The latest Western sanctions on Russia, which are focused on Russia’s central bank, are an unprecedented development in a conflict where long-held Western foreign policy assumptions have evaporated. It is the latest step in a strikingly successful coordinated Western response.
But while these sanctions are already having a major economic impact, it is not yet clear whether they will change the course of the war and force a change in Russia’s behaviour. At the same time, Western states are now approaching the limits of the sanctions that can be imposed on Russia without causing serious harm to their own economies.
In a joint statement on 26 February, the US, EU and UK said that they would impose measures “that will prevent the Russian central bank from deploying its international reserves in ways that undermine the impact of our sanctions”, a move which economic historian Adam Tooze described as “tantamount to full-scale financial war.”
Amplifying sanctions imposed by the US two days earlier on Russia’s major banks, these measures froze many of their assets and limited Russian banks’ access to foreign currency markets. The result is that Russian companies that need dollars and euros to pay for imports, investors that want to repatriate assets, and households that want to hold dollars will encounter a shortage of foreign currency. Russia’s central bank has said that the sanctions mean it is not able to make currency interventions to support the rouble. Joseph Borrell, the EU’s chief diplomat, has said that 50% of Russia’s reserves are in banks where they can be blocked by the US, EU and UK.
Russia exports more goods than it imports, and for many years the Russian government has used that primary surplus to accumulate large sovereign reserves, which were intended to provide a buffer to insulate the country from economic shocks. Russia’s financial sector weathered the global financial crisis and a crisis in 2014, caused by sanctions and a slump in the oil price, because the government was able to draw on these sovereign reserves to support its banks and other firms. Now a large proportion of these reserves may be effectively unusable.
The effect of these measures is likely to be a serious economic shock. The has already been a devaluation of the rouble, which will cause a jump in prices, and Russian companies may start to encounter problems in making payments for imported goods. To try to maintain financial stability, the central bank has been forced to introduce capital controls, compel companies to convert export revenue into roubles, and raise interest rates by over 10 percentage points.
Russia’s economy has successfully adapted to previous rounds of economic pressure, albeit with impaired long-term growth prospects, and it will adapt again in this case. But the response of the government suggests these measures have caused serious alarm in the government. On 27 February, Russian president Vladimir Putin specifically cited “illegitimate western sanctions” when he gave a public order to put the country’s nuclear forces on high alert.
The sanctions are also alarming the Russia business. The day after their introduction, Mikhail Fridman, one of Russia’s richest men, called for an end to the war. Public shows of dissent of this kind from the elite are extremely rare in Russia, but while the aim of sanctions is ultimately to change elite behaviour the biggest cost of these sanctions will be borne by ordinary Russians, many of whom are opposed to the war in Ukraine.
However, Western policy makers should not assume that the Russian leadership will respond to economic coercion with a change in strategy in Ukraine. That has not been the government’s reaction to previous rounds of sanctions, although the Russian government has never had to deal with measures of this scale. Policy makers must also decide whether they are willing to escalate the economic war even further if the war in Ukraine continues, and if so how much damage they are willing to inflict on their own economies. So far Western states have held back from imposing sanctions that would affect Russia’s trade in oil and gas. Sanctioning the energy sector would impose heavy costs on Russia, but would also have a serious impact on Europe’s economy.
In the coming days, the true impact of these extraordinary measures will become clearer. In the coming weeks, however, Western leaders may well be forced to explain why sanctions will also begin to be felt at home.