When western nations blocked the Central Bank of Russia’s access to its reserves days after President Vladimir Putin invaded Ukraine on February 24 2022, they inflicted arguably the most expansive financial sanctions in history. Yet a year on, the verdict on their effects is mixed. Early on, it seemed like the sanctions, which included freezing some private assets and cutting many Russian banks off from international transactions networks, could collapse Russia’s financial system: the rouble plummeted, inflation and domestic interest rates shot up, and the central bank imposed capital controls. But the currency soon stabilised at normal levels, and the Russian economy seems to have shrunk just by a few percentage points, as opposed to early predictions of a double-digit contraction.
If the ultimate point of the sanctions was to stop Putin’s ravages in Ukraine, they have obviously not (or not yet) succeeded. They have achieved the more modest goal of raising the cost to him of his assault, although not to the extent originally hoped for. Notwithstanding that these were the sanctioning coalition’s stated goals, however, they are not the only yardstick by which we should assess the sanctions’ success.
When it comes to sanctions on “stocks” of assets, in particular on central bank reserves, there are at least two other effects we could hope for. One is straightforwardly punitive: we should inflict pain on Putin’s regime regardless of whether it actually makes him stop committing his crimes. The other is that we should make it pay for the cost of the destruction he has wrought.
This leads us to the confiscation debate. Blocking Russia’s access to more than $300bn in reserves causes financial dysfunction. But these reserves do not just support smooth financial flows; they are valuable resources in themselves. The legal status quo is that Russia will one day regain access. A further step — for punitive or retributive reasons — would be to seize them and potentially deploy them to rebuild Ukraine.
Earlier this week, I mentioned the new working group set up by the EU to examine ways in which Russia’s central bank reserves could be used for these purposes. When Prime Minister Ulf Kristersson of Sweden, which holds the rotating EU presidency, announced it, he said: “In principle, it is clear-cut: Russia must pay for the reconstruction of Ukraine. At the same time, this poses difficult questions. This must be done in accordance with EU and international law, and there is currently no direct model for this.”
I have seen three or four proposals. Ukrainians and their staunchest supporters are pushing for an outright confiscation. The Yermak-McFaul expert working group on sanctions has set out the clearest arguments for this. All the other ideas attempt to square the circle of those who think both that this would be the right thing to do but that it would be against international law.
EU leaders have suggested that the bloc could take temporary custody of the reserves, invest them and put the returns into the Ukraine reconstruction kitty. Two economists at investment manager PGIM, Daleep Singh and Giancarlo Perasso, have proposed to use CBR reserves as collateral for new Ukrainian public debt, to lower the cost the market will demand. The idea is inspired by the “Brady bonds”, collateralised by US Treasuries, which restructured Latin American debt to US banks in the late 1980s.
A final idea that is circulating is not to confiscate the reserves but to hold them hostage, as it were, until Russia accepts an obligation to pay reparations in some future peace agreement. Money is money, and from a purely pecuniary point of view, it makes little difference if Russia pays reparations to Ukraine and gets its reserves back, or sees its reserves confiscated to pay Ukraine.
You may have noticed the acrobatics involved in all these alternative proposals. They are all premised on the idea that international law makes it very difficult to confiscate Russian state assets outright. To understand the worry here, I asked Ghent university professor Tom Ruys, who explained that a basic principle of sovereign immunity comes into play. While “the starting point” is broad-based immunity, the “extent to which international law compels states” to grant it is “in question”, and there is controversy over whether it applies beyond judicial procedures. That is why an administrative measure such as temporary blocking may be seen as easier to defend.
Policymakers’ concern to remain well within the limits of international law is in principle laudable. That concern is extreme in the EU, but can be felt in other jurisdictions as well. The EU’s self-image is bound up in it being a creature of the law and its sense that without the law it is nothing is, in my experience, palpable among its policymakers across the board (there is also an acute fear of the embarrassment of being ruled against by the European Court of Justice). The result is sometimes to give legal limits and an excessively wide berth — or using the law as a cover for political timidity. For example, as I mentioned on Tuesday, Ruys told me there doesn’t seem to be any reason in international law why sanctioning countries cannot make public the amount of Russian reserves in their jurisdiction. (To be fair, other countries are as guilty as the EU of this failure.)
“Playing it safe” risks the legal conservatism that favours evident violators of international law such as Russia, especially when the law is vague, unsettled, inconclusive, or evolving. And there are plenty of reasons to think this is the case. One is the glaring contradiction set out by US deputy Treasury secretary Wally Adeyemo when he says (though without drawing out the full implications): “You can’t violate the sovereignty of another country and then reap the benefits of being connected to the international economic system.” Another is the range of different interpretations of what international law requires, and not just by commentators but by democratic states.
Last summer, Canada amended legislation that provided for freezing a foreign state’s assets to also include the possibility of confiscation or forfeiture when “a grave breach of international peace and security has occurred” or “gross and systematic human rights violations have been committed in a foreign state”. The law now also allows paying out the proceeds for “the reconstruction of a foreign state . . . the restoration of international peace and security [or] the compensation of victims of a grave breach of international peace and security, gross and systematic human rights violations or acts of significant corruption”.
Canada, then, has already established the domestic legislation to confiscate Russia’s central bank reserves placed there (nearly $20bn, according to the CBR itself). When I ask Europeans about Canada’s approach, the polite answers revolve around words such as “problematic” or “challenging”. Yet nobody in the sanctions coalition has so far accused Canada of going too far and breaching international law. Maybe they will. But then they will also face the equally challenging question: “If Canada can do this, why can’t we?”
Then there is the purported content of the presumed international law constraints on confiscation. This is not a newsletter on the law but one on economic policy. While economists and policymakers should pay due deference to the law, however, they — and lawyers who interpret the law — run into problems if their legal analysis fails to pay due regard to basic economics. So here are some economic considerations that I think should make it much harder to sustain the legal conservatism that for now seems to prevail.
The alternatives to outright confiscation are designed to pass legal muster. But if international law permits these acrobatics intended to achieve the economic effects of confiscation, yet do not permit confiscation itself, then surely the law is an ass and in need of reform.
Look again at the idea of taking temporary control of Russia’s reserves and “sweating the assets” for profits that would benefit Ukraine. If the assets have to be returned, what happens if the temporary investment management makes a net loss: should European taxpayers compensate Russia? As for making Russian reserves into collateral for new Ukraine debt, again the legal attraction is the temporary nature of the seizure. But what if Ukraine were to default and the creditors claimed their collateral? And if they can successfully claim their collateral, what would legally stop Russia today from pledging its immobilised reserves as collateral for a loan from a friendly third-country central bank?
Similarly, if sovereign immunity in international law is perfectly compatible with blocking the reserves indefinitely, until and unless Russia pays reparations to Ukraine, but incompatible with taking the reserves to pay reparations to Ukraine, is not legality made to hinge on an illusory distinction?
In all these cases, perhaps the law really is this contradictory in economic terms. But if so, internal contradiction weakens its claim to be respected.
There is another important economic insight that seems completely ignored in the legal debate. We have a tendency to discuss assets as some kind of medieval treasure: gold nuggets and jewels in a chest to which we have, in Russia’s case, temporarily taken away the keys. In this perspective, the question is whether we should (and legally could) take the whole chest. But official reserves are not like that. Russia’s foreign exchange assets are mostly just the flip side of other governments’ liabilities, in particular deposits with western central banks and holdings of their public debt securities. In other words, Russia’s reserves largely consist of our own governments’ promises to pay Moscow money.
So instead of asking the question of whether we should confiscate Russia’s assets, we can ask whether we should selectively repudiate Moscow’s financial claims on us. In technical terms, either can be done at the stroke of a pen. I don’t know if the law, in particular international law, treats selective debt repudiation (or reassignment) differently from confiscating sovereign assets. My point is that understanding the economics reveals that these are the same thing in this case. If they lead to different legal analyses, that is bad news for the law, but good news for those of us who insist that Russia must pay for the destruction Putin has wrought.
When I spoke to Anders Ahnlid, who chairs the EU working group, he made clear that his working group’s mandate was “to look at all relevant legal, financial, economic and political aspects”. When I asked whether the group would only give technical advice, he said he hoped it would “absorb technical advice and then use it for producing a result that takes all these four aspects into account”. I trust, then, that that includes the economic points I have mentioned above. In the meantime, I invite Free Lunch readers to judge whether those points mean that, on the question of confiscation, international law is silent, self-contradictory, or merely in need of reform.
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