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Ukraine Expert: Time for Serious Sanctions on Russia

By Mark Nuckols   |   Thursday, 20 Mar 2014 06:31 PM

President Barack Obama has announced an expansion of sanctions against Russia, following the Russian Duma's approval of a treaty to annex Crimea.

Obama is broadening the number of Kremlin officials and insiders subject to U.S. visa restrictions and asset freezes.

At first glance, these appear to be of little concern to Vladimir Putin and his ruling circle. They don't have assets in America, and probably weren't planning to visit Disney World anytime soon.

But Obama may have more leverage to inflict real pain on Russia, even if he can't necessarily reverse its illegal annexation of Ukrainian territory. The key is Russia's fragile economy and bloated state finances.

Russia enjoyed eight years of solid annual economic growth before the global financial crisis of 2008. But much of that growth was illusory — steady Russian economic growth was driven almost entirely by equally steady increases in the prices of commodities, especially oil and gas. Like many resource dependent countries, Russia doesn't actually produce much that can be exported.

And Russia's structurally feeble economy is further weakened by corruption, wasteful spending, and capital flight. And it has already reached the limits of growth provided by $105 a barrel of oil (figures from Brent Crude).

GDP growth last year was an anemic 1.3 percent and is projected to drop to zero for 2014. And as oil futures prices indicate, the market is expecting lower prices going forward. And they could decline even more as new extraction technologies bring more oil and gas to market.

Against this backdrop, the future already looked grim for Russia. Corruption and waste are heavy burdens on the state budget. And the Kremlin needs to indulge in increased social spending to maintain the loyalty of key constituencies, including government employees and pensioners. According to recent Ministry of Finance calculations, if oil drops below $100 a barrel, Russia can't balance its budget.

It does have substantial reserves set aside from when the economy was flush. But about $50 billion was wasted on the economically irrational Sochi Olympic Games, an investment that will never be recovered. Absorbing Crimea is going to require billions more from the budget.

Sanctions against a few of Putin's cronies won't bite much. But if Obama decides to sanction key Russian exports, such as oil, it could be catastrophic for Russia's economy. Just as severe in effect would be limiting Russia's access to the global financial system. Similar sanctions have brought the Iranian economy to its knees. But Iran has a fiercely entrenched dictatorship able to endure economic hardship.

Russians have become used to rising incomes, and for the first time in history their standard of living is just beginning to approach European levels. Putin is enjoying a momentary surge of popularity in the wake of his military adventure in Ukraine. But ultimately, his ability to remain in power is dependent on two factors — money to feed Russia's corrupt bureaucracy, and money to satisfy public demand for a rising standard of living.

If Obama tightens the screws on the Kremlin's economy, the façade of an all-powerful Putin could collapse with it.

Not all of Russia's elite share the popular enthusiasm for Putin's Crimean conquest. They rightfully fear for the value of their assets and their access to the West.

President Obama should clearly and forcefully signal his resolve to step up a sanctions regime capable of "making Russia's economy scream."

Perhaps the yelps of Putin's key supporters, namely the oligarchs, may reach his ears before Russia takes the final steps to formally annex Crimea.

Mark Nuckols is a professor at the Russian Presidential Academy of National Economy and Public Administration, based in Moscow.

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