The breakaway territories in eastern Ukraine trace their origins to the Western-backed uprising in Kiev and the subsequent Russian response to this uprising. From pro-Russian demonstrations in Donetsk and Luhansk, Moscow-backed rebel militias and the political entities representing them simultaneously emerged. In Donetsk, activists who occupied administration buildings declared the establishment of the Donetsk People's Republic on April 7, while in Luhansk a similar declaration was made for the establishment of the Luhansk People's Republic on April 27. Both groups subsequently held referendums on May 12 on the issue of declaring independence from Ukraine, and according to the local referendum organizers (international observers were not allowed), both received over 95 percent of votes in favor of secession.
Following the military gains made by the rebels at the expense of Ukrainian security forces in the ensuing months, the territories controlled by the Donetsk and Luhansk people's republics did not take part in Ukraine's political process, including the presidential election in May and parliamentary elections in October. Instead, the separatists held their own parliamentary elections Nov. 2, which essentially solidified the existing leadership of Alexander Zakharchenko in the Donetsk People's Republic and Igor Plotnitsky in the Luhansk People's Republic. While most of the international community did not recognize the elections, the polls further cemented the reality that Ukraine was no longer in control of these territories.
From Rebellion to Administration
With the separatists having achieved territorial control, the question now is how the Donetsk and Luhansk people's republics will manage the administration of their territories. Together, the people's republics control nearly 16,000 square kilometers (a little less than 6,200 square miles) of territory — roughly 30 percent of the Donetsk and Luhansk oblasts combined. Donetsk and Luhansk are two of the most densely populated regions of Ukraine, and Kiev estimates that nearly 65 percent of the Donetsk oblast's population and 50 percent of the Luhansk oblast's population (or around 1.5 million and 2 million people respectively) are under separatist rule. The separatists also control both regional centers, the cities of Donetsk and Luhansk.
Administering these territories therefore represents quite the undertaking for the Donetsk and Luhansk people's republics. This is especially the case since both regions have experienced significant dislocations from the conflict, both in terms of outflows of population and economic disruption. An estimated 800,000 people have been displaced as a result of the conflict, with nearly 400,000 seeking refuge across the border in Russia. While some of the population has started returning to the area, anecdotal evidence suggests that many of those returning are middle-aged or elderly, while the younger and more productive members of the population have so far chosen to stay away. Adding to these problems, the Ukrainian government recently decided to stop paying social benefits — including pensions in certain cases — to residents in these areas.
Donetsk and Luhansk historically have been two of the most economically productive regions of Ukraine, jointly making up the Donbas industrial belt, but much of their industrial production has been hurt by the military conflict. Coal mining is a major part of the economy in the rebel-controlled territories, and over 50 percent of the coal plants and steel mills there have halted production or are producing under capacity. Those that are still producing, such as the coal mines controlled by oligarch Rinat Akhmetov, have refused to pay taxes to the separatist governments (though according to sources, there may be kickbacks being paid to the rebels under the table). Without an effective mechanism for tax collection, much of the local revenue the Donetsk and Luhansk people's republics have collected has come from soliciting local businesses.
Furthermore, if and when industrial production in these regions does pick back up, the separatist governments will find it difficult to legally export products abroad — or at least to Europe, which has placed sanctions on the breakaway territories. Additionally, the banking systems in these territories have been frozen, and most workers reportedly have been receiving their salaries in cash.
Russia Continues Its Support
The economic prospects for these breakaway regions — at least for the short to medium term — are not particularly bright. The territories have only one viable option for sustaining themselves — Russia. Indeed, Moscow is already playing a significant role in propping up the Donetsk and Luhansk people's republics. First and foremost, Russian aid has come in the form of military supplies — including tanks and heavy weaponry — and flows of personnel to assist in the battle against Ukrainian security forces. Russia has also sent humanitarian convoys with food and other supplies to the parts of the rebel territories that have been most damaged in the conflict zone, such as areas around the city of Luhansk.
Moscow's direct financial and economic assistance to these territories, however, is more opaque. Though the rebels have admitted that they have not yet been able to set up a reliable tax collection system, sources have said they are still getting paid, which reportedly comes in part from cash transfers from Russia. The self-declared republics also reportedly receive aid from businessmen close to the Kremlin, such as Konstantin Malofeev.
Additionally, there are other important economic activities in the separatist-controlled territories. There have been reports of coal supplies from the breakaway regions being smuggled into Russia, with Moscow then selling these supplies back to Ukraine and channeling revenues to the rebels. There also have been reports of the continuing production of machines that service the coal and steel sector as well as the agricultural production of wheat, corn and sunflower seeds, which could allow Russia to increase its imports of these goods from the rebel territories. Finally, Moscow could choose to subsidize energy exports, given that pipeline infrastructure is directly integrated across the border.
Costs and Benefits to Russia
Still, Russia's ability to directly finance the breakaway territories or absorb their products is not infinite. Moscow is already experiencing significant economic problems as a result of the Ukraine crisis, including capital flight, a depreciating ruble and financial restrictions caused by Western sanctions. Russia has had its own internal debate over budgetary expenditures for social and defense spending, which declining oil prices have only exacerbated. Projections of stagnant growth or even mild recession for 2015 do not suggest a dramatic improvement in Russia's economic position.
Nevertheless, the total amount of financing needed to sustain these regions is unlikely to cost Russia more than a few billion dollars per year, especially since much of the economy will be operating in the grey zone. Furthermore, Russia's ability to project power into its periphery has traditionally outstripped the country's economic weaknesses. Indeed, even in the chaos of the 1990s, Russia militarily and financially supported a number of breakaway territories throughout the former Soviet space, including Transdniestria in Moldova and Abkhazia and South Ossetia in Georgia. Moscow continues to support these territories to this day, both in terms of subsidizing local economic production and providing direct budgetary assistance to the breakaway governments. Russia has only increased such support, given that Moldova and Georgia have attempted to get closer to the West as a result of the crisis in Ukraine.
Ultimately, the benefits of backing the Donetsk and Luhansk people's republics will outweigh the financial and political costs for Moscow. The uprising in Ukraine and the subsequent pro-Western government it has produced in Kiev is a fundamental threat to Russia's national security interests. Supporting the breakaway territories in Donetsk and Luhansk not only gives Russia direct military and political influence in these regions but also serves as a check against Ukraine's Western integration efforts. This explains why, despite sanctions from the West and its own economic difficulties, Moscow has not stopped supporting the breakaway territories and continues to be the main power player in the conflict in eastern Ukraine. Russia has redrawn the borders, and the new breakaway territories are here to stay.