Foreign Policy Research Institute A Nation Must Think Before it Acts Taking Stock of U.S. Sanctions on Russia
Taking Stock of U.S. Sanctions on Russia

Taking Stock of U.S. Sanctions on Russia

Ever since the Countering America’s Adversaries Through Sanctions Act (CAATSA) was signed into law in August 2017, European Union and United States sanctions policy has been out of sync. The most important difference lies not in the firms or individuals who are targeted, but in the underlying approach to sanctioning.

When the EU introduced its own restrictive measures against Russia in 2014 (in close coordination with the Obama administration), the goal was to make sanctions predictable. Three stages of escalation were announced in advance and subsequently implemented as the situation in Eastern Ukraine deteriorated. The first stage included diplomatic sanctions. Ongoing talks on visa liberalization and a new EU-Russia partnership agreement were suspended. In the second stage, persons and entities responsible for the destabilization in Ukraine were sanctioned. Finally, sectoral economic sanctions were implemented against Russia. Economic sanctions were linked to the implementation of the Minsk agreements in 2015 which—at least at the time—looked like a viable way out. The EU has tried to sanction with precision and limit collateral damage, even though that makes its sanctions easier to circumvent, e.g. by using middlemen in transactions.

All of this is different in how the U.S. approaches sanctions under President Donald Trump. The timing is unpredictable and often depends on domestic developments in the U.S.; the scope and motivation are blurred, and there is no viable exit strategy. On April 6, 2018, Treasury Secretary Mnuchin referred to “a range of malign activity around the globe” as the reason for a new round of Russia sanctions. The measures came as a bad surprise to many investors and importers of Russian commodities, especially in Europe. For the first time, the U.S. outright blacklisted big and internationally integrated Russian businesses such as aluminum giant RUSAL. Because CAATSA (Sec. 228) demands the implementation of secondary sanctions against any foreign entity that has “significant transactions” with sanctioned firms, the announcement caused immediate alarm among RUSAL’s European customers.

In Germany, the suspicion that the U.S. uses sanctions as a pretext to pursue their own economic interest in aluminum and gas markets is commonplace. In a furious reaction to CAATSA, then-German Foreign Minister Sigmar Gabriel and Austrian Chancellor Christian Kern said that the bill was actually about selling U.S. natural gas. Similarly, because the April 6 blacklisting of RUSAL coincided with new U.S. tariffs on aluminum imports from the EU, German business representatives saw the sanctions as just another way to achieve the same protectionist goals.

Tensions over the right Russia policy between the White House and U.S. Congress have made it more difficult for European allies to engage in an effective sanctions dialogue with Washington. After CAATSA was signed, EU countries tried to limit collateral damage from the bill in a series of consultations with the U.S. Treasury and State Department. Yet, much still remains unclear about how CAATSA will be implemented.

To further complicate matters, EU member countries also have differences of their own, especially with regards to Nord Stream 2. Berlin has been sleepwalking into a foreign policy and energy policy dilemma over the pipeline, which is set to transit gas from St. Petersburg, Russia, to Greifswald, Germany, beginning in 2019. For years, Germany downplayed the political ramifications of the project. Under the new government, Berlin has been showing more commitment to protect the future of Ukrainian gas transit, which is expected suffer from the new pipeline. In December 2018, Foreign Minister Heiko Maas said that Berlin had obtained assurances from Moscow to safeguard Ukrainian transit after 2019. At the German-Ukrainian Economic Forum in November 2017, Merkel even hinted that the amount of gas that Nord Stream 2 delivers to Germany could be throttled in the future, depending on the political situation in Ukraine.

These initiatives may prove to be too little, too late. The symbolic meaning of the project has spun out of Berlin’s control. Nord Stream 2 is now widely seen as a litmus test for the integrity of Germany’s Russia policy (even though the Switzerland-based consortium behind it includes French, British-Dutch, and Austrian firms). The pipeline project is routinely brought up whenever there is news of Russian aggression, such as the Kerch Strait incident in late 2018. Nord Stream 2 also represents a rare overlap of interests of President Trump, the U.S. Congress, Brussels, and even many politicians in the German co-governing Christian Democratic Union.

However, as divided as Europe is on Nord Stream 2, there is a broad consensus that U.S. sanctions against European firms involved in the pipeline would be unacceptable. If the U.S. follows through with its threats against Nord Stream 2, the damage would not be limited to U.S.-German relations. Berlin would be forced into a defensive battle for its energy sovereignty against the U.S. Mounting frustration over extraterritorial threats of U.S. sanctions across Europe could mean that even opponents of Nord Stream 2 will stand in solidarity with Berlin. Therefore, U.S. sanctions would mute, not strengthen, the pipeline’s critics in Europe.

Russian Vulnerabilities

Since the introduction of Western economic sanctions in 2014, Russia has invested heavily to upgrade its sanctions defenses. It has partially reduced its reliance on imports in sanctioned sectors such as weapons manufacturing through import substitution. The creation of a national payment system and the credit card “Mir” was expedited. A dedicated bank without U.S. exposure was set up to serve sanctioned firms (Promsvyazbank), taking toxic assets off the balance sheets of internationally active banks. Finally, the floating ruble exchange rate introduced in November 2014 serves as an important buffer against sanctions risks, and the devaluation of the currency has helped the Central Bank to replenish its reserves.

Not all policies have been successful, and many of them have entrenched Russia’s economic isolation. The Kremlin has sacrificed future economic development for sanctions resilience today. But the direct economic pressure from the existing restrictions has clearly declined from its peak in late 2014 and early 2015 when the Russian government was unprepared to deal with the double shock of lower oil prices and sanctions. Current sanctions against Russia’s energy sector will create more pressure on Russia’s finances only in the 2020s.

At present, the most damaging effect of U.S. sanctions on the Russian economy is the high uncertainty about future measures, not the existing sanctions regime. Congressional initiatives, such as Defending American Security from Kremlin Aggression Act (DASKAA) and Defending Elections from Threats by Establishing Redlines Act (DETER), could mandate the blacklisting of large Russian state banks or energy firms and block transactions in future Russian sovereign debt issuances. Russia’s sanctions defenses would be of little help against these proposed “nuclear” options. Sanctioning Russian public debt or cutting state banks off the U.S. dollar would almost certainly send Russia’s economy back into recession. It would also hurt the country’s trading partners, as 70% of Russia’s exports and 36% of Russia’s imports are settled in U.S. dollars. In combination with a continuous stream of news about Russian activities abroad, DASKAA and DETER are the sword of Damocles hanging over any business that wants to invest in Russia today.

Although it was widely expected that the Kremlin would use sanctions as an excuse domestically for home-made economic troubles, the Russian leadership has mostly avoided linking the two issues. Accusing the West of causing Russia’s stagnation would have made Russia look helpless—a propaganda no-go since defensive strength is seen as Vladimir Putin’s main achievement by Russian citizens. The Kremlin even tried to frame Western sanctions as a useful incentive for Russia to develop its own economic potential through import substitution. According to the Kremlin, Western sanctions are a hostile, but eventually futile, aggression, hurting the sender countries (the West) more than Russia. “You know, sometimes I think that it would be good for us if those who want to impose sanctions would go ahead and impose all the sanctions they can think of as soon as possible.” Putin quipped at an international forum in October 2018, “It hurts the ones doing it. We all figured this out long ago.” This official narrative may also explain why most Russians don’t believe that Western sanctions significantly affect their lives.

The Kremlin also strictly avoids connecting Western sanctions to any specific Russian activities abroad. Western sanctions are framed as a longer-term U.S. strategy to help Washington cling to the “unipolar world order” in a time of Russian resurgence. “Listen, sanctions have nothing to do with the myth of some Russian interference in the US election. Sanctions are about something else entirely: the desire to halt Russia’s progress, to contain Russia.” Putin explained in an interview on NBC in March 2018. Following this view, Western sanctions are expected to stay for the foreseeable future, unless either Russia unconditionally accepts U.S. dominance over its entire foreign policy or until the West gives up and sanctions fall apart.

It is difficult to assess how much of this narrative political elites in Moscow genuinely believe, but against the background of current U.S. sanctions, it becomes harder to outright dismiss it. Dissenting voices are rare in the Russian elite. One is Alexei Kudrin, the chair of the Russian Audit Chamber, a government body. In October 2018, Kudrin stated that Russian foreign policy should above all aim at getting sanctions lifted, if Putin’s economic development goals are to be achieved. Some business leaders may silently agree, but have too much to lose to speak out openly. This is especially true for the businessmen under sanctions. Having their escape to the West cut off, they are in the most vulnerable position vis-à-vis the Kremlin.

Overall Effect of the Sanctions

The debate on the success of sanctions is often messy and politicized, especially where the goals of the sanctions are not clearly defined. The non-transparent nature of Russian policymaking complicates things further, making it difficult to prove whether and how sanctions are working. Sanctions critics like to point out that so far Russia has not acknowledged, let alone reversed, any of its past aggressions. However, the current sanctions regime is much too benign to singlehandedly solve any of these actions, e.g., the Ukraine crisis.

Some intermediate goals of the Ukraine-related sanctions have been achieved. The sanctioning countries have signaled that they are willing to bear economic costs to stop Russia from breaching international rules. Economic sanctions have contributed to getting Moscow to the negotiating table: the economic pressure in early 2015, combined with the credible threat of further ratcheting up restrictive measures, has very likely played a role in Russia’s willingness to negotiate Minsk II and eventually slow down its covert military offense in Eastern Ukraine. While it is hard to imagine that Moscow will publicly bow to current Western sanctions, there may be successes that are not visible. Unfortunately, any would-be aggression that was deterred by sanctions is virtually impossible to prove.

While it is at times difficult to measure the political results of sanctions against Russia today, it is prudent to maximize the chances for success based on the lessons of the past. Empirical research has shown that sanctions were most successful when imposed multilaterally. Accordingly, if the U.S. wants its sanctions to have a political impact, it would do well to bring its allies back on board. This may include taking back measures and threats that hurt EU countries and make a common agenda towards Russia more difficult. On December 19, 2018, the U.S. Treasury announced that sanctions against Russian aluminum giant RUSAL will be lifted (after oligarch Oleg Deripaska relinquished control over the firm). Partially, this was the result of ongoing consultations between Washington and European allies. It should be seen as a success, both for strengthening the transatlantic partnership and for creating a more effective, unified sanctions policy.

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