aid from within Ukraine and from international organizations destined for the occupied areas (Haroun 2022), which forced the local population into a growing dependency on Russian handouts of food and medicine.

The use of terror during the first stage of the Russian occupation was followed by the imposition of the Russian “system.” This stage of consolidating territorial control is happening now in the newly occupied territories of the Kherson, Zaporizhzhia, Luhansk, and Donetsk regions. Russian efforts are underway in three spheres: economic, cultural, and socio-political. The results are varied, but the Russian tactics almost from the start focused on the integration of the territories into Russia.

Efforts to implement the Russian “system” have made the most progress in the economic sphere. The occupied areas of the Kherson and Zaporizhzhia oblasts have been forced to adopt the Russian ruble as legal tender, and have been incorporated into the Russian taxation and banking systems (Taylor and Westfall 2022). At the same time, as links to Ukraine have been cut off, the entire trade, logistics, and transport infrastructures of the occupied territories are being reoriented toward Russia. In contrast to the economic integration of the DPR/LPR, in the newly occupied territories the Kremlin is not relying on proxy agents such as banks and companies registered in Abkhazia to implement its agenda, but rather on Russian entities, such as Promsvyazbank, which launched operations in the occupied territories of Donetsk, Luhansk, Kherson, and Zaporizhzhia regions. Starting from May 2022, Russia has redirected all internet traffic in the occupied territories through its infrastructure (Reuters 2022b). The Russian mobile operator, Mirtelecom, started operating in the Kherson and Zaporizhzhia regions in mid-summer 2022.

In the newly occupied territories, logistics linking the territories with Russia were developed rapidly, including railway connections, maritime transport systems, electrical power grids, and water lines to transfer resources from the occupied territories to Russia. In addition, both in the case of the DPR/LPR from 2014 to 2022, and in the case of the newly occupied territories, there was a robbery (“nationalization”) of the Ukrainian banking infrastructure and its cash holdings, as well as the property of state monopolies and private owners, organized by local occupation administrations.

The attempted rapid utilization of resource infrastructure and corresponding propaganda attention suggest that there are four critical interests of the Russian occupiers in the south of Ukraine, all of which are connected to the previously illegally annexed Crimea – water, logistics, electricity, and agriculture.

The seizure of the Kakhovka hydroelectric power plant on February 24–25 2022, and the subsequent demolition of the dam blocking the North Crimean Canal following the illegal annexation of Crimea, were widely covered by Russian propaganda as one of the crucial successes of the Russian invasion. Although the success of the occupiers in supplying water to Crimea is ambiguous, the daily losses to Ukraine from these actions are estimated at US$0.88 million (Texty 2022).

Another important asset captured by Russia at the very beginning of the invasion is the Zaporizhzhia Nuclear Power Plant (ZNPP). After announcing the illegal annexation of the occupied territories, Putin issued a decree declaring the ZNPP federal property under the control of the Russian state corporation Rosatom (Reuters 2022a). Power plants in Kherson and Zaporizhzhia regions seem to be of great importance for the aggressor since the Kremlin failed to solve all the energy problems of Crimea after 2014 (Association of Reintegration of Crimea 2022).

The utilization of the occupied territories as a broadly advertised “land bridge” to Crimea currently looks complicated. Rail lines in the region are few and mainly within the range of Ukrainian missiles and artillery. Hence, Russia is still highly dependent on supply routes through Crimea (Seddon and Miller 2022). However, after the Crimean Bridge was damaged, there were attempts to re-route the road traffic via Mariupol and Melitopol.

Finally, Russia developed the scheme of looting grain from storage facilities in the newly occupied territories (at least 1.6 million tons) and exporting it through the ports of Crimea in the guise of it being Russian grain (Kormych and Averochkina 2022). The same applies to other agricultural products from the Kherson and Zaporizhzhia regions. For example, Crimean food exports rose fiftyfold following Russia’s invasion. The port of Sevastopol shipped approximately 462,200 tons of agricultural goods such as grains, oilseeds, vegetable oils, pulses, and proteins between March and June 2022, whilst, for the whole of 2021, it shipped only 8,000 tons of comparable products (Quinn 2022). Overall, the Russian Minister of Agriculture estimated a grab of 3.7 million hectares of agricultural land producing 5 million tons of grain annually (Ignatova and Karabut 2022).

The retreat of the Russian army from the city of Kherson and the Western bank of the Dnipro in November 2022 under the pressure of Ukrainian armed forces revealed abnormal levels of the devastation caused by Russian occupation. The Russian looting of the occupied territories seems to have been carried out at many levels, ranging from plundering by service members to the orchestrated actions of the Russian occupation authorities. This included looting homes and businesses, destruction of civil infrastructure, and deportation of the local population under the guise of evacuation (Lovett 2022). After the retreat, Russia has continued “scorched-earth” tactics, systematically shelling formerly occupied territories, leading to further destruction and civil causalities (VOA News 2022).

Overall, we are witnessing a typical colonial war aimed at seizing territories, material, and human resources to supply and maintain the invader’s previous conquests. Thus, the zones of de-modernization are constantly expanding.

Sunk costs fallacy and Russian commitment to the economies of the occupied territories

We can identify three different Russian policy approaches regarding the economies of the occupied Ukrainian territories:

1. Crimean scenario – instant illegal annexation, coercion by threat of force, fast but gradual economic decoupling from Ukraine.

2. DPR/LPR scenario – long track – creation of proxy states, a low-intensity conflict as a coercive tool, slow economic decoupling from Ukraine, and economic degrading.

3. Zaporizhzhia and Kherson regions scenario – fast track – direct occupation with prompt attempted illegal annexation and socio-economic integration with Russia.

While the annexation of Crimea was a well-established and consistent goal of the Russian security policy, the DPR/LPR and Kherson-Zaporizhzhia scenarios changed several times during the conflict. We argue that the change in Russian policy toward the occupied territories, among other factors, reflects the ever-increasing cost of its involvement in the conflict with Ukraine. Hence, the concept of the sunk cost fallacy can help to understand the Kremlin’s policy toward Ukraine, in the same manner that it helped to explain consequential national security decisions such as the escalation of the conflict in Vietnam, and the surges in Iraq and Afghanistan (Miller and Barber 2016).

As Taliaferro (2004) explained, in cases of foreign military intervention, sunk costs would include both the material costs of military operations (e.g. casualties, capital, lost equipment, or opportunity costs) and any “political capital” or reputational costs, both domestic and international, that decision-makers expend to mount the operations.

The occupation and maintenance of the DPR/LPR territories comes at a relatively small price to the Kremlin in terms of material resources and loss of political capital. Accordingly, Russia’s commitment to further spending on the occupied territories turned out to be somewhat limited. At the same time, the occupation of the newly occupied Ukrainian territories occurs at enormous cost for the Kremlin both in terms of lost military equipment (Luzin 2022) and political and economic consequences.

In essence, Russia’s ongoing attempts to illegally annex new Ukrainian territories reveals how Moscow’s decision-making process is trapped in an escalating commitment to the previously chosen course of action to justify prior material and political investments (Taliaferro 2004). When the initial invasion plan’s failure (i.e. concerning the whole of Ukraine) became apparent to the Kremlin, Russian propaganda started emphasizing the “benefits” of the annexation of Ukrainian territories, including a) restoration of historical justice; and b) increasing the human and industrial potential of Russia (Ignatova and Karabut 2022). Here we can witness the concept of sunk costs on a strategic level – treating all territories and material resources of the former USSR as lost assets – and on an operational level – attempting to derive benefits from an almost failed invasion.

These facts can also explain Russia’s complete disregard for private property and economic relations in the occupied territories. In the Kremlin’s view, the looting of the occupied territories is either, simply, the taking back of what belonged to “historical Russia”, or is compensation for the expenses incurred by the Russian Federation in the years after the collapse of the USSR in its attempts to keep the former republics within its sphere of influence.

Both arguments are easy to track in Putin’s speeches. Particularly characteristic in this regard is Putin’s speech on 21 February 2022, recognizing the independence of the DPR/LPR, that was almost entirely devoted to claims that Ukraine was historically part of Russia’s history, culture, and spiritual space, and which contained many references to alleged costs incurred by Russia in support of the DPR/LPR (Address by the President of the Russian Federation 2022). For example, one can note the claims about a whole range of specific assets, including the Black Sea Shipyard in Mykolaiv, the Antonov Aeronautical Complex, the Yuzhmash aerospace manufacturing plant, the Kremenchuk Steel Plant, and the gas transportation system, which Putin claimed were “built in their entirety by the Soviet Union or even date back to Catherine the Great.” Another justification offered for armed aggression was the costs incurred by the Russian Federation in the form of subsidized loans to Ukraine, and economic and trade preferences. Hence “the overall benefit for the Ukrainian budget from 1991 to 2013 amounted to US$250 billion.”

Putin’s attempted illegal annexation of the four regions of Ukraine seems to fit into a consistent pattern. First, the formal annexation is the only act of its kind in history undertaken before the end of hostilities and in respect of territories that are not completely under the control of the aggressor. Second, it changed the political economy of Russia so that the likely range of options for a peaceful settlement become limited (Iverson 2022). It is possible that the Kremlin believes that the retention of the occupied territories can compensate for the losses already incurred, which would explain Russia’s readiness to incur the prospective costs involved in achieving complete control over the territories.

Also, these conclusions can explain the ineffectiveness of providing the Russian regime “off-ramps” or “face-saving” opportunities, which Russia may interpret as signs of the possibility of it achieving its goals if greater effort is applied. On the contrary, the solution may be to convince the Kremlin that continued pursuit of its objectives would result in high costs “that were ultimately judged to be not worth bearing” (Kelly 2004) and make clear that it will not be able to benefit from an attempted land grab. At least Russian authorities’ explanation of the retreat from the Western bank of Dnipro as the “futility to waste more Russian blood on Kherson” (Reuters 2022c) supports this assumption.

Conclusion

The trajectory of the Russian policy toward the occupied territories (a fast-track to recognition of their independence and subsequent attempted illegal annexation) indicates a shift in Russian thinking. The territories are apparently now considered less as a tool of political leverage over Ukraine and more as a military-strategic pressure point, with the value of territory per se counted as a geostrategic resource. Furthermore, the Kremlin is now applying purely predatory economic tactics in newly occupied territories whereas previous land grabs are being utilized as a resource to support new conquests. For example, the DPR/LPR, already economically degraded during eight years of occupation, are being utilized as a source of “cannon fodder” for new Russian advances in Ukraine, while the newly occupied territories are being looted to provide resources to maintain previously illegally annexed Crimea.

In summary, although Russia attempted to illegally annex “old” and “new” occupied territories, their economies demonstrate the same path toward de-industrialization, which manifests itself as a sharp shift toward a resource economy, under conditions of undeveloped financial and credit systems. Deindustrialization is especially visible in the DPR/LPR territories occupied during the period 2014–22 (and it will probably affect the territories occupied in 2022). The basis of the economy of the newly occupied territories of the Kherson and Zaporizhzhia regions is agriculture, hence, Russia will likely attempt to retain their specialization under the occupation, strengthening its agricultural potential and impact on global food security.

Disclosure statement

No potential conflict of interest was reported by the authors.

Additional information

Funding

This work was supported by ERASMUS+ under Jean Monnet Module “The EU’s comprehensive approach to security: tackling evolving threats, building a strong security ecosystem” [Project 101047745 — EUSEC] and Volkswagen Foundation under Grant [9B 861]