After failing to deter the invasion of Ukraine, the United States and its allies have unleashed an astonishing barrage of sanctions against Russia. The allied strategy amounts to financial and security entrapment, decoupling Russia from the world economy and military suppliers. The immediate goal is to stop the killing spree by raising the price of financing the war and the overall cost of not reaching a peace settlement. The long-term goal is to punish Russia by cutting its financial and security ties to the outside world, weakening the basis of Russia’s global power, and thus deterring future revision of the international order.
This Western response to the invasion has prompted another round of questions about the growing use of sanctions in recent years. Critics have both questioned their effectiveness and warned of their unintended consequences. But the record suggests that, while the sanctions strategy is not without risk, its benefits outweigh the dangers. Sanctions provide meaningful leverage, impose greater costs on adversaries than on sanctioning countries, and inflict less pain on civilians than military intervention. They put Russian President Vladimir Putin in a guns-butter trap by drastically increasing the economic cost of aggression and lowering the net gains that can be achieved by conquering Ukraine. While this was not enough to stop Russia’s invasion of Ukraine, it sends a strong signal to potential spoilers about the likely consequences of upsetting fundamental norms underpinning the liberal international order. Economic coercion, particularly financial coercion, is a cost-effective way to police international order, punish irresponsible great powers, and preserve the prevailing hierarchy.
MAKING PUTIN PAY
Even before the current crisis, sanctions had been levied against Russia, as punishment for its 2014 annexation of Crimea, malicious cyber- and election interference, and human rights violations. Russia was also sanctioned for its support of the regimes in North Korea, Syria, and Venezuela. And the United States put limits on exports that could provide military advantages to Russia.
These measures are now being turbocharged. On February 24, the day Putin launched the invasion, the United States and its allies announced sanctions on Russia’s top financial institutions, which represent 80 percent of Russia’s bank sector. New export controls, designed to prevent the Putin regime from benefiting militarily from U.S. technology, reinforced the United States’ strategic decoupling from Russia. Days later, the United States, Canada, and European allies took further steps to economically isolate Russia.
One of the most eye-popping additions restricted the Russian central bank’s ability to use its currency reserves, money that Russia parked overseas to access in times of crisis. The United States and its allies also disconnected major Russian banks from the SWIFT global financial messaging system, making it even more difficult to do business in Russia. They also curtailed access to high-tech content in defense, aerospace, and maritime shipping for security purposes while tightening loopholes for illicit finance. Instead of launching a military campaign against Russia, the United States and its allies have undercut Russia’s ability to field military, aerial, naval, and communications equipment required to continue waging war against Ukraine. Russia’s reckless use of its great power status has intensified pressure to prevent military and high-tech transfers that could advance its lethal capability. In the near future, investment screening could also be applied to Russia. As with China, the aim would be to prevent economic linkages from conferring security gains on U.S. rivals. Economic decoupling will disconnect Russian firms from stock exchanges and prevent mergers and acquisitions, denying them investment opportunities to sustain the economic foundations of the regime’s geopolitical ambitions.
The sanctions strategy is not without risk, but its benefits outweigh the dangers.
The prohibition on transactions with Russia’s central bank is the pièce de résistance of the sanctions architecture, effectively making the ruble exchange rate indefensible. By cutting off access to foreign exchange markets, the West disarmed Russia’s foreign currency reserves, which totaled $640 billion. By March 3, the ruble declined more than 20 percent compared to its dollar value the day before central bank sanctions were announced.
Up until the invasion, Russia’s foreign currency reserves had been viewed as one of its most important sources of strength. Writing in January, economic historian Adam Tooze said Russia had become a “strategic petrostate” thanks to its sizeable foreign exchange reserves. But his assessment underestimated the ability to constrain Russia using sanctions. Coordinated central bank sanctions have robbed Putin of the “freedom of strategic maneuver,” the “capacity to withstand sanctions on the rest of the economy,” and any ability to “slow a run on the rouble.” (Sanctioning a central bank is unusual but such sanctions have been imposed before, for example, against Iran’s central bank and sovereign wealth fund in 2019.)
THE PAIN SETS IN
In a matter of days, the sanctions paralyzed the Russian financial system with devastating effects for the government and the wider economy. The first casualty was the ruble. Strains in the foreign exchange market began as soon as reports surfaced late last fall about Russian troop and missile deployment to the Ukrainian border. In response, Russia suspended ruble sales. The self-imposed constraint on foreign exchange accumulation conflicted with Russia’s self-imposed fiscal rule to convert energy proceeds denominated in rubles to foreign currency at $45 a barrel. Not being able to convert rubles into foreign currency at a time when oil prices peaked at well over $90 per barrel meant giving up the opportunity to offset the ruble’s depreciation with high oil prices, sending Russia into a foreign exchange accumulation trap.
A few days before the invasion, the Moscow stock exchange crashed, shedding 30 percent of its value before the central bank shut it down. The stock prices of Russia’s major banks declined by 40 to 60 percent. The Russian government has high exposure to two major banks, Sberbank and VTB, in which it holds 80 to 90 percent stakes. Sberbank, the “people’s bank,” is especially important to Russia’s financial ecosystem, which together with VTB accounts for 50 percent of Russia’s bank assets. Russian households’ dependence on Sberbank sparked a liquidity crunch and a bank run on local deposits, with long lines to withdraw cash.
More seriously for the Putin regime, the government’s creditworthiness is being called into question. After the U.S. and allied sanctions were announced on February 26, Russia’s central bank suspended foreign interest payments on Russian debt to avoid financial exodus and a drain on scarce foreign currency. Additional capital controls have been imposed, temporarily banning sales of securities held by foreigners in Russia, as well as on foreign securities and loans held by Russians. These countermoves are whipping up a default perfect storm. Credit default risk on Russian government bonds has soared. The premier ratings agencies Moody’s and Fitch have downgraded Russian government bonds to junk status. Putin has issued orders suspending bond payments in foreign currency to residents of sanctioning countries. Many of Russia’s outstanding bond contracts explicitly call for payments to be made in dollars or euros. But without access to these currencies, Russia has said it will make some of its payments in rubles. If a contract doesn’t include a ruble fallback, however, it will be considered a de facto default. Markets feared the Russian government would be unable to use dollars to settle interest payments on dollar-denominated bonds coming due April 15, or not settle at all. But sovereign default has been averted by the U.S. government allowing U.S. financial institutions to process dollar payments on Russian bonds until May 25.
In a matter of days, the sanctions paralyzed the Russian financial system.
Financial sanctions have also had broader repercussions for Russian society, with foreign business, entertainment, and service companies scrambling for the exit. The corporate pullout includes General Motors, Boeing, UPS, FedEx, Visa, Mastercard, Apple, Nike, Ikea, Canada Goose, ASOS, Daimler, Adidas, Coca-Cola, and McDonald’s, as well as major oil companies BP, Shell, Exxon, Equinor, and Eni. In effect, sanctions have made Russia radioactive for business: no one wants to touch it. Even companies who can stomach the association are scrambling to avoid the risk of transactions not clearing or the risk of being unable to dock at Russian ports. Five of the world’s six largest container lines have ceased shipments between foreign and Russian ports. Several European countries and the United States are no longer accepting Russian cargo. The financial squeeze following sanctions targeting oligarchs pushed Roman Abramovich to sell his Premier League soccer team, Chelsea. Major leagues and competitions in sports including hockey, tennis, skiing, figure skating, and automobile racing have banned participation by Russian citizens, banned participation under the Russian flag, or canceled events in Russia. Hollywood and cable TV have canceled Russian releases and procurements from Russia.
The coalition of countries imposing sanctions on Russia has also taken steps to cut off financial loopholes that reduce the effectiveness of sanctions. Jacob Lew, when serving as U.S. Treasury secretary in 2016, stressed the need for investigative work in the implementation phase, to understand how “key actors move and store their money.” Indeed, Putin anticipated devastating financial harm to his ruling elite and the country’s creditworthiness. Kremlin oligarchs stowed away an estimated $1 trillion worth of dark money reserves in offshore centers. Prohibitions on financial transactions and asset freezes lose their bite when sanction targets can easily use shell companies to complete contracts under alternate names. In December, U.S. President Joe Biden took initial steps to counter such activities and pledged more resources to fight money laundering, including by scrutinizing all-cash property bids. Pressure is also mounting on the British government to address illicit Russian money, which has made the rounds in London’s real estate market for years. France and Germany independently seized superyachts and Switzerland has closed its airspace to inbound flights from Russia in a historic shift away from neutrality. Since Switzerland generally follows EU sanctions, participating in the economic sanctions against Russia is, however, not incompatible with Swiss neutrality, despite media reports to the contrary.
As the Russian economy comes under increasing pressure—and given its economy’s resource dependence—Putin doesn’t have many retaliatory financial moves to play. When the United States extended sanctions tied to Crimea, Russia banned imported food, burned smuggled food, and considered prohibitions on foreign medicine. This time, Russia’s financial offense is as weak as its economic defense. The Putin regime lacks the means to economically coerce sanctioning countries without hurting itself more than them—for instance, by withholding energy exports. Unable to respond economically, Putin has been hinting at nuclear confrontation. When faced with sanctions, North Korea did the same, launching missiles to retaliate against U.S. financial sanctions. Making sanctions stick against ideologues and great powers may require backstopping sanctions with the threat of U.S. military intervention. At the very least, the United States should stop doubling down on the promise that U.S. military intervention to defend Ukraine is “not on the table,” leaving some ambiguity about U.S. troop deployment. Committing not to defend Ukraine may have been designed to avoid the specter of great power war, including the possibility of nuclear war. But the risk is hardly eliminated. Putin is bringing back the high-stakes nuclear escalation that the United States sought to avoid. Once Russia invaded Ukraine, operations on the eastern front could bring in NATO members, making U.S. involvement a non-negligible risk.
THE LEAST BAD OPTION
The litany of increasingly potent economic instruments of coercion comes amid an emerging consensus that sanctions rarely induce behavioral change and often are counterproductive. For example, Daniel Drezner and Nicholas Mulder argue for the limited utility of sanctions and their significant risks. Pointing to the declining rate of sanctions success stories, they pit the large and growing volume of sanctions against their limited achievements. But to expect sanctions to persuade a great power to reverse mobilization against a country it has already invaded once before is to expect too much. Great powers present an especially difficult case for sanctions because they are highly incentivized and better equipped to resist U.S. demands. Actors pursuing ideological or religious causes, or core security interests, are especially difficult to compel into submission. Leaders, such as Putin, who are unable to draw a line between personal and national pride are certain to dig their heels in.
Yet even if sanctions are unlikely to deter authoritarian leaders on a warpath, the right implementation can complicate those leaders’ future course of action. Russia’s invasion of Ukraine may not have been deterred by sanctions, but the costs constrain Russian behavior. Indeed, in other cases, these costs have induced behavioral change over time. For example, Turkey’s President Recep Tayyip Erdogan at first responded to U.S. sanctions with open defiance, saying, “Turkey does not respond to threats.” But pressure on the Turkish lira eventually persuaded him to cede to U.S. demands, and he released the imprisoned American pastor Andrew Brunson. If offered a face-saving option to retreat—for example, Ukrainian neutrality—Putin will likely take the chance to stop the economic hemorrhage and pull out.
Weighing up sanction efficacy requires comparing the costs and risks of adopting financial sanctions to those of military options. The use of force may produce desired changes, but when power is projected militarily the costs are always greater when the loss of human life is included. Critics are right that financial sanctions can cause civilian distress; leaders have incentives to resist sanctions by deflecting pain on civilians to redirect blame on the United States. Sanctions may not be capable of deterring great powers—especially not authoritarian great powers on a nationalist rampage. But they are a more cost-effective alternative for policing international order compared to diplomacy and military intervention than skeptics charge. Privileging sanctions does not, however, mean ruling out more punitive foreign policy tools.
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