Feasibility of Sanctions Against Russia

BAKU – In the last couple of weeks the US government promised tough sanctions against Russia. President Barack Obama authorized the Department of the Treasury to prepare for potential sanctions that would freeze the assets of Russian officials. Secretary of State John Kerry elaborated that the other measures include, sanctions on trade, a visa ban for politicians and suspending Russia from the G8. But what exacly do these proposed measures entail and just how effective can they be?

There is a lot of misconception circling around the internet regarding these measures and their potential consequences. But the truth is the US alone, cannot implement any meaningful sanctions against Moscow. For example, suspending Russia from the G8 and placing a visa ban on Russian politicians are merely symbolic gestures. They will not effect Russia in any significant way. Even the sanctions on trade will not hurt Moscow. Only two percent of the Russia’s exports are meant for the US market. The majority of these exports are petroleum products and nuclear fuel. But due to Russia’s protectionist policies on imports, only five percent of its total imports are from the US. Most of these imports include vehicles, agricultural products, chemical products, civilian aircrafts, etc. In short, Russia can find these imports from other sources.

The only measure that could even put a dent in Russia’s economy is the proposal to freeze Russian assets in the US. But it should be noted that Russia’s financial institutions are barely involved in the US, the total amounts just to about 20 billion USD. Furthermore the US holds about 56 billion USD worth of Russian issued stocks. Washington could sell these stocks, but considering Russia’s 870 billion USD market capitalization, the impact would be minimal. Plus selling these stocks would also hurt the American companies that hold them.

The decline of the ruble

Washington can try to stimulate the decline of Russia’s national currency, the ruble. But since the collapse of the Soviet Union, most European countries gave up on holding currency reserves in Russian rubles. This means that the Americans and Europeans cannot directly influence the Russian currency. However they can cooperate with certain private companies that hold Russian bonds and stocks, and from there manipulate the condition of the ruble. The Russians are genuinely concerned on this issue. Since the crisis in Ukraine took a hold, invester confidence in the ruble has sharply decreased. This has lead to significant devaluation of the currency. The Central Bank of Russia responded by spending between ten and twelve billion USD of its foreign currency reserves to purchase the Ruble, in order to stabilize the currency. Thats a substantial sum of money and it shows just how serious the Russians take this issue. But given the fact that the Stabilization Fund of the Russian Federation (state oil fund) has 160 billion USD, and that Russia’s foreign exchange reserves sit around 498 billion USD, this gives Russia a 658 billion USD financial bufferzone. This basically means that Moscow can maintain this rate of spending for a while.

Private companies and technologies

Every potential measures we discussed so far has been relatively modest. This doesnt mean Obama is powerless. There is one way Washington could drasticly affect Moscow, and this comes down to forbidding American firms from cooperating or operating in the Russian Federation. Needless to say this would have an enormous impact on Russia’s industries, especcialy its energy sector. One particular company that has a big stake in Russia is ExxonMobile. The company in cooperation with the Russian oil company Rosneft have invested significantly in exploration of the Black Sea region and the construction of a liquefied natural gas facility at Vladivostok. These two projects alone are worth at least 18 billion USD. Rosneft also has major stakes in various North American energy projects, which enables the company to develop new technologies. What’s important to understand here is that the profit margin in the energy industry, depends on the costs of the extraction, amongst other factors. The easier it is to extract the oil, the more profit one will make. In this regard Saudi Arabia is considered one of the easiest regions for extraction of oil. Then there are countries like Venezuela and Russia, who’s proven reservoirs are in remote and difficult accessible regions. This raises the costs of logistics and extraction and lowers the production rate. Drilling in these regions is really only profitable if the price per barrel is right. In the last few years, more and more of Russia’s oil is extracted from these harder regions. And in order to maintain the production levels and to keep the economy going, Russia needs Western technologies. So if US companies were banned from operating in Russia, it would seriously affect the Russian energy sector. But applying sanctions of this magnitude is very much like double edged sword, as it would also hurt the American companies who invested billions of dollars in Russia.

One more major American company that would be hurt if the collaboration with the Russians were to be ceased, is The Boeing Company. Russia is a major supplier of titanium and a big market for Boeing. The company has plans to increase its investements in the Russian market from 9 billion to 27 billion by 2021. Currently, the Russian airlines have ordered about a hundred planes from Boeing. If the sanctions were implemented they would have an affect on both Boeing and Russia. ExxonMobile and Boeing are just two examples, but if you consider that US energy companies and military firms have some of the most influential lobbyist groups in Washington, its obvious that these energy and military firms would strongly oppose the sanctions. Therefore its hard to see this method being implemented.

The European involvement

Another way the sanctions could go is by joint collaboration with the European Union memberstates. The EU accounts for about half of Russia’s total trade. And just like the Americans, the Europeans too have an enourmous presence in Russia. For example the British owns up to 20 percent of the Russian Rosneft oil company. The French have also made significant military related investements in Russia. And the Germans alone spend more the 41 billion USD on acquiring natural gas from Russia in 2013. The fact is, the EU is the primary consumer of Russian energy, so both Moscow and Brussels depend upon each other and neither side is really willing to upset that delicate balance. Plus the EU memberstates are still dealing with the financial recession. If the EU would participate in the sanctions against their third largest trading partner, it would only add more economic stress. Considering the fac that every European memberstate has a different relationship with Russia, it means that every memberstate will act according to its own national interests.

For any meaningful sanctions the US needs the EU involved, either that or Obama needs to ban US firms from cooperting and operating in Russia. Anything less then these measures would only have symbolic value.

The Russian response

But this all doesnt mean that the sanctions against Russia are not without repercussions. The Russian Duma is already working on a legislation to allow the confiscation of assets of European and American companies. That is if the sanctions against Russia are imposed. But the Russians arent senseless, they know that they cannot afford to deny every Western company from operating in Russia. As mentioned earlier, Russia needs Western technology and investement.

Instead of economic retaliation, Moscow will focus on security and geopolitical related counter measures. For example Russia has been instrumental in isolating North Korea and Iran by decling to veto the UN sanctions resolutions. In Iran’s situation, the resolutions have hurt the country’s economy and forced Tehran back to negotiations. Russia’s president Vladimir Putin could decide to simply ignore these resolutions and expand their commercial ties with Tehran. From there the American-Iranian nuclear talks would be completely derailed. Russia could supply various US adversaries in the Middle East with S300 long range surface to air missile systems. Moscow could also decide to withdraw from the INF and New START treaties. These are all possible counter measures the Russians are capable of undertaking, but the game is called chess not checkers. Moscow would only engage in this kind of geopolitical retaliation if their national security was threatened and not just for the sake of retaliation.

By Shirvan Neftchi, 17 March 2014

Sources

John Kerry on CBS’s Face of the Nation

http://www.cbsnews.com/news/john-kerry-warns-of-consequences-for-russia-after-ukraine-invasion/

Russia’s export and import statistics

https://www.cia.gov/library/publications/the-world-factbook/geos/rs.html

Russia’s market value

http://data.worldbank.org/indicator/CM.MKT.LCAP.CD

The Central Bank of Russia invests in the ruble

http://www.bloomberg.com/news/2014-03-02/ruble-set-to-weaken-as-putin-s-ukraine-incursion-risks-sanctions.html

Aggregate amount of the Stabilization Fund of the Russian Federation

http://www1.minfin.ru/en/stabfund/statistics/aggregate/