The Treasury's War On Russia: Sanctions May Bite But The Strongest Tool Is Unlikely To Be Used

As the West seeks to isolate and punish Russia for its annexation of Crimea, it has implemented a number of sanctions, but so far not the one that would almost certainly deliver the most profound and lasting blow: effectively excommunicating Russia from the global financial system by severing it from the SWIFT system, the network that connects financial institutions around the globe.

That option has been used by the United States and its allies to isolate Iran in the past, denying it access to the international banking system. It's known as the nuclear option, a step so severe that it would have painful ramifications for an economy.

And while Iran is small enough to be cut off with limited consequences for other nations, Russia appears to have special immunity to the most severe sanction: It is effectively too interconnected to fail. Its elimination from SWIFT would risk global financial chaos.

“To sanction Russia is to forget that Russia supplies Europe with its gas supplies. To sanction Russia is to forget there are many U.S. and European corporations operating within Russia right now. I honestly believe sanctioning Russia is the same as shooting yourself in the foot,” said commodities expert Jim Sinclair in a recent interview with USAwatchdog.

Russia’s economy is so large and intertwined with global markets that any disruption to its access to global markets would likely unleash havoc around the world, but it would also prompt retaliation from Russia, chiefly by depriving Europe of energy supplies. Hence some have called SWIFT sanctions the “nuclear option.”

SWIFT, or the Society for Worldwide Interbank Financial Telecommunication, is a system that allows global financial institutions to to do business with each other securely. It’s like the circulatory system for the financial world, making sure money flows to all corners of the world’s economy, keeping it healthy. It's a convenient and near-mandatory tool that nearly every country in the world uses, with the exception of North Korea and Iran. Not being part of it is to not be part of the global economy.

"Financial messaging restrictions were put in place against Iran fairly far into the process - we're only a week in at this stage," said a SWIFT spokesperson, who spoke to International Business Times on the condition of anonymity. "It's premature, to say the least. Some have described it as the 'nuclear option,' which is perhaps unfortunate wording. It would be a dramatic step -- extraordinary, in fact."

However, the EU did take this drastic step with Iran.

The Iranian Republic was brought to a grinding halt in 2011 when the EU, fueled by U.S. pressure, decided to exclude Iran from the SWIFT system. It was immediately excluded from the global marketplace. It could not receive or send money, so the economy and the currency began to crumble. Oil revenues were held up in foreign bank accounts, unable to be released. This established an incredible black market economy where smuggling hard cash to foreign banks across the Iranian border was not uncommon, but this was quickly cut out and Iran's economy and population began to suffer.

At the time of the Iranian sanctions in 2012, U.N. chief Ban Ki-moon said: "The sanctions imposed on the Islamic Republic of Iran have had significant effects on the general population, including an escalation in inflation, a rise in commodities and energy costs, an increase in the rate of unemployment and a shortage of necessary items, including medicine," Ban said in a Reuters report.

Iran's $483 billion economy suffered badly, losing as much as $60 billion in energy investment as oil exports as a share of overall Iranian exports shrunk from 84.9 percent in 2006 to 79.8 percent in 2010, eventually shrinking to 860,000 bpd in September 2012 from 2.2 million bpd at the end of 2011.

The country's budget deficit doubled in three years, eventually steadying at around $40 billion at the end of 2012. The Iranian rial dropped 10 percent in one day and devalued by around 80 percent in total. Those losses were because of a mixture of SWIFT-specific issues and wider trade sanctions.

While the EU controls what SWIFT does, it is heavily influenced by U.S. foreign policy.

Most sanctions are directed by the little-known U.S. government-run Office for Foreign Asset Control, which can use delegated powers from the U.S. president to add to a list known as the Specially Designated Nationals and Blocked Persons list.

"The three executive orders related to the situation in Ukraine are flexible tools to take focused action as appropriate and as the situation develops in Ukraine,” said a Treasury spokesperson. “Generally we do not comment on future actions, but as the president has made clear ,we will impose costs on those that undermine Ukraine’s democratic processes and institutions, threaten its peace, security, stability, sovereignty or territorial integrity, or contribute to the misappropriation of its assets."

While SWIFT told International Business Times that it’s unlikely that Russia will face the severity of the sanctions that Iran did, the option can be removed completely.

So far, some have said that current sanctions on Russia, such as travel bans and asset freezes on dozens individuals and the Bank Rossiya, has lacked teeth. A third round of sanctions, including deeper economic restrictions and industrial exclusions, is expected to be announced if Russia continues thumbing its nose at the west.

Who’s Suffering Already?

While the world broadly supported the sanctions against Iran, questions have to be asked about what extent those wider sanctions have from an ethical standpoint when they clearly have the ability, in the case of Iran, to expose third-party economies close to the country of interest and the innocent civilians within the affected countries.

Russia’s economy has already begun to suffer. According to multiple media reports about $40 billion in assets is to be withdrawn from Russia in the coming weeks. Additionally, military contracts with Russia, including some from the U.S. are being torn up, pressuring an already-leaner US defense industry.

Even with the cuts, the US is unlikely to scrap an agreement to buy Russian helicopters for the Afghan Air Force with Mi17 helicopters, despite Senate objections to the deal.or them to do so.

France have already said that they are not going to cancel a contract to make two helicopter landing platforms for the Russian Navy. They claim they are providing an unarmed transport and it, therefore, does not breach any sanction. It may under new sanctions which are due to be announced this week.

Germany, on the other hand, has suspended a technology contract with Russia, worth $138 million.

German Chancellor and U.S. officials say that new sanctions against Russia, or "level three" sanctions will be economic in nature, but whether that brings the West closer to the "Nuclear Option" is yet to be seen.