Unlike the bombing of Ukrainian cities ordered by President Vladimir Putin, economic sanctions don’t cause immediately visible destruction, nor do they inspire as much fear. Nonetheless, the unprecedented economic sanctions will hit Russia extremely painfully.
The freeze of Russia’s central bank assets abroad has already significantly weakened the ruble exchange rate, while restrictions on cross-border payments and financing are eroding confidence in Russian banks.
Trade sanctions that prevent the export of aircraft parts to Russia, for example, and the exodus of multinational corporations will noticeably reduce Russia’s economic growth and significantly increase unemployment. The consequence: the standard of living and health of large sections of the Russian population is likely to fall, and the number of deaths will skyrocket.
Putin’s attack on Ukraine would hardly have been conceivable without his dictatorship-like rule. Too many large countries are now run by nationalist autocrats – if Putin got away with it, those autocrats should feel invited to join the expansionist tide. Especially since the UN Security Council has long been paralyzed by the veto power of Russia and, to a lesser extent, by China, and can hardly do anything to keep the peace.
The civilized world must respond to barbarism
Against this background, economic weapons, the power of which is increased by global economic networking, are more or less the only way for the civilized world to react to aggression and barbarism. However, the risks posed by these weapons should not be underestimated.
When fully unleashed, economic sanctions can also turn into weapons of mass destruction. They may not destroy buildings or bring down bridges, but they endanger businesses, financial institutions, livelihoods, and even lives.
Like military weapons of mass destruction, they can inflict pain indiscriminately, striking both the guilty and the innocent. If economic sanctions go too far, they even risk reversing the process of globalization. But that would stall the engine of the modern world.
The author is Professor of Public Finance at the University of Chicago. From 2013 to 2016 he was head of the Indian central bank.
(Photo: Bloomberg, Montage)
Let’s get into the details: First of all, the seemingly bloodless nature of economic weapons and the lack of norms governing them could mean that they are used too often and too extensively.
This is anything but mere speculation. For example, the United States is still sticking to its tough sanctions against Cuba, first imposed by President Dwight D. Eisenhower in 1960, even though there are far worse regimes in the world. And China recently launched an economic revenge campaign against Australia – only because the government in Canberra had called for an independent investigation into the origin of the corona virus.
China and India also fear western punitive measures
Equally worrying is the growing public pressure on companies to stop doing business in certain countries. This can result in sanctions being escalated beyond the original intentions of policymakers. It is not too difficult to imagine that in the future a country could be thrown into an economic war over its government’s position on issues such as abortion or climate change.
Following Western punitive measures against Russia’s central bank, China, India and many other countries fear their own foreign exchange holdings will also be frozen if they “misbehave”. Concerned about severely restricted dollar or euro liquidity, they could stop financing cross-border corporate loans, for example. In addition: In order not to be exposed to the risk of being excluded from the international payment system Swift one day, other countries are likely to increasingly rely on alternative transaction systems – the result would be a fragmentation of global payment transactions.
Private companies, on the other hand, are faced with the question of whether they should still invest in countries that do not share their own political and social values. Ultimately, excessive economic sanctions even threaten a strategic zero-sum game: For example, a state could invite foreign banks into its market with the ulterior motive of one day taking their assets hostage, so to speak.
Conversely, states can impose restrictive rules on where their private banks are allowed to operate at all, in order to arm themselves against the risk of hostage-taking. All of this would be poison for the globalized economy.
We must not create a Balkanized, poorer world
In order not to run the risk of creating an economically balkanized and poorer world, we must take precautions to contain future sanctions regimes: The most important thing would probably be if a single country could no longer impose sanctions of its own accord. In this respect, the current multilateral punitive measures against Russia are by all means exemplary. As many states as possible should agree on a consensus on the cases in which sanctions are appropriate.
The more destructive the economic weapon, the broader the consensus should be. This applies in particular to measures aimed at undermining the opponent’s financial system, as in the case of Russia. In other cases, such sanctions could turn middle-class liberals and reformers into enraged nationalists.
In addition, there should be a graduated regulation of the economic use of weapons. Punitive measures against assets of aggressor country elites should have the highest priority and the lowest consensus requirements. This also includes, in advanced economies, no longer turning a blind eye to foreign wealth “parked” with them that stems from tax evasion, corruption and theft. Again, the confiscation of Russian oligarch luxury yachts provides a good example.
The industrialized countries must not ignore the fact that a Balkanized world economy would harm everyone. Negotiations on “economic arms control” would be a first, forward-looking step in the right direction. After all, peaceful coexistence is always better than war, no matter how it is waged.
About the author: Raghuram G. Rajan is Professor of Public Finance at the University of Chicago. From 2013 to 2016 he was head of the Indian central bank.
More: The West is preparing new sanctions