March 9, 2022


Bargaining Chip?

On the speed and scope of the Russia sanctions, and the prospects for off-ramps

For the global hegemon, pulling the trigger on crisis management seems to consist primarily of posting PDFs to government websites. During the March 2020 financial panic, as the coronavirus first spread throughout the Global North, the Federal Reserve feverishly published term sheets for lending facilities meant to generate dollar liquidity, and the gears of the financial system moved in response. Since February 22 of this year, when Russian troops invaded Ukraine, the Office of Foreign Assets Control (OFAC)—the Treasury Department section in charge of sanctions—has published announcements meant to drain liquidity from the Russian economy. Within a week, the measures had breached “Fortress Russia,” President Vladimir Putin’s attempt to sanctions-proof his country’s economy, and Washington had once again demonstrated its power to deny—or grant—dollar liquidity. What will come next?

The climb up the sanctions escalation ladder was quick. After the start of Russian strikes, Washington ramped up its economic response. In its first steps, the United States targeted major state development banks and restricted Russian sovereign debt. The next day, OFAC severed the financial links between the global financial system and some of Russia’s biggest banks (including its top two) and choked off financing for some of its biggest firms. Concurrently, the Department of Commerce imposed export controls, limiting supply chain inputs for the Russian aerospace and defense sectors.

Over the first weekend of the war, after an agreement was reached with Canada and European allies, the United States announced sanctions on the Russian Central Bank—its most aggressive measure yet. Since that peak, Washington has further limited the Russian defense sector, imposed additional export controls targeting Russian refining, and restricted commerce with Belarus to thwart attempts at sanctions evasion. Most recently, the President announced that the United States would be banning the import of Russian oil, gas, and coal to the United States. Throughout, the Treasury Department has steadily added Russian elites and oligarchs to its sanctions list.

In parallel, the European Union also issued its own sanctions, at the slower pace required to get each of its twenty-seven member countries to agree on each measure. Notably, it limited major Russian banks’ access to Society for Worldwide Interbank Financial Telecommunication (SWIFT), the Belgian financial messaging company that facilitates most global financial transactions.

Bringing together diplomacy, economic policy, and financial plumbing, US sanctions are the joint effort of the White House, Treasury and State Department. The White House coordinates US strategy. It announces the big decisions, such as the central bank sanctions, and directs the cross-government anti-Russia economic initiatives. The White House’s Deputy National Security Advisor Daleep Singh (who, as head of the New York Fed Markets Group, administered the March 2020 coronavirus panic response) has been at the center of the US planning throughout the current crisis. The State Department handles international communication and coordination. To pacify jittery markets and nervous import-dependent allies, for example, Senior Advisor for Energy Security Amos Hochstein went on Bloomberg to make clear that US sanctions would not target Russian oil. Then, as the pressure for energy sanctions increased, Secretary of State Antony Blinken noted the ongoing “very active discussions” with Europe on a potential embargo. And, finally, after the United States did impose its oil ban, it was Hochstein who suggested that Washington could release oil reserves to cool the price hike and who went to the marquee energy industry conference to urge oil companies to increase production.

The Treasury, meanwhile, actually imposes the sanctions. This means crafting the technical implementation of the measures. On the energy question, for example, while the State Department handled the messaging, the Treasury Department issued the detailed clarification—the so-called energy carve-out—which explained that oil and gas purchases through sanctioned banks would be allowed.

For its outsize impact on economic activity and human life, sanctions policy is made with little pomp and scarce administrative procedure. Unlike monetary policy, housed in independent agency, sanctions policy is fully under the political control of the executive branch and faces few constitutional or procedural checks. To explain and enact the energy carve-out, which would affect 12 percent of the global oil trade, OFAC simply posted an “FAQ” on its website.


As with Fed announcements, it is the reaction functions of firms to such statements that gives sanctions their power. Some effects are direct and expected, as in the case of rapid depositor outflows, which ensured that, within a week of the measures’ imposition, the European Central Bank would be closing the EU affiliate of Russia’s largest bank. Elsewhere, sanctions ripple through the economy in less predictable ways: The United States sanctions a Russian firm, a US equity index provider removes it from its index, an asset manager who must mimic the index tries to sell the stock, fails, and the entire market short-circuits.

During the imposition phase, the biggest ally of a US sanctions regime is overcompliance. The memory of heavy US fines for sanctions evasion and the fear of losing access to the dollar system ensure that companies go well beyond the letter of the law when responding to US measures. (As one German bank official put it to the Wall Street Journal, “Our risk appetite… has been reduced to zero.”)

Despite the energy carve-out, skittish traders have stayed away from Russian oil, waiting to see whether the United States will convince Europe to ban imports. The effects of such overcompliance build on each other. Lack of market interest has meant that Russian oil is trading below global benchmarks, making it a potentially attractive business proposition. But, after Shell faced popular blowback for legally buying a heavily discounted Russian cargo, traders have continued to avoid Russian oil out of reputational and compliance concerns.

The complexity of overlapping international sanctions regimes set up in a matter of days has magnified business uncertainty. In doubt, better to stop dealing with Russia altogether. What else should, for example, Singapore banks do when their Monetary Authority sends them a circular politely “reminding them to manage any risks associated with the situation in Ukraine and the sanctions imposed by major jurisdictions”?

Each day has brought new announcements of companies relinquishing Russian holdings or breaking relationships with Russian clients, whether or not they were legally required to do so. Some measures, like Apple’s removal of Russian outlets Sputnik and RT from the App Store, will be easily undone. Others, such as British oil company BP’s exit from an almost 20 percent stake in Russian oil giant Rosneft, will be irreversible.

Not all sanctions campaigns achieve such rapid voluntary economic decoupling. The plight of the Ukrainians, the unanimity of Western governments, and the clear illegality of the Russian invasion have made it hard for companies to stay neutral. Firms have paired their press releases disclosing their reaction to the sanctions with announcements of pro-Ukraine humanitarian efforts. By comparison, after the 2014 Russia sanctions, one European executive boasted about learning to use Chinese funding to circumvent Western restrictions. Additionally, the severity of the sanctions and the US and EU governments’ willingness to incur economic losses likely increased overcompliance, by making it clear to companies that Washington and Brussels were serious. The complete break between Russia and the West contrasts with the 2014 experience, when, for example, Germany imposed sanctions against Moscow but deepened its reliance on Russian gas, hardly communicating to firms a willingness to enforce the measures to their maximum effect.

Sanctions can inflict economic pain in many different ways, and the Russian airline industry has suffered most of them. First, there was disconnection from a key network. Aeroflot, the country’s flagship airline, lost access to back-end flight booking software Sabre, the sort of SWIFT-like invisible-yet-all-important infrastructure that amplifies the effects of sanctions. Next came the commercial squeeze. EU sanctions forced European leasing companies to void contracts with Russian airlines, entitling them, at least in theory, to repossess more than half of Russian aircraft. Fearing the repossession, the Russian government stopped the airlines from flying abroad. Then, a new form of pressure came in the form of export controls. In a new development, the US and EU economic campaigns focused not just on financial measures but on the supply chain as well, limiting the supply of specific physical parts and components to Russian airlines. With limited access to parts, the Russian fleet will slowly degrade as it cannibalizes itself for spare components. On the voluntary front, Manchester United severed its sponsorship deal with Aeroflot.

The cumulative effect of the Russia sanctions has been catastrophic. Amid the fall-out, Russia imposed strict capital controls, hiked interest rates to 20 percent, and saw its debt downgraded to junk. On Thursday, March 3, J.P. Morgan published estimates that the country’s GDP would contract by 35 percent in the second quarter and 7 percent in 2022. The damage would be comparable in scope to the decline when Moscow defaulted in 1998. Others see the clock winding back to 1918.

The hard part

What will the damage do? Before the invasion, transatlantic sanctions on Russia were meant as deterrence. Now, they are a bargaining chip. The United States will impose pain until Russia accedes to its demands. But as preliminary comparisons to the sanctions against Iran and Venezuela suggest, there is no set amount of pain that leads to concessions. Targeted economies can and do stabilize to a sub-optimal sanctions equilibrium. (Indeed, the US intelligence community’s brief to Congress suggests little confidence of a strong relationship between the present economic assault and diplomatic leverage.)

If sanctions and escalation do open a path to diplomacy, what will matter is articulating what Kyiv, Washington, and Brussels want—and what they will give. All three participants in US sanctions policy will have a role. The State Department will have to coordinate with Ukraine and Europe to develop a clear demand for Russia. And after two weeks of maximalism and widespread awe at the swift and destructive power of the sanctions, the White House will have to remind the public that such measures are a means to an end.

The Treasury Department’s contribution to diplomacy will be less observable but all-important: ensuring that Washington can make good on its end of the bargain and deliver sanctions relief. The world-historical power of its PDFs and FAQs is effective at ending business, but less so at restarting it. The overcompliance that defines the strength of sanctions at the start of a campaign can turn into a drag on the diplomacy phase. The US can promise that it will lift the sanctions once a deal is reached, but cannot guarantee that firms like Exxon or BP will reverse course themselves.

The Russian economy will be left with scars. Mundane-seeming steps, like reestablishing links to previously sanctioned banks, take time. Iran learned this in 2016 after the Nuclear Deal when Secretary of State Kerry had to travel to Europe to encourage banks personally to deal with Tehran. In a repeat of the Iran experience (when the country requested access to Boeing planes as part of the nuclear deal), reversing damage to Russian airlines will also be a sticking point. But reconnecting to the Sabre booking platform, leasing a new fleet, or restoring poorly serviced aircraft will take time and Treasury support. And even then, the United States will still not be able to lower insurance rates for Russian airlines that tried to stop the repossession of their planes.

Two weeks into the war, the economic blow to Russia has exceeded expectations, and the US and EU coalition delivering it has held together. But Washington and Brussels have yet to convert these achievements into a successful defense of Ukraine or the return of peace. The longer the sanctions stay in place, the more pain the Russian economy will suffer, and the more it will consolidate to make itself immune to US pressure. Sanctions may have created some leverage. The hard part is using it.

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