“Targeted” Sanctions, A Triumph For Russian Isolationists

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John Boehner, Speaker of the House and staunch defender of the NSA’s spying dragnet that ensnares every American, did exactly the same thing with regards to Russia that President Obama had done: posturing.

“It’s time to stand up to Putin,” he said in an interview. Calling the Russian president a “thug,” he claimed that time had come to join forces with Europe to impose sanctions. Like Obama who’d threatened Russia with “costs,” without specifying any, Boehner failed to mention what sanctions he had in mind. Instead, he drew his own red line: “At what point do you say enough is enough? We are at that point.”

Meanwhile, NATO met. The UN Security Council met. EU Foreign Ministers met. Sanctions, that’s the common denominator. The posturing wasn’t limited to the US. French Foreign Minister Laurent Fabius called it “the gravest crisis in 20 years.” And he threatened Russia, “If there isn’t a very quick de-escalation in the coming hours, then we will decide concrete measures such as the suspension of all talks on visas, suspension of economic agreements, and that means that ties will be cut in a lot of areas.” He spoke of “firmness” in the European response and of “targeted measures” against “officials and their assets.”

Everything had come to a head this weekend when Putin claimed he had the right to invade the Ukraine to protect Russian interests and citizens, and parliament gave him the permission to use military force. Ukraine’s newly installed Prime Minister Arseny Yatseniuk called it a “declaration of war.”

The Russian military has already taken control of the Crimea, the cherished Black Sea peninsula with a Russian naval base. So the rest of the Ukraine, or rather the portions where Ukrainian is the dominant language, mobilized for war, worried about a more extensive invasion.

The markets reacted to the fiasco – and a fiasco it is because in addition to acrid smell of war, the Ukraine is melting down financially. And it is pulling Russia into its vortex.

Russia’s economic growth had already slowed to 1.3% last year, the worst since Putin ascended to the throne in 2000. On Monday, the Manufacturing Purchasing Managers Index hammered home the message: it hit the second lowest level since June 2009, the lowest level having been last month. It has been in negative territory for four months in a row, and for seven months of the past eight. Employers shed jobs for the eighth month in a row. New orders fell for the third month in a row. And inflation pressures were building up.

So investors, Russians and foreigners alike, dumped Russian assets in a wholesale manner. The already teetering ruble dropped another 2% to all-time lows – the new ruble, that is, not the old ruble which had been annihilated over the years following the collapse of the Soviet Union. At the end of the day, it took 36.54 rubles to buy a dollar and 50.36 rubles to buy a Euro.

“The whole market” was selling rubles and just about the only buyer was the central bank, explained Pavel Demeschik, a dealer at ING Bank in Moscow. It bought “more than $10 billion” worth of rubles, “quite openly and absolutely explicitly,” he said. With its stash of $493.4 billion in forex reserves and gold, it has some leeway, for a while.

The central bank also jacked up its key lending rate in a shock-and-awe move from 5.5% to 7%, hoping to tamp down, as it said in its own bout of posturing, on “risks to inflation and financial stability associated with the recently increased level of volatility in the financial markets.”

It had nothing to do with inflation, retorted deputy economy minister, Andrei Klepach. It was aimed strictly at putting a floor under the ruble. Either way, jacking up interest rates isn’t going to help the anemic economy.

Russian stocks tanked. The ruble-denominated Micex index plunged 10.8%, worst one-day loss since November 2008. The dollar-denominated RTS Index, plunged 12% and is now down 27% from its October peak. The state-controlled gas company Gazprom, a special friend of the Ukraine, got knocked down 14%. Russia’s largest lender Sberbank dropped 15% and VTB Bank, which is heavily exposed to the Ukraine, 17.5%. Mining company Mechel plummeted 23%. Bloomberg pointed out that oil major Rosneft lost $5 billion in market cap, and BP’s 19.75% stake in it lost close to $1 billion. Lots of foreigners took it on the chin. Panic hung in the air

“The wave of hysteria will pass, but it is difficult to say when,” Klepach told Reuters. “Anyway, what lies ahead of us is a period of more confrontation and difficulties. For us, that will mean more complicated relations with the European Union, the States, with all the resulting consequences.”

But imposing effective sanctions will be tough. The US doesn’t trade that much with Russia, though American corporations are all over it. Apple, Boeing, Coca-Cola, ExxonMobil…. And they have a lot to lose.

Gazprom then rattled some nerves with when CFO Andrei Kurglov told investors in London with regards to the Ukraine that “we’re still thinking about whether to extend the pricing contract into the next quarter, based on current prices.” Gazprom had cut gas deliveries to the Ukraine in 2006 and 2009. The Ukraine, whose money tends to evaporate in mid-stream, owed Gazprom $1.55 billion – “debt that the previous leadership of the country has left us,” explained Energy and Coal Industry Minister Yury Prodan. He offered that the country would try to repay $400 million “in the near future.”

And that’s where sanctions run aground. Europe depends on Gazprom. Germany gets 35% of its gas from it. Germany is Russia’s biggest client. It has long had a “strategic partnership” with Russia, as then-Chancellor Gerhard Schröder called it. He vigorously promoted a Russian-German pipeline project across the Baltic Sea and called Putin a “flawless democrat” in November 2004. Several days after leaving office in 2005, he joined the board of directors of the Baltic Sea pipeline joint venture, whose other owner was Gazprom. And he became an advisor to Putin.

In turn, Russia is a major trading partner for the sacrosanct German exporters, ranging from cookie-maker Bahlsen to industrial giant and high-speed train maker Siemens. No one in Germany is allowed to get in their way.

But it’s not just Germany. The EU is Russia’s largest trading partner and largest foreign investor, according to the European Commission. And Russia is the EU’s third largest trading partner. The EU exports mostly machinery, transportation equipment, chemicals, pharmaceuticals, and agricultural products. And it imports mostly oil, gas, coal, and uranium. No Russia, no energy.

Russia and the EU, particularly Germany, are economically joined at the hip. Broad sanctions against entire industries would backfire – as Gazprom made sure to remind everyone with its ever so subtle comment that it was “still thinking about” its delivery contracts with the Ukraine. What if it suddenly started “thinking about” its delivery contracts with Germany?

Yet Gazprom is dependent on these sales and cannot afford to shut off that business. Just the unspoken idea of it caused its stock to drop 14% on Monday.

Everyone is hoping to find some cosmetic sanctions, perhaps against some rich Russians, that would be lackadaisically enforced so that everyone could live with them. Russians, to the chagrin of their own government, yank their money out of Russia and deposit it or invest it overseas, which they have learned in Cyprus, isn’t always the safest option. They’ve become mega-buyers of properties in Western trophy cities, particularly in London. And harassing them with sanctions, wrote Louise Cooper of CooperCity, “would upset a lot of London estate agents….”

But it might benefit Putin. Going after these Russians – whom Putin snickered at when they lost piles of money in Cyprus – would echo Fabius’ threat of “targeted measures” against “officials and their assets.” And it would give Putin, who has a history of stepping on inconvenient oligarchs, another opportunity to lecture his compatriots about the risks of yanking their money out of Russia.

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