The European Union (EU) recently extended its economic sanctions against the Russian Federation. The sanctions were imposed in 2014 following Russia’s military adventure in Ukraine.
These sanctions can be grouped into three broad categories: the first category consists of limiting access of designated Russian businesses and individuals to EU capital markets while the second and third categories consist of embargoes on exports of oil production technologies and designated military goods to Russia.
As the EU extends its economic prohibitions against Moscow, Washington too plans on imposing additional economic sanctions over and above the ones that have so far been implemented by the Obama and Trump administrations. Specifically, a bill presented by US senators with bipartisan support earlier this month proposed much more comprehensive and wide-ranging sanctions primarily on goods, services, technologies and financing that directly and significantly contribute to Russia’s ability to develop crude oil resources.
While a weak ruble can help Russia increase its exports, embargoes on oil production-related technologies will curtail its ability to fully utilise the drop in its currency
Such sanctions can cripple the Russian energy sector, which makes up about a third of the country’s GDP and more than half of its exports. Due to its importance to the Russian economy, any adverse impact on the energy sector could significantly hit economic growth and cause macroeconomic instability. Already, these sanctions have eroded the value of the Russian ruble through both direct and indirect effects (via the channel of decreasing energy exports).
Historically, the value of the ruble has closely followed price cycles of crude oil. When oil crashed from $106 in mid-2014 to about $30 at the start of 2016, the ruble dropped from 38 to 78 against the dollar. However, even though crude oil prices have now recovered to about $70 a barrel, the ruble has remained under significant pressure due to negative market sentiment in the light of the economic sanctions against Moscow.
While a weak ruble can help Russia increase its exports, the embargoes on oil production-related technologies will curtail its ability to fully utilise the drop in its currency. As a result of growing energy-related sanctions, international oil companies have already shelved their development plans, depriving key state-owned companies of western partners. ExxonMobil has suspended participation in multiple projects envisaged in its 2011 framework agreement with Rosneft, Russia’s biggest oil producer. This means that up to $500 billion in planned investment will be foregone – and, more importantly, technology and skills that only international oil companies can currently provide.
Other than the disastrous impact on the energy sector, the sanctions have so far not done significant damage to Russia’s short-term macroeconomic stability. This is primarily due to stocking up of foreign reserves by the central bank, which currently stand strong at $458bn. The country’s economic managers have also done well to consolidate the government’s fiscal position, which has left inflation and unemployment at safely low levels for now.
This macroeconomic stability, however, may be short-lived. It may not be long before problems in the energy sector lead to some deterioration in Russia’s macroeconomic indicators. According to estimates by the IMF, western sanctions could cut the size of the economy by almost a tenth. Considering how the United States and its allies are increasingly frustrated over malign activities by the Kremlin – the war in Ukraine, brutality in Syria, and interference in US elections – these economic sanctions could possibly increase in the coming few months; and there is little doubt as to how severely the Russian economy will be hit by them. The issue, therefore, is to recalibrate whether hurting the Russian economy serves the interests of the United States and its allies.
Russia is too important to isolate: at about $4 trillion, it is the world’s sixth largest economy, the largest natural gas exporter, the second largest oil exporter and, above all, a nuclear superpower. The strategy should, therefore, be to deepen Russia’s engagement in the global system since a greater stake in this system would make the Kremlin more likely to cooperate.
The United States should learn from President Reagan’s treatment of the Union of Soviet Socialist Republics (USSR) in the 1980s. Despite the Soviet war in Afghanistan and shoot-down of a Korean Airlines aircraft flying from New York to Seoul, the president did not seek to isolate the USSR.
Although he did make the Soviets pay for these actions, he also proposed negotiations to slash long-range nuclear weaponry. These negotiations in turn laid the groundwork for several treaties that further reduced nuclear dangers, leading to much-needed global political (and economic) stability.
The writer is an economist at an Islamabad-based think tank.
Published in Dawn, The Business and Finance Weekly, September 3rd, 2018
Dear visitor, the comments section is undergoing an overhaul and will return soon.