8 | FTReports FINANCIAL TIMESThursday 30January 2020

Trade SecretsSanctions

W

hen Steven Mnuchin

stood in the White

House press briefing

room three days

after Iran had fired

missiles at two bases hosting US

forces in Iraq, in retaliation for the

assassination of a top Iranian military

commander, the Treasury secretary

was there to lay out a crucial element

of America’s response.

President Donald Trump had cho-

sen to ramp up economic sanctions

on Tehran rather than hit back with

military action that might have pre-

cipitated all-out war. “The goal of our

campaign is to deny the regime the

resources to conduct its destructive

foreign policy,” said Mr Mnuchin as

he extended sanctions on members of

Ayatollah Ali Khamenei’s inner cir-

cle, as well as the country’s metals

and mining sectors. “We want Iran to

simply behave like a normal nation.”

Mr Mnuchin’s comments, made as

he stood alongside US secretary of

state Mike Pompeo, reflected the

extent to which economic sanctions

have become the stick of choice in US

foreign policy under Mr Trump — just

as tariffs are its preferred punitive

tool on trade. The US Treasury

department says it has imposed sanc-

tions on some 2,800 individuals, enti-

ties, vessels and aircraft under Mr

Trump, and subjected more alleged

terrorists to the restrictions in 2018

than in any of the past 15 years.

Even as it imposed more economic

constraints on Iran, the US has this

month also threatened to impose new

sanctions on Iraq if it expels Ameri-

can troops, moved to impose restric-

tions on a senior official from South

Sudan for alleged involvement in

human rights abuses, and slapped

more sanctions on current and

former members of President Nicolás

Maduro’s government in Venezuela.

The Trump administration’s predi-

lection for economic sanctions comes

despite criticism. There are doubts

about their effectiveness, in that they

often reinforce regime hardliners.

There are concerns over their moral-

ity, in that they often damage the

most vulnerable citizens. There is

also disquiet about their long-term

effects, particularly the danger that

they could accelerate moves away

from the dollar as a reserve currency

and could force US companies to irre-

deemably lose market share abroad.

Mr Mnuchin is fully aware of the

latter concern. “The dollar is strong

because of the US economy and

because... of the safety of the US

dollar,” he said in Qatar’s capital Doha

last month. “So because of that, we

take sanctions responsibility very

seriously — as a matter of fact, I per-

sonally sign off on every single piece

of sanction that we do.”

There is no sign of a flight from the

dollar for now — in the third quarter

of last year, 62 per cent of the world’s

allocated reserves were in US dollars,

a far cry from the 20 per cent held in

euros. The figure is lower than in the

middle of the last decade but higher

than in the aftermath of the financial

crisis. Sanctions, if sustained and

expanded, are considered only one

factor that could precipitate a more

significant drop in the influence and

use of the dollar; another could be

financial mismanagement in Amer-

ica, such as a debt crisis.

Iran is the main focus of the Trump

administration’s sanctions, which

US shows no sign of

giving up its favourite

foreign policy tool

AmericaZeal for economic restrictions comes despite concern they

will cause long-term damage to status of the dollar, writesJames Politi

“We will charge them

sanctions like they’ve never

seen before ever,” Donald

Trump said earlier this month

as he threatened to punish

Iraq if it dared to expel US

troops. “It’ll make Iranian

sanctions look somewhat

tame.”

Never mind that Baghdad

had already suffered from

crippling US sanctions under

Saddam Hussein, or that

successive American

administrations, including Mr

Trump’s, had vowed to

provide economic support to

the country’s fragile

government. With this tweet

Mr Trump signalled that, in

the aftermath of the killing of

Iranian military commander

Qassem Soleimani, he was

willing to jeopardise the US’s

commercial relationship with

Iraq, in addition to its

diplomatic and military

alliance.

An economic freeze on

Baghdad would not be an

earth-shattering event for the

global economy, and Mr

Trump may not follow

through with it.

But the mere threat of

sanctions suggests the US is

willing to disengage

economically from another

crucial country in the Middle

East. Such a move could create

a void in the region that China

and Russia might fill.

Iraq threats signal willingness to

disengage from another key country

Commercial ties

Middle East retreat

would create

opportunities for

Russia and China,

saysJames Politi

“This is a remarkably

different economic

relationship between the US

and the Gulf than it was at the

start of the Trump

administration,” says

Elizabeth Rosenberg, a

former US Treasury official

and senior fellow at the

Center for a New American

Security.

“In the vacuum China

and Russia will certainly

move by offering reassurance

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Trade

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4 | FTReports FINANCIAL TIMESThursday 30January 2020

Trade SecretsSanctions

F

ive years ago, the Russian

economy was teetering on

the brink. Following Mos-

cow’s invasion and annexa-

tion of Crimea in March

2014, western countries imposed

powerful economic sanctions on Rus-

sia which, coupled with a steep

decline in the price of oil, could have

brought the Kremlin to its knees.

Yet by many metrics, Russia’s

$1.7tn economy looks to be in better

shape today than it has done for some

time. Growth is slower but more sta-

ble, a $124bn sovereign fund has been

created, exporters have found new

markets and importers have found

domestic alternatives.

Some economic analysts think

Moscow has more to fear from an

abrupt removal of the sanctions than

additional ones. “The single biggest

danger to the Russian economy

would be if the US woke up one day

and lifted all the sanctions,” says a

senior official who advises the Rus-

sian central bank. “There would be a

massive inflow of capital, the cur-

rency would spike, all the govern-

ment’s policies would be in tatters. It

would be a disaster.”

That Russia should be in this seem-

ingly absurd situation is a result of

prudent fiscal policy by the Kremlin,

economic adaptation over the years

spent under western restrictions —

and a fat slice of luck.

The sanctions, imposed by the US,

EU and other countries in various

tranches since 2014, include travel

bans for prominent individuals, pro-

hibit long-term financing for some

major corporates and ban assistance

to Russian oil and gas companies for

Arctic, shale and offshore projects.

Few economists argue that the

overall economic picture in Russia is

better today than it would have been

without any sanctions at all.

Yet Moscow’s resilience has called

into question the power of the extra-

territorial restrictions imposed by

the US and EU, and their worth as a

foreign policy tool.

“Russia’s economy has been far

more resilient than many feared back

in 2014,” says Sofya Donets, Russia

economist at Renaissance Capital.

While President Vladimir Putin

said there was “nothing good about

[sanctions]” at his annual press con-

ference last month, he added: “But

our economy — I can say this with full

responsibility — has been able to

adapt to external shocks, while our

national currency has actually

become much more stable, even with

possible energy price fluctuations.”

Russia’s response to the sanctions

focused on three key areas. First, it

tightened its belt, cutting public

spending and forcing its banks and

major corporates to clean up their

balance sheets. That was partly due to

the slump in foreign credit caused by

sanctions and investor sentiment,

and partly due to a sense that the

economy needed a safety net.

Second, it spent trillions of roubles

on programmes to create domestic

substitutes for imported goods, while

food imports from the EU were

banned in order to stimulate local

production.

And third, it overhauled how Rus-

sia spends the vast proceeds from

selling oil and gas. Income from

energy exports above a certain level

was diverted into a national wealth

fund, which ended a pattern of boom-

and-bust caused by government

spending linked to the oil price. It

also, almost overnight, severed the

bond that had seen the rouble move

in tandem with energy markets.

The results have been impressive.

All three levels of Russia’s govern-

ment ran a budget surplus in 2018

and 2019, and its total public debt is

about 15 per cent of GDP. The EU

average is 80 per cent.

Since the end of 2015, Russia’s

international currency reserves have

risen almost 50 per cent to $542bn at

the end of November, the highest

level since 2011 and close to a record

peak achieved in 2008. The farming

sector is booming — wheat produc-

tion in 2017 was the highest ever on

record — and Russia earned a record

$24bn in agriculture exports last

year, more than twice what it made

from arms exports.

And, thanks to a relatively steady

increase in oil prices since 2014 and

the successful implementation of the

wealth fund, Russia had $124bn

saved up at the start of December —

about 7 per cent of GDP.

James Roaf, head of the IMF mis-

sion to Russia, credited the economic

situation to Moscow’s “adherence to a

sound macroeconomic framework,

which supports economic activity by

reducing uncertainty, keeping infla-

tion under control and providing con-

fidence in the exchange rate.”

Yet economic growth is still way

below the Kremlin’s hopes. Inde-

pendent studies suggest real GDP

growth was just 1.2 per cent last year

and will be around 1.6 per cent this

year and 1.8 per cent in 2021. That

compares with 3.8 per cent in 2012,

and Mr Putin has ordered his govern-

ment to find ways to raise it.

Many observers credit sanctions

with at least tempering those figures,

citing a collapse in foreign direct

investment — from an annual average

of $54.5bn between 2011 and 2013 to

$19.2bn between 2015 and 2018 — as a

major factor.

Targeted sanctions have also had

an undeniable impact. The US’s

imposition of personal sanctions on

Oleg Deripaska and some other lead-

ing businessmen in 2018 effectively

cut all of their companies off from the

global market, hitting some of

Russia’s most important industrial

groups.

Measures curtailing investment

and technology transfer to the Rus-

sian energy industry in certain areas

such as shale, offshore or Arctic drill-

ing have had a medium-term impact

not yet seen, given the long gestation

period for energy projects.

“International sanctions which

have pervasive effects in adding to

business uncertainty [are] holding

back both foreign and domestic

investment, and reducing Russia’s

international market integration,”

Mr Roaf said after a recent visit to

Russia.

But the threatened economic col-

lapse has not occurred, and the

Kremlin appears publicly undaunted

by the impact of these measures.

Instead, it is seeking new friends in

Asia and Africa to partially offset the

fall in western trade and investment.

Trade with China has risen 53 per

cent in the last three years to $107bn

in 2019, while a recent summit hosted

by Mr Putin attracted 43 heads of

state or government from Africa.

“We actually support a full normal-

isation, especially since none of those

[sanctions] really work effectively,”

Mr Putin said last month. “Indeed,

this policy causes us problems, but

there are benefits, too, and they are

also obvious.”

Putin finds a sanctions silver lining

RussiaEconomy has

suffered under US

restrictions, but there

have been benefits

too, writesHenry Foy

New friends: Russian president Vladimir Putin with his African counterparts at a summit last October. He is looking for new markets to offset the fall in western trade— Sergei Chirikov/EPA-EFE

‘Our national currency

has actually become

much more stable’

FINANCIAL TIMESThursday 30 January 2020 FTReports| 9

Trade SecretsSanctions

been no transactions via Instex so far.

There have been some cases in

which Mr Mnuchin was seen to have

pulled some punches on sanctions.

The US Treasury secretary contro-

versially dropped plans to impose

sanctions on companies owned by

Oleg Deripaska, the Russian oligarch

close to Vladimir Putin. Democrats

lambasted the move, forcing Mr

Mnuchin to head to Capitol Hill to

explain the decision in a classified

briefing.

China hawks on Capitol Hill, in

some foreign policy think-tanks, and

even within the administration

wanted Mr Mnuchin to take a tougher

line with individuals and companies

from that country over practices

ranging from human rights violations

to industrial espionage to their own

violations of US sanctions. But the

Trump administration has been

more cautious about targeting Chi-

nese entities, amid fears that this

could further inflame tensions with

Beijing as the two countries tried to

settle their trade dispute.

Yet none of this has diminished the

sense that one of Mr Mnuchin’s big-

gest legacies as Treasury secretary

will be his unabating focus on sanc-

tions, with few signs of regret. “I think

we have 100 per cent confidence, and

we are consistent in our view, that the

economic sanctions are working,” he

said of Iran. Without sanctions, he

added, the country would have tens

of billions of dollars that it “would be

using for terrorist activities through-

out the region and to enable them to

do more bad things. And there’s no

que stion, by cutting off the

economics to the region, we are hav-

ing an impact.”

were sharply ramped up following

the US announcement in 2018 that it

would withdraw from the 2015

nuclear deal. But Washington has also

wielded its economic stick to squeeze

the governments of US foes including

North Korea and Venezuela.

Yet even though the regimes in

Tehran, Pyongyang and Caracas

remain firmly in place, Treasury offi-

cials maintain that tougher sanctions

are the right policy in deterring bad

behaviour and isolating countries

economically and diplomatically.

According to one official, there have

been instances in recent years when

the threat or rumour of possible sanc-

tions have prompted foreign govern-

ments and individuals to contact the

Treasury in an attempt to avoid being

hit by restrictions.

One concern with Mr Trump’s fer-

vent use of economic sanctions

around the world is that it will inevi-

tably leave a void that is likely to be

filled by either Russia or China, who

are increasingly reasserting them-

selves on the world stage as economic

alternatives to the US’s traditional

dominance. Washington has been

trying to ramp up its development

financing agency to help fund infra-

structure projects around the world,

but China has a head-start in many

corners of the developing world,

thanks to its Belt and Road Initiative.

A second worry is that Mr Trump

and Mr Mnuchin have not always

been effective at persuading tradi-

tional US allies to participate in the

economic sanctions, particularly the

indirect, secondary sanctions that

apply to third countries, which would

boost their effectiveness.

After the US withdrew from the

Iran nuclear pact, some EU countries

set up their own payment system —

called Instex — to allow business to

continue with the country. But US

officials have pointed out there have

that they can be strong

business partners.”

US economic and trade

interests in Iraq are not trivial.

Iraq is one of America’s top

sources of imported crude oil,

even though the US has been

steadily decreasing its

dependence on foreign oil,

including from the Gulf

countries.

‘China and Russia

will certainly move

by offering

reassurance that

they can be strong

business partners’

Steven Mnuchin and Mike Pompeo,

Treasury and foreign secretaries,

unveil Iran sanctions this month

Nicholas Kamm/AFP via Getty Images

Trump and Mnuchin

have not always been

able to convince US allies

to take part in sanctions

US energy companies have a

presence in the country,

including Chevron, which

ordered the evacuation of its

American staff this month as

tensions flared.

With Iran, the economic and

trade story relates to what

could have been. After

Barack Obama agreed the

2015 nuclear deal with Tehran,

he set the stage for corporate

America to do far more

business in the country than at

any time since the 1979

revolution, including a

meaningful expansion in

trade. Three years ago,

Boeing struck a deal to sell

nearly $17bn in aircraft to Iran

Air — but that agreement

quickly unravelled after Mr

Trump took office and pulled

Targeted: scene of the US killing of Iranian military

commander Qassem Soleimani in Baghdad— Iraqi prime minister’s office

out of the nuclear accord.

Soleimani’s killing — and the

drumbeat of further military

escalation between

Washington and Tehran — has

dealt a new blow to any hopes

that the US might reconnect

economically with Iran any

time soon. It could

complicate that process even

if a Democrat regains

control of the White House

next year.

The US may hope that it can

make up for any loss of

influence and trading

relationships with Iran and

Iraq by bolstering ties with

countries elsewhere in the

region.

But the signs are not good.

The US has already raised

tariffs on Turkish steel and

has threatened further

penalties.

Saudi agents’ brutal murder

of Jamal Khashoggi, the US-

based journalist, has made

economic engagement with

Riyadh tricky for American

companies.

Egypt is perhaps fertile

ground for greater US trade

ties in the region, but that

might not be enough to

counter the perception in the

region that Washington is

drifting away.

In previous times of tension

and war in the Middle East, the

US could afford to lose

economic clout in the region.

But, particularly with the rise

of China as a global power, the

costs of US disengagement

have risen sharply.