What is the logic behind the third wave of economic sanctions imposed by the U.S. and Europe in response to the deteriorating situation in Eastern Ukraine?

It remains to be seen how Moscow will respon to the third wave of sanctions imposed by the U.S. and the EU. Photo: Reuters

As part of the latest round of sanctions, the U.S. Treasury has published its third blacklist, which this time includes five high-ranking Russian officials, two leaders of large state-owned companies, and 17 legal entities. Washington explains that the new package of sanctions is a response to Russia’s non-compliance with the Geneva agreement aimed at ending the crisis in Ukraine.

Meanwhile, the EU also expanded its list to include 15 new persons who will now face sanctions. In the previous Brussels list, 33 citizens of Russia and Ukraine were already included. Thus, the total number of names on the EU “blacklist” has reached 48 people.

Unlike the U.S. lists, the EU lists have yet to include the names of managers or companies. Brussels is traditionally more cautious, given that economic sanctions may hurt the economies of a number of EU states that have close ties with Moscow.

However, the U.S. sanctions have restricted the export of high-tech products in Russia that serve a dual purpose, i.e. goods, technologies, and programs that can potentially be used in the defense industry. This means that research centers, universities, and high-tech companies will suffer from these sanctions. In 2013, the main recipients of licenses for exports to Russia were suppliers of electrical and mechanical equipment in safety systems as well as software (totaling $1.49 billion).

Sanction against Russian officials

At first, the list of U.S. sanctions primarily targeted officials who are now directly involved in the integration of Crimea’s legal and economic sectors with Russia’s, including Deputy Prime Minister Dmitry Kozak, the first deputy head of the presidential administration, Vyacheslav Volodin and he Russian presidential envoy to Crimea Oleg Belaventsev.

Sanctions have widened to include the head of the Federal Security Service Yevgeny Murov as well as the head of the Duma Committee on Foreign Affairs Alexei Pushkov, who defended the position of Russia in the Crimea and Ukraine at the recent PACE session, where the Russian delegation was denied the right to vote until the end of 2014.

Rosneft targeted by this latest round of sanctions

One corporate manager who landed on the new list of sanctions is Igor Sechin, the head of Russia’s largest oil company, Rosneft. However, he assured the company’s shareholders and partners that cooperation “will not be affected and will develop dynamically,” hinting that although Rosneft formally is not on the list, the list’s intentions can be damaging to its future.

Rosneft is currently working actively with U.S. companies. Back in 2011 it became a strategic partner of ExxonMobil, and a year, later the company entered into another agreement. Sechin himself went to the United States on business three times in two years.

In April 2012, when he still held the position of Deputy Prime Minister, Sechin led a delegation to New York for a presentation of the Russian oil industry. At that time, he compared the alliance of Rosneft and ExxonMobil with the moon landing, and called for an end to keeping “skeletons in the closet” and the abandonment of historical stereotypes of Russian-American relations. In March 2013, as President of Rosneft, Igor Sechin gave a report at IHS CERAWeek in Houston, and a month later he came to the U.S. to meet with investors.

Kommersant sources close to Rosneft say that the state-run company hoped that ExxonMobil would intervene and convince the White House to remove the sanctions against Sechin, but this did not happen, and to some extent it was unexpected.

No one fully understands what the true impact of the sanctions will be. Different variants have been discussed, including the possibility that Rosneft’s Vice-President for Offshore Projects, U.S. citizen Zeljko Runje, who worked earlier in ExxonMobil, will represent the state-owned company in negotiations with the Americans.

In total, Rosneft employs more than a dozen Americans. Will they remain employees? This question remains unanswered. At the same time, Kommersant sources close to Rosneft expect Sechin to forbid employees to vacation abroad.

Observers expect pressure to be put on other Rosneft partners, including Italy’s Eni and Norway's Statoil. British Petroleum, which owns 19.75 percent of Rosneft shares, said yesterday that it is “committed to investing in the company and intends to remain a successful long-term investor in the Russian Federation.”

Another Kommersant source said that the United States’ push for Igor Sechin's resignation as president of Rosneft “may have wider ramifications on the global market.”

“For individuals placed on the U.S. sanctions list, first, they are banned entry into the country, and restrictions are placed on their personal assets abroad as well,” said the managing partner of the law firm Arthur LexAR Rokhlin. “This can be done by freezing bank accounts and banning the use and disposal of real estate, including forbidding its sale.”

Rosneft’s Head and a Kremlin insider Igor Sechin. Photo: ITAR-TASS

Are Russian banks and companies prepared for the sanctions?

What immediately jumps out the most are the 17 legal entities included on the list - although, realistically, the leveling of sanctions against them was expected. The list includes all the companies controlled by Gennady Timchenko and Arkady and Boris Rotenberg, who landed on the U.S. blacklist back on March 20.

Most of the companies are members of Mr. Timchenko’s Volga Group. The representative of the businessman gave assurances “that none of these companies have any relation to events unfolding in Ukraine.” “And there is little doubt that these sanctions are politically motivated statements and decisions,” said representatives of Volga Group.

Three banks landing on the list, Sobinbank, SMP Bank and InvestCapitalBank, were also prepared for sanctions. Sobinbank is 100 percent owned by Rossiya Bank, which was placed on the list on March 20. All correspondent bank relationships with U.S. financial institutions have been discontinued, and its credit cards and Sobinbank cards were disconnected from the Visa and MasterCard systems.

MasterCard said yesterday that it is continuing to work with local partners “as usual,” except with Rossiya Bank, Sobinbank, SMP Bank and InvestCapitalBank. The use of cards for the later two banks will be suspended in the near future, MasterCard specified.

According to Rokhlin, sanctions on entities imply a fairly wide range of activities, mostly aimed at banning U.S. companies to cooperate with the Russian entities named on the list or to enter into transactions with them.

In addition, access to permits and licenses can be blocked. Company accounts can also be frozen, but not necessarily. It should be remembered, cautioned the lawyer, that the U.S. is trying to carefully manage the ownership of property of persons placed on the sanctions list, and this property will not be confiscated, but it will be blocked from any use or disposal.

The U.S. can also count on support from friendly countries (e.g. Canada), whose companies may also refrain from cooperation with legal entities. This, when compounded by the problems with U.S. partners and creditors, threatens to make it impossible to conduct transactions in dollars.

“I do not see for companies that fall under the sanctions, in the current context, the ability to conduct foreign exchange payments,” said President of the Moscow International Currency Association Alexei Mamontov.

“Even if they open dollar accounts in Asian, European, and Russian banks, with those who in turn have open accounts for dollar transactions in U.S. banks," he added. "Thus, all calculations in dollars have been blocked at U.S. banks. When conducting transactions, U.S. financial institutions will see the ultimate beneficiary and freeze the transaction, if it is a company that has come under the sanctions.”

Sanctions as a move by Obama to 'save face'

U.S. and Russian experts have expressed skepticism about the new sanctions. According to Heritage Foundation expert Ariel Cohen, such actions only anger the Russian leadership and will lead to an increase in anti-American and jingoistic rhetoric in Russia.

As it stands, truly effective solutions can only be drawn up behind closed doors as a result of a compromise. However, thus far, neither Russia nor the United States is ready to make concessions, he said. According to experts, most controversial are the personal sanctions leveled against the leaders of the largest Russian companies and the ban on the export of technology.

According to a directive issued by the U.S. Treasury, U.S. businessmen are forbidden to negotiate with Mr. Sechin. The Obama administration hinted that next on the list could be the head of Gazprom, Alexey Miller. For now, nobody has been able to explain whether Exxon can find a new partner in Russia comparable to Rosneft, noted Mr. Cohen.

The Director of the Franklin D. Roosevelt Foundation for United States Studies at Moscow State University, Yuri Rogulev, believes that the fact that Barack Obama initiated the introduction of broad international sanctions against Russia is no accident.

“Within the U.S., this is an opportunity for President Obama to save face and answer his Republican critics, who accuse him of indecision and constant concessions to President Putin. Moreover, we should not forget that sanctions against Russia from Washington are worthless in comparison to the ones leveled by our European partners,” said Rogulev.

According to Rogulev, the EU and Russia may both suffer from the sanctions, while the United States “will benefit from this opportunity to mobilize allies and remind them of American leadership.”

Sanctions already gaining momentum

However, in the medium and long-term, the situation looks worse for Russia. The meaning of U.S. sanctions and the sanctions of the West, in general, against Russia can neither be exaggerated nor underestimated.

On the one hand, in the short term, their effects are not as noticeable. On the other hand, given that the sanction are gaining momentum, at a certain point it may have a cumulative effect that can cause damage to a number of sectors of the Russian economy, said Rogulev.

The sanctions regime may develop slowly into an Iranian scenario. U.S. sanctions against Iran after their period of active development in 1980-1981 gradually tightened until 2004, without any attempt to mitigate the trade regime. Only in early 2014, after the current President of Iran Hassan Rouhani came to power, did the U.S. begin negotiations for a partial lifting of the embargo on foreign trade.

A transition to a “long-term” scenario of sanctions would obviously worsen the mood of investors in the Russian economy over the next year and a half, even without any visible extension of restrictions.

The administration of President of the Russian Federation is now focused on this development, and in early May 2014, the government, the Central Bank, and Vladimir Putin are scheduled to meet to discuss a number of operational measures designed to last six-to-eight months, in order to counteract the effects of this scenario for the financial and industrial sector.

This is an abridged version of the original article that was first published in Kommersant daily. Sergei Strokan, Kirill Melnikov, Victor Hamraev, Yegor Popov, Elena Kovaleva, Anna Zanina, Oleg Trutnev, Lyubov Tsareva, Tatiana Edovina, Dmitry Butrin; Kirill Belianinov contributed to the story.