The Loophole in Biden’s Sanctions That Allows Russia to Prosper

How to punish Putin without devastating Europe’s economy remains a challenge.

By , a deputy editor at Foreign Policy.
An activist holds a placard in Lafayette Square to protest Russia's invasion of Ukraine in Washington.
An activist holds a placard in Lafayette Square to protest Russia's invasion of Ukraine in Washington.
An activist holds a placard in Lafayette Square to protest Russia's invasion of Ukraine in Washington, D.C., on Feb. 24. MANDEL NGAN/AFP via Getty Images

Putin’s War

It took less than 24 hours for the United States to announce a raft of sanctions against Russia in response to its invasion of Ukraine this week. Some of those measures were unprecedented, but for Ukrainians, and for others worried about Russian President Vladimir Putin’s rising hostility and aggression, the only question that seemed to count was: Would the penalties change the war’s arithmetic for the Russian leader?

The short answer seems to be no.

To the consternation of many observers, the West ruled out excluding Russian banks from the SWIFT interbank messaging system. Instead, sanctions were focused on freezing the assets and impeding the activity of Russia’s five largest banks.

It took less than 24 hours for the United States to announce a raft of sanctions against Russia in response to its invasion of Ukraine this week. Some of those measures were unprecedented, but for Ukrainians, and for others worried about Russian President Vladimir Putin’s rising hostility and aggression, the only question that seemed to count was: Would the penalties change the war’s arithmetic for the Russian leader?

The short answer seems to be no.

To the consternation of many observers, the West ruled out excluding Russian banks from the SWIFT interbank messaging system. Instead, sanctions were focused on freezing the assets and impeding the activity of Russia’s five largest banks.

What exactly that means in practice—and doesn’t mean, as it turns out—was the focus of the conversation I had this week with Foreign Policy columnist Adam Tooze for the podcast we co-host each week, Ones and Tooze. The exchange was so interesting and timely that we decided to transcribe parts of it for our readers.

Sanctions are only the most literal way to think about the economic dimension of this war. The discussion goes on to address the regional spillover from this kind of conflict, the effect on global markets for wheat and gas, and what the war tells about the influence of Russian oligarchs over Putin.

This interview has been edited for length and clarity.

For the entire conversation, and episodes in the weeks ahead on this subject and others, subscribe to Ones and Tooze on your preferred podcast app.

Cameron Abadi: There’s been a lot of talk about what exactly is in the Biden administration’s package of “severe sanctions,” as U.S. President Joe Biden called it. What did Biden deliver here?

Adam Tooze: The big news is that the U.S. Treasury is extending sanctions to Sberbank, which is the dominant bank in the Russian economy. It holds about 30 percent of all deposits, and half of Russians have an account with the bank and have their payroll paid through it. So this was a huge step. But then, as he was going along, Biden slipped in this other phrase, which is to say, yes, we are sensitive to the issue here of needing to balance the interests of consumers in both the United States and Europe, who are, of course, understandably worried about energy prices. And so, we have made a provision to ensure that payments for energy deliveries can still go ahead.

At which point, of course, really the entire conversation ought to have stopped, and the question should be, “Mr. President, what do you mean?” Because unless you are sanctioning energy payments, you’re not really imposing the sanctions that matter. And if you dig deep into the fine print of the Treasury website, it does appear as though the Treasury sanctions exempt all variety of different payments—and they explicitly exempt energy as a sector. What the fine print seems to suggest is that if anyone wants to make a payment to one of these sanctioned Russian banks for energy-related purposes—any kind of deal with regard to energy, it would seem—they’re free to do so as long as they act by way of a non-American intermediary.

So this would seem to be an open door to an avoidance of the sanctions and to allow the major payments of funds to go ahead. I think this is probably the terrain on which this compromise, this difficult compromise, with the Europeans was struck because the Europeans desperately need the Russian energy. An immediate strike against their energy supply would inflict crippling damage on the European economy. And this appears to be the fine print that enables that compromise to have been struck.

CA: Wait, the whole point of the sanctions is to prevent Russia from conducting transactions abroad, and that mostly consists of energy. But then we add a loophole that says, except for the energy exports that are the majority of the transactions. Is that what you’re saying? That there’s essentially just a huge loophole in the middle of these sanctions?

AT: I’m as bewildered as you are, to be honest. It may be the case that, as it were, there’s more fine print. But right now, if I were in the energy trading business, I would be diverting my business to Deutsche Bank or Paribas or whatever else and getting on with it.

CA: So, maybe it would be helpful to take a step back a bit. I was wondering what history generally tells us about the effects of a major interstate war like this. Are wars like this major economic turning points generally?

AT: The direct analogue to this is the U.S.-led invasion of Iraq in 2003. Similar scale of conventional operation. The Russian air attack so far has been modest by comparison with shock and awe. And that had a devastating impact on Iraq. It had a hugely disruptive impact on the regional economies, ultimately contributing to the destabilization of Syria, at least, and was a huge shock to the Iranian economy and to other neighbors that exported to Iraq. But it’s not a world-shaking event.

And of course, the impact on the U.S. economy of the 2003 invasion of Iraq was modest. It involved a ramp-up in military expenditure of 1 or 2 percent of GDP. And the effort the Russians are making is larger in proportion to their economy. But this isn’t a wholesale mobilization of Russian society for the invasion. So I would expect catastrophic damage to Ukraine itself and ripple effects that shock confidence throughout the region, spilling over across the Black Sea, no doubt. But it’s that kind of a major war, as opposed to the total historic transformations that we saw as a result of World War I, World War II.

CA: Presumably, there will be effects on commodity markets, specifically the exports that Russia and Ukraine make—wheat and oil. And that would probably affect countries that are sensitive to those prices, right? Should the developing world be fearful of spikes in the prices of grain and gas?

AT: Yes, absolutely. I mean, we groan under the shock of rising gas and oil prices in the West. But the situation for poorer countries, which are desperately dependent on imported energy, is much more serious. And the same applies to the other dimension of Russian and Ukrainian commodity exports, which is, indeed, food. And this is the sector where Ukraine, in fact, actually really matters as a global economic force, and along with Russia, the two of them together are huge. They account for about 23 percent of global wheat exports, so almost a quarter of the market. That’s gigantic. 19 percent of corn or maize that’s exported globally and 80 percent of sunflower oil comes from this region. So these are going to be big shocks.

The stocks for those are adequate to avoid, I think, an immediate global hunger crisis. But the prices of all of those commodities are surging as we speak. Some experts are predicting a doubling of wheat prices, and that has a really dramatic effect on incredibly fragile customers such as Lebanon but also big, populous, medium-to-low-income countries such as Bangladesh, Egypt, and Ethiopia, all of which rely quite heavily on imported grain and flour.

CA: To turn to Russia’s other big export: Which countries are most dependent on Russian fossil fuels?

AT: Well, Russia does export all three major fossil fuels, so oil, gas, and coal. And the largest is still oil, actually. That accounts for about half its daily exports of commodities. The difference, though, between oil and coal, as opposed to gas, and why all of the attention right now is on gas, is that oil and coal are markets that have deep spot markets globally. So you can actually just go into one of the big commodity exchanges and buy oil and coal for immediate delivery, and they can be shipped by bulk cargo ship and can be moved around the world relatively easily. And though Russia is a huge supplier, it is one-tenth of the oil market.

By contrast, gas is, of course, much harder to move around. Perhaps unsurprisingly, the countries that are most dependent on Russia in Europe are the former members of the Soviet bloc. So, if you look at Europe, it’s the Czech Republic, it’s Latvia, it’s Hungary, it’s Slovakia, it’s Bulgaria, and it’s Finland. For them, the degree of dependance on imports from Russia varies between 67 percent for Finland and 100 percent for the Czech Republic. So the latter just really doesn’t have any other access. All its gas comes from Russia.

But if you add all of them together, of course, that’s a bunch of small countries. So their total weight is smaller than that of Germany. Germany is really pivotal here because it’s by far the largest European economy, and half its imported gas comes from Russia. And the other one is Italy. And Mario Draghi as prime minister has been notable for his reticence on sanctions.

CA: So, Russia would do what? Produce less gas and raise that spot price?

AT: Yes, Russia could make less gas available to the Europeans. That is the threat. The Russians would say, you can’t have any gas. The Europeans will be desperate and then go looking for it somewhere else, and then those prices would surge.

And this is really unusual behavior because even at the height of the second phase of the Cold War in the 1980s, Russia was a thoroughly reliable supplier of energy to the West. The gas and the oil flowed, and they flowed consistently.

And so far, as of now, gas is flowing through the pipelines of Ukraine to the West today, even as a full-scale invasion is taking place. And Russia has not attempted to throttle that back as yet. They’re waiting, I think, to see. Who knows how this is going to play out in the next 24 to 48 hours? But they, I think, are waiting to see how the West reacts.

CA: That raises the question of whether Europe’s dependance can be curtailed somehow. How quickly could Europe get alternative sources of energy? How long are the lead times here?

AT: Over the very short term, the Europeans, I think, are relatively sanguine. They’re no longer quite in the panicky mode that they were in October, November, December. If you do the math very carefully and make some optimistic assumptions about cold weather, there’s a scenario in which Europe could handle a full-scale shutdown of gas energy through to the summer. Europe could live off the stocks that it’s got and get through. It could substitute imported liquefied natural gas, perhaps. It could bring in some more supply from North Africa and Norway.

The real nightmare scenario, I think, for Europe is to still be in a standoff confrontation with Russia nine months from now. And then it gets really difficult to see how you plug that gap. Now that’s $250 million a day, which Russia would be losing. So, would Russia really want to do a prolonged blockade? Big question mark. But if it did, what would Europe do? It would need to probably ration industrial consumption. There’s probably no other way around it. So it’s not the immediate question of running out of fuel in the next five to six months, except perhaps for the most vulnerable Eastern European states. It’s that time horizon of the next year or two that’s going to be really, really dicey if we do end up in a new full-on confrontation.

CA: So, what does this war tell us about the relative power of oligarchs in the Russian state? Clearly, they couldn’t have wanted this kind of war. We’re now talking about a kind of major breakdown of relationships between the West and Russia. Was it always a kind of illusion that they had influence over Putin to begin with?

AT: I think so. I mean, there are apparently 23 billionaires in Russia who, by the beginning of this week, had lost about $32 billion in net worth. So their net worth shrank from $375 billion to $343 billion since the beginning of this confrontation. So, no, this is not good for business, and it does tell us something about power structure in Russia.

And it confirms, I think, what we already know, which is that the old story of Putin as some sort of tool merely of oligarchic interests or the Kremlin as the tool of oligarchic interests is obsolete, and it’s been obsolete for a while now, right? The critical turning point is the actions against oil tycoon Mikhail Khodorkovsky in 2003, when Putin incarcerated the man who was at the time considered to be the richest in Russia and then forced him into exile. And since then, I think, the consensus has been that the group that really calls the shots are the security establishment types that flock around Putin, and that has been really pronounced since 2014, with the imposition of the first round of sanctions on Russia and the increasing definition of Russia as a state under siege. And what has in a sense happened in the current moment is that that group has moved from a relatively defensive posture to the front foot since 2018, when they believed themselves to have scored a giant success in Syria. And with a new generation of military hardware coming on, that group is really calling the shots and driving the pace.

Cameron Abadi is a deputy editor at Foreign Policy. Twitter: @CameronAbadi

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