U.S. Sanctions on Russia Don't Nail Energy Sector

The Obama administration's incremental approach to sanctions designates key individuals, but leaves the commanding heights of the Russian economy untouched.

With the latest slate of sanctions on high-profile Russians Monday, the Obama administration argues that it is ratcheting up the pressure on Vladimir Putin and inflicting significant pain on the Russian economy. But the new sanctions stop short of hitting the key energy firms that are the backbone of Russia's economy -- and that are the most vulnerable to sanctions pressure from the West.

The U.S. Treasury designated a number of individuals in Russian president Vladimir Putin's inner circle, including Igor Sechin, a former deputy prime minister of Russia and currently the president of Rosneft, one of the company's largest oil companies, with a market capitalization of about $65 billion.

The designation means that U.S. persons cannot have dealings with Sechin -- but a Treasury spokesperson said that Monday's sanctions don't prevent U.S. and European companies such as ExxonMobil and BP from continuing to do business with Rosneft. That's because Sechin controls less than half the company; if he held a majority stake the company itself would be off-limits. The loophole means that Western firms can continue their multi-billion dollar, multi-year deals with Rosneft. Western Exxon is working with the company on oil-exploration projects in Siberia and the Arctic. BP, meanwhile, owns about 20 percent of the Russian oil giant.

Rosneft shares rose Monday on news that it had not been targeted by sanctions, though Standard and Poor's downgraded the company's credit rating, along with those of natural gas giant Gazprom and pipeline behemoth Transneft. Russian markets also got a boost, with stocks on the Moscow exchange gaining 1.6 percent on the day and the ruble recovering some of the steep losses incurred against the dollar since the outbreak of the crisis in Ukraine.

"We don't have to engage in any deep analysis," said Adrian Karatnycky, a fellow at the Atlantic Council, a Washington think tank, and a managing partner of Myrmidon Group, a consulting firm focused on Eastern Europe. "The Russian markets reacted with relief."

The news was more mixed for Rosneft's Western partners. BP's American Depositary Receipts were down about one percent in midday trading in New York, while Exxon shares were up slightly. Exxon declined to comment, and BP did not immediately respond to requests for comment.

Other sanctions made public on Monday include the designations of several companies linked to Gennady Timchenko, a Russian billionaire with a long-standing and extremely close relationship to Putin, a former judo sparring partner. Timchenko had also been targeted in the first round of Ukraine-related sanctions last month. The targeted companies, which include mining and pipeline construction firms controlled through the Volga Group, but appear to do little business with U.S. companies.

A spokesman for the Timchenko's primary holding company, Volga Group, told Bloomberg Businessweek that "none of the companies mentioned by the U.S. Department of the Treasury has any connection to events in Ukraine...There can now be even less doubt that these announcements and measures are politically motivated."

Notably absent from the sanctions list were significant energy firms or other Putin insiders including Alexei Miller, the chief executive of Gazprom, Russia's natural-gas exporting behemoth.

Obama administration officials said Monday that they are keeping the prospect of broader sanctions, such as those that target the financial or energy sectors, in reserve. A senior administration added that they believe European officials will take the plunge to inflict sanctions on significant sectors of the Russian economy "if Russian troops move across the border" with Ukraine.

Taken together, the latest sanctions represent an incremental increase in U.S. pressure that so far has weakened the ruble, accelerated the flight of foreign capital from Russia, and walloped Russia's sovereign credit rating, which makes it harder for Moscow to tap capital on global financial markets.

Seriously targeting the energy sector would be crucial, though, because energy exports make up more than half the Russian government's revenue. Gas sales to Europe, in particular, are a point of vulnerability for Gazprom, since about three-quarters of its sales go to Europe. But Russia's oil firms, especially Rosneft, are also huge producers and long-time partners of big Western firms, with ambitious expansion plans.

Administration officials said Monday that they think the one-two punch of targeted sanctions and the knock-on effects such as the weakening currency that they have so far inflicted on the Russian economy will "affect Russia's calculus," because they show that Putin's annexation of the Crimean peninsula and destabilization of eastern Ukraine have "concrete economic costs."

So far, though, the sanctions to date appear not to have changed Putin's calculus regarding the wisdom of Russian meddling in Ukraine. And by stopping short of blacklisting entire sectors, they have given U.S. and European firms free rein to continue working with Russia, Inc.

Big Oil firms continue to talk up their investments in Russia, and some, such as Royal Dutch Shell, plan to ramp up investments in major energy projects in Russia. European countries continue to plan major deals with Russian nuclear power firms. Big European companies that have long-standing trading ties with Russia, meanwhile, are arguing against a ramping-up of sanctions.

The latest sanctions do deal one potential blow to some of Russia's energy aspirations by specifically designating Stoytransgaz, one of whose subsidiaries is vying to build a portion of a natural-gas pipeline in Bulgaria. But the full impact will only be felt if Europe follows suit with similar designations. U.S. officials said Monday that they don't expect that the latest U.S. and European sanctions lists will coincide exactly.

Stoytransgaz is reportedly part of a consortium seeking a 3.5 billion euro contract to build a portion of the South Stream pipeline across Bulgaria. South Stream is a Putin-backed project that would enable Moscow to ship natural gas from Russia to southern Europe while bypassing Ukraine, reducing Kiev's leverage as a key transit state for Russia's energy exports. But South Stream's future has come under question as a result of the Ukraine imbroglio, because European Union officials have put the project's legal approval on hold.

Hanna Kozlowska contributed to this report.


Maxim Shemetov - AFP - Getty


U.S. Sanctions More Russians

Washington blacklists more Russian officials, companies over Ukraine.

The Obama administration moved Monday to ratchet up sanctions against Russian officials and companies, saying Russian President Vladimir Putin and the Kremlin have done "precisely nothing" to meet the terms of a recent agreement to help de-escalate the tense situation in neighboring Ukraine.

The latest round of sanctions includes seven Russian government officials and 17 Russian companies. The short list incrementally deepens earlier sanctions by further restricting politicians and businesspeople close to Putin, but the designation of top oil executive Igor Sechin is a symbolic shot across the bow of an industry that is crucial to the Russian economy and Putin's power.

Obama administration officials specifically noted the inclusion of Sechin and Sergei Chemezov, on Monday, saying the inclusion underscores the severity of the sanctions. Sechin is president of the state-owned Rosneft oil company and a key Putin adviser, according to Treasury. Sechin's personal assets will be frozen, but Treasury officials said the designation wouldn't impact U.S. companies' ability to do business with Rosneft because Sechin does not control the firm.

Chemezov is the CEO of the Russian state development organization Rostec Corp. and the former director general of Rosoboronexport, Russia's state arms dealer. Rostec also is involved in selling some military equipment, however, including helicopters and the ubiquitous Kalashnikov rifle.

"Russia is the world's largest producer of military helicopters," Chemezov told Bloomberg News in an interview in March. "They're cheaper than European or American helicopters, and the quality is no worse."

Monday's move extended the reach of earlier sanctions by adding several banks and firms to the list that the Treasury Department says are controlled by people who were blacklisted last month.

Ratings firm Standard & Poor's downgraded Russia's debt Friday, saying that the economy faced increased risk because people have moved so much money -- $51 billion so far this year -- out of the country. That compares to $63 billion in all of 2013. Following the downgrade, Russia's central bank increased benchmark interest rates a half point to seven percent to combat inflation caused by the declining value of the ruble, which has fallen almost eight percent against the dollar so far this year.

The financial hits, however, have failed to persuade Putin to reverse his annexation of Crimea or remove any of the tens of thousands of troops he's massed along his country's border with Ukraine.

U.S. officials hope the new measures will have more bite. Two banks and a pipeline company were added to the list Monday because they are owned by billionaire brothers Arkady and Boris Rotenberg, who were sanctioned on March 20. Three other firms were listed because they are alleged part of Bank Rossiya, which Treasury said is the personal bank for Putin and his associates, when it was added to the list. Eleven companies belonging to Gennaddy Timchenko were also designated, including at least four construction firms, a company that makes soft drinks and an oil transport business.

In March, Treasury blacklisted Timchenko, the founder of commodities business Gunvor Group, saying that Putin had investments in the firm, which the firm has denied.* The U.S. effort to pressure Putin through sanctions highlights the murky nature of the Russian leader's financial holdings, which the New York Times reported Sunday could be as high as $70 billion.

Standard Bank analyst Tim Ash, who has followed the Ukraine crisis closely, said the list mainly included smaller "pocket" banks.

"What is striking is the relative absence of any banks/corporates at the ‘commanding' heights of the Russian economy," Ash said in a research note.

Visa and Mastercard shut down service to two banks, SMP Bank and InvestCapitalBank, that were added to the list Monday. The card companies already stopped processing transactions for Bank Rossiya and one of its subsidiaries after that bank was sanctioned last month.

U.S. officials warned that even harsher economic penalties against Moscow - including sectoral sanctions that would likely hurt the global economy if imposed - are still on the table if the Kremlin launches a full-blown invasion of eastern Ukraine. Their implementation could make it illegal for Americans to do business with certain industries, like energy, finance or defense.

"What we're doing is having a very significant impact," one U.S. official said. "These are calibrated and firm moves... that have had significant impact on the Russian economy."

The U.S. Commerce Department also expanded earlier restrictions on what American companies can export to Russia. The department stopped issuing new licenses in March, but will now explicitly deny some applications and could revoke earlier issued permissions. Any applications from U.S. companies that want to export items that could contribute to Russia's military capability will be rejected, Commerce said. Thirteen Russian companies were also added to a further restricted "entity list," which means permission to export to them will likely be denied.

It’s unclear which products will be restricted under the tighter export controls. Commerce oversees so-called “dual use” items, which can be used for civilian or military purposes, so if the new measure were interpreted broadly the restrictions could apply to all the products that the agency controls. A Commerce spokesman did not respond to requests for comment.

Tom Keatinge, an independent finance and security analyst, said the U.S. was probably sending few military items to Russia, even before the tighter measures.

“I cannot imagine that anything is being exported that can’t be sourced elsewhere from China or the like,” said Keatinge, who is also a former J.P. Morgan investment banker, in an email.

While the direct effects may be limited, export lawyer Farhad Alavi said the increased complication of sending products to Russia may discourage smaller companies from even applying for the licenses.

“They’re just going to say screw it, we’re not going to deal with Russia,” said Alavi, a partner with Akrivis Law Group.

President Obama said in Kuala Lumpur, Malaysia Sunday that the U.S. was opting to coordinate with Europe, rather than charging ahead alone.

"The notion that for us to go forward with sectoral sanctions on our own without the Europeans would be the most effective deterrent to Mr. Putin I think is factually wrong," Obama said at a joint press conference with Malaysian Prime Minister Najib Razak. "We're going to be in a stronger position to deter Mr. Putin when he sees that the world is unified and the United States and Europe is unified, rather than this is just a U.S.-Russian conflict."

The government in Kiev has pleaded for the United States to offer more military aid to Ukraine, including weapons, but U.S. officials said there is no scenario in which the Ukrainian military is going to be built up to the point that it can withstand Russian military might. The European Union is expected to announce similar economic sanctions soon.

Keith Johnson contributed this this article.

This article has been updated and corrected.

*Correction, April 30, 2014: The Treasury Department said on March 20, 2014 that the U.S. was sanctioning Timchenko because Putin had access to Gunvor funds, but did not sanction Gunvor.  An earlier version of this story misstated that the firm had also been blacklisted. (Return to reading.)

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