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Washington and The World

How the Sanctions Are Helping Putin

The American debate over whether to lift sanctions on Russia misses a key point: They aren’t working.

Andrey Movchan is senior associate and director of the Economic Policy Program at the Carnegie Moscow Center. He has served as a top executive for Russian and international financial institutions since 1993.

Donald Trump just can’t seem to make up his mind about Russia. After hinting repeatedly during the campaign and transition that he might lift the international sanctions that were imposed after Moscow annexed Crimea and invaded eastern Ukraine, as president, he’s started to show signs of doubt.

“It just simply all depends on whether or not we see the kind of changes in posture by Russia,” Vice President Pence told ABC News last month, saying the administration wanted to work with Moscow “on common interests” such as the destruction of ISIS. Other officials, such as U.N. ambassador Nikki Haley, have taken a notably harder line, declaring that “The United States stands with the people of Ukraine, who have suffered for nearly three years under Russian occupation and military intervention.”

Proponents of the sanctions insist that they must stay in place until Russian President Vladimir Putin relinquishes his claim to Crimea and stops meddling in Ukraine, the demands for the latter laid out in the Minsk Agreement signed in Belarus in September 2014, and updated in February 2015. They worry that Trump’s eagerness for a deal may allow Putin to get the sanctions lifted in exchange for some other concession, possibly a new arms-control treaty, as the U.S. president has hinted—and that therefore Moscow will evade accountability for violating a clear norm of international behaviour. Russia, for its part, does not show any eagerness to make progress on the issue and leaves the West alone in deciding how to proceed.

Western observers and Kremlin spokesmen do agree on one thing, however—that the sanctions are the major cause of Russia’s deepening economic woes. But this overlooks one salient fact: The sanctions might not actually be hurting Russia all that much if at all.

The economic data is certainly sobering. Russian per capita GDP has shrunk to 2007 levels. By the fall of 2016, Russia’s dollar-equivalent GDP was 40 percent below the 2013 level—a 15-percent decline in real ruble prices. The trouble is that this decline has had very little to do with Western sanctions, whose impact has been primarily political, rather than economic.

The truth is that Western sanctions focus on a limited number of Russian business such as construction giant Stroytransgaz and Bank SMP, which belong to Putin’s judo trainer Arkady Rotenberg; the state-owned energy firm Rosneft, which is controlled by former Putin’s longtime aide Igor Sechin; and well-known defense behemoths. These businesses are no longer able to borrow on international markets and are prohibited from owning assets in Western countries. Western sanctions also prevent a small group of Russians from traveling to those countries or doing business with them, and forbid the transfer to Russia of dual-use military technology and advanced oil exploration equipment. We are talking about not more than 10 percent of the Russian economy; but more importantly, as the Russian banking system has excess liquidity, all sanctioned companies can easily borrow as much as they need from Russian banks.

Russia responded to the Western sanctions by launching sanctions of its own, mainly banning food imports. This has deprived the Russian middle class of delicacies such as parmesan, prosciutto, Norwegian salmon and Greek oranges.

Yet sanctions do not stop Russia from being an active global economic actor. It is still a member of the WTO and the Asia-Pacific Economic Cooperation (APEC) forum. Russia keeps its reserves in the most liquid financial instruments and currencies. There are no restrictions on its currency and foreign trade transactions. Its sovereign debt yields are low, with no sign of potential rise in the near future. Russia and Russian companies are not singled out for hostile economic measures such as protectionism or anti-dumping tariffs.

Restrictions on borrowing could not hurt a country that was already reducing its levels of foreign debt for several years before 2014. From 2015 to 2016, Russian oil and gas production was increasing faster than any of the Gulf countries or even the U.S, regardless of the technology ban. And Russia still exports $14 billion in weapons per year, making it the third-biggest arms exporter in the world after the United States and China.

Ultimately, one major factor determines the health of the Russian economy: the price of oil. As oil prices have stabilized, the Russian economy has mostly recovered and switched into slow recession mode. It’s no surprise then, that the World Bank currently estimates that sanctions are shaving off no more than half a percentage point of Russian GDP. Even that estimate is probably way too high.

A much tougher Western sanctions regime could have inflicted pain on Russia and made it change course. The Russian elite is heavily dependent on the West, as its chief purchaser of oil and gas, holder of its assets and educator of its children. Targeted measures, such as a ban on the sale and service of passenger or cargo aircraft, could have brought Russia to its knees in months. If gold and currency reserves had been frozen, then Russia would have been in deep trouble in about three to five years’ time.

Sanctions do make a big impact in one area—Russian domestic politics. The government-controlled media—which is most of it—blames Russia’s current economic decline on the United States and European Union. President Putin declared on Oct. 12, 2016, speaking at the VTB investment forum in Moscow: “We often repeat that so-called sanctions do not have a significant influence on us. They do, and the major threat is the ban on technology transfer.” For Putin, the sanctions are useful in helping him alienate the public from any Western-backed opposition leaders or from those who still proclaim that the West is a model for Russia’s future development.

Sanctions have also raised the implied risks of holding assets offshore and limited the capacity for Putin and other members of the Russian elite to invest (or hide their money) abroad. That, in turn, has given the president tremendous leverage in controlling his team.

Meanwhile, a handful of Russian oligarchs and Kremlin-connected businessmen—chiefly those who run state-owned firms—have successfully exploited sanctions to get sweetheart deals and control over new monopolies for domestic products that are unfailingly inferior, over-priced and unreliable. Billions of rubles started to flee from the budget into pockets of closest Putin’s cronies, who promised to quickly develop Russian facsimiles of Windows software, iPhones, GPS, computers, civil aircraft, and so on. The Ministry of Defense has already placed a sizable order for “Russian iPads,” costing $6,000 each. Gennadiy Timchenko, another old Putin friend, has monopolized the salmon trade, raising prices by over 200 percent and turning his chronically lossmaking fish company into a super-lucrative business.

Ultimately sanctions have become a trap for the West. Keeping them in place gives Putin an additional source of popular support and a ready-made excuse for all his economic mistakes. Yet lifting them would be a clear sign to the Russian regime that it has prevailed in a battle-to-the-death with the West. And for President Trump, any hint at this point of pro-Russian sentiment would add more ammunition to Democrats who say he’s suspiciously close to Moscow.

Having found itself in a lose-lose situation, the West will most probably do nothing—keeping sanctions in place and freezing the situation. The Kremlin will be happy. Russia won’t stop meddling in Ukraine or give up Crimea. Die-hard supporters of the president will keep walking the streets of Moscow carrying banners saying, “Putin outplayed everybody again”—and they will probably be right.

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