LONDON – The targeting of major Russian energy firms may come to be seen as the turning point at which U.S. sanctions policy over-reached and spurred a major effort to re-route financial transactions away from the United States.
Prohibiting core Russian energy companies such as Rosneft, Gazprombank, Novatek and Vnesheconombank from arranging equity or long-term debt finance from or through “U.S. persons” marks a major escalation in the sanctions battle between the United States and its European allies on the one hand and the Russian Federation on the other.
Sanctions remain useful only if they are employed sparingly. Their utility is in danger of being blunted through overuse. Like any other weapon, if sanctions are used too often, opponents will develop countermeasures.
The calculus is simple: Sanctions will remain effective only as long as the cost of complying with them is lower than the cost of developing ways to circumvent them. Compliance and circumvention costs are directly related to the frequency with which sanctions are imposed. If sanctions are used rarely, the cost of complying with them is low, and it is generally not worth expending significant resources to develop ways to circumvent them.
But as sanctions are used more frequently, compliance costs rise, and the incentive to spend time and effort to avoid them becomes greater. To maximize the disruption and inconvenience associated with sanctions, their use must be occasional. Once sanctions become the norm, the financial system will adapt to work around them.
Overuse of sanctions threatens to spur a shift away from using financial institutions and networks that fall under the jurisdiction of the United States.
Russia’s energy firms join a long list of foreign corporations, banks, individuals and even countries that have recently fallen afoul of U.S. policy and law.
In addition to sanctions imposed on individuals suspected of involvement in narcotics trafficking, terrorism and weapons of mass destruction, the United States is enforcing comprehensive financial sanctions on Syria, Iran, Cuba and North Korea.
Sanctions have also been imposed in relation to Belarus, the Central African Republic, Ivory Coast, Democratic Republic of Congo, Iraq, Lebanon, Myanmar, Somalia, Sudan, Yemen and Zimbabwe, according to the U.S. Treasury’s website.
The United States is also enforcing secondary sanctions (penalties on firms accused of helping others evade sanctions) on entities in China, Cyprus, Georgia, Liechtenstein, Switzerland, Ukraine and the United Arab Emirates.
Even before the crisis over Ukraine, Russian entities had been targeted with sanctions over the death in custody of accountant Sergei Magnitsky.
There are now literally thousands of individuals and companies on the various sanctions lists drawn up and enforced by the U.S. Treasury’s Office of Foreign Assets Control (OFAC).
Other banks and corporations that have had cause to rue their financial involvement with the U.S. include Argentina (locked in a dispute with U.S. courts over defaulted debt), France (which has seen BNP Paribas, one of its largest banks, fined $9 billion for sanctions-related transactions) and Switzerland (where some banks have been refusing to open accounts for U.S. citizens and anyone connected with the U.S. due to concerns about tax evasion penalties).
The increasing frequency with which U.S. policymakers resort to sanctions and a more stringent enforcement regime have prompted growing complaints from banks, corporations and foreign governments.
In July, France’s Finance Minister Michel Sapin called for a shift away from the exclusive use of the dollar for global payments in response to the unprecedented fine on BNP.
The chief executives of French oil giant Total and one of its largest industrial firms also echoed the call for a switch away from the U.S. currency.
De-dollarization would help banks and firms outside the U.S. insulate themselves from the reach of U.S. policy.
“Companies like ours are in a bind because we sell a lot in dollars but we do not always want to deal with all the U.S. rules and regulations,” the unnamed French industrial executive told the Financial Times earlier this month.
France has a long history of complaining about what the country’s politicians call U.S. “hegemony.” In the 1960s, France’s then-finance minister Valery Giscard d’Estaing railed against the “exorbitant privilege” conferred by the dollar’s role as the global currency. France has often challenged the pre-eminence of the U.S., but with little success.
Sapin’s comments drew a blunt response from Barry Eichengreen, professor of economics at the University of California and one of the world’s foremost experts on currency systems.
France does not have the “moral authority” or financial muscle to replace the dollar with another system, according to Eichengreen.
Argentina’s government, too, has complained about what it sees as neo-imperialism, following its repeated defeats in the U.S. legal system over payments on defaulted debt.
But as long as the backlash was confined to such long-standing malcontents as France and Argentina, and sanctions were targeted at countries of marginal financial significance such as Myanmar, Somalia and Sudan, the criticism could be safely ignored.
However, sanctions policy is starting to ensnare companies that have plenty of money (Swiss and European banks, Russian oil firms), other permanent members of the U.N. Security Council (Russia and China) and countries that cannot safely be ignored (Iran, India).
“Sanctions tend to have a boomerang effect, and without any doubt in this case they are driving Russian-American relations to a dead end, they are causing very serious damage,” Russia’s President Vladimir Putin warned last Wednesday.
“I am convinced that this is to the detriment of the long-term strategic national interests of the American government and the American people,” he added.
As the list of companies and countries smarting from U.S. sanctions grows longer, there is a real risk an alternative financial network bypassing the United States will emerge.
U.S. policymakers scoff at the idea that payments and financial transactions could be routed away from the U.S. “They may not like it, but it is not clear what France and other critics can do to alter the status quo,” Eichengreen said.
Dollar payment systems outside the U.S. would require liquidity that only the Federal Reserve can provide.
“The only feasible alternative, then, is to induce non-U.S. exporters to take euros and renminbi in payment for goods and services,” according to Eichengreen.
For the euro and renminbi to be attractive … markets in those currencies will need to be deep and liquid … Market liquidity requires a diverse clientele.”
But a diverse potential clientele is precisely what is starting to emerge in the long list of companies, countries and individuals who want to transact away from U.S. regulation.
Building a rival financial architecture outside U.S. jurisdiction would be difficult and expensive. But in various ways, the European Union, Switzerland, Russia and China are all trying to win a bigger share of the global financial services and payments market, and have an interest in helping route payments and financing away from the U.S. Continued U.S. dominance is not a foregone conclusion, whatever U.S. policymakers may think.
Like all such shifts in the international payments regime (from Spanish pieces of eight to pounds sterling and dollars), the transition would likely be slow and almost invisible at the start before accelerating later.
There is some evidence that U.S. policymakers understand the dangers. The U.S. has been especially cautious about imposing sanctions on companies and individuals in China, which is a vital trading and financial partner as well as a potential rival and has both the economic and foreign-policy muscle to protect its interests.
Writing for the Financial Times, Eichengreen insisted there was no risk to the dollar’s role in the international payments system provided sanctions and other use of U.S. financial leverage were not “arbitrary and capricious”.
But while sanctions may seem rational and sensible when viewed from the U.S., the view in foreign capitals is often very different.
In February, the Wall Street Journal carried a lengthy and rather boosterish profile of OFAC, testament to the growing importance of this once-obscure agency within the U.S. Treasury.
“OFAC rises as sanctions become a major policy tool,” the Journal’s headline explained. “Sanctions have become a leading tool of U.S. foreign policy.”
According to a Georgetown University professor cited in the article: “The U.S. government (has) recognized the value of economic coercion in terms of pursuing national security and foreign policy goals.”
In fact, as the U.S. has become more cautious about intervening militarily, sanctions have come to be seen as an increasingly attractive alternative.
But there was more than a touch of hubris in the Journal article, and there is a real danger that overuse will blunt the sanctions tool, which would be a pity because sanctions have a valuable role when employed appropriately and sparingly.
The U.S. can make extensive use of financial sanctions to pursue foreign-policy goals, or it can remain the world’s dominant financial and payments centre, but it probably cannot do both.
John Kemp is a Reuters market analyst. The views expressed are his own.
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