Report

Socio-economic impact on the Moldovan economy since the war in Ukraine

Published 24. Nov 2023
While Moldova enjoyed robust growth in the output and living standards over the past decades, it has relied on a growth and political economy model fundamentally different from that of developed Central and Eastern European countries.

While in this model the growth was fueled by remittance inflows, the economy was held back by institutional weaknesses, geopolitical insecurity, and corruption, and these factors have prevented the country from developing a competitive economy that would be resilient to exogenous shocks and attractive for citizens to live in. Instead, vulnerabilities built up exposing the country to risks in energy supply, geopolitical shocks, external financing, and volatility in remittances.

Before the shocks of 2020-2022, the model was already displaying its limitations as remittance inflows began to dry up due to deteriorating migration patterns and geopolitical tensions. From 2021 the government started taking steps to alter the course of the country and embark on a long overdue reform agenda, supported by external partners – Western governments and international financial institutions.

However, the risks that developed in the previous decades materialized strongly during the Covid-19 pandemic, consecutive droughts, energy crises, and finally the severe shock of the war in Ukraine. The economy's legacy weaknesses combined with economic dependence on and geographic proximity to the warring parties contributed to the impact of the war on Moldova being severe – on the economy as a whole and on vulnerable social groups in particular. On a macro level, the war caused a significant recession in 2022, with a 5.9 per cent drop in GDP, alongside a surge in headline inflation (peaking at 34.6 per cent) and a growing current account deficit (now at 13 per cent of GDP).

The main channels through which the war's effects were felt included the loss of export markets, disruptions in the energy sector, and disruptions in the supply of food and fertilizers. Altogether, these consequences led to a noticeable rise in the cost of living in Moldova.

In the energy sector, Russian gas supplies saw a drastic reduction in 2022, and were completely cut off for a period. The sole thermal power plant, located in the pro-Russian breakaway region of Transnistria, entirely ceased supplying the rest of the country in late 2022.

The response to the energy crisis was robust and effective. Initiatives to diversify gas supplies, build reserves, reduce consumption, and promote alternative fuels, supported by international financial institutions, prevented the need for energy rationing or other quantity restrictions. While supply of electricity from Transnistria has been reinstated in 2023, energy prices still remain high. Another key element of the policy response was a comprehensive and targeted subsidy scheme, which successfully mitigated some of the effects of the substantial energy price surge on vulnerable population groups, although not entirely.

Given the significance of agriculture and food in Moldova, both as a source of income and a substantial portion of the consumer basket, the combined impact of the drought and war on the most vulnerable groups — rural producers, low-income consumers, and refugees — was considerable.

The outcome of food and energy inflation was a sharp decline in real wages and consumption, including basic food items and energy. While increased remittances did provide some relief in 2022, they were insufficient to counterbalance inflation and were distributed unevenly across the population. Consequently, the resulting rise in poverty rates (now at 6.6 per cent nationwide) disproportionately affected areas outside the capital, impoverished regions, rural areas, and self-employed individuals not receiving remittances.

The refugee population also felt the strain of escalating food and energy prices. However, as the primary victims of the conflict in Ukraine, refugees benefited from numerous support programs funded by international organizations and foreign governments, which generally ensured a universal income aligned with the consumption basket, in addition to housing support. These measures were not accessible to the severely affected vulnerable segments of the local population.

Looking forward, Moldova grapples with the challenge of executing ongoing reforms to bolster competitiveness, while concurrently offering support to a sizable vulnerable population and safeguarding energy security. Nevertheless, sustained aid from international organizations is imperative to secure the required financial resources for this endeavor.