The Kremlin's parallel network for circumventing Western sanctions
Russia's economy is holding its own against all odds in the face of the Western trade siege.
A year ago, Russia dusted off the old manual for dodging sanctions. Since the invasion of Ukraine began and Western countries imposed the first restrictions on the activities of the main companies and individuals orbiting the Kremlin, Vladimir Putin's regime has implemented all kinds of techniques to mitigate the impact on its economy. Any method is valid as long as the accounts are kept. Reorienting trade towards Asia, considerably lowering the price of energy, increasing public spending to record levels or coordinating with other countries accustomed to dealing with this type of situation, such as Cuba, Venezuela, Syria, Iran or North Korea. Any actor is valid as long as they can find a safe passage. There are no red lines for Putin, whose survival is at stake.
"The Kremlin already knew the cat-and-mouse game of sanctions evasion before invading Ukraine in February. But since then, it has emulated the approach taken by other countries and has carried out international shipping and banking operations despite the restrictions it faces, in part through informal and illicit procurement networks," according to a report by the International Institute for Strategic Studies (IISS), which assesses the damage to the Russian economy from sanctions. Moscow is not alone on the margins of globalisation. Several countries are willing to come to Putin's aid. But establishing new supply chains and alternative financial channels "will take time and come with a number of constraints and competing interests", notes consultant Frank Umbach on the Geopolitical Intelligence Services website.
The US, the EU, the UK and others have imposed more than 11,000 sanctions on Russian individuals - mostly oligarchs and senior state officials - companies, products and technologies over the past 12 months in an attempt to halt the Kremlin's war machine in Ukraine. But, against all odds, Russia has held out. The exponential rise in energy prices and the emergence of countries willing to take advantage of Russia's weakened position to extract more profits from bilateral trade have given Putin some breathing space. But these factors have not prevented Russia's economy from contracting by 2.1% in 2022, according to official data from Rosstat, the state statistics agency.
Forecasts were much gloomier. Experts predicted a drop of more than 10% before the successive rounds of sanctions. But it is far from impossible to rule out that the Kremlin is making up the figures. In fact, the Russian government has already blocked public access to some of this data. "The sanctions have failed to create a financial crisis in Russia, which explains why the economic contraction has been smaller than expected. Moreover, many Russian institutions are not yet under full sanctions and continue to benefit from access to international funding," says Belgian think tank Bruegel in a report published in October. "Nevertheless, there has been an impact on the Russian economy in general". The effects of sanctions have been slow to manifest themselves but will do so in the medium to long term.
"It appears that the wide range of sanctions imposed on Moscow will remain in place for the foreseeable future and, in fact, it will take years, rather than months, for Russia's leaders to fully restructure the country's economy to avoid the worst effects," adds the IISS report. Until then, Russia will have sufficient capacity to withstand the shock. Its energy exports increased by 20% in 2022, according to official figures. The International Energy Agency (IEA) estimates that its profits in this period amounted to 200 billion euros.
The Kremlin has manoeuvred to redirect its oil exports to China, Turkey and India. With the latter, it has increased the volume of exports sixteenfold since February 2022, according to IEA data. Russia also had the capacity to dock in ports in three different seas with its extensive fleet of tankers, increase the volume of exports through the network of available pipelines and boost its domestic market, which is protected from international sanctions. However, as Umbach notes, 'the more Russia disengages from the globalised system, the more it will try to evade Western sanctions by relying on illicit, unconventional and opaque trade schemes'.
Dmitry Medvedev took a flight to Havana in November. Cuban President Miguel Díaz-Canel was awaiting the arrival of the former Russian president from 2008 to 2012, who replaced Putin when the constitutionally mandated limit on the number of consecutive terms in office expired. The current vice-president of the Russian Security Council, perceived in the past as a liberal figure close to the West but now one of the Kremlin's hawks, praised Cuba's long experience in the area of sanctions. Díaz-Canel, who was quick to "strongly" condemn Western retaliation against Moscow, returned the gesture and shared with him some of his recipes for weathering the storm.
North Korea is another actor that has closed ranks with Russia. Kim Jong-un's regime not only reportedly helped Putin find ways to ease Western sanctions, which are also weighing heavily on its fragile economy, but also reportedly supplied arms to the Russian army for its offensive in Ukraine, according to the White House. Defence Department spokesman John Kirby in November accused Pyongyang of channelling these arms shipments to Russia through third countries in the Middle East and North Africa. Satellite imagery appears to confirm that exchanges of North Korean-made artillery shells for Russian oil, gas and flour are taking place.
Nicolás Maduro's Venezuela remains a key ally in circumventing sanctions. But this partnership is going through an uncertain period. Washington's timid rapprochement with Caracas, motivated by its need to find alternative energy sources, threatens to distance Chavismo from Moscow's orbit. "For Russia, Venezuela's flirtation with the US threatens to lose one of its few staunch supporters in the world," notes analyst Pavel Tarasenko at the Carnegie Endowment for International Peace. "Maduro has repeatedly accused the West of escalating the conflict in Ukraine with the aim of "dismembering" and "destroying" Russia. He condemns Western sanctions against Russia as "madness", while calling Ukraine's leaders a "neo-fascist elite"." But the Biden administration's nods are influencing the Miraflores Palace. The US revoked some sanctions, sent a delegation to negotiate with Maduro and cooled contacts with opposition leader Juan Guaidó, Venezuela's disgraced self-proclaimed legitimate president, who had been recognised by the US in the Trump era.
The regime of the ayatollahs is one step ahead of the rest in its alliance with Russia. The newly appointed governor of the Central Bank of Iran, Muhammad Raza Farzan, declared a few weeks ago that "the financial channel between Iran and the world was being restored". In the same speech, the Persian economist had announced that Tehran and Moscow had successfully concluded negotiations to connect their banking infrastructures amid tightening Western sanctions against both countries. In Russia's case, for its invasion of Ukraine; in Iran's case, for the repression of mass protests following the death of the young Kurdish woman Mahsa Amini at the hands of the Moral Police.
SEPAM, the acronym by which the Iranian financial telecommunications system is known, was connected to the Bank of Russia's Financial Messaging System (SPFS). These are the national systems set to replace the Society for Worldwide Interbank Financial Telecommunication (SWIFT), the Belgian financial messaging and transfer system that connects more than 11,000 institutions worldwide. This system, from which Iran and Russia were expelled, allows banks and financial firms to transmit payment instructions and alert each other to transactions before they take place.
Some 700 banks in Russia would be connected to about 100 banks in 13 other countries, mostly in Asia, and would be able to conduct transactions without having to rely on other foreign systems. This is an obvious mechanism for circumventing sanctions. In return, Putin pledged to accelerate Iran's entry into the Shanghai Cooperation Organisation (SCO), an alliance conceived as a counterweight to Western influence in Eurasia that focuses on issues related to regional security, the fight against regional terrorism, ethnic separatism and religious extremism.
The Russian system is unlikely to become a solid alternative to SWIFT without the initiative of other major economies such as China or India. New Delhi does not look favourably on such an operation because of its trade ties with Western countries. Indeed, even the simple linking of the Iranian system does not automatically improve banking relations with Iran. First, Russian banks must decide whether to work with Iranian clients. In any case, Muhammad Raza Farzan's announcement came at a time of rapprochement between Tehran and Moscow. Bilateral trade reached record levels last year. Now, both are seeking to strengthen the use of their national currencies in these transactions to counterbalance the effect of the US dollar and the euro.
"Russian economist Sergey Glazyev, who is close to the Kremlin, even advocates limiting the influence of the West through the establishment of a new international monetary architecture that, according to him, could be implemented through the BRICS," says Portuguese analyst Miguel Garrido in Modern Diplomacy. In June 2022, Putin attended the summit of emerging economies with precisely this demand: to create a new international reserve currency under the group's umbrella. But it did not meet with much success among its members. The proximity of countries such as India and Brazil to Western countries blocks this route.
"Russia and China promote an alternative vision of the international order, clearly different from that advocated by the United States and the European Union," summarises analyst Mercy Kuo in the pages of The Diplomat. "Moscow and Beijing share a dissatisfaction with the liberal international order. The two states have blocked attempts to maintain this order, especially in the UN Security Council, and have promoted an alternative vision that venerates absolute sovereignty". Against this backdrop, the renewed 'no limits' friendship with China has led Russia to adopt the yuan as one of the main currencies for its international reserves, foreign trade and even some personal banking services to replace the dollar and the euro, according to the Financial Times.
The decision, taken in the wake of Russia's shift towards China to dodge Western sanctions, which among other actions froze $300 billion of its international assets abroad, exposes the country to a few risks related to Beijing's shaky track record on currency devaluations. According to data from the Central Bank of Russia, the yuan currently accounts for 16% of Russian export payments. A little over a year ago, it was only 1%. This is the best possible news for Beijing, which was desperately seeking to internationalise its currency.
Ultimately, Russia's vast oil reserves and its trade ties with India and, above all, China have so far shielded Vladimir Putin's regime from the most damaging effects of Western sanctions. "They have had a noticeable impact so far, but the biggest blow is yet to come," argues Maria Snegovaya, a researcher at the Centre for Strategic and International Studies (CSIS). "Still, it is also becoming clear that sanctions alone will not stop Putin's aggression," Umbach concludes.
"Yes, the disruption of trade with Europe and Russia's further integration with China and Iran would inevitably be one of the results of sanctions. But China and Iran will not be able to fully replace what Moscow lost in Europe. Most of Russia's trade infrastructure has historically been oriented towards Europe, and reorienting it towards Asia poses serious logistical problems. Moreover, there is not enough demand for Russian energy from Asia. In our report we explain that the amount of oil Russia can sell to Asia is limited: it cannot fully compensate for the loss of European markets. Similarly, what Russia will import from China and Iran to replace Western products will tend to be of inferior quality," Maria Snegovaya replies by mail.
"In recent years, in the post-2008 crisis world, we have seen some broader anti-globalisation trends. We have seen the emergence of populist politicians who have stressed the importance of economic protectionism, offering to protect their countries against globalisation. We have seen countries adopt more protectionist economic policies. In that sense, this is not a new phenomenon," says Snegovaya.
"What is new, perhaps, is the realisation by Western policymakers that globalisation can pose serious risks to national security. Thus, some degree of de-globalisation is inevitable now that the West realises the threats associated with its strong interconnectedness not only with Russia, but also with China, which has been receiving sensitive technologies from the West. With this in mind, the Biden administration, for example, has recently begun to clamp down on China's access to chip technology," he adds.
"There is no alternative to globalisation in today's interconnected world. And Russia will not be excluded from this world, but sanctions are forcing it to reorient its supply chains towards alternative markets. One of the reasons there is no total oil embargo on Russia is because the West wants Russia to keep its oil supplies in energy markets (to avoid destabilising them) but sell them elsewhere at lower prices. The West will buy energy from other suppliers. So the main result of sanctions will be a redirection of trade flows, rather than de-globalisation," she tells Atalayar.
