The Fragile Facade: Why Russia's Sanctions Workaround with China is Doomed to Fail

 

The broader geopolitical landscape suggests that China's commitment to circumventing sanctions for Russia is questionable, as maintaining access to lucrative U.S. and EU markets remains a higher priority for Chinese financial institutions.

In recent years, Russia and China have sought to deepen their economic ties, especially as Western sanctions have tightened around Russia following its invasion of Ukraine in February 2022. While trade between Russia and China hit a record $240 billion in 2023, the imposition of U.S. sanctions on the only Russian bank branch in China last week has added a new layer of complexity to this relationship. President Vladimir Putin’s visit to China last month appeared to offer some respite, with specially authorized banks being set up in border regions to facilitate Russian firms' transactions through non-resident accounts (NRA). However, while this workaround may offer a temporary solution, it is unlikely to sustain long-term trade between the two nations. Here’s why this strategy, despite its ingenuity, is fundamentally flawed and unsustainable.

The workaround involves smaller regional banks in China’s border regions, allowing Russian firms to open NRAs. These banks, which have limited or no business with countries unfriendly to Russia, fly under the U.S. sanctions radar, facilitating continued trade. However, this method introduces significant operational complexity and risk.

First, relying on small, regional banks with weaker compliance departments exposes these banks to potential U.S. sanctions. A senior U.S. Treasury official has indicated that efforts are underway to identify and sanction such banks aiding Russia’s military output. This means that the window for these banks to operate freely is narrowing. The risks for these banks are immense: should they be identified and sanctioned, they face severe repercussions, including losing access to global markets, particularly the U.S. dollar system.

The number of banks willing to engage with Russia is dwindling. As noted, only a handful of small banks near the Chinese border still work with Russia. This drastically limits the options available to Russian companies. Notably, larger and medium-sized Chinese banks have ceased dealings with Russia, wary of the consequences of secondary sanctions from the U.S.

Secondary sanctions pose a significant threat. They can cut off institutions from accessing the U.S. dollar system, a crucial component of global trade. For Chinese banks and firms, the stakes are high. As the payments market source highlighted, Chinese banks fear U.S. sanctions “like the tiger.” This fear is justified; the global market access that these banks cherish could be jeopardized by continuing to facilitate Russian transactions. Consequently, even those banks authorized to work with Russia are increasingly halting settlements.

The logistical hurdles and economic implications of this workaround are substantial. The disruption in payment flows complicates Russia’s ability to export goods and receive payment efficiently. The central bank of Russia has acknowledged that payment issues hurt export revenues, disrupt supply chains, and raise import prices. For an economy heavily reliant on exports, particularly oil and gas, these delays and disruptions are damaging.

Russian oil firms, for example, face months-long payment delays. This is particularly concerning given that oil exports are a significant revenue source for the Kremlin. Furthermore, the setup and maintenance of NRAs in small banks involve cumbersome administrative procedures, making the trade process inefficient.

Russia’s influence in the global financial system is limited compared to the U.S. and EU. This lack of leverage is evident in the hesitancy of Chinese financial institutions and manufacturing companies to risk secondary sanctions. Despite the lucrative trade opportunities with Russia, the potential fallout from losing access to the global market is too great.

For instance, Alfa Bank, Russia’s largest private lender, has been trying unsuccessfully for months to open branches in Shanghai and Beijing. Even with Putin’s visit and the establishment of NRAs, the fear of U.S. sanctions looms large. The narrative that no Chinese company is willing to jeopardize its global market access for Russia underscores the limited sway Moscow holds.

The broader geopolitical landscape also suggests that this workaround is a temporary measure at best. The U.S. Treasury’s proactive approach to identifying and sanctioning smaller banks aiding Russia indicates that this workaround is not sustainable. As the U.S. continues to expand its sanctions net, the feasibility of this method diminishes.

Furthermore, the geopolitical alliance between Russia and China, while robust in certain areas, is not immune to the pressures of global economic realities. China’s priority is to maintain its access to global markets, particularly the lucrative U.S. and EU markets. Therefore, its long-term commitment to circumventing sanctions in favor of Russia is questionable.

While the establishment of NRAs in small Chinese banks near the Russian border represents a creative short-term solution to the challenges posed by U.S. sanctions, it is fraught with risks and inefficiencies. The increasing complexity, potential for sanctions on Chinese banks, logistical challenges, and the overarching geopolitical dynamics suggest that this workaround is not a viable long-term strategy. As the U.S. continues to tighten its sanctions regime, the sustainability of Russia-China trade via these smaller regional banks will likely falter, leaving Russia further isolated from the global financial system.