The Dangerous Loophole in Western Sanctions on Russia

Through a rare, hydra-headed blend of government sanctions and the historic stampede of 1,100 multinational firms out of the country, the economic blockade of Russia has proved highly effective. Russian President Vladimir Putin’s war campaign struggles onward, however. This is due, in part, to his ability to cannibalize the 70 percent of the Russian economy that he controls. It is also because the advanced Russian weaponry and Iranian drones he uses are dependent on a stream of U.S. advanced electronic components trickling across the border. The good news is that the U.S. government and U.S. chipmakers can curtail the flow of these gadgets that enable Russia’s instruments of slaughter and destruction.

The Ukrainian steppes have become an arena for a distinctly modern form of warfare, dominated by drones and fortified by Western technology. The reinvigorated Ukrainian military leans heavily on an arsenal that includes Western tanks and drones—which we see in sorties against Russian targets integrating advanced electronics, sensors, and communication systems. Russia finds itself in a tough spot modernizing its military hardware. Striving to achieve technological parity on the battlefield, Russia’s T-90 tanks require substantial amounts of complex electronics, and even then are a far cry from Abrams or Leopard tanks. Russia is also turning to Shahed-136 drones, as unmanned aerial vehicles play an increasingly important role on the battlefield. It is not revelatory to say that all this runs on chips. The tech race reveals a stark divergence, though: Russia’s semiconductor industry is a laggard, choked by Western sanctions and years of disinvestment. Operating at a 65-nanometer chip technology—approximately 15 years behind the curve—the nation struggles to keep pace with the United States and China.

The Kremlin’s aspirations to go it alone technologically aren’t just optimistic; they’re borderline delusional, not least because Russia has been cut off from the global financial system. Even Chinese financiers are rolling up their welcome mats, while industry titans such as Taiwanese TSMC and Dutch ASML have slammed their gates. Nonetheless, Russia has found enablers both in the East and West. Even as companies like American Nvidia have severed their ties with the sanctioned Sberbank—the leading Russian lender—and Russian tech conglomerate Yandex’s AI ambitions have been mothballed, something curious is happening. An increasing number of Western-made components are finding their way into Russian military equipment.

After a drop in 2022, Russian imports of critical components, from simple transistors—the building blocks of electronics—to microchips and more specialized microprocessors, have reverted to levels commensurate with what we saw before the war. Moreover, a staggering 98 percent of these components are routed through third countries, compared to 54 percent the year prior, often manifesting in military equipment ranging from Kalibr missiles to T-72 tanks.

Companies like Intel suspended direct shipments to Russia early into the war in a wave of business departures, but they did little to prevent their products from being reexported to Russia through third countries. Texas Instruments shipped 36 shipments directly to Russia, with six additional shipments by one of its authorized distributors, in late February and early March of last year. But Reuters found out about almost 1,300 more shipments made by intermediaries. It is notionally legal—though morally abhorrent—for the intermediaries to reexport components outside of sanctions purview.

According to estimates from the Yermak-McFaul Working Group, Intel alone saw its exports of critical components to Russia rise to $700 million in 2022, up from $500 million the previous year. Not all of these components fall under the purview of sanctions; according to the Royal United Services Institute, the Russian military uses more than 450 different types of foreign-made components, and only 80 of them are subject to U.S. sanction controls. One legal loophole allows Russia to acquire these goods under the veneer of dual-use—referring to items with both civilian and military applications—whereby foreign-made components are deployed in the supposedly “peaceful” project of space exploration at Roscosmos. This is only one of the many methods Russians are using to import advanced electronics.

On the ground, the scheme depends on Iran’s involvement. It is more than just a drone supplier to Russia; it’s a technology partner. Iran is actively assisting Russia in setting up manufacturing lines for drones at the Alabuga Special Economic Zone in Tatarstan. Despite efforts to mask the Iranian origins of these drones with Russian labels by the Tatarstan producer, a Washington Post investigation into leaked documents from Alabuga reveals the reality that Tehran has essentially franchised its drone technology to Moscow. This franchising includes specialist documentation, project know-how, and even sending Central Asian workers to Iran for training. Notably, these drones feature at least 13 components from Analog Devices. Even though said components are not exclusively used in military drones and are not listed as sensitive technologies, they would fall under a near-blanket ban on electronics exports recently imposed by the United States.

China, too, emerges as a linchpin in this convoluted network, accounting for more than 87 percent of Russia’s semiconductor imports in Q4 2022, a staggering leap from 33 percent in the same period in 2021. Yet over half of these components are not even Chinese-made, but rather rerouted through Hong Kong and mainland China-based intermediaries—shell companies such as Agu Information Technology, established only in 2022, shipped over $18 million worth of chips to Russia. Other shell companies, some involving Russian nationals in their establishment, sell to equally obscure importers; some are based in areas near Moscow, while others had no prior business activity before the war. It’s notable that exports of U.S. chips from Hong Kong and China to Russia increased tenfold comparing a pre-invasion period in 2021 to post-invasion period in 2022, reaching about $570 million that year, according to a Nikkei Asia report.

Hong Kong’s status as a transshipment port has contributed to volumes of dual-use items getting into Russian hands. It is notoriously hard to detect from high-level trade data because it requires visibility throughout multiple stages of the supply chain. Given China’s open defiance of Western sanctions, it is hard for export control officials to conduct pre-shipment screenings of said items.

Another route that microchips are taking is through modernized port facilities in Georgia. Cargos with shipping labels for Central Asia are transported to Russia by various trucking companies. Similar ghost trade routes have been discovered for the Baltic States. Other countries of the region that are members of the Eurasian Economic Union are also convenient intermediaries, as they do not have a customs border with Russia. Kazakhstan is also a key player in the scheme; in 2022, it exported $3.7 million worth of highly advanced chips, up from $12,000 the prior year. The United Arab Emirates (UAE) follows along in chip shipments. Reports show that exports of electronic parts from the UAE to Russia increased sevenfold within a year to almost $283 million in 2022, while microchip exports rose fifteenfold to $24.3 million from $1.6 million in 2021.

Turkey’s role in Russia’s labyrinthine semiconductor supply chain adds a Byzantine twist to an already complex narrative. From June to December 2022, a dozen shipments of drone technology threaded their way through the Netherlands, Turkey, and the UAE to Russian soil, according to Russian customs data analyzed by the Free Russia Foundation. This was not garden-variety gadgetry but included high-end GPS systems with antijamming capabilities, shipped by a Canadian firm through CTL Dis Ticaret Limited Sirketi—a company conveniently founded by a Russian national, Pavel Pertsov, in 2022. Moreover, Turkish firm Azu International has piped at least $20 million worth of components, including coveted U.S.-origin microchips, into Russia. Although Ankara has tightened its customs controls under EU pressure, this has not severed Turkey’s role as a vital intermediary. Instead, it merely inflates Moscow’s cost for accessing these restricted components.

Even though we cannot be sure that what we see in export statistics on a macro level are U.S.-made chips, it would be foolish to assume that Armenia’s sudden 515 percent surge in the import of chips from the U.S. compared to 2021, and a no-less-spectacular 212 percent increase from the EU, are signs of the creation of a Silicon Valley in Yerevan. According to a U.S. Bureau of Industry and Security report seen by the New York Times, 97 percent of those components were later exported to Russia.

Three patterns can be discerned across the entire parallel import supply chain—a term that the Kremlin’s official communication team uses to describe what are in effect decriminalized smuggling schemes used to bypass Western sanctions. First, using intermediaries that haven’t been put under sanctions; second, restructuring existing companies to conceal entities; and third, purchasing components and moving final assembly to Russia instead of buying finished sanctioned goods. On top of that, Russia disguises customs data, sets up illegal networks and one-day shell companies, and orchestrates fake transit operations.

In spite of this labyrinthine system, there still exists a real shortage of high-end chips in Russia that need to be replaced with their lower-quality equivalents, according to experts at the Center for Strategic and International Studies. For instance, an S-300 missile, originally designed for a surface-to-air role, fares much worse when repurposed for a surface-to-surface role since it often explodes hundreds of yards from an initial target. To build enough precision-guided missiles, Russia would need many more chips than it is able to supply for its military.

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Much can still be done to strengthen the tracking of chips across supply chains, thereby enhancing the efficacy of sanctions. We propose a five-point solution that would address the glaring deficiencies of the sanction regime.

Transparency and public accountability have an unambiguous power to induce change, as has been demonstrated by the corporate exodus from Russia. The U.S. State Department must increase transparency regarding the intelligence that it possesses regarding U.S. chips ending up in Russia. Backroom pressure does not provide enough incentive for the companies to move in and stop those glaring sanction evasion cases. There is an ongoing discussion surrounding the use of blockchain in supply chain traceability, with a recent report from the U.N. Conference on Trade and Development offering a blueprint for its implementation. So far, the EU has come the closest in requiring transparency along the supply chain with its corporate sustainability due diligence directive, even though it is far from storing trade data on blockchain ledgers. As we navigate the contours of a burgeoning technology-centered cold war, an outright embargo on chip exports to countries seen as facilitators in Russia’s supply chain is neither desirable nor prudent. But regular reporting mandates, rewards programs for whistleblowers, and publicly acknowledging violators will trigger a self-policing mechanism within the industry.

Advanced tracking mechanisms should be an integral part of new procedures. Efforts should be redoubled in employing technologies like radio frequency identification, barcodes, and data matrices for tracking chips across their entire lifecycles. These technologies, enhanced by immutable blockchain ledgers, would offer a powerful way to prevent chips from slipping through the cracks. Furthermore, GPS technologies could be utilized to monitor shipments in real time, especially those rerouted through third countries. Manufacturers could be required to implement these measures as part of their licensing agreements.

Secondary sanctions must be imposed on repeat violator countries. Countries serving as layovers on the semiconductor route to Russia are vulnerable to pressure and should be coaxed into playing ball. A formalized process must be put in place to identify and notify countries acting as intermediaries—and failure to comply should result in escalated sanctions that could go as far as restricting access to the Western financial system.

Criminalization of sanction evasion is still put on the back burner in a curious display of legislative lethargy in some parts of the EU. Soon, if the EU manages to get through its trilogue process, there will be an EU law that introduces criminal offenses and penalties for violation of EU sanctions. But then again, there remains a question of judiciary independence and whether Brussels will put enough pressure on leaders cozying up to Putin, such as Hungarian Prime Minister Viktor Orban.

Harmonization and simplification are also much needed. Currently, different types of chips are banned for export across the entire Western coalition, which creates possible loopholes. There exists one internationally recognized standard that classifies all the exportable goods and is used by customs officials around the globe. Banning entire categories of electronic components would align export control regimes across countries, thus increasing the efficacy of sanctions—and most importantly, removing exceptions that are used as loopholes by nefarious actors. Simplifying and harmonizing laws would not only make them easier to follow but also easier to enforce.

As the saying goes, “Chips are the new oil.” The West holds the advantage in this crucial sector. It’s time to tighten the screws and turn off the spigot for Putin.