Finance

Efforts to decimate Russian economy threaten to boomerang

Efforts to decimate Russia’s economy to punish Moscow for its invasion of Ukraine could have serious and unpredictable implications at home for the U.S. and its allies.

The Russian economy has begun to crumble after the U.S., United Kingdom, European Union and other partners imposed unprecedented sanctions with stunning speed.

The Russian government and major financial firms have been cut off from much of the global financial system, dozens of international companies have pulled out of the country, and the value of the ruble has plunged as the Russian central bank scrambles to prevent a deeper crisis.

“The United States and Europeans are explicitly stating that they’re engaging in economic warfare with Russia,” said Daniel Glaser, former Treasury assistant secretary for financial crimes, during a Thursday webinar hosted by compliance firm K2 Integrity. 

“Normally when you hear the U.S. and Europeans talk about the application of sanctions, you hear a lot about how targeted they want it to be,” he continued. “I’m not saying that the U.S. and Europeans don’t care about collateral damage, but that’s not the talking point that they’re using. The talking point that they’re using is how much pain they’re trying to inflict on Russia, and it’s just jaw-dropping.”

U.S. and allied officials have argued intense economic pain is essential to punishing Russian President Vladimir Putin domestically for the invasion of Ukraine. 

The sanctions regime is designed to not only hinder the Russian economy but also limit Moscow’s ability to ease the economic pain. The U.S. and its allies blocked transactions with the Central Bank of Russia and froze about half of the $600 billion in Russia’s foreign reserves, which Moscow had parked in other countries. The moved locked up what experts called Putin’s sanctions war chest. 

The threat of future penalties has also prompted a mass exodus of international companies from Russia. Dozens of companies that may be able to operate outside of sanctions are leaving Russia instead of risking blowback from the U.S. government and losing access to the American dollar.

“There are certain tools they can use to manage,” said Rachel Ziemba, founder of macroeconomic advisory firm Ziemba Insights, of the Russian government.

“They’re headed toward, yes, a recession but a much more internally focused economy that basically takes all the reforms over the last couple of decades and almost does the reverse,” she added. 

Even so, mounting economic pain at home hasn’t curbed Putin’s military ambitions in Ukraine.

Russian forces claimed to take control of the Zaporizhzhia nuclear power plant overnight in Ukraine, prompting deep concern among U.S. officials. The attack on the plant, which sparked a fire overnight, drew widespread panic and fueled calls among U.S. lawmakers to take more aggressive action against Putin’s regime.

Members of Congress in both parties have ramped up pressure on President Biden to block Russian oil. Doing so would almost certainly send gas prices higher given the globally connected nature of oil markets. 

The U.S. is a net exporter of oil, but higher demand for American crude would push up energy prices globally as European allies scramble to replace Russian petroleum and natural gas.

While Biden has sought to prepare Americans for potential economic fallout at home, experts say the unprecedented nature of the penalties creates unpredictable risks for the U.S. economy.

Energy and food prices are the quickest way Americans could feel shockwaves from Russia’s decline, particularly if Biden takes action against Russian oil imports. 

Crude oil prices are up roughly 20 percent over the past two weeks, enough to knock 0.2 percentage points from U.S. gross domestic product, according to economists at Goldman Sachs. 

They also expect inflation as measured by the personal consumption expenditures price index to 0.2 percentage points thanks to “higher food prices, increased production costs due to rising commodity prices and increased transport costs due to shipping disruptions.”

Ziemba said a ban on Russian oil imports would largely be “symbolic” and simply send barrels to other markets. 

“When we’re thinking of the cost-benefit analysis, it’s not clear to me that the pain here justifies the pain to Russia,” she said. 

But Ziemba said lifting current exemptions for processing energy-related payments could strike a devastating blow to Russia’s energy industry. If U.S. firms and the U.S. dollar can no longer be used to buy Russian oil and gas, Ziemba said foreign firms would likely ditch Russia to protect their access to American markets.

“If there’s a situation where Russian entities can’t be paid for the oil and the gas they are producing, they’re not going to give the supplies away for free,” Ziemba said. 

“As the price adjusts, it would be very painful,” she added. 

Tags gas prices Inflation Joe Biden Russia Ukraine Vladimir Putin

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