The Obama administration hoped global markets would punish Russia. It's not happening.
When President Barack Obama stepped before the White House press corps on Friday to announce that Russia would face "costs" for moving military forces into Ukraine, it remained maddeningly unclear just how Washington planned to punish Moscow for its surprise invasion.
By Monday, it appeared those costs had become better defined, as markets around the world plummeted on the news Russian forces had seized de facto control of the Crimean peninsula. The ruble traded at record lows, and the Russian Central Bank had to spend in excess of $10 billion to prop up its ailing currency. By day’s end the bank jacked up a key interest rate by 150 basis points to halt the ruble’s slide. Meanwhile, Russian stocks plummeted, with key state-led companies such as Rosneft and Gazprom seeing double-digit losses. The Russian benchmark Micex index fell 10 percent, erasing a year’s worth of gains.
The market, it seemed, had accomplished what the White House had not: Quickly crafting and executing a punitive response to actions that have brought U.S.-Russian relations to their lowest point since the Cold War.
But then global markets did something unexpected: By Tuesday’s end, they had more than recovered from the previous day’s losses. "We haven’t seen military action being the focus," Joyce Chang, JPMorgan Chase & Co.’s global head of fixed-income research, told Foreign Policy. "Obama just seems more unlikely to go there. That’s why I think the market is rallying."
With a full-scale shooting war in Ukraine appearing less likely than during Monday’s frenetic trading, U.S. analysts struck a cautiously optimistic tone. In his first public comments on the presence of Russian troops in Crimea, Russian President Vladimir Putin wholeheartedly defended his decision to deploy forces there but said that he saw no immediate need to send his troops elsewhere in Ukraine. "For the moment there is no need for that, but the possibility still exists," he said. "On the whole, it seems to me that it’s stabilizing." Moreover, the Russian defense minister ordered Russian troops taking part in an exercise near Ukraine’s borders to return to their bases.
Those comments helped markets recover some of Monday’s losses. By day’s end, the Dow had gained 227.85 points, or 1.4 percent, and the Micex, the benchmark Russian exchange, saw gains of 5.3 percent, its largest single-day gain since May 2010. The ruble, meanwhile, regained 1.4 percent of its value against the dollar — this after trading at record lows only 24 hours earlier. Both Rosneft and Gazprom recovered some of their losses on the previous day. Correspondingly, investors abandoned the safe-haven assets to which they had fled. Gold futures fell just under 1 percent, and the yield on 10-year Treasury bonds increased to 2.691 percent from their one-month low in late trading Monday.
Win Thin, global head of emerging-market currency strategy at Brown Brothers Harriman, said he was surprised markets had rebounded so quickly. He said there was an "uneasy calm" as investors waited to see what Putin would do next and how the West would react.
Meanwhile, the Obama administration is slowly assembling a package of punitive economic measures targeting Russia, including some specifically aimed at senior Russian officials involved in the invasion of Crimea. "We’re not just considering sanctions, given the actions Russia is taking," State Department spokeswoman Jen Psaki said Monday. Administration officials have spoken of visa bans and asset freezes, but it’s not clear what other measures are under consideration.
In a blow to the Obama administration, European allies, including Britain and Germany, oppose imposing sanctions on Russia and have instead called for intensified diplomacy. Both countries have deep trade ties to Russia — much more so than the United States — and are heavily reliant on Russian natural gas, so they are reluctant to impose punitive measures that could harm their own economies as well.
The Obama administration has also promised an aid package to prop up the struggling Ukrainian economy, but that measure requires congressional approval. Negotiations in the relevant committees of the House and Senate are only just underway. According to congressional aides in both chambers, the bill will likely include $1 billion in loan guarantees, aid for civil society and election monitoring, and authorization for sanctions against Russian officials.
Beyond diplomatic reprisals such as the cancellation of military ties and suspending preliminary talks ahead of this summer’s G-8 meeting, little substantive pressure is being brought to bear on Russia. With markets rebounding, Moscow has even less incentive to heed Western calls for a withdrawal from Crimea.
Thin, the Brown Brothers Harriman strategist, said it’s far from clear that the administration will be able to impose punitive measures on Russia given the European opposition to sanctions. "The U.S. can’t really do anything in the U.S. if London’s still open for business," Thin said in an interview. But he said that there was also considerable risk that another morning of bad headlines could send the markets diving again.
At the moment, the prevailing wisdom on Wall Street holds that the worst of the crisis may have passed. "My base case scenario is that the European countries will express along with the United States outrage at Russia’s actions in Crimea but most European countries will also take a sanctions-lite approach as long as Russia does not begin military operations in the rest of Ukraine," said Chang of JPMorgan Chase, who added that the threat of war and instability has led her to shave a full percentage point off of her GDP growth forecast for Russia, from 1.8 percent to 0.8 percent.
Global markets, then, are feeling cautiously optimistic — but that’s something Putin could easily change. "We finally see a faint glimmer of light at the end of the tunnel," said Tim Ash, head of emerging markets research at Standard Bank Group. "Let’s hope this is the exit and not a Russian truck coming the other way."
Staff writer John Hudson contributed to this report.
Elias Groll is a staff writer at Foreign Policy. Twitter: @EliasGroll