Putin’s biggest mistake in the Ukraine war? Trusting the Western financial system
TO ANALYSE: The West is deploying financial weapons never before deployed against a country the size of Russia, abandoning some of the principles that have defined it.
Some of what defined the West – and most of what drove global prosperity in the past century and a half – was the free movement of goods across borders, a functioning banking system and property rights.
There was an implicit understanding that no major nation (Russia’s economy is roughly the size of Australia’s) would be denied access to these things. Otherwise, the financial system would not be the financial system.
This seems to have been Russian President Vladimir Putin’s understanding. But ten days ago the West did the unthinkable, and the global financial system may never be the same again.
* Russian sanctions are tougher than he could have imagined, and it’s going to get worse
* How economic sanctions are changing the way we wage war
* Russian currency plummets, central bank more than doubles interest rate to 20% as Ukraine war sanctions bite
* Russia’s invasion of Ukraine exposes the limits of the UN Charter
Russia’s Vast War Chest
In the seven years since Putin invaded Ukraine (and annexed Crimea) in 2014, Russia’s central bank has nearly doubled its holdings of foreign currency, foreign bonds and gold, building up a reserve of 630 billion US dollars (NZ$925 billion) at a considerable cost to the standard of living of ordinary Russians.
It was a war chest that would allow Russia to continue buying things that could only be bought in foreign currency, even if foreign customers refused to trade with it and supply it with that currency. It was Russia’s insurance policy.
And although it might have been stored in Russia, much of it was kept in banks in the UK, Western Europe and the US, for easy access when it was necessary to buy things from those markets.
Whatever his other suspicions of the West, Putin seemed to think his financial system would not be disabled – not for a nation the size of Russia.
China will learn from Russia’s mistake
At February 27the West froze the assets and travel of named oligarchs and Russian officials, as planned.
Additionally, and less expected, he blocked named Russian banks from accessing the messaging system used to transfer money across borders, ensuring they were “disconnected from the international financial system”.
And, much less expected, it froze the reserves of the Russian central bank stored in France, Germany, Italy, the United Kingdom, Canada and the United States – the hundreds of billions of savings legitimately placed in foreign banks to be retained.
This action broke the bond of trust that makes a bank a bank. And while effective – Russia cannot access the hundreds of billions of foreign dollars it has painstakingly accumulated to buy supplies and support the ruble in the foreign exchange markets – it can only be done once at this scale.
China will have taken notice and will not entrust more foreign assets to banks in France, Germany, Italy, the UK and the US than it can afford to lose.
The freezing of foreign reserves has already been done – but only for the less powerful countries like Iran, Afghanistan and Venezuela. This is the first time this has been done to a member of the G20 or the UN Security Council.
The battle of the fridge against the TV
The ruble collapsed by 40%. Denied access to the foreign currency it would need to prop up the ruble in the market, Russia’s central bank attempted to stem the tide by more than doubling its key interest rate from 9. 5% to 20 percent.
Russia stopped Russians from sending money abroad, stopped paying foreigners interest on public debt, and demanded that every Russian business earning dollars hand over 80 percent from them in exchange for rubles.
For ordinary Russians there is a “battle of the fridge against the television» : the stark contrast between the reality of daily life and the demands of the state media.
Until recently, Russian television did not even use the word “war” (although it started). The television told the Russians that things were normal.
From buying a washing machine to getting a mortgage, a lot of things are suddenly expensive or unavailable. But official polls (for what they’re worth) show Support for the “special military operation”. Television has used the realities of shortages and price increases to attack the West for becoming anti-russian.
Hitting the Russian military and elite where it hurts
Whatever ordinary Russians actually think of the war, the impact of the West’s unprecedented sanctions on Russia’s elite is likely to matter more. can no longer travel on boardaccess their offshore savings or pay the tuition fees of their children abroad, the oligarchs at least have the potential to exert influence.
The final way the financial embargo could work is to deprive Russia of foreign currency to the point that it can no longer buy spare parts for its military or the computer chips and other hardware needed to make these parts.
There is every chance that none of these measures will work quickly, every chance that they will further impoverish the Russians, and every chance that, if Russia subjugates Ukraine, the West will find the sanctions impossible to withdraw. without losing face.
The global financial system changed when the West did the barely imaginable on February 27. It’s hard to see a way to go back.
Peter Martin is a visiting researcher at Australian National University Crawford School of Public Policy