•But they may weaken the system they are meant to defend
Ban Ru$$ia from SWIFT”. “Rusia Fuera de swift”. The placards on display at demonstrations across Europe during the last weekend in February were signs of the times. In place of the straightforward demands of yesteryear, like “Arm the South African workers” and, perennially, “Ban the bomb”, many of the messages focused on access to the digital-messaging system used by financial institutions for cross-border payments.
Economic measures to cut Russia off from the world’s financial arteries are the most powerful implements a West unwilling to meet a nuclear adversary on the battlefield has dared wield in response to the invasion of Ukraine. But it has wielded them savagely. No major economy in the modern world has ever been hit so hard by such weapons.
The use of sanctions—which Nicholas Mulder, a historian, calls “one of liberal internationalism’s most enduring innovations” in his new book on the subject, “The Economic Weapon”—has boomed over the past few decades. Since 2000 the number of individuals and entities on America’s sanctions list has risen more than tenfold to 10,000. Ever more governments, keen to punish military aggression or human-rights abuses but reluctant to go to war over them, have embraced the tactic. As with other weapons, a number of innovations have been developed to target them more precisely. Governments have also, on occasion, deployed sanctions with what was intended to be overwhelming force. The decision to do so against Vladimir Putin’s regime will show both what they can achieve—and, possibly, how big their unintended costs can be.
The race goes not to the swift
Though Western sanctions started off a bit feebly (Italy insisted on a carve-out for luxury goods in the eu’s, lest well-heeled Muscovites go without their Gucci) public opinion and Ukraine’s inspirational resistance quickly saw them toughened up. After debating whether to make it much harder for Russian banks to process international payments by shutting them out of swift—some European countries feared it would hurt their own banks, too—Western allies agreed to try targeting seven of them, though it has steered clear of Sberbank, Russia’s largest by assets, which plays a big role in processing energy payments. America has gone further, cutting off Sberbank and vtb, Russia’s second-largest lender, from its financial system.
The most potent financial sanctions, though, have been aimed not at Russia’s commercial banks but at its central bank. In the eight years since annexing Crimea made Russia the target of a first wave of sanctions, Mr Putin’s regime has built up reserves (they now total $630bn) and shifted their composition away from dollars to help insulate the economy from further punishment. But reserves become moot, whatever the currency in which they are held, if they cannot be used.
America, acting with Europe, has banned a range of parties from transactions with Russia’s central bank, on pain of enormous fines. That will cripple Russia’s ability to defend its currency. The West has also frozen most of the bank’s assets outside Russia. This surprised financial professionals, including, apparently, in Moscow. According to one European central banker, the way the Russian central bank had been accumulating and distributing reserves suggested it did not believe the West would take such draconian measures.
Within hours of the sanctions taking effect, the central bank raised its main interest rate from 9.5% to 20% in an attempt to shore up the currency. It ordered companies with foreign-currency revenues to convert most of them into roubles, and told Russian banks to reject instructions by foreign clients to liquidate Russian securities. Mr Putin later banned anyone from taking more than $10,000 in foreign currency out of the country.
This financial barrage was accompanied by slower-burning sanctions. Export controls will limit the components Russia can buy for its military and high-tech sectors, denying it goodies ranging from cutting-edge machinery to microchips. The measures apply not just to goods made in America, but to those containing American technology that are made in and shipped from third countries, such as China. President Joe Biden said these controls could cut off more than half of Russia’s high-tech imports.
For now, consumer goods dear to ordinary Russians like smartphones and home appliances are exempted from such measures, presumably to allow room for escalation. But Apple is no longer selling iPhones or other kit in Russia. It is one of a fast-growing number of Western companies getting out. bp, Equinor and Shell, three oil majors, announced plans to extricate themselves from their Russian ventures. Maersk’s ships will no longer visit Russian ports. Nike is stopping online sales.
Failure to staunch
The most significant of these moves is by bp, which would give up a 20% stake in Rosneft, an oil company run by a close ally of Mr Putin’s. Russia responded to its plans and those of others seeking to divest themselves of such encumbrances by announcing a “temporary” ban on foreign firms selling Russian assets, to ensure they were guided by economics not “political pressure”. Selling its stake in Rosneft could land bp with a write-down of up to $25bn.
Nobody thinks sanctions alone can force Mr Putin to sound the retreat. The governments that have imposed them nevertheless hope the punishment and isolation they inflict, and the possible deterrent effects (on others at least), justify them.
Measuring sanctions’ success is hard, not least because of the difficulty of disentangling their effects from other economic, and on occasion military, forces, but there have been few outright successes. Perhaps the quickest, though some time ago, was America’s threat to dump sterling bonds and block Britain’s access to imf credit during the Suez crisis in 1956: the Anglo-French invasion of Egypt was abandoned weeks later. A more recent success was the squeeze on Libya by America and allies in the 1990s and early 2000s. A mix of sanctions and financial inducements persuaded Muammar Qaddafi to end his wmd programme and stop funding terrorism.
The apparent failures of sanctions are many. Sometimes this is because they are fundamentally symbolic, or weakened by interest groups in the countries imposing them. Though the point of sanctions is to exploit asymmetries, doing much more harm to the adversary than to yourself, there are always burdens to be borne by some. There is also a loss to the economy as a whole. The cost of compliance with sanctions for banks and companies has rocketed over the past decade. Financial institutions alone spent over $50bn worldwide in 2020 on screening clients for sanctions risks, according to LexisNexis, a data firm.
But severe sanctions have failed, too. Though strong sanctions brought Iran to the nuclear negotiating table in 2015, even stronger “maximum-pressure” sanctions later imposed by America have neither dislodged the mullahs who run the country nor stopped its meddling in the region. American-led sanctions against Venezuela (for years) and Cuba (for decades) have failed to change their regimes, or even force them to change their ways.
One thing which weakens sanctions is leakiness. Despite America’s maximum-pressure measures, the Islamic Republic manages to export an estimated 1m barrels of oil per day as middlemen find ways to disguise the origin of shipments.
Self-sullying lollipops
And the more powerful sanctions are, the greater the risk of collateral damage, particularly when targeted regimes are indifferent to the suffering of citizens. Indeed, increasing the harm done can work at least in part in the government’s favour. In Venezuela, a significant number of those opposed to President Nicolás Maduro and his henchmen also oppose the American sanctions putatively aimed at dislodging them. And widespread suffering can erode support for sanctions in the countries imposing them.
Sanctions can also push countries they target into each other’s arms. Russia and China—hit with American sanctions over its mistreatment of Uyghurs as well as its suspected tech-spying—are enjoying their friendliest relations for decades. Russia was already by far the biggest beneficiary of Chinese overseas lending and assistance between 2000 and 2017, receiving up to $151bn, according to AidData, a research group. China could supply Russia with semiconductors and hardware for telecoms networks and data centres as Western suppliers pull away (though China cannot yet produce the most advanced chips).
That highlights one of the ways the sanctions sword is double-edged: it encourages those who fear them to develop alternative financial and technological infrastructures. This is not easily done, as the continuing vulnerability of Russia’s central bank and the weakness of its tech sector show. China is pushing hard in that direction. As well as trying to boost its chip-making, it is creating its own version of swift, called cips, which simplifies cross-border payments in yuan, and developing a digital currency. The sight of Russia’s central bank being hit so hard by sanctions no one expected will doubtless increase its efforts to establish the yuan as a reserve currency. It will also seek ways to protect its $3.3trn of reserves by trying to move them beyond America’s financial reach.
It has a long way to go. Though usage of the yuan as a currency for international payments is at an all-time high, at just over 3% of the total it still pales beside the dollar, at 40%. Even so, potential moves towards independence from the American-dominated system still pose a dilemma for the West. If wielding the economic weapon prompts possible targets to accelerate measures aimed at protecting themselves, the weapon’s potency will weaken over time. Not wielding it, though, means you might as well not have it.
That said, forbearance might have a systemic benefit. Mr Mulder’s book argues that, when world trade is stagnating, aggressive sanctions can do serious damage to it. The measures used between the first two world wars, he argues, ended up undermining the already precarious political foundations of that era’s international trade. The same could happen again. “As the world economy reels from financial crises, nationalism, trade wars and a global pandemic, sanctions are aggravating existing tensions within globalisation. That sanctions are intended to promote international stability is, unfortunately, no defence against this risk.”
The more immediate question facing America and its allies is how much further to go, and when. The eu could broaden its swift ban; all banks with operations in America or Europe, regardless of where they are based, could be forced to cease transactions with Russian financial institutions. The West could also step up efforts to follow the offshore money trails linked to Mr Putin and his circle. America, the eu and Britain said this week that they will set up a taskforce to improve transatlantic co-operation on identifying and seizing Kremlin-linked assets, though such efforts typically take years.
The most obvious way to inflict more economic pain would be to target the oil and gas exports that are Russia’s biggest source of foreign currency. The scale of the costs that would impose on Europe, though, make such a measure a true double-edged sword: if Russia calculates that the cost on Europe is too high for it to bear it might shut off the exports itself. And pushing up the price of petrol in an election year, as such measures would, would be a brave move on the part of the Biden administration. Brent crude has jumped above $115 a barrel, over 20% higher than just before the invasion.
When used in earnest, sanctions can inflict heavy economic costs on both sides on top of the deprivation inflicted in targeted countries. Even then, they do not always work. There is perhaps only one constituency which can be relied on to do well out of them. The head of the sanctions team at a large American law firm says it “has moved to a 24/7 operation” over the past week to allow it to “parse new, often unprecedented regulations and advise companies in every sector imaginable”. It seems entirely possible that, as the world of sanctions continues its evolution, the hard-grafting lawyers will have yet more salad days to come.
Credit | The Economist