Report

U.S. Sanctions on Russia Don’t Nail Energy Sector

U.S. Sanctions on Russia Don’t Nail Energy Sector

With the latest slate of sanctions on high-profile Russians Monday, the Obama administration argues that it is ratcheting up the pressure on Vladimir Putin and inflicting significant pain on the Russian economy. But the new sanctions stop short of hitting the key energy firms that are the backbone of Russia’s economy — and that are the most vulnerable to sanctions pressure from the West.

The U.S. Treasury designated a number of individuals in Russian president Vladimir Putin’s inner circle, including Igor Sechin, a former deputy prime minister of Russia and currently the president of Rosneft, one of the company’s largest oil companies, with a market capitalization of about $65 billion.

The designation means that U.S. persons cannot have dealings with Sechin — but a Treasury spokesperson said that Monday’s sanctions don’t prevent U.S. and European companies such as ExxonMobil and BP from continuing to do business with Rosneft. That’s because Sechin controls less than half the company; if he held a majority stake the company itself would be off-limits. The loophole means that Western firms can continue their multi-billion dollar, multi-year deals with Rosneft. Western Exxon is working with the company on oil-exploration projects in Siberia and the Arctic. BP, meanwhile, owns about 20 percent of the Russian oil giant.

Rosneft shares rose Monday on news that it had not been targeted by sanctions, though Standard and Poor’s downgraded the company’s credit rating, along with those of natural gas giant Gazprom and pipeline behemoth Transneft. Russian markets also got a boost, with stocks on the Moscow exchange gaining 1.6 percent on the day and the ruble recovering some of the steep losses incurred against the dollar since the outbreak of the crisis in Ukraine.

"We don’t have to engage in any deep analysis," said Adrian Karatnycky, a fellow at the Atlantic Council, a Washington think tank, and a managing partner of Myrmidon Group, a consulting firm focused on Eastern Europe. "The Russian markets reacted with relief."

The news was more mixed for Rosneft’s Western partners. BP’s American Depositary Receipts were down about one percent in midday trading in New York, while Exxon shares were up slightly. Exxon declined to comment, and BP did not immediately respond to requests for comment.

Other sanctions made public on Monday include the designations of several companies linked to Gennady Timchenko, a Russian billionaire with a long-standing and extremely close relationship to Putin, a former judo sparring partner. Timchenko had also been targeted in the first round of Ukraine-related sanctions last month. The targeted companies, which include mining and pipeline construction firms controlled through the Volga Group, but appear to do little business with U.S. companies.

A spokesman for the Timchenko’s primary holding company, Volga Group, told Bloomberg Businessweek that "none of the companies mentioned by the U.S. Department of the Treasury has any connection to events in Ukraine…There can now be even less doubt that these announcements and measures are politically motivated."

Notably absent from the sanctions list were significant energy firms or other Putin insiders including Alexei Miller, the chief executive of Gazprom, Russia’s natural-gas exporting behemoth.

Obama administration officials said Monday that they are keeping the prospect of broader sanctions, such as those that target the financial or energy sectors, in reserve. A senior administration added that they believe European officials will take the plunge to inflict sanctions on significant sectors of the Russian economy "if Russian troops move across the border" with Ukraine.

Taken together, the latest sanctions represent an incremental increase in U.S. pressure that so far has weakened the ruble, accelerated the flight of foreign capital from Russia, and walloped Russia’s sovereign credit rating, which makes it harder for Moscow to tap capital on global financial markets.

Seriously targeting the energy sector would be crucial, though, because energy exports make up more than half the Russian government’s revenue. Gas sales to Europe, in particular, are a point of vulnerability for Gazprom, since about three-quarters of its sales go to Europe. But Russia’s oil firms, especially Rosneft, are also huge producers and long-time partners of big Western firms, with ambitious expansion plans.

Administration officials said Monday that they think the one-two punch of targeted sanctions and the knock-on effects such as the weakening currency that they have so far inflicted on the Russian economy will "affect Russia’s calculus," because they show that Putin’s annexation of the Crimean peninsula and destabilization of eastern Ukraine have "concrete economic costs."

So far, though, the sanctions to date appear not to have changed Putin’s calculus regarding the wisdom of Russian meddling in Ukraine. And by stopping short of blacklisting entire sectors, they have given U.S. and European firms free rein to continue working with Russia, Inc.

Big Oil firms continue to talk up their investments in Russia, and some, such as Royal Dutch Shell, plan to ramp up investments in major energy projects in Russia. European countries continue to plan major deals with Russian nuclear power firms. Big European companies that have long-standing trading ties with Russia, meanwhile, are arguing against a ramping-up of sanctions.

The latest sanctions do deal one potential blow to some of Russia’s energy aspirations by specifically designating Stoytransgaz, one of whose subsidiaries is vying to build a portion of a natural-gas pipeline in Bulgaria. But the full impact will only be felt if Europe follows suit with similar designations. U.S. officials said Monday that they don’t expect that the latest U.S. and European sanctions lists will coincide exactly.

Stoytransgaz is reportedly part of a consortium seeking a 3.5 billion euro contract to build a portion of the South Stream pipeline across Bulgaria. South Stream is a Putin-backed project that would enable Moscow to ship natural gas from Russia to southern Europe while bypassing Ukraine, reducing Kiev’s leverage as a key transit state for Russia’s energy exports. But South Stream’s future has come under question as a result of the Ukraine imbroglio, because European Union officials have put the project’s legal approval on hold.

Hanna Kozlowska contributed to this report.