Russian Economy: National security panic could lead to innovation ‘disaster’

• The spy mania in Russia has created an environment that hinders innovation, sources tell BI.
• Arrests for treason in Russia have soared, human rights experts say.
• Recent arrests of scientists have had a chilling effect on investigators, sources said.

Ivan Pavlov, a Russian-born lawyer now living in Europe, was 51 when he was forced to leave his home country. After years of representing Russians accused of treason, he was placed on the country’s wanted list in 2021 and labeled a “foreign agent” — a term equated to espionage in Russia, according to the Human Rights Watch.

Ultimately, he knew he had to run, he told Business Insider in an interview.

“My entire professional life was in Russia,” he said. “My family was in Russia and it was tremendous suffering.”

The arrests of accused “spies” have increased dramatically since Moscow began its invasion of Ukraine, Pavlov and other human rights experts told BI.

That could ultimately have a major knock-on effect on the already weakened Russian economy. Possible consequences include reduced investment, reduced consumption and slower growth as Russia moves away from a capitalist society, said Richard Portes, an economist at the London Business School.

“You do have a brake on risk-taking and innovation,” Portes told BI of the intensifying pursuit of foreign agents in Russia. “For those who stay, you won’t get dynamic economic activity brain drainapart from the drain of young people, you won’t get any innovation. And I think that’s the medium-term consequence of all this: disastrous.”

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Sergei Guriev, another economist who was considered a “foreign agent” by the Russian government, agrees that the crackdown on perceived security threats could hurt the country economically.

He recently used the example of Russia arrest of some of its rocket scientistscausing others in the scientific community to fear publishing new research, he said.

“We can expect this to have an impact on economic growth,” he added, although he noted the impact may not be felt immediately.

The Russian economy is showing signs that the kind of risk-taking associated with innovation and entrepreneurship is waning. Innovation in Russia has lagged behind the country’s level of development, according to a Ranking 2024 of the World Intellectual Property Organization. The number of patent applications fell by 13% in Russia in 2022, while the number of patent applications from foreign applicants fell by 30%, according to data from the Russian Patent Office.

Russia launched just 240,458 new LLCs in 2022, about half the number of new companies registered in 2015, according to the World Bank Entrepreneurship database.

Private investment in Russia has also fallen. Private equity and venture capital-backed mergers and acquisitions and financing rounds in Russia fell by around 39% between 2022 and 2023, while the country only $1.4 billion of those types of deals last year, according to data from S&P Global. The value of M&A deals as a whole also fell 71% to $6.41 billion, compared to $22.48 billion the previous year.

Corporate profits in Russia also fell by about 6% in the first half of the year in 2024. Meanwhile, profits from Russia’s professional, scientific and technical activities fell by about 19% in the first half of this year compared to the same period a year ago , Rosstat data shows.

These outcomes are partly influenced by a more restrictive environment in Russia, Portes said, in addition to some other challenges in Moscow, such as high inflation and the flight of some of the best trained employees.

“The longer-term consequences, the medium-term consequences, are eroding the economy,” he said. “It’s very sad, but it’s true.”

Moscow’s spy mania

The number of Russians accused of treason has increased dramatically in recent years, Guriev says. He estimates that more than a hundred people are now arrested for treason every year.

That’s likely because the Russian government is focused on creating an “atmosphere of fear” and “crippling resistance” during the war in Ukraine, Pavlov said.

Constant fear of persecution is not compatible with a capitalist society, says Portes.

“The thing about capitalism – capitalism certainly has its flaws – but it works because it encourages people to take risks,” he said. “The conditions of a country similar to what Russia is now, the incentive to take risks, are a strong barrier.”

Other experts have noted that Russia appears to be drifting away from a capitalist structure, especially as it increases government spending to finance the war effort in Ukraine.

Portes previously predicted that Russia was on its way to being reduced to a ‘natural resource economicsThat could lead to a lower quality of life for Russians, he predicted, leaving the country hit by sluggish economic growth and a decline in everything from education to medical care.

Moscow’s economy is not necessarily at risk of collapse high government spending on the warsays Portes, although he still sees a dark economic future for the country.

“It’s a disaster. We have plenty of examples in history where a war economy can keep going even as everything around it is crumbling. And I think that’s what you have now,” he added.