Did the sanctions make a difference?
Despite the multiple rounds of global sanctions, Russia’s economy is still standing and the war against Ukraine continues. Does that mean the sanctions have not been effective? The short answer to that question is, “It depends,” and the deciding factor is what your expectations were. If you believed that sanctions would cause Russia to retreat, that was never a realistic expectation; sanctions rarely, if ever, cause the reversal of the behavior that prompted them. If you thought that the Russian economy would collapse by now, that was not realistic either; sanctions take time to take their toll.
If you thought sanctions would brand Russia as an international pariah, you have a pragmatic understanding of how sanctions generally work. If you believe that, apart from their impact on Russia, the breadth of the global response will serve as a deterrent to other countries that might consider territorial grabs and/or inflicting massive human suffering, only time will tell whether you are correct.
Below are some key themes and impacts of the sanctions that we saw play out in 2022 and what they may foretell:
Financial flows: Shortly after Russia’s invasion of Ukraine in late February 2022, the U.S., Canada and several European countries released rounds of potent financial sanctions packages against Russia, including cutting off many Russian banks from the Society for Worldwide Interbank Financial Telecommunication (SWIFT), the widely used global messaging system. By the end of February 2022, the U.S. Department of Treasury took measures to immobilise assets of the Central Bank of the Russian Federation (CBR) held in the U.S. or by any U.S. person. Then, in April 2022, the G7, the EU and the U.S. released full blocking sanctions to further siphon off Russia’s financial networks, including Russia’s largest bank, Sberbank.
In June 2022, Russia’s government defaulted on external debt for the first time in decades, as the sanctions prevented payment to international creditors. The ruble tumbled, and many economists thought the Russian economy would implode; however, even to date, Russia’s economy appears to have avoided catastrophe. How could that be? Is Fortress Russia sanction-proof, or at least sanction-resilient?
Russia’s early life support success in part was due to the significant increase in revenue due to high oil and gas prices and to years of built-up foreign reserves that continue to be tapped. Although they took several months, sanctions have in fact achieved something of note as it relates to its financial sector: A significant amount of Russia’s reserves remains frozen, Russia’s economy has narrow access to global financing, international payments are limited to and from Russia, oil and gas revenues continue to decline, and Russia’s financial deficit is expected to widen. Further, many organisations and financial institutions have exited the country. It is this loss of foreign direct investment that may very well emerge as one of the most devastating consequences for the economy, and Russia will be challenged to locate new sources of foreign investment.
Suffice it to say, the Russian market is still functioning, but it is weathered and weakened.
Digital payments and crypto: The CBR presented a concept of its central bank digital currency (CBDC) in 2020; prototyped the platform in 2021; began piloting it in 2022; and, amid mounting sanctions on Russia, sped up the project’s timeline with a full launch of the digital currency, expected to be released in 2024. This acceleration coincides with the impact sanctions have had on Russia’s access to global markets and financing.
In conjunction with the accelerated launch plans, the CBR has relaxed its position on crypto payments for international trade, which would provide a bit of a work-around to having to rely solely on SWIFT for processing global transactions. If this practice of sidestepping SWIFT is adopted by not only Russia but also other jurisdictions, cross-border payments may become more fragmented, adding complexity and costs to the global payments environment, and may open doors to trade with sanctioned parties.
Oil, gas and environmental, social and governance (ESG): Russia’s oil and gas industry has suffered less through yearend 2022 than its financial sector. Throughout 2022, to Russia’s benefit, oil prices spiked, and Russia reoriented its export strategy to target new export markets, notably India and China. The end of 2022, however, revealed a significant shift in power when the G7, the EU and Australia agreed on and instituted a $60 per barrel cap, resulting in an immediate squeeze on Russia’s export income and a threat to its widening deficit. Restrictions on oil imposed by the EU took effect in December 2022. By the start of 2023, more than 90% of Russia’s previous oil exports to the EU will be banned.
With the embargo and the price cap, 2023 will serve up a different and less prosperous story for Russia’s oil and gas revenues as sales to Europe, once its largest purchaser of oil, are expected to plunge. Even as Russia finds new regions to export to and continues to tap into its cookie-jar reserves, its efforts to fund the war will be strained as more countries join in on reducing reliance on Russian oil and gas, and Russia’s overall economic health and resilience will be tested. Already this dynamic is playing out. Year over year in January, Russia’s oil and gas revenues dropped by 46% and its monthly budget deficit swelled to $25 billion.
Technology: The Russian technology sector, from both import and export perspectives, has shown obvious signs of impact as a direct result of targeted technology-focused sanctions and export controls. Despite attempts to replace imports of Western technology with its own domestic production, Russia remains highly dependent on technology, and in particular on those goods and inputs aiding its war efforts. Exports and imports have fallen and are expected to continue to contract. We can anticipate this impact to gradually intensify as the war rages, as Russian inventory of machinery and parts decreases, and as the country’s need for goods and maintenance increases, with minimal global aid to the rescue.
Agriculture: With Russia blocking shipments of grain from Ukraine and restricting its own exports, including fertiliser, the war has led to inflationary pressures and increased global food insecurity, despite efforts by the U.S. and other governments to allow food and other humanitarian support to continue despite the sanctions.
Oligarchs: To undermine a corrupt political system and shatter elite support protecting Putin, Western nations worked together to impose sanctions on those closest to him and his regime. The sanctions froze and seized assets of Russian oligarchs, and — even if in muffled tones — are thought to have spurred public dissent against Putin. Any deviation of support from Putin contributes toward destabilising his control and authority. The ripple effect of sanctioning the oligarchs spans luxury goods and real estate, where they are known to park and launder their money, as well as use of Western banking systems, and global policymaking.
Broader political and social discontent: The possibility of broader political discontent looms. History suggests that public discontent with a significant downshift in the living standard of the Russian people will eventually translate into political activity, which Putin, distracted by the war, will have difficulty handling.
The above list is far from complete and will only continue to grow as the war continues.