Incomplete financial sanctions against Russia

Key points
  • If the sanctions taken against Russia are unprecedented, it is necessary to note the few exemptions which prevent their full effectiveness.
  • The exclusion of Russia from the SWIFT system could lead to movements around it by new instruments in the world.
  • On the other hand, the massive effects of the freezing by the Western world of the international assets of the Russian Central Bank should be underlined.

The short-term effect of financial sanctions is limited. Given our reliance on Russian energy, the sanctions have only raised prices, bringing more revenue to Russia. For this same reason – namely energy dependence – the exclusion of Russian banks from SWIFT also exempted the country’s largest bank, Sberbank, and Gazprom-bank, the third. However, the most important effect is on reputation and signalling: Russian banks are subject to local distrust by depositors, leading to a drain on liquidity. They have been placed on an international blacklist, which has cut them off from international financial markets and will facilitate the enforcement of anti-money laundering policies. Furthermore, Russia is becoming a no-go zone for international business. Indeed, payment groups, banks and companies have announced their departure. But to produce effects, it will take time, as demonstrated by other cases of sanctioned countries, such as Iran. This is a contrast to the immediate devastating effect of the war in Ukraine.

So far, the Union has announced several waves of sanctions against Russian banks, companies and individuals. The most important are:

  • The prohibition of any transaction with the Russian Central Bank and the freezing of its assets abroad, an unprecedented sanction in the history of central banks;
  • The exclusion of a group of seven major Russian banks from the SWIFT financial messaging service;
  • The extension of the measures to the Belarusian Central Bank and its financial sector, where the ban on SWIFT is limited to three banks;
  • The freezing of the assets in the EU of a group of 862 people and 53 Russian entities.

The disconnection of these same Russian banks from SWIFT was also endorsed by the United States, the United Kingdom, Switzerland and Japan, then by Australia and Canada. The same applies to transactions with the Central Bank of Russia. At the same time, the Biden administration announced direct sanctions against Russian banks. But the exemptions mean that a sizeable number of transactions can continue and that banks exempt from the SWIFT ban can be used to carry out international transactions. This is even more true for Belarus, where the ban concerns only three banks out of a total of more than 25 active banks, while there is no energy dependence on this country.

The difficulty of reacting adequately to the war in Ukraine demonstrated what we already knew tacitly, namely that Russia is deeply infiltrated into the Western financial system, probably with the intention of making any sanctions difficult. Russian individuals and companies hold significant shares in European companies. Since the adoption of the first sanctions in 2014, following the annexation of Crimea, Russia knew that the SWIFT issue was on the table and sought alternatives. Special communication lines to bypass SWIFT are now likely to be set up between Russian banks and Chinese financial institutions, for example. These networks will be extended to other countries, reducing the centrality of SWIFT and Western currencies. India has also developed its Structured Financial Messaging System (SFMS) and has yet to condemn the Russian invasion. Banks could even use already well-developed crypto payment channels that are not part of SWIFT. The Commission said it will also track crypto payments, without further specifying how it will do this. In addition, Central Banks around the world are exploring the possibility of issuing their own digital currencies, the “Central Bank Digital Currencies” (CBDC), thus reducing the need for transactions with SWIFT. Now that the exclusion of SWIFT is effectively used as a political weapon, we can expect the development of alternatives to increase.

The positive side effect is the blacklisting of the Russian financial system, and now also Belarus. So far, European banks and entities have been lenient towards the Russian financial system, even though limited sanctions were already in place. Huge money laundering cases have taken place in the Union, involving Russian counterparties, mainly via the Baltic States. In the Den Danske Bank case, the anti-money laundering procedures regarding the non-resident portfolio of the Estonian branch were not properly applied. This mainly involved transactions of more than €200 billion between 2007 and 2015 between Russia, the UK and offshore financial centres. In the case of Swedbank, it concerned transactions in the Baltic subsidiaries of around 37 billion euros between 2014 and 2019. In the ABLV case, a small Latvian bank was liquidated by the ECB in 2018 for more than €37 billion. billion euros in criminal money laundering, mostly from Russian depositors. And this is probably only the tip of the iceberg, if we consider the Cypriot or Maltese constructions, or even the Wirecard affair.

[Depuis le tout début de l’invasion de la Russie de l’Ukraine, avec nos cartes, nos analyses et nos perspectives nous avons aidé presque 2 millions de personnes à comprendre les transformations géopolitiques de cette séquence. Si vous trouvez notre travail utile et vous pensez qu’il mérite d’être soutenu, vous pouvez vous abonner ici.]

In the same vein, the ECB took responsibility by declaring Sberbank failing or likely to fail under the Single Supervisory Mechanism (SSM). Sberbank Europe, with its entity based in the Union, more specifically in Austria, and its subsidiaries in Slovenia and Croatia, suffered significant withdrawals of deposits and could not be recapitalized by the parent company, given the measures imposed on Russia. Sberbank, although excluded from the SWIFT ban, is Russia’s largest bank, and was also the largest Russian bank in the EU, with 13.6 billion in assets and nearly 4,000 employees. The ECB most likely already had doubts about this bank and took the opportunity to close it, however leaving a cost of 1 billion euros for the Austrian deposit guarantee fund. Other European subsidiaries of Sberbank outside the SSM, such as those in the Czech Republic, Hungary, as well as in the Balkans, are also being liquidated, as the Hungarian authorities are upset that they do not have assets to cover the losses. This is a question that comes up often in the debate on the consolidation of bank subsidiaries at European Union level.

Given the evolution of this war, other measures will have to be taken. The exemption of two Russian banks, including the country’s largest, is a huge omission, making it easy to circumvent the SWIFT ban. Another form of evasion is the other existing forms of messaging and transactions such as, among others, the CBDC which is already used in some parts of the world. Therefore, multilevel and more proportionate action will be required, with fewer or no exceptions. It will also require diplomatic action involving other countries to limit circumvention. But the key is the Western world’s freezing of the international assets of the Russian Central Bank, large corporations and Russian individuals.

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