Ukraine’s success in expanding its long-range strike campaign against Russia’s energy sector has shifted the domestic politics of the war for the Kremlin in recent months. Officials in Moscow can no longer hide the war’s considerable costs. Disruptions to gasoline and diesel supplies have affected the majority of regions, with sales restrictions still in place in a number of them. Annexed Crimea and Sevastopol have completely suspended sales. Roughly 50 million people have been affected. The ten largest refineries have each been hit, and in the last month over 40% of national gasoline and diesel production has been disrupted. Deputy Prime Minister Aleksandr Novak announced a ban on diesel exports on July 8, signaling further measures to stabilize markets. Natural gas refining infrastructure has been struck, but these attacks have primarily targeted military inputs like helium or more limited hits to local infrastructure in border regions, namely Belgorod.
The question remains what cumulative effect the attacks are having on the economy and the regime’s plans. The growing frequency, intensity, and success of strikes on oil storage and refining infrastructure offer clear military value. Fuel must be rationed domestically to feed the front and its long logistical tail across the country. But rather than creating new sources of dysfunction elsewhere in the economy, the strike campaign intensifies the sustained damage caused by the wartime economy’s structural imbalances. Each source of imbalance is exacerbated when fuel prices surge and physical shortages emerge.
Wartime spending is the first driver of these imbalances. Military spending has increasingly distorted the structure of the Russian economy since 2022. Defense spending siphons immense resources into industries with a low fiscal multiplier—military goods can only be consumed by the state and are expended at a high rate, requiring continuous spending and replacement. But it has also sparked a cycle of high nominal growth driven to a greater degree by investment than any previous upswing in Russia’s post-Soviet history. Whereas the investment share of GDP typically hovers around 20%, it has climbed to 24% since 2022. While official estimates place defense spending at 7.5% of GDP as of 2025, effective spending levels are considerably higher when factoring in trillions of rubles’ worth of subsidized loans to the defense sector. Between military recruitment and the need for more labor to produce more goods for the war on the back of elevated investment in military output, labor markets are now perpetually tight. Russia likely lost over 1.2 million people to excess deaths during COVID, most of whom were working-age, and has now suffered an estimated 1.4 million casualties among working-age men since the full-scale invasion.
These two factors would be more manageable were it not for the state’s need to cut spending elsewhere to prevent deficits from expanding too much—at which point additional state borrowing might provoke inflation. As a result, public services degrade in quality and non-essential capital investments are cut. But even with this reallocation embedded in spending priorities, the structure of the wartime economy has made inflation management nearly impossible without prohibitively high interest rates. Military demand for capital, goods, and labor is insensitive to costs and interest rates. Though defense spending has a low multiplier effect in the aggregate, in 2023 and the first half of 2024 it was linked to an explosion of consumer spending driven by sudden increases in wages, the sheer amount of state money flooding the economy, and—most crucially—a relatively low-interest-rate environment. The scale of borrowing, boosted by low rates and subsidies for mortgages, dwarfed the scale of the federal budget deficit in its impact by a factor of ten in 2023.
Following the rate hikes in the second half of 2024, the economy settled into a negative equilibrium that has steadily reduced private-sector investment. Officials claimed GDP growth of 1% in 2025 alongside 7% real income growth, yet total fixed-asset investment fell 2.3%, construction ceased to grow, retail investment remained over 7% lower than in 2021, and investment in transport and storage fell 30%. The Bank of Russia has held rates high—currently at 14% in defiance of calls from business and the Kremlin—and in the process crushed investment, weakened consumer borrowing, and hollowed out the economy. At the same time, natural monopolies like Russian Railways and utility providers cannot afford to borrow for investment at these elevated rates. As a result, transport and utility tariffs have risen far faster than inflation, adding to price pressures that will not abate as long as so much money continues to be spent on the war.
The strike campaign on refineries has therefore exacerbated pre-existing problems. Gasoline prices already rose over 10% in 2025 and are up nearly 20% so far this year. Diesel prices have risen by a similar amount in that time, dragging inflation higher despite effectively zero growth. Due to Russia’s size, the distribution of its population and production centers, and its continued dependence on consumer goods imports, the cost of transport regularly contributes more than 10% to the final cost for buyers. Before factoring in potential shocks from breakdowns in supply chains due to fuel shortages, inflation is accelerating once more. Nabiullina has ruled out rapid rate cuts in this environment, fearing that “we’d fall into stagflation.” While the impact on public and business inflation expectations has not yet fully set in, Russia’s bond markets have steadily priced in higher inflation since early in the year, driving up the cost of financing deficit spending for the war.
Though the Bank of Russia may disagree, the economy is already trapped in stagflation. Spiking fuel prices will make it far more difficult to lower interest rates, which in turn will continue to drive down productive investment by businesses as well as public investment in essential long-term needs like infrastructure. The domestic supply of investment goods used for productive purposes is lower than it was in 2019 and far below post-invasion highs. Aggregate investment fell 14% in the first quarter. The strike campaign has disrupted the pressure on the Bank of Russia to lower rates, prolonging the damage and making a net recession in 2026 significantly more likely.
But beyond the macroeconomic consequences, the material consequences of fuel shortages and the visible disorder they have caused present new weaknesses for wartime administration. To date, the wartime economy has been managed primarily through market mechanisms rather than the direct allocation of resources via central authority. This approach has allowed the regime to bury the consequences of its distributional choices to some degree as “economic realities” apparently outside its control. This approach has exhausted its potential to mobilize more resources for the war, as evidenced most strongly by the relative declines in non-military manufacturing seen in 2025. Military output may keep increasing, but at current levels of low unemployment and with so little investment boosting productivity, this can likely only happen by reallocating resources from elsewhere.
Potential disruptions to fuel supply chains magnify the challenge. Initial measures to ration supplies—by issuing QR codes, selling fuel to vehicle owners each day based on their license plates, and other metrics—can manage scarcity. However, these measures slowly bleed into business activity. Tanker trucks are often used for last-mile delivery to retailers, creating risks of knock-on effects for other shippers on the national road network who compete with military consumers, who are effectively insensitive to prices. The regime’s preference for expanding manual control over key sectors of economic activity since the pandemic paradoxically strengthens its capacity to intervene immediately wherever shortages appear, while weakening its ability to systematically manage the fallout. Every intervention inevitably creates a new problem, harms a local interest, or otherwise produces a negative outcome that regional officials may view differently from their counterparts in the center. None of this cripples the economy for now, but it does worsen frictions that are deepening public discontent and expose the frequently poor quality of administrative capacity to manage interventions effectively.
The recent expansion of strikes to include logistics centers owned and managed by Wildberries, Russia’s largest e-retailer, poke at this underlying weakness. Not only does it expose broader air defense failures, these centers are crucial distribution hubs for large numbers of small businesses and larger Russian retailers that source goods abroad. The trouble for Moscow is that Wildberries acts as a lender providing credit to sellers or firms to finance trade via its platforms. The company is already scrambling to offer payment holidays for small businesses. Losses from past attacks have ranged in the tens of billions of rubles for any given warehouse struck, risking a chain reaction of business failures, surging insurance claims, and the loss of the economy’s most competitive, reactive businesses that did much to weather the sanctions shock in 2022−2023. At the same time Ukraine targets the fuel supplies needed for the consumer economy, it is now striking at the single largest distribution channel for goods in Russia. Administratively, the regime cannot effectively replace this capacity with state-owned or mandated means.
Despite the limitations of what these strikes can achieve, there is no viable replacement for what the oil & gas sector provides in terms of budget revenues, export earnings, and macroeconomic stability. Under intense financial sanctions, Moscow’s only reliable means of accessing foreign currency is to run a perpetual trade surplus. By doing so, foreign importers buy rubles with their own currencies, allowing the Russian banking sector to hold yuan and other currencies as needed without a rapid depreciation of the ruble. But because oil & gas still provide the majority of export earnings and prices are volatile, the ruble appreciates when oil prices rise and depreciates when they fall to a greater degree than before the invasion.
Rising oil prices can help the Ministry of Finance cover more of the deficit—it declined in June and currently sits at 2.5% of GDP. However, sector taxes are backward-looking and will fall over the summer in response to current market prices. What helps the budget hurts the broader economy. If the ruble materially strengthens into the 70s against the US dollar for an extended period, it can reduce inflationary pressures on imports while undermining domestic goods production in Russia outside the defense sector. Defense Minister Andrei Belousov has made clear that he does not believe the economy can afford a floating ruble exchange rate. This reinforces the problems posed by fuel-driven inflation: higher interest rates tend to strengthen the ruble by weakening consumption but are necessary to bring inflation down.
In these circumstances, there is no replacement for the energy sector. No other sector can approach the $ 200−230 billion it generates annually in export earnings, without which the current system of macroeconomic management would crumble. Nor can elevated earnings from other sectors exposed to global shifts in commodity prices provide more earnings or tax revenues without a corresponding increase in domestic inflation. For instance, a wheat windfall would rapidly translate into domestic inflation, as the average Russian household spends roughly 40% of its earnings on staples. Moreover, import substitution policies have driven Russians toward a greater number of domestically produced products in place of imports, the production of which has been affected by both tight labor markets and higher interest rates.
Scale is a quality of its own. Oil & gas industries account for approximately 20% of GDP, with some variation based on prices. Figures vary, but agriculture—a star investment performer since the advent of food “counter-sanctions” in 2015—is less than 4% of GDP and generates export earnings closer to $ 40−45 billion, depending on the harvest and grain prices. Fertilizer production adds another $ 15 billion a year on average to exports. Metals producers, with the exception of rare earths miners supplying inputs for military hardware, have seen large declines since 2022. Steel output is currently at 15-year lows. Aluminum output rose 7.3% for January-May due to disruptions in the Gulf from the US-Iran conflict, but remains lower than in 2021. For all its mineral wealth, the country typically earns just $ 30 billion from metals exports annually. None of these sectors produce significant tax receipts compared to oil & gas, nor are companies in these sectors posting strong profits to be taxed.
Moscow’s best option to maintain its trade surplus and stabilize the budget is ultimately to impose more pain on the public by restraining consumption, slashing public spending where it can, and pulling back on investment. By design, the Ukrainian air war on energy infrastructure is intended to intensify the contradictions of the wartime economy. Interest rates cannot be brought down without provoking inflation, yet they are rapidly hollowing out the civilian economy. Inflation, previously thought to be “tamed,” is set to increase, putting more downward pressure on the real value of wages. Collectively, the regime’s best chance to manage these competing pressures is to fully mobilize for war. Ukrainian strategy therefore appears to be an escalatory bet that the regime cannot manage to do so without putting itself in considerable political danger. And if it does, the economic damage will undercut whatever gains can be claimed since 2022. The status quo is untenable indefinitely, as the Russian economy slides into a negative equilibrium, locking in prolonged recession.
