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Rogue One: Why Putin should truly fear the new European sanctions

Этот текст также доступен на русском языке.

In response to Alexei Navalny’s poisoning, The European Union has announced sanctions against several high-ranking Russian officials, notably Alexander Bortnikov, head of the FSB, and Sergey Kiriyenko, Putin’s deputy chief of staff and a key figure in the Russian domestic policy. Casting aside the habitual skepticism towards Europe’s anti-Russian sanctions (“insufficient”, “another futile expression of concern”, or “as if Putin’s cronies ever cared”), let us get to the reality of what this act means on the part of Europe and what ramifications for Putin we can expect.

To begin with, we should disprove those ridiculing Western anti-Putin sanctions and insisting that “they are pointless”. Such assertions show a poor understanding of the nature of Russia’s economic processes and the profound dependence of Putin’s economy on international financial markets. Does it surprise you that the Russian economy hasn’t shown considerable growth in years, with its residents’ real income decreasing or stagnant for seven years on end? Well, it shouldn’t: the vital factor of economic growth over the last few years has been the possibility of borrowing from foreign capital markets. Due to a weak economy and a shortage of confidence, the Russian financial system is incapable of creating cheap long money. Traditionally, Russian enterprises and banks compensated for this deficiency by large-scale external borrowing. Compared to less than $50 bn in early 2003, Russian banks and companies’ aggregate foreign debt had exceeded $400 bn by early 2008 to peak at $700 bn in July 2014. Russian corporations and banks going on a borrowing spree in the West became the key factor supporting the nation’s economic growth.

Before 2014, Russian corporations and banks going on a borrowing spree in the West was the key factor supporting the nation’s economic growth

Once Russia downed Boeing MH-17 in Donbas, the largest Russian borrowers suffered from unprecedented financial sanctions imposed by the U. S. and the EU. In essence, large Russian banks and companies no longer had the option of external loans. These sanctions were targeted, but the companies that ended up on the list had already become critical to the growth prospects of Russia’s highly monopolized economy. Therefore, many Russian borrowers who were not sanctioned suffered from the ramifications nonetheless. International lenders grew much more hesitant about offering loans to any Russian organizations, regardless of their presence on the current sanctions list. (Who knows what these Russians might pull off tomorrow or how they are connected to the government? Better to be on the safe side.)

These sanctions were the key reason for the ruble’s slump in December 2014. Admittedly, oil prices dropped too, but a similar collapse in 2008 did not affect the ruble so much. Russian borrowers, primarily Rosneft, could no longer obtain new loans in the West, and their loan portfolio at the time was short-term. As a result, they had to pay off a massive foreign currency debt on a tight timeline, which created a surge in demand for foreign currency, with nowhere to procure it.

Russia tried to substitute Western loans with Chinese credit, but the Chinese financial system was too small on a global scale – unlike the nominally high Chinese GDP. (The aggregate volume of assets within the Chinese financial system is one-fourth of America’s financial assets and one-third of Europe’s.) No less importantly, China has no habit of lending to third parties left, right, and center and only offers loans secured by future purchase guarantees for Chinese goods and services. As a result, since the summer of 2014, Russia has had to pay off large volumes of external corporate and bank debt without the option of further borrowing. As of October 1, 2020, the external loan portfolio returned to its late-2007 level ($388 bn), having plunged by nearly $300 bn in six years. The lack of access to foreign loans is the key reason behind economic stagnation, capital outflows, and the population’s declining income.

The lack of access to foreign loans is the key reason behind economic stagnation, capital outflows, and the population’s declining income

This statement is the takeaway message for those in the habit of ridiculing the “inefficient Western sanctions” out of ignorance. This factor essentially curbed the Russian economy’s growth prospects after 2014, as the country would have considerably fewer challenges had it retained the same level of access to international financial markets.

Over the last few years, Putin and his entourage spared no effort to secure at least a partial removal of the international economic blockade. The list of relative tactical successes includes recruiting such prominent Western leaders as Italy’s prime minister Giuseppe Conte and Austrian chancellor Sebastian Kurz. They directly called for the lifting of the European financial sanctions imposed on Putin and his corporations.

Navalny’s assassination attempt changed the playing field once and for all. Here is the main takeaway from last week’s decision of the European Council: all of the European heads of state (including Conte, Kurz, and even Putin’s long-standing ally, Hungarian prime minister Viktor Orbán) unanimously signed off on the accusation of using prohibited chemical warfare agents for the elimination of political adversaries against Putin. It is dangerous to underestimate the seriousness of this declaration. Devoid of habitually vague diplomatic language, it directly accuses the Russian authorities of organizing Navalny’s assassination attempt with chemical weapons. To drive the point home, Europe also imposed personal sanctions on Russia’s top securocrats and the government’s political wing, thus emphasizing its perception of Navalny’s poisoning as a planned joint operation of Russian secret services and domestic policy curator Sergei Kiriyenko.

Even Putin’s European allies didn’t put up a fight and virtually accused him of using chemical warfare agents

The actual meaning of this declaration is straightforward, as it labels Putin’s Russia as a rogue state that uses chemical weapons to poison political opposition. The Europeans didn’t voice accusations of state-sponsored terrorism, but what we see is as close as it gets. Of course, the lifting of prior sanctions is now off the table. Therefore, Putin’s economy is deprived of growth opportunities – most likely, for as long as Putin stays in power.

Why was there no debate in Europe about the imposed sanctions or no objections – not even from such a vocal ally of Putin’s as Viktor Orbán? The rationale is simple: the heads of state obtained proof of Navalny’s poisoning from their defense intelligence, who, in turn, received it from the Bundeswehr under their existing agreement. Arguing with defense intelligence is hard. Furthermore, one would assume that European governments drew profound conclusions from Sergei Skripal’s poisoning and were prepared for the Russian authorities to resort to chemical weapons again. Unfortunately, the wait wasn’t long.

From this perspective, the number of Putin’s officials included in the sanctions list is of little relevance. Two things deserve our attention. First, the imposed sanctions affect Putin’s cronies from the secret services and the political wing, which means Europe is de facto accusing Putin himself of organizing the crime. Second, while the Russian securocrats won’t suffer much from the Western sanctions in practical terms (they don’t have any assets in Europe and have hardly been planning to emigrate there due to the specifics of their activity), Sergei Kiriyenko’s name on the list is an alarming signal to many of those in power whom political scientists have traditionally classified as “liberal”. Those complicit in Putin’s crimes won’t be able to hide behind their reformist past and liberal image; each of them stands a real chance of becoming an international persona non grata. I am acquainted with Kiriyenko through my work for the government and do not doubt that Europe’s act is a severe blow for him. Planning his and his family’s future, Kiriyenko certainly counted on unrestricted entry to Europe; he could have even hoped to move there upon resignation like many other retired public servants. But one must be held accountable for one’s actions.

Planning his family’s future, Kiriyenko certainly counted on unrestricted entry to Europe, but one must be held accountable for one’s actions

In all, the EU imposing sanctions for Navalny’s poisoning is more than another handful of names on the sanctions list. It is a new chapter in Europe’s relationship with Putin, which will remain frozen for many years, most likely, for as long as he stays in power. After 2014, the main objective of Putin’s diplomacy in Europe has been trying to convince Europeans to “start a new chapter” after the war with Ukraine, to normalize the relationship one way or another, and to end Russia’s international isolation. Apart from Putin’s long-standing allies (Orbán, Conte, and so on), the Russian diplomats counted on a close bilateral relationship with Emmanuel Macron and Angela Merkel’s anticipated resignation in 2021 coupled with a hope of establishing a warmer relationship with her successor.

All of these expectations belong in the paper bin now. Macron is infuriated not only by the fact of Navalny’s poisoning with a prohibited nerve agent but also by his phone conversation with Putin, in which the Russian president resorted to the same propaganda nonsense he often feeds to the Russian general public. An ambitious leader of a major international power, Macron did not take kindly to being treated like an idiot. As a result, he has postponed his previously announced visit to Moscow indefinitely. Merkel’s potential successors are even less accommodating, with influential leaders of the CDU expressing much harsher opinions on Navalny’s poisoning than Madam Chancellor and thus setting a predictable German policy trajectory towards Russia. (There is still less doubt that the CDU will head the new government after the 2021 election.)

So the current cold spell in Russia’s relations with Europe will last, and there is little that Putin can do to turn back the tide. For Russia, this means a lack of economic growth prospects, increasing isolation, and an intensifying dependence on China in its foreign policy. While Putin holds the reins of power, there is no breaking the vicious circle.

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