ECONOMY
Are Sanctions Starting to Hurt Russia?
January 23, 2024
Tatiana Rybakova
Journalist and writer
Journalist Tatiana Rybakova talks with experts about how Western economic sanctions are working and which policy decisions, in the experts’ view, were right, which were wrong and which came late.
FlyDubai, A6-FEF, Boeing 737-8KN. Source: Wiki Commons
Recently, the impact of sanctions has begun to be clearly felt in Russia. First and foremost, this concerns the import of sensitive goods.
Planes grounded, resources in the ground
In mid-January, passengers on a Flydubai flight were unable to fly from St Petersburg’s Pulkovo Airport for two days, in part due to sanctions. Foreign airlines now fly to Russia mostly with aircraft that they own, since not all Western lessors allow them to fly to Russia.
Because of this, Flydubai could not quickly find a replacement aircraft to replace one that had broken down. “If foreign companies refuse to fly to Russia on leased planes, it means that sanctions are working, since the legal supply of spare parts to Russia is prohibited, and companies need to record all repairs,” notes economist Sergei Aleksashenko, a former deputy chairman of Russia’s Central Bank.
Planes grounded, resources in the ground
In mid-January, passengers on a Flydubai flight were unable to fly from St Petersburg’s Pulkovo Airport for two days, in part due to sanctions. Foreign airlines now fly to Russia mostly with aircraft that they own, since not all Western lessors allow them to fly to Russia.
Because of this, Flydubai could not quickly find a replacement aircraft to replace one that had broken down. “If foreign companies refuse to fly to Russia on leased planes, it means that sanctions are working, since the legal supply of spare parts to Russia is prohibited, and companies need to record all repairs,” notes economist Sergei Aleksashenko, a former deputy chairman of Russia’s Central Bank.
Airbus A320neo S7 Airlines. Source: Wiki Commons
Things are even worse for Russian carriers. S7 Airlines has decided to cut flight crews and office workers in Moscow because of a decrease in the number of flights out of the capital. In addition, S7 had to cancel planned service on some routes, as it is unable to service its fleet of foreign Airbus A320/A321neo aircraft due to sanctions.
According to economist Elina Rybakova of the Peterson Institute for International Economics, Russian airlines began to experience sanctions-related problems long after sanctions were imposed, since many airlines apparently had 1.0-1.5 years’ worth of parts stockpiled in their warehouses, which are now running out.
The oil and gas industry has also felt the sting of sanctions. Opinions differ as to who gets the difference between the price at which Russian oil exporters are selling (capped at $60/barrel) and the price China and India are paying for that oil. Some economists believe that the Russian budget benefits, while others think it is foreign intermediaries. In any case, according to statistics from Russia’s Ministry of Finance, oil and gas revenues were down 23.8% in 2023 to RUB 8.822 trillion (versus RUB 11.586 trillion in 2022).
Now, other examples of how sanctions are impacting the economy are emerging, centering around the supply of equipment and technology. Thus, the Arctic LNG 2 project, which had promised to boost LNG exports in the face of limited sales of pipeline gas, declared force majeure due to the sanctions imposed on the project by the US. Force majeure was declared by both the Russian shareholder of the project, Novatek, and the foreign shareholders – TotalEnergies, China’s CNPC and CNOOC, and a consortium of Japan’s Mitsui and JOGMEC (each owning 10%).
The main reason is the uncertainty over whether banks and shipowners will provide services needed to move the gas from Arctic LNG 2. The sanctions put an end to foreign financing of the project, while there is also a technology component: Arctic LNG 2 used foreign technology and equipment to produce and liquefy the gas.
According to economist Elina Rybakova of the Peterson Institute for International Economics, Russian airlines began to experience sanctions-related problems long after sanctions were imposed, since many airlines apparently had 1.0-1.5 years’ worth of parts stockpiled in their warehouses, which are now running out.
The oil and gas industry has also felt the sting of sanctions. Opinions differ as to who gets the difference between the price at which Russian oil exporters are selling (capped at $60/barrel) and the price China and India are paying for that oil. Some economists believe that the Russian budget benefits, while others think it is foreign intermediaries. In any case, according to statistics from Russia’s Ministry of Finance, oil and gas revenues were down 23.8% in 2023 to RUB 8.822 trillion (versus RUB 11.586 trillion in 2022).
Now, other examples of how sanctions are impacting the economy are emerging, centering around the supply of equipment and technology. Thus, the Arctic LNG 2 project, which had promised to boost LNG exports in the face of limited sales of pipeline gas, declared force majeure due to the sanctions imposed on the project by the US. Force majeure was declared by both the Russian shareholder of the project, Novatek, and the foreign shareholders – TotalEnergies, China’s CNPC and CNOOC, and a consortium of Japan’s Mitsui and JOGMEC (each owning 10%).
The main reason is the uncertainty over whether banks and shipowners will provide services needed to move the gas from Arctic LNG 2. The sanctions put an end to foreign financing of the project, while there is also a technology component: Arctic LNG 2 used foreign technology and equipment to produce and liquefy the gas.
“Lukoil became the first major victim of Western sanctions targeting refining.”
LUKOIL headquarters in Moscow. Source: Wiki Commons
Its Nizhny Novgorod refinery, one of the largest in Russia, completely shut down one of two catalytic cracking units, key for the production of gasoline, because of an accident. The second unit broke down at end-December but has since been restarted. Lukoil will now have to look for a replacement for the broken Western equipment.
Major accidents (the failure of serious equipment) at refineries are rare, Aleksashenko notes, which is why, though sanctions were put in place a long time ago, they only impacted Lukoil now.
“However, many foreign companies are still trying to bypass sanctions to continue working with Russian companies, which we wrote about together with the Kyiv School of Economics and the Yermak-McFaul Expert Group. In particular, components for defense production are still being supplied,” notes Elina Rybakova. Many companies prefer not to see the entire supply chain, she explains: “here is my contract with the distributor, and what he does next is none of my business.” Therefore, Rybakova believes, it is necessary to further tighten export controls.
Major accidents (the failure of serious equipment) at refineries are rare, Aleksashenko notes, which is why, though sanctions were put in place a long time ago, they only impacted Lukoil now.
“However, many foreign companies are still trying to bypass sanctions to continue working with Russian companies, which we wrote about together with the Kyiv School of Economics and the Yermak-McFaul Expert Group. In particular, components for defense production are still being supplied,” notes Elina Rybakova. Many companies prefer not to see the entire supply chain, she explains: “here is my contract with the distributor, and what he does next is none of my business.” Therefore, Rybakova believes, it is necessary to further tighten export controls.
Historical Ziraat Bank building in Ankara, Turkey. Source: Wiki Commons
Secondary sanctions
Though the effectiveness of the ban on importing sensitive goods and the restrictions on exporting Russian energy can be debated, secondary sanctions had a quick and very tangible effect.
In December, the US Treasury threatened to apply secondary sanctions to banks that violate sanctions against Russia, and as soon as January Chinese banks began to tighten conditions for providing services to Russian clients. At least two major Chinese banks have begun reviews of their Russian businesses, with particular attention being paid to cross-border transactions, sources told Bloomberg. As part of the review, the banks will sever relationships with sanctioned clients and stop providing financial services to companies involved in the Russian military-industrial complex – regardless of the currency in which transactions were carried out.
In addition, the Chinese banks will begin to carefully check potential clients for ties to Russia, looking at ultimate beneficiaries in particular. Now, such checks will also be carried out for companies from third countries that do business in Russia or supply potentially sanctioned goods there.
Though the effectiveness of the ban on importing sensitive goods and the restrictions on exporting Russian energy can be debated, secondary sanctions had a quick and very tangible effect.
In December, the US Treasury threatened to apply secondary sanctions to banks that violate sanctions against Russia, and as soon as January Chinese banks began to tighten conditions for providing services to Russian clients. At least two major Chinese banks have begun reviews of their Russian businesses, with particular attention being paid to cross-border transactions, sources told Bloomberg. As part of the review, the banks will sever relationships with sanctioned clients and stop providing financial services to companies involved in the Russian military-industrial complex – regardless of the currency in which transactions were carried out.
In addition, the Chinese banks will begin to carefully check potential clients for ties to Russia, looking at ultimate beneficiaries in particular. Now, such checks will also be carried out for companies from third countries that do business in Russia or supply potentially sanctioned goods there.
U.S. Secretary of State Antony Blinken arrives at Istanbul Airport, January 5, 2024.
Source: Wiki Commons
Source: Wiki Commons
Secondary sanctions also scared Turkish banks. Chairman of the Turkish Exporters Assembly (TIM) Mustafa Gültepe said that payment issues in trade with Russia have increased. Turkey did not introduce strict restrictions against Russia and even made plans to expand cooperation (for example, the construction of a gas hub). But as soon as US Secretary of State Antony Blinken came to visit Istanbul, notes investment banker Yevgeny Kogan, Turkish banks began to widely refuse to process payments from Russia. And though the Russian state news agency RIA Novosti notes that state-owned banks in Turkey have partially resumed accepting payments from Russia, it is clear that Russian suppliers will now have a harder time using Turkey as a hub for shadow imports.
Elina Rybakova considers the threat of secondary sanctions an important measure. “It should scare many financial institutions, which are already quite scared – some of them, when they cannot confirm whether a given good (for which money is being transferred – TR) is under export controls or not, prefer to simply stop such transactions. This is an important part of the effect of secondary sanctions, until greater liability is put on the companies themselves so that they check their distributors,” says Rybakova.
Elina Rybakova considers the threat of secondary sanctions an important measure. “It should scare many financial institutions, which are already quite scared – some of them, when they cannot confirm whether a given good (for which money is being transferred – TR) is under export controls or not, prefer to simply stop such transactions. This is an important part of the effect of secondary sanctions, until greater liability is put on the companies themselves so that they check their distributors,” says Rybakova.
“Banks are more vulnerable to sanctions and the threat of them than companies, as the mechanism of secondary sanctions on banks has been worked out over decades.”
Still, the liability of corporations should be increased, Rybakova insists.
A lesson for the future
Does this mean that, despite criticism, sanctions are actually working? Sanctions work if those who impose them control their implementation, notes Aleksashenko. “For example, correspondent accounts of banks are blocked, and they cannot make currency transfers on their own. If there is no desire or no ability to monitor the implementation of sanctions (for example, the sale of telecommunication products is carried out through several intermediaries), then sanctions do not work,” he explains. As an example of an effective measure he cites the EU’s ban on importing Russian plywood: “plywood production in Russia has fallen by 40% and is not recovering.”
“On the one hand, countries and businesses friendly to Russia are trying to circumvent sanctions; on the other, authorities in countries that support Ukraine continue to clamp down on them. This is a constant battle, and it does not stop,” Elina Rybakova contends.
Economist Oleg Itskhoki, a professor at UCLA, looks at the effectiveness of sanctions against Russia with an eye toward developing a universal mechanism that could stop and perhaps even deter any aggressor.
“Since the beginning of the Russian aggression, when sanctions began to be imposed, the West has made three mistakes: they chose cheap sanctions that have a long-term effect, instead of expensive sanctions that act quickly; nothing was done to the [Russian] oil sector; and the production of arms [by the West] was not increased,” Itskhoki explains.
The sanctions imposed since March 2022 mainly represented bans on imports to Russia. “It was clear that the sanctions would have a long-term effect, over a time horizon of five years: this applies to aircraft, equipment for industry and technology for oil production and oil refining,” he says. What we are seeing now are some signs of the long-term effect, and that will continue to materialize going forward, Itskhoki believes.
Yet such measures take too long. “The war keeps going and it is obvious that sanctions cannot stop it,” frets Itskhoki.
Was it possible to impose sanctions that would have had an immediate effect and stopped the war? Itskhoki says this is an open question. Take financial sanctions that could have triggered a financial crisis. “There is an interesting question here, theoretical and practical: was a financial crisis possible after the imposition of sanctions in March 2022? Something like that began to happen, but the Russian authorities closed the banking system until September. When the state has, on the one hand, oil and gas revenues that have not been cut off and, on the other hand, the ability to close the banking system for six months or a year, then it may be impossible to trigger a financial crisis with sanctions,” he says.
Since it was not possible to trigger a financial crisis, Russia’s budget revenues needed to be sharply curbed so that it would not be able to finance the war, Itskhoki continues. “And so, you had to have serious sanctions on [Russian] exports. But there were no quick export sanctions – there were only import sanctions, which have a long-term effect,” he says.
In Itskhoki’s view, this was a strategic decision on the part of the US – primarily because for the Americans, the war in Ukraine was far away.
A lesson for the future
Does this mean that, despite criticism, sanctions are actually working? Sanctions work if those who impose them control their implementation, notes Aleksashenko. “For example, correspondent accounts of banks are blocked, and they cannot make currency transfers on their own. If there is no desire or no ability to monitor the implementation of sanctions (for example, the sale of telecommunication products is carried out through several intermediaries), then sanctions do not work,” he explains. As an example of an effective measure he cites the EU’s ban on importing Russian plywood: “plywood production in Russia has fallen by 40% and is not recovering.”
“On the one hand, countries and businesses friendly to Russia are trying to circumvent sanctions; on the other, authorities in countries that support Ukraine continue to clamp down on them. This is a constant battle, and it does not stop,” Elina Rybakova contends.
Economist Oleg Itskhoki, a professor at UCLA, looks at the effectiveness of sanctions against Russia with an eye toward developing a universal mechanism that could stop and perhaps even deter any aggressor.
“Since the beginning of the Russian aggression, when sanctions began to be imposed, the West has made three mistakes: they chose cheap sanctions that have a long-term effect, instead of expensive sanctions that act quickly; nothing was done to the [Russian] oil sector; and the production of arms [by the West] was not increased,” Itskhoki explains.
The sanctions imposed since March 2022 mainly represented bans on imports to Russia. “It was clear that the sanctions would have a long-term effect, over a time horizon of five years: this applies to aircraft, equipment for industry and technology for oil production and oil refining,” he says. What we are seeing now are some signs of the long-term effect, and that will continue to materialize going forward, Itskhoki believes.
Yet such measures take too long. “The war keeps going and it is obvious that sanctions cannot stop it,” frets Itskhoki.
Was it possible to impose sanctions that would have had an immediate effect and stopped the war? Itskhoki says this is an open question. Take financial sanctions that could have triggered a financial crisis. “There is an interesting question here, theoretical and practical: was a financial crisis possible after the imposition of sanctions in March 2022? Something like that began to happen, but the Russian authorities closed the banking system until September. When the state has, on the one hand, oil and gas revenues that have not been cut off and, on the other hand, the ability to close the banking system for six months or a year, then it may be impossible to trigger a financial crisis with sanctions,” he says.
Since it was not possible to trigger a financial crisis, Russia’s budget revenues needed to be sharply curbed so that it would not be able to finance the war, Itskhoki continues. “And so, you had to have serious sanctions on [Russian] exports. But there were no quick export sanctions – there were only import sanctions, which have a long-term effect,” he says.
In Itskhoki’s view, this was a strategic decision on the part of the US – primarily because for the Americans, the war in Ukraine was far away.
“Meanwhile, the Europeans decided that the imposition of such export sanctions would mean serious costs for themselves.”
This was short-sightedness on the part of European politicians: they simply did not suppose that the war would last for several years and have many negative ripple effects.
Another mistake, which is still not too late to correct, was that Western defense production was not immediately and substantially increased.
Itskhoki believes it is important to think about this now – not only to end the current war, but also to prevent the next one. “The US government already has several mechanisms to compensate businesses for excess production. In particular, there is the Defense Production Act (passed in 1950 in response to the outbreak of the Korean War, it has been reauthorized more 50 times and is still in effect – TR), which was used, in particular, during the pandemic.”
“At that time, production of the simplest medical products, such as masks, and then vaccines, was needed urgently. Under this act, the state first obliges companies to produce the required products, then compensates them for the costs. This mechanism, in fact, was not used [in response to the Ukraine conflict],” says Itskhoki. “There is no reason to think that this is the last war with Putin. It is important now to make long-term decisions to reduce the very possibility of conflicts,” he concludes.
Remembering the past but looking forward
Today, there is discussion about another universal mechanism to address the issue of what to do with the frozen assets of Russia’s Central Bank. Whereas the US has already made the strategic decision to confiscate these assets, European politicians are still cautious and only ready to use the interest income from managing the assets for Ukraine’s needs. There is currently no mechanism for legally confiscating them – in other words, there is no legal basis for it.
Elina Rybakova believes that “agreements made at the end of the war should specify methods for compensating Ukraine,” while before the end of the war these reserves could be transferred to Kyiv. “Yet this is also a question of the [global] dominance of the dollar and the euro,” the expert warns – extralegal confiscation could turn other countries away from these currencies.
Another issue related to the long-term nature of the imposed sanctions, according to Oleg Itskhoki, is that their greatest effect may come in the period after Putin, when other people come to power. In this case, there could be a repeat of the 90s, when the USSR no longer existed but the consequences of the USSR’s policies fell on the new state, the economist warns.
“It will be up to the new government to rebuild the economy, and it seems to me that it is important for the West not to miss that moment and to create some kind of Marshall Plan for Russia so that the history of the 90s does not repeat itself again, when economic problems ruined the reputation of liberals and, ultimately, led to Putin’s victory,” says Itskhoki.
Will the lessons and mistakes of the past be taken into account when dealing with Russia’s aggression? Today, with the Middle East on fire, Southeast Asia anxiously awaiting China’s reaction to the Taiwanese elections and the North Korean dictator explicitly threatening to wipe South Korea off the map, this takes on added significance. “Just as the pandemic provided a signal that states were unprepared for large-scale epidemics, the war in Ukraine has provided one that states need to prepare for big wars. But if you are prepared, then there may not be a war,” Itskhoki assures.
Another mistake, which is still not too late to correct, was that Western defense production was not immediately and substantially increased.
Itskhoki believes it is important to think about this now – not only to end the current war, but also to prevent the next one. “The US government already has several mechanisms to compensate businesses for excess production. In particular, there is the Defense Production Act (passed in 1950 in response to the outbreak of the Korean War, it has been reauthorized more 50 times and is still in effect – TR), which was used, in particular, during the pandemic.”
“At that time, production of the simplest medical products, such as masks, and then vaccines, was needed urgently. Under this act, the state first obliges companies to produce the required products, then compensates them for the costs. This mechanism, in fact, was not used [in response to the Ukraine conflict],” says Itskhoki. “There is no reason to think that this is the last war with Putin. It is important now to make long-term decisions to reduce the very possibility of conflicts,” he concludes.
Remembering the past but looking forward
Today, there is discussion about another universal mechanism to address the issue of what to do with the frozen assets of Russia’s Central Bank. Whereas the US has already made the strategic decision to confiscate these assets, European politicians are still cautious and only ready to use the interest income from managing the assets for Ukraine’s needs. There is currently no mechanism for legally confiscating them – in other words, there is no legal basis for it.
Elina Rybakova believes that “agreements made at the end of the war should specify methods for compensating Ukraine,” while before the end of the war these reserves could be transferred to Kyiv. “Yet this is also a question of the [global] dominance of the dollar and the euro,” the expert warns – extralegal confiscation could turn other countries away from these currencies.
Another issue related to the long-term nature of the imposed sanctions, according to Oleg Itskhoki, is that their greatest effect may come in the period after Putin, when other people come to power. In this case, there could be a repeat of the 90s, when the USSR no longer existed but the consequences of the USSR’s policies fell on the new state, the economist warns.
“It will be up to the new government to rebuild the economy, and it seems to me that it is important for the West not to miss that moment and to create some kind of Marshall Plan for Russia so that the history of the 90s does not repeat itself again, when economic problems ruined the reputation of liberals and, ultimately, led to Putin’s victory,” says Itskhoki.
Will the lessons and mistakes of the past be taken into account when dealing with Russia’s aggression? Today, with the Middle East on fire, Southeast Asia anxiously awaiting China’s reaction to the Taiwanese elections and the North Korean dictator explicitly threatening to wipe South Korea off the map, this takes on added significance. “Just as the pandemic provided a signal that states were unprepared for large-scale epidemics, the war in Ukraine has provided one that states need to prepare for big wars. But if you are prepared, then there may not be a war,” Itskhoki assures.
Share this article
Read More
