Markets have learned to brace for each new set of measures, but now it’s more important to watch for any evolution in the bilateral relationship.
“When your policy is nothing but sanctions,” said a wise government colleague, “then you don’t really have a policy.” Nothing could be more true than U.S. policy towards Russia. The Biden administration has a chance for something more coherent that would advance key U.S. interests, and investors need to watch closely and see if the president can deliver.
Amid the range of typical measures to expel diplomats and block a handful of company accounts announced last week, markets focused naturally on the ban on U.S. purchases of primary issues of domestic debt. While similar to a Trump-era measure against primary purchases of Eurobonds, this targets a much more important part of Russia’s financial system, while stopping short of anything that might roil global financial flows. It’s intended to signal Biden’s readiness to draw the line on past behavior, but also the possibility of taking much stronger measures should things deteriorate.
Ostensibly, the steps are meant as retaliation for Russia’s interference in the most recent U.S. elections, its sponsorship of the “Solar Winds” hacking operation, and alleged bounty payments for Taliban attacks on U.S. troops. They are not meant to punish the poisoning and arrest of opposition leader Alexei Navalny, which was taken care of in an announcement last month, but if President Vladimir Putin sees this as a warning not to escalate current tensions on the Ukrainian border then that’s all to the good.
And therein lies the problem with sanctions.
In the best of circumstances, sanctions are applied as pressure to stop doing something bad. The premise is that once a country abandons its objectionable behavior, the punishment will end too. Have you given up apartheid? We’ll lift our embargo. Will you limit your nuclear program? Let’s unblock those accounts.
Sometimes, sanctions play an important symbolic and deterrent role, when you can’t send troops—and you can’t do nothing. When Russia annexed the Crimean Peninsula from Ukraine in 2014, Barack Obama’s administration (where I worked on the National Security Council) deployed sanctions to punish Russian violations of international law and deter Moscow from seizing any more Ukrainian territory. Crimea, of course, remains in Russian hands, but coordinated American and European sanctions sent a powerful message and, arguably, helped prevent even worse outcomes.
“In the best of circumstances, sanctions are applied as pressure to stop doing something bad. The premise is that once a country abandons its objectionable behavior, the punishment will end too.”
But as the relationship deteriorated, sanctions did not shape the relationship, sanctions became the relationship. Russian interference in 2016 U.S. elections led to more measures under Obama, and a range of outrages triggered some 40 rounds of sanctions under his successor. President Trump famously aspired to improve his relationship with Putin, but a much more hawkish State Department and pressures from Congress prevailed.
One problem with Russia sanctions is simply that its economy is large, integrated and a major supplier of the world’s oil, aluminum and gold. Much smaller South Africa and Iraq endured years of coordinated global pressure before buckling even a little. Sanctions against Rusal, the world’s second-largest aluminum producer, roiled markets in 2018, and Europe ultimately still depends on Russian energy.
The more important problem, though, comes when sanctions become America’s only engagement. Stoic Russian officials like to point out their country has been a target of U.S. trade or financial sanctions for most of the 104 years since the Bolshevik Revolution. Jackson-Vanik sanctions to punish the Soviet Union in 1974 for limitations on Jewish emigration were not repealed until long after that problem had been resolved—only to be quickly replaced with the Magnitsky Act as a penalty for human rights violations.
These are clearly important principles, and sanctions can be important tools when deployed with clear signals. But Russia remains the world’s second-greatest military power, its 11th-largest economy, and is key to advancing important U.S. agendas, from Iraq to North Korea to climate change.
Biden signaled his desire for “a stable, more predictable” relationship when he announced the new measures and suggested a summit with Putin in Europe this summer. We may get some early signs of next steps if and when Putin participates in a virtual Earth Day summit that Biden will host on Thursday this week. And all eyes remain on troop deployments near Donbas.
Financial markets breathed a sigh of relief at what seems to be a package of limited measures. That will change quickly, however, if events unravel and sovereign debt sanctions expand to secondary markets. For now, investors should watch to see if actual policy might emerge from these sanctions, or if the sanctions are all there is.