How sanctions reshape the world against US interests

(Backfire by Agathe Demarais)

How Sanctions Reshape the World Against US Interests (the subtitle of Agathe Demaris’s book called Backfire) summarizes the author’s analysis of (primarily) US sanctions presented in this short and readable book: Sanctions harm the US more than they benefit it. The book was finalized soon after the start of the war in Ukraine, and so the most recent US (and European) sanctions linked to this war have a very limited coverage. We are yet to see if, and to what extent, these sanctions will prove the author’s main thesis.   

This notwithstanding, the book offers an interesting angle. Written by a European researcher, the book presents a non-US view of American sanctions, a view of its allies rather unhappy about the US sanction happiness. But the author goes beyond simply venting out Europeans’ frustrations over the indiscriminate application of sanctions hurting European interests by their presumed ally. She argues that the long-term impact of sanctions is detrimental to the US strategic interests.

The book consists of two parts. The first part focuses on sanctions as such: their history, characteristics, impacts, etc. The second part describes various sanction avoidance mechanisms, attempts to demonstrate how sanctions work against US interests and discusses the future of sanctions. Demarias starts with an analysis of the effectiveness and costs of sanctions. The most recent US and European sanctions against Russia and some other countries in the context of the war in Ukraine have generated an almost daily discussions of both aspects (I mean economic sanctions, not sanctions forbidding Russian cats from participation in international exhibitions). The effectiveness of the sanctions (usually measured in terms of their cost for the sanctioned party, i.e. Russia) is hotly debated. The effectiveness is mostly in the eyes of the beholder, but I can recommend several very informative and reliable Twitter accounts that regularly analyze the impact of sanctions, including Elina Ribakova, Janis Kluge, Oleg Itskhoki, and, indeed, Agathe Demarais herself, among others.   

The informed consensus is that the sanctions are hurting Russia’s economy but not to the extent it was expected although the long-term effect of the sanctions is likely to be more significant as Russia’s technological gap with the rest of the world will grow (this is the view promoted, among others, by Branko Milanović). Even Vladimir Putin has recently publicly admitted the potential adverse effect of sanctions in the medium term. Personally, I don’t quite agree with this view for two reasons. Firstly, the future is inherently uncertain and may hold a surprise or two unless we assume that West’s technological superiority is there forever. But more importantly, the discussion of sanctions’ long-term effect implicitly assumes that the main reason for their introduction (i.e., the war) is still there. This scenario may be bad for Russia, but it is even worse for Ukraine (and possibly even for the world if the war escalates further). Even with how things are today, reconstruction and recovery in Ukraine will cost US$411 billion (equivalent of €383 billion) and will last over 10 years, according to a new joint assessment released in March 2023 by the Government of Ukraine, the World Bank, the European Commission, and the United Nations.

But the punishing effect of the sanctions notwithstanding, everyone agrees that the sanctions have failed in its most important purported objective to deter Russia from attacking Ukraine and, later, to force it to stop the war (let alone withdraw from Ukraine and recognize its defeat). This is a key point that Demarais emphasizes in her book: more often than not sanctions (beyond hurting socially and economically the countries against which they have been introduced) fail to produce a change in their behavior, which should be the ultimate objective of the sanctions. Demarais discusses the decades-long US sanctions against Cuba, Iran, North Korea, Venezuela which have not only not resulted in the desired outcomes, but in some cases led to regressive developments (in Iran, for example). Between 1970 and 1990 only 13% of US sanctions appear to have achieved their goals. As Demarais unequivocally concludes, “Sanctions work fast or never. If sanctions have not proved effective after a couple of years, they are unlikely ever to yield results.”

Demarais then dwells on the humanitarian costs of sanctions. Although sanctions are in principle designed to avoid negative humanitarian consequences, the reality is different. Demarais quotes the UN estimates that around half a million Iraqi children died after the US had placed Iraq under stringent sanctions that cut off the country’s access to food and medical supplies. Of course, in Madeleine Albright’s views (also quoted in the book), this death toll had been “worth it,” given the need to apply pressure on Saddam Hussein. Iran’s high death rate during the recent COVID-19 pandemic was partly due to lack of access to Western medical equipment and vaccines because of the sanctions whereas the recent reports from Russia indicate growing concerns over the shortage of medicines and medical equipment for patients with cancer, diabetes and other serious diseases.  While prescription drugs are exempt from Western sanctions imposed over the war in Ukraine, their delivery to Russia has been hit by transport, insurance and customs hurdles caused by the war and other restrictive measures. This is another feature of sanctions, which Demarais underlines: humanitarian costs are simply unavoidable despite the exemptions.

But as the war in Ukraine demonstrates, humanitarian impacts may extend far beyond the sanctioned nations if they have a significant share of a commodity market. The war in Ukraine has affected the markets for food (grain in particular) and fertilizers, triggering a world food crisis. Russia is the largest exporter of wheat (Ukraine is the fifth-largest exporter) and accounts for 14% of global trade in urea and 11% of trade in phosphate. But the same factors that affect the delivery of medicines to Russia affect the export of Russian grain and fertilizers. A phenomenon known as overcompliance and increased costs of doing business with a sanctioned country (analyzed by Demarais) poses a challenge of securing alternative source of supply, particularly for some smaller low-income countries in sub-Saharan Africa (SSA).  

Whereas the costs of sanctions for the sanctioned countries are discussed willingly and frequently, the costs incurred by the sanctioning countries are discussed less enthusiastically (although it has changed lately with the massive sanctions programs against Russia). The point that Demarais makes is that the cost of sanctions on sanctions-initiators is underestimated and under reported, making sanctions look less costly than they really are. In the mid-1990s the US economy lost almost US$20 billion (in exports only) and 200,000 jobs per year because of sanctions. This figure includes only lost exports. A conservative estimate of the real value of US exports lost because of sanctions today puts it at around US$50 billion per year. These estimates refer to the trade of goods; they exclude exports of services, which today represents almost half of US exports. There are other lost opportunities for American businesses due to reluctance of international companies to engage with US firms to avoid the risk of sanctions-induced supply-chain disruptions.

The conclusion of the first part is that typically effective sanctions are in place for the short term, have a narrow goal, target a democracy that has significant ties with the United States, and are backed by American allies. “This is the exact opposite of most US sanctions programs,” Demarais remarks wryly. Since the EU has taken the same road (the next, 11th sanctions package is likely to be complemented with secondary sanctions), they should seriously consider this advice.

The second part of the book focuses on the changes that US sanctions produce globally. Not surprisingly, China figures very prominently in this discussion. The book describes how China’s various responses to US sanctions pressure—from building its own semiconductor industry to internationalization of the yuan and creation of own financial messaging service (Cross-border Interbank Payments System, CIPS) to process international payments in renminbi—is driving the country’s advances in technology and finance, making it ever less vulnerable to US sanctions. China of course is the pre-eminent example but it is not alone: Russia has been trying to develop its own modern technologies for import substitution and introduce alternative payment systems, such as MIR (although obviously less successfully than China); Brazil and Argentina are discussing creation of a joint currency; and internationalization of the renminbi is really accelerating. Russia has adopted the renminbi rather than the US dollar or euro as a reserve currency. Before the invasion, more than 60 per cent of Russia’s payments for its exports were made in what the country’s authorities now refer to as “toxic currencies”, such as the dollar and euro, with renminbi accounting for less than 1 per cent. Now “toxic” currencies have dropped to less than half of export payments, while the renminbi accounts for 16 per cent, according to data from the Central Bank of Russia (CBR). Renminbi assets now account for about 30% of Russia’s $147bn National Wealth Fund.

It can be argued that for Russia this is a forced choice now that its access to US dollars and euros is blocked. But the recent few months have seen a flow of bilateral currency swaps and international trade agreements denominated in national currencies other than the US dollars or euro. Not only Russia has signed trade agreements with China and India to conduct trade in their own currencies, but many other countries as diverse as Tanzania (with India), Brazil (with China), Saudi Arabia (with China) and France (with China), to name just a few. This trend is not particularly new—BRICS countries announced their intent to increase the share of mutual trade in their national currencies and establishing a joint payment network to cut reliance on the Western financial system back in 2016—but this trend has really accelerated after the imposition of Russian sanctions and growing concerns that future secondary sanctions may affect a larger number of countries.

Demarais rightly observes that the demise of the US dollar is not imminent in the near or even medium term (it still accounts for 40% of international payments globally) but once the process of de-dollarization has started, the return to the status quo ante is no longer possible. Reach of US sanctions depends on the hegemonic role of the US dollar, and even a subtle uptick in the market share of other currencies would be enough to weaken the effectiveness of US penalties.

So, what about the future? The book argues that America’s coercive toolkit would gradually switch to measures that do not depend on the use of the US dollar, such as secondary sanctions that block access of firms to the lucrative US market. Investment restrictions and export controls, especially on crucial technology staples, will play a more prominent role and are likely to replace financial sanctions. We’ve seen a trend recently of more reliance on denying access to services rather than traditional goods and technologies in the context of Russian sanctions. For example, the sanctions banned accountants, management consultants and PR firms from working with Russia. The price cap on Russian oil is based entirely on the capacity of the sanctioning countries to provide transportation and insurance services.

Demarais discusses the future of sanctions in the context of current global geopolitical and economic trends. COVID-19 and the unprecedented barrage of sanctions against Russia have revealed the unreliability of global supply chains. They are likely to be replaced by regional supply chains serving the Americas, Europe, and Asia (a process that is unfolding number and is expressed in the calls for friend-shoring). It seems almost certain that political and economic fragmentation will intensify (the theme of this year’s World Economic Forum). Currencies will probably mirror these geopolitical and economic trends, paving the way for the emergence of a fragmented currency landscape that may allow for several global reserve currencies. Under this scenario, the US dollar, the euro, the renminbi would function in parallel to each other, each with a regional footprint.   

Demarais concludes with a statement that the time of peak US sanctions has passed, and American diplomats will soon be deprived of their favorite weapon to cajole, threaten, or punish US enemies. But does this mean the end of sanctions? Not very likely. Despite their generally recognized ineffectiveness, sanctions will remain the best alternative to an armed conflict in the foreseeable future. Some sanctions may be discarded in the future (such as financial sanctions) and others transformed to target access to technologies and services. Furthermore, as China’s economic and political power grows, it may find sanctions a suitable foreign policy instrument although it is not clear how such a development would align with Beijing’s current position that sanctions amount to interference in other states’ internal affairs and are therefore unacceptable.

Be as it may, as sanctions and countersanctions mount, their aggregate cost may make them a less attractive instrument. Moreover, if regionalization and fragmentation progress as they seem to be doing now, there is no future for global sanctions. But because regional groups consist predominantly of like-minded “friends”, application of sanctions becomes less probable: there will be fewer reasons for their introduction, and the concerns of upsetting relations with close allies will make less confrontational ways more preferable. As Demarais concludes, Washington will have to learn to collaborate with partners and to negotiate with adversaries without having the sanction ace up its sleeve. But this is (or will be) true for any other nations relying on sanctions as a foreign policy instrument. For the time being, sanctions will stay with us, but their future is bleak.