As Russia amasses increasing numbers of troops and military equipment near its border with Ukraine, the United States and its NATO allies are frantically scrambling to deter a Russian invasion through sanctions. With fears mounting that additional weapons sales, military training, and financial support for Ukraine may be “too little too late” to stop what would be the most destructive European war since 1945, talk has turned to deploying severe economic and financial measures in a bid to halt Moscow’s aggression.
Though attractive at first blush, there are significant reasons to be skeptical that threats of financial warfare will be sufficient to force the Kremlin to back down. Worse, the use of sanctions to punish Russia will likely hurt long-term American economic and security interests worldwide. Policymakers in Washington and Brussels must be realistic about the limited effectiveness of sanctions to alter Moscow’s calculus on Ukraine, especially when weighed against the significant second- and third-order consequences of such measures.
Deterrence is all about threatening to inflict severe pain to prevent an adversary from taking an undesirable action. The promised pain to come—in this case, economic sanctions—must impose a high enough cost on the adversary to dissuade that foe from engaging in the undesired action.
For nearly twenty years, Moscow has repeatedly signaled that it seeks a politically subservient and pro-Russian government in Kyiv that poses no threat to Russian security interests in terms of military capabilities or foreign policy objectives. In the eyes of Russia’s leaders, this scenario is far preferable to the current status quo with a government in Kyiv that is openly hostile to Russia and quickly deepening its political, economic, and military relationship with the United States and NATO. As Moscow seriously contemplates the use of force to achieve its preferred outcome, the challenge for Western policymakers is how to credibly deter Moscow and force its leaders to begrudgingly accept Ukraine’s growing relationship with the West.
Even under the most optimistic scenarios, this is a tall order. The question of whether Ukraine aligns with the United States, Europe, and NATO instead of Russia is an existential one for Moscow. Over the last two decades, President Vladimir Putin has made this clear repeatedly through both words and deeds. Prominent examples include Russia’s opposition to Ukraine’s Orange Revolution of 2004-5; its hostility to Ukraine’s EU Association agreement leading to the 2013-14 Maidan Revolution; Russia’s invasion and annexation of Crimea in 2014; Moscow’s multifaceted support for separatist forces in the Donbas region of Eastern Ukraine since 2014; its continued and vocal opposition to Ukrainian NATO membership and Western military training, advising, and equipment transfers; and its continued rhetorical emphasis on the centrality of Ukraine to the historical development of the Russian state. All of these point to one conclusion: Ukraine is a red line for Russia, one that Moscow is willing to go to incredible lengths to defend. The benefit that Moscow believes it would attain should it settle the “Ukraine question” in its favor is significant; Western policymakers cannot afford to discount that fact.
Nonetheless, a wide array of economic and financial sanctions have been suggested as ideally suited to threaten severe economic pain on Russia and—as many optimistically hope—compel the Kremlin to back down. Measures under consideration in Washington include targeted sanctions on senior political and military officials; sanctions on Russian banks, particularly those banks with ties to the Russian state; sanctions and prohibition of technology transfers to Russia’s military and energy industries; prohibitions on transactions involving Russian primary and secondary sovereign debt; blocking completion of the Nord Stream 2 pipeline between Russia and Germany; and Russia’s exclusion from the SWIFT financial messaging service.
The appeal of using sanctions to deter Russia is understandable. If implemented, most of the proposed measures would inflict deep and widespread economic pain on Russian elites and citizens, at least in the short to medium term. Additionally, using economic weapons to cause pain is less bloody than providing lethal weapons, leading many to conclude that sanctions are a more humane form of retribution if deterrence fails to stop an invasion. Finally, the mechanisms to inflict pain through sanctions are already in place and can be quickly executed if necessary.
Despite the appeal of using sanctions to force Moscow’s hand, there are significant reasons to doubt that even the most extreme measures under consideration are likely to halt Russia’s march toward war. For the threat of pain to have the desired deterrent effect, the targeted adversary must believe that it is credible. Credibility, in turn, depends on the target believing that the country issuing the threat has both the capability to inflict the punishment and the resolve to do so. Conditions that call into question the capabilities and resolve of the United States and its European allies and partners to follow through on imposing sanctions will undermine the credibility of the threat and, by extension, fail to alter Moscow’s cost-benefit analysis enough to prevent invasion.
Many of the punitive economic and financial measures under discussion would, if implemented, impose significant costs not just on Russia, but also on Western financial institutions. This is especially true for American and European banks with significant exposure to Russia. Anxiety runs high that sanctions will disrupt global financial markets in the short run, inflicting substantial costs on Western economic interests. This would be especially true if Russia was excluded from the SWIFT system, aptly described as the financial “nuclear option.” Bankers worry that, like a nuclear explosion, “detonation” of the SWIFT weapon would generate indiscriminate economic collateral damage, extending well beyond any country’s direct links to Russia.
Though it may be tempting to dismiss these warnings as the self-interested worries of Wall Street elites, the likely blowback from imposing certain financial sanctions on Russia ultimately undermines the credibility of the threat to use them. European governments have already signaled their unease with the most severe penalties under discussion (e.g., stopping Nord Stream 2), casting doubt on whether U.S. allies are prepared to commit to the long-term maintenance of a sanctions regime that will undoubtedly hurt European countries even more than the United States. If the United States and its allies are not in lockstep on the commitment to follow through with the threat, it should not come as a surprise when affected countries and financial institutions seek workarounds and waivers that will further dilute the effect of sanctions. The Kremlin no doubt sees these cracks in the alliance already emerging and is likely to draw unflattering but accurate conclusions about the strength of the West’s resolve, further undermining deterrence.
A long-term view gives even more cause for concern. If sanctions fail to deter a Russian invasion, the purpose of their implementation will no longer be deterrence but punishment. However, it is less than clear how much economic pain the West, itself, is willing to bear to impose sanctions on Russia. While history suggests that the effects of geopolitical shocks on markets tend to be short-lived, the long-term unintended consequences of waging all-out financial warfare against Russia could be dire for U.S. global strategic interests.
Since the end of World War II, much of America’s extraordinary geopolitical power has derived from its structural power in the global economy. Structural power is, as Susan Strange wrote in 1988, “the power to shape and determine the structure of the global political economy within which other states, their political institutions, their economic enterprises…and other professional people have to operate.” Put simply, America enjoys unrivaled economic power, having simultaneously written the rules of the global economy and enforced them as chief referee. The size and dynamism of America’s economy, the status of the dollar as the world’s reserve currency, the use of the dollar as the preferred currency to settle international transactions, and the fact that most global financial flows fall under American jurisdiction give the United States tremendous power over global economics and geopolitics.
Deploying the financial “nuclear option” against Russia for invading Ukraine is only likely to accelerate the transition away from the U.S.-built and led global financial architecture as adversaries (and even some partners) look for alternatives to hedge against the risk of U.S. financial retribution. Although the influence of Russia’s SWIFT alternative, SPFS, is severely limited by its lack of international connectivity, plans are underway to integrate Russia’s system with China’s Cross-Border Inter-Bank Payments System (CBIBPS). This would give Moscow—and others—a viable alternative to the Brussels-based SWIFT system.
The longer an economy as large as Russia’s remains disconnected from SWIFT, the greater the incentive to find ways to adapt outside of the U.S.-led framework. Economic actors around the globe will develop new networks, processes, and institutions to circumvent Western sanctions. Unable to transfer dollars to settle transactions, the movement toward the de-dollarization of international trade will gain steam.
Given China’s increasing capability to reshape global economic institutions and practices to suit its preferences, such an outcome would surely be seen as a gift from heaven. There is little doubt that the Chinese government would pay close attention to the valuable financial intelligence transmitted across its own networks and use this information to gain maximum political and economic advantage. While the decision to exclude Russia from SWIFT could easily be reversed (mechanically speaking), that would not erase all the damage caused by the rise of alternative financial networks that will compete with SWIFT while U.S. sanctions are in place.