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They haven't even started yet: What new sanctions Russia should expect and why they are unlikely to stop Putin

Early in February, the EU enacted its decision to ban imports of almost all categories of oil products from Russia. Meanwhile, the G7 has almost agreed to limit their prices to the range of $45-100 per barrel. Therefore, the system of international sanctions against the Russian energy industry can be considered complete. However, energy sanctions alone cannot force Vladimir Putin to stop the war in Ukraine. The only viable alternative is a complete cessation of European and American exports to Russia, a halt in dollar and euro transactions with all Russian banks, and the introduction of extensive secondary sanctions. However, none of these measures guarantee that the Kremlin's policy will change either. After all, the Russian government has shrunk the planning horizon and could not care less about the Russian economy’s future.

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The oil embargo and the price caps have proven to be highly efficient sanctions measures. Despite the published investigations into Europe’s ongoing involvement in the transfer of Russian oil through Europe-controlled ports and its transportation with European tankers, these measures accomplished a crucial task: the spontaneous discount on Urals is now fixed on paper.

Although the plunge in prices to $38 a barrel in early January gave way to growth, not once since the restrictions were imposed have they approached the cap of $60 per barrel. Therefore, unlike its Russian namesake, the European “Party of December 5” operates quite effectively. Assuming the cap remains in place throughout 2023, Russia will lose between $35 billion (if exports shrink by a modest 5-7%) and $50-52 billion (if the decline exceeds 25%) in crude oil exports alone.

The newly-imposed restrictions on petroleum products could have just as serious an effect: in 2021, Russia exported almost twice as much as it consumed, with the European market accounting for 53% of exports in 2021 and about 44% in November 2022. Re-purposing such excess is quite a challenge. On the one hand, domestic consumption has been at a standstill for more than a decade; on the other hand, the main buyers of Russian oil, from China and India to Turkey, have excessive oil refining capacity, and at least ten countries are ready to make up for European shortages in this category of fuel products. Therefore, I will assume this innovation will result mainly in a growing supply of Russian oil at prices within the range of $50-55 per barrel, with a significant slump in the export of petroleum products. Consequently, refineries will come under attack, and the energy export structure will revert to the Soviet era, when it was dominated by crude oil.

The energy export structure will revert to the Soviet times, when it was dominated by crude oil

If my assumptions are correct, crude oil shipments will grow by 5-8% to 220-225 million tonnes in 2023, while petroleum product shipments will drop by 30-35% to 95-105 million tonnes. As a result, Russia will have to cut oil production by 12-15% compared to 2022, despite stable domestic consumption. The biggest yearly drop since 1992, the decline will nevertheless fail to deliver a blow to the Russian economy. The budget will lose at least 35-40% of oil and gas revenues, with the latter showing a decline from the record 11.6 trillion rubles in 2022 to 6.8-7.5 trillion. As many analysts point out, the period may feature a borrowing boom, a substantial monetary emission, and consequently, a spiking inflation rate. By my estimates, the budget deficit will amount to 4 to 4.5% of the GDP. Admittedly, this is a far cry from the US federal budget deficit of 12.4% of the GDP in 1942, when the country had not even yet entered the war in Europe. So I’ll reiterate my earlier conclusion that the energy sanctions may have curbed the growth of the Russian economy for years to come, but they cannot destroy it or even force Vladimir Putin to stop the war in Ukraine. Their significance lies primarily in the benefits of the Western sanctions even for non-Western countries, since Russia turning into a global pariah saves them money.

The West has imposed sanctions that benefit not only Western countries

Speaking of further means of exerting pressure on Russia, “conventional” approaches have nearly outlived themselves. In the unlikely instance that the tenth sanctions package includes nuclear energy restrictions, it would be as much of a shot in the foot as the pressure on Gazprom that drove up gas prices in 2021-2022. Rosatom builds its power plants mainly on loans from the Russian government or Russian banks, and therefore, does not attract any foreign currency into the country (and the nuclear fuel it exports is mostly mined in Kazakhstan). The rest of the proposals regarding the next package are just as useless in terms of impacting Russia’s economy. Similarly to how it played out with diamonds, the measures imply restricting the purchase of particular goods from Russia but not their export to this country.

I believe we have reached a stage when only reverse trade and financial restriction can pack a punch. It’s all the more true considering that many countries, such as Hong Kong, Singapore, the UAE, and Turkey, benefit greatly from circumventing Western export sanctions rather than complying with them. As unprofitable as it may seem, European countries and the US would be well advised to stop exporting anything to Russia altogether. The Europeans need to adopt an analog of the US Trade with the Enemy Act (1917), and the US would do well to extend its main provisions to the Russian Federation. This could open a whole new chapter in sanctions policy. Such restrictions would deprive Russia of access to a wide range of essential goods, from seeds for the seemingly “sovereign” agriculture or vaccines for livestock and poultry to hops for beer brewing or starter cultures for fermented dairy products (paradoxically, neither is produced domestically).

In parallel, it would be practical to stop conducting dollar and euro transactions with any Russian banks, finalizing the country’s transition to yuan, the Kremlin's much-beloved currency. Furthermore, the West should do everything possible to block Russia’s access to all Western social networks and Internet services. Western countries could probably establish a Compensation Fund for companies registered in their jurisdictions to cover a significant portion of the losses from these companies’ complete withdrawal from Russia. It is no secret that most companies that announced their “departure” from Russia are still present in the country or are laying the groundwork for a possible return. Such a move would make it possible to ignore the Kremlin’s orders preventing foreign companies from selling their Russian assets. Subsequently, the West could demand that the Russian government cover the fund's expenses as a condition for restoring international business relations.

It would be practical to stop conducting dollar and euro transactions with any Russian banks

By far the most important instrument of pressure would be the introduction of broad secondary sanctions. There is ample factual evidence to show that in recent months, Russia's import rate for Western high-tech products has actually increased for many categories (including even microchips and semiconductors). This points to the obvious ineffectiveness of sanctions and requires original solutions: first of all, shifting the responsibility from companies and organizations acting as intermediaries in the Russian market (they can easily escape justice by “disappearing” and re-registering) to banks, which process all the payments. Unable to evade responsibility and faced with catastrophic losses if secondary sanctions were imposed on them, banks worldwide could become the most effective tool for enforcing compliance with the Western regulators’ directives. Without their involvement, the situation is unlikely to change.

Finally, it could be practical to put a halt (or even a moratorium) on expanding personal sanctions lists – for at least three reasons. Firstly, the vast majority of the 2,500+ sanctioned individuals are not suffering from any direct consequences. Most of them are public servants and security officials who have not left Russia for a long time and have no property or accounts in the West. Secondly, sanctions against large corporations, most of which were withdrawing money West in full compliance with the law, are counterproductive. They are now pushing Russian entrepreneurs and Russian money back into Putin's “Mordor” instead of sowing discord in the Russian elites and depriving the regime of funding. Thirdly, and no less importantly, the Western debate around personal sanctions lists has long since become a PR tool for all sorts of anti-Putin activists and a way to substitute real action with lipservice for officials. It’s much easier to sanction a dozen bureaucrats who don't call any shots than, for example, impose secondary sanctions against smugglers who are helping the Kremlin to circumvent existing restrictions.

It’s much easier to sanction bureaucrats than smugglers who are helping the Kremlin to circumvent existing restrictions

However, summarizing the first year of the contemporary sanctions policy, I'd note several simple facts. First of all, virtually no economic sanctions can change the Kremlin’s political line. For that to happen, the nation would have to walk out in protest over the consequences of the sanctions, but chances are slim. Besides, the Russian economy is quite primitive, with exports represented mainly by raw materials, which cannot be banned because there is always demand at one price or another; and domestic market needs are covered by Russian companies, some of which cannot be sanctioned for humanitarian reasons (such as pharmaceutical companies or food manufacturers).

Furthermore, the Russian leadership has reduced the planning horizon to a minimum. Apparently, the incumbents in the Kremlin could not care less about the prospects of Russia’s economy “after 2030”, so the reasoning that Russia will undoubtedly suffer from the sanctions, albeit in the long run, does not hit home with the political elites. Finally, one has to admit that Russia's administration, especially the “liberals” from the government's financial and economic bloc, have been successful at mitigating the impact of those sanctions that could have provoked panic and triggered a financial collapse. As for the remaining sanctions, most Russians do not perceive them as a “real” crisis. Therefore, the second year of the war is likely to unfold in an atmosphere of purely military confrontation, where the Rammstein format will prevail over the decisions of the G7 finance ministers or the European Commission.

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