Russia Braces for Permanent Sanctions From the U.S.
Andrey Kostin, a former Soviet diplomat in London who runs Russia’s second-largest bank, was jubilant when Donald Trump was elected last year. “We may soon see U.S. financial sanctions eased or even lifted,” he said at the time. Now, he’s changed his tune as his state-run VTB Group, like other targeted Russian entities, faces decades of limits on foreign borrowing. President Trump reluctantly codified those sanctions into law on Aug. 2 when he signed a bill that passed Congress with veto-proof majorities. “There’s a war in the area of finances,” Kostin complained at a banking conference in St. Petersburg on July 14.
Desperate to snap out of an investment chill after its longest recession in two decades, Russia is likely to remain walled off from foreign capital and technology for the foreseeable future. U.S. and European Union sanctions imposed in 2014 over Russia’s annexation of Crimea cut off state banks from capital markets and restricted access to energy technology, which along with the crash in oil prices, hit the economy with a one-two punch that drove it into recession.
The new law, passed in response to Russia’s meddling in the 2016 U.S. presidential election, tightens some of those limits a bit. For instance, U.S. companies now can’t participate in any energy project in which sanctioned Russian companies are involved. While it allows the president to widen the sweep of sanctions to other industries, which Trump isn’t likely to do, it specifies that any move by Trump (or any future president) to loosen penalties could be blocked by Congress. That means the new sanctions enjoy a similar status to ones that were entrenched under Jackson-Vanik, a 1974 Cold War-era amendment that imposed trade restrictions on the Soviet Union for blocking Jewish emigration. Those sanctions endured for four decades as a symbol of Moscow’s isolation even after the Soviet collapse when U.S. presidents waived its provisions on an annual basis. “Now that the law is signed, it’s completely clear that the situation with sanctions will last a long while,” says Natalia Orlova, chief economist at Alfa Bank in Moscow. “This flavor of sanctions will accompany all business activity with Russia.”
Russian officials have previously put the annual cost of sanctions at €25 billion ($30 billion) in 2014 and 2015. The International Monetary Fund has estimated that prolonged curbs may result in a cumulative loss of as much as 9 percent of gross domestic product in the medium term.
The sanctions bill sparked shock and anger in Moscow, ending any lingering hopes that Trump would be able to deliver on his campaign pledge to work with Russian President Vladimir Putin and repair ties that are at their lowest point since the Communist-era standoff. Russia ordered the U.S. to slash 755 staff—almost two-thirds—at its diplomatic missions, in a harsh response unprecedented even in Cold War times. The U.S. says it will announce its response by Sept. 1.
While Russian Foreign Minister Sergei Lavrov and U.S. Secretary of State Rex Tillerson committed to pursue dialogue at an Aug. 6 meeting in Manila on the sidelines of a regional security summit, the dispute is likely to hamper efforts to cooperate on Syria and try to resolve the conflict in Ukraine.
Russia was rated 111th among 138 nations in foreign direct investment and technological transfer by the World Economic Forum’s Global Competitiveness Report. The economy will expand 1.3 percent this year after two years of recession, according to analysts surveyed by Bloomberg. With oil prices still hovering around $50 a barrel, the Russian central bank says potential growth won’t exceed 2 percent—a far cry from the 7 percent-a-year average GDP expansion from 2000-08 during Putin’s first two terms.
Rosneft, the state oil producer headed by Igor Sechin, a close ally of Putin, has been hit particularly hard by the sanctions, which forced Exxon Mobil Corp. to suspend a joint project to develop offshore Arctic reserves. The Russian oil major delayed its plans to drill in the Arctic until at least 2019 and put on hold a project to build a liquefied natural gas plant on the east coast island of Sakhalin because of lack of expertise and financing. The sanctions also ended up biting Exxon, which was hit with a $2 million fine by the U.S. Department of the Treasury for allegedly violating sanctions when Tillerson was running the company. “I’m sorry that Exxon suffered, that they had to pay a $2 million fine for dealing with us,” Sechin told reporters on Aug. 3 while traveling with Putin to the Russian Far East. “The fact that sanctions are working against those that imposed them is positive.”
Despite tapping domestic funds, including Russian state help, and securing prepayments for supplies of crude oil to China, Rosneft remains hamstrung by the ban on U.S. and European companies providing technology for offshore development. At the end of 2013, Rosneft had $14.4 billion in financing lined up from foreign partners for offshore projects.
For Kostin, the sanctions have crimped his once expansive international ambitions. In 2013, the year before they were imposed, business outside of Russia represented more than 15 percent of his investment bank’s profits. But its London unit hasn’t turned a profit since, and its staffing has tumbled to 290 at the start of this year from 480 employees in 2014. VTB needed billions of dollars in emergency liquidity from the central bank after it lost access to U.S. and European capital markets. While it has steadily reduced state funding since the peak of the crunch, it needed to open a credit line from the central bank in the second quarter to maintain short-term liquidity, according to a report by rating company Expert RA.
For now, the market has taken the latest development in stride. After suffering a battering in the past two months, Russian bonds, stocks, and the ruble showed signs of recovery. Russia has become resilient to external shocks in the three years since sanctions were first imposed, allowing its currency to trade freely, keeping spending in check, and trying to promote “import substitution.” That’s benefited domestic agricultural producers, including cheese makers who’ve sought to fill the gap after Russia banned dairy products and other foods imported from Europe and the U.S. in retaliation.
Still, behind the bluster of some officials, there’s recognition that the deepening standoff represents a major risk. Russian Economy Minister Maxim Oreshkin urged companies to reduce their foreign borrowing. “How is it possible to speak of any long-term prospects when everything is unstable?” said his colleague Industry Minister Denis Manturov.