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Why the sanctions against Russia probably won’t work

Igor Sechin, chief executive of state-controlled Russian oil company Rosneft, was named by the U.S. government as one of the individuals targeted by sanctions against Russia. (AP Photo/RIA-Novosti, Alexei Nikolsky, Presidential Press Service, File)

Correction: An earlier version of this story contained incorrect figures for Russia's daily oil exports and the annual revenue they generated. This version has been corrected.

Do economic sanctions work?

In Russia, maybe not. Russia is sitting on roughly half a trillion dollars in foreign exchange, and it exports about 7.5 million barrels a day of crude oil bringing in about $300 billion a year — not including its sales of natural gas.

It has will as well as means. Russian President Vladi­mir Putin seems content to suffer some economic damage for the sake of correcting what he sees as a historical wrong and bringing Crimea and perhaps more of Ukraine back into the Russian fold.

“The whole idea that we are going to defeat Russians by imposing hardship on them boggles my mind,” said Clifford Gaddy, a Russia expert at the Brookings Institution, noting that the Russian economy contracted 40 percent after the fall of the Soviet Union.

“It’s not a matter of how much pain you can impose, but how much they can tolerate. And how much they can tolerate depends on the motivation for behavior,” he said, adding that Russia’s dispute with the United States and Europe was a “matter of national interest and survival” and not just greed.

This is bad news for foreign companies operating in Russia for whom the gradual tightening of sanctions on Monday by the United States and Europe is worrisome. So far the Obama administration has tried to zero in on top officials and advisers to Putin. And trade with Russia outside the energy sector is relatively small; U.S. trade with Russia accounts for less than 1 percent of U.S. overall trade.

Still, some international companies have big stakes there.

The biggest U.S. investor in Russia is Exxon Mobil, which has an oil and gas production facility off Sakhalin Island in northeastern Russia and which has joined with Russian oil giant Rosneft to explore the country’s Arctic region. It also has an operation extracting natural gas from complex geological formations. Russia accounts for about 6 percent of Exxon Mobil’s global production, according to oil analyst Pavel Molchanov at the investment firm Raymond James.

London-based oil giant BP is even more exposed to Russia. It owns a 19.75 percent stake in Rosneft, whose chief executive Igor Sechin was just added to the U.S. sanctions list. The stake is valued at about $13 billion, about 9 percent of BP’s total market capitalization. The Rosneft holding also accounts for about 30 percent of BP’s production, 36 percent of its reserves and contributes about 15 percent to the firm’s net income, Molchanov says.

Royal Dutch Shell has a stake in a Gazprom oil and gas field in Siberia and is a partner in Sakhalin 2, which has a liquefied natural gas terminal that in 2012 supplied a tenth of Japan’s gas needs. The company’s chief executive, Ben van Beurden, in Russia for the 20th anniversary of the project, met Putin on April 18 to discuss expanding the facility.

“We also know that this is going to be a project that will need strong support to succeed,” he said, according to Russian media. “So one of my purposes of meeting with you, Mr. President, is to also secure support for the way forward on this project.”

Weatherford, a U.S. oil services company, is also deeply involved in Russia. As of March 2014, Weatherford had 346 rigs, 74 percent of its international rig count, operating in Russia, Molchanov said.

Outside the energy sector, international companies with investments in Russia range from those selling luxury consumer goods to those investing in other natural resources. Putin, like other countries’ leaders, has insisted that automakers have certain levels of domestic content if they are selling in Russia. Ford and General Motors both have plants in Russia.

But so far, the United States and European Union have targeted Russian individuals and companies. The intention is to make clear to Russians that the target is Putin and his close allies, not the Russian people overall.

Gaddy doubts that will work either. “We are targeting the very best of Russia, the part that’s most modern, most eager to integrate into the global economy, most progressive,” he said. “Sanctions will tend to hurt them.”

Russia joins a long list of countries that have been subjected to international sanctions, and the track record is mixed, at best. Even where effective, they work slowly.

The U.S. embargo of Cuba has lasted more than half a century, and the Castros still rule there. The embargo of North Korea has inflicted suffering and starvation on the populace, but the Kim family remains in power. Both countries received oil and economic support from Russia and China respectively.

The U.S. Congress imposed sanctions on South Africa over President Ronald Reagan’s veto in October 1986, prompting many U.S. companies, such as General Motors and Mobil Oil, to withdraw. The sanctions contributed to ending apartheid, but domestic foes of apartheid had already shaken the country for two years with demonstrations, consumer boycotts and strikes, sparking a flight of capital, no-shows for military service and a reassessment by influential members of the ruling National Party.

The United States and European nations are currently negotiating with Iran, which is widely seen to have been brought to the bargaining table by tight sanctions on oil exports and transactions by Iran’s central bank. But the United States imposed sanctions on Iran after the 1979 hostage-taking, and other countries added sanctions after Iran resumed its uranium-enrichment program in 2005. Sanctions were tightened again in 2012, leading to a sharp drop in Iranian oil exports that provide the bulk of government revenue.

But Molchanov argues that Russia is different.

“Even if Russia were to cross the border into eastern Ukraine , it would be hard to imagine a full embargo on Russian exports because the world needs the oil,” he said. Iran at its peak was exporting about 2.5 million barrels a day, and the embargo eventually cut that to about 1 to 1.5 million barrels a day.

“The world can lose a million barrels a day from Iran, and it’s not especially painful,” Molchanov added. “But if it lost 9 million barrels a day from Russia, there is no supply elsewhere that could fully compensate for that loss immediately. If Russian exports went to zero tomorrow, there would be a global oil crisis.”

One argument in favor of imposing economic sanctions on Russia is the theory that Putin has made a bargain with the Russian people (similar to the implicit bargain made by China’s Communist Party): The Russian people give him power, and he will give them better living standards.

But Russian living standards weren’t that great before the Ukraine crisis. Moreover, many Russia experts think that is the wrong way to look at Russia.

Gaddy says that Russians want a better standard of living, but not if it means they aren’t treated as a great power. He said that given a choice of being Sweden or Russia, most Russians would sacrifice Sweden’s comforts and choose Russia for its great-power status.

Mark Medish, a National Security Council adviser on Russia and Ukraine under President Bill Clinton, believes Putin’s behavior has been reckless, but he also doubts the effectiveness of economic sanctions.

“Sanctions may cause economic inconvenience and reputational pain for the targets, and imposing sanctions may also make us feel correct, that we have done the right thing,” he said.

But he warned that “the stated objective of sanctions is to get Russia to change its behavior, and this is unlikely to work. Sanctions are more likely to galvanize the will of the other side.” He added that “great powers, especially nuclear superpowers, do not allow themselves to be extorted.”