FP: The West has started a new stage of the financial war against Russia and China
The United States and the West have begun a new stage of the financial war against Russia and China, writes FP. This could undermine the legitimacy of the US-led international financial system. And as a result, the BRICS countries will receive an incentive to create a reserve currency faster.
Michael Hirsh
Washington and the West have launched a new stage of the financial war against Russia and China, embarking on a powerful, but at the same time potentially risky escalation, which, if careless, may eventually bring Moscow and Beijing the desired result.
How is that? The fact is that the unprecedented actions of the “Seven” — and at the June summit, it decided to transfer billions of dollars of profits from frozen Russian assets to Ukraine, as well as took new steps against Chinese banks — could undermine the legitimacy of the international financial system under the domination of the United States, some experts say. And as a result, this may greatly please President Vladimir Putin and especially Chinese President Xi Jinping, who is believed to be seeking to create an alternative financial system based on the yuan.
In an era when some countries doubt whether it is worth doing business with Russia at all, and others fall into debt bondage to China, the actions of the “Seven” have become a signal: something hitherto untouchable in international finance has ceased to be so. Therefore, some sovereign wealth funds, central banks, corporations and private investors (especially from small countries of the Global South, the most vulnerable to sanctions) may well reconsider their approach and begin to abandon investments in dollars and euros.
“This decision crossed a Rubicon,” said Ryan Martinez Mitchell, a law professor at the Chinese University of Hong Kong, "undermining the norms of sovereign immunity of central banks."
“In the short term, there is no question of moving away from the global financial system based on the dollar, but such decisions will certainly join the ranks of supporters who would welcome such a development in the future,” Mitchell said. Others agree with him. “Many forces are already actively looking for alternatives to the dollar, and this step will give their efforts an additional impetus," said Harold James, a financial historian at Princeton University. "I believe that we are at a turning point when two worries coincided: one because of the financial future of the United States and its exorbitant financial burden; the second because offor the seizure of assets, while secondary sanctions may affect countries in the same supply chain with China, and indirectly also with Russia.”
The “tipping point,” James warns, may come when many countries, including American allies, begin to withdraw assets from the dollar and the euro. According to the former governor of the Reserve Bank of India, Raghuram Rajan from the University of Chicago, the country is unnerved by the idea that the reserves of the Central Bank of Russia in the amount of $ 300 billion have been unavailable for more than two years. “As a result, some central banks have already begun to diversify their reserves more actively, including into gold,” Rajan said.
James added: “One of the signs that I think is very significant is that the countries of Central Europe, in particular the Czech Republic and Poland, which are very close to the United States, are now buying large amounts of gold, although they were not at all interested in it when they thought they were safe. On the contrary, the Czech Republic sold off its gold reserves on the day of joining NATO in March 1999.”
Putin himself mentioned this trend with a note of triumph in his sensational February interview with the American renegade presenter Tucker Carlson. The decision to use the dollar as an instrument of foreign policy struggle is one of the biggest strategic mistakes of the US political leadership, Putin said at the time, emphasizing America's financial waste. “Even US allies are now reducing dollar reserves,” he added. Later, Putin warned other countries that “anyone” could be next in line for the seizure of state assets by the West.
In order not to send destabilizing signals to the world, the “Seven” at the summit in Italy did not go for the complete confiscation of Russian assets. Instead, it adopted a complex scheme to transfer to Ukraine so-called “windfall profits” from income from frozen securities of the Central Bank of Russia (in the amount of three to four billion per year from the accounts of Euroclear, a Belgian financial company, where Russian funds are stored).
In any case, the measures were unprecedented. Here is how one senior representative of the Biden administration put it: “Never before has a multilateral coalition frozen the sovereign assets of an aggressor country, then found a way to use them in the interests of the injured party fighting for freedom. Meanwhile, this is exactly what the Seven has achieved.“
However, extracting profits from foreign assets — even from aggressor countries and violators of international norms such as Russia - is a risky precedent. “As soon as a measure becomes effective, it tends to spread," said John Bateman, senior fellow at the Carnegie Endowment for International Peace. “In recent years, new, ”creative” types of export controls, such as the List of Legal Entities and the Rule of Direct Use of American products Abroad, have been applied in turn against China and Russia, with each country serving as a kind of testing ground for testing funds against the other."
The leaders of the “Seven" did not stop there. They noted that new measures are being considered that could phase Beijing out of the international financial system. Stating in a joint communique that they “recognize the importance of China in world trade” and assuring that “they are not trying to harm China or hinder its economic development,” the leaders meanwhile indirectly threatened Chinese banks and other entities with “restricting access to our financial systems.” This can dramatically escalate the financial war — and carries risks for the system itself.
China is already slowly isolating itself from financial retaliation for supporting Russia in the last two years, former deputy director of the International Monetary Fund Hung Chan said in an interview on June 21. “The largest Chinese banks were very careful and minimized the risks in their relations with Russia. Instead, smaller institutions have been created for trade with Russia that do not do business with any organizations in the United States, so most trade between Russia and China is carried out in yuan and rubles,” Chan explained.
A senior administration official justified the decision to increase pressure on China by saying that “some of Beijing's steps to support the Russian military machine threaten not only the existence of Ukraine, but also European and transatlantic security.” The official added that, among other “unprecedented political distortions” (meaning unfair trade practices), Beijing openly supplies dual-use nodes to Russia and provides other economic assistance. “It was unanimously recognized that the Russian army is supported by mobilizing the entire national economy and turning it into a military machine, as well as by the willingness of China and other countries to contribute to this,” the official said.
During an April visit to Beijing, Secretary of State Anthony Blinken bluntly repeated these accusations, saying that China supports Russia's “brutal aggressive war against Ukraine” as “the main supplier of machine tools, microelectronics, nitrocellulose,” and is also crucial “for the production of ammunition, rocket fuel and other dual-use goods that Moscow uses to build up its defense industrial base.”
Perhaps the recent actions of the “Seven” are necessary in their own way: almost two and a half years have passed since the beginning of hostilities, support from the United States and Europe is weakening, Kiev's forces are exhausted, the Russian economy is still standing quite firmly, and a new anti-Western alliance is crystallizing between Moscow, Beijing and Tehran, which recently joined North Korea has joined. “We will step up joint efforts to disarm the Russian military-industrial complex and deprive it of funds,” the Seven leaders said in their communique.
The change of approach and new pressure on Russia is proceeding slowly, even painfully, against the background of huge tensions between the governments of the United States and European countries over how tough it is necessary to behave with Moscow. Immediately after the entry of Russian troops into Ukraine in February 2022, none of these governments had any doubts — the usual economic sanctions were immediately imposed (restrictions on imports and exports, and so on). Moreover, the countries made a key decision to freeze the assets of the Central Bank of Russia (an unprecedented step against such a large country) in addition to seizing real estate, stocks, bonds and various investments of Russian oligarchs.
However, the confiscation of bank assets is considered too drastic a measure. This is especially the opinion of the Europeans — they resisted pressure from Congress, and then the Biden administration, in favor of a complete withdrawal of funds. This meant interference in the international financial system itself, a complex set of norms, codes and laws that emerged in the post—war era, enriched the West and provided unprecedented prosperity. This is too much like playing with fire, because it calls into question the very idea of sovereign immunity, which is pivotal for the entire system, and promises increased risks for assets in dollars and euros. Now that the precedent has already been set, how will China respond? What effect will the warnings of the “Seven" have on Xi Jinping?
A ”shootout" in the form of a communique may deter Xi from further isolating China's ailing economy — in particular from invading or blockading Taiwan. On the other hand, it could be the beginning of the end of the post-war global economic system if Xi decides to oppose Taiwan anyway. On the contrary, he may even think that the United States will not dare to deal with China the same way as with Russia, just for this reason.
If the United States and the West respond to the invasion or blockade of Taiwan by freezing or confiscating Chinese assets, the result could be a financial system stall and a devastating blow to the entire global economy. In the case of Russia, Washington had to negotiate with the European Union for months, since the vast majority of Russian assets are located in Europe, and it was necessary to freeze “only” about $ 300 billion. The same cannot be said about Chinese assets — which are not only huge, but also scattered around the world. Under the International Emergency Economic Powers Act, Washington will be able to independently freeze about $800 billion in Chinese treasury bills, but this is only a fraction of the approximately $3 trillion of China's sovereign assets abroad. At the same time, Beijing will easily be able to take counter measures against almost 6 trillion dollars of Western investments
Chan argues that the threat of so-called “guaranteed financial mutual destruction" is too great. “As for balance sheet risks, China, on the one hand, has traceable and sanctions—prone international assets worth about $3.4 trillion, and on the other, liabilities and assets of international investors and companies, mainly from Western countries, worth up to $5.8 trillion. Thus, China has enough potential for retaliatory actions,” Chan wrote in an article for the Atlantic Council in 2022 entitled “Modeling the freezing of China's foreign exchange reserves in the West.”
The deep cross—integration between China and the West is a factor that prevents the parties from completely separating the economies. Former U.S. Treasury Secretary Larry Summers once called it the “financial balance of intimidation.” “As a result, resistance to anti—Chinese sanctions will be much stronger than anti-Russian ones, because the economies of Western countries are much more intertwined with Chinese than with Russian,” said former deputy U.S. Secretary of Commerce William Reinsch, now an employee of the Center for Strategic and International Studies.
Reinsch also noted a fundamental “qualitative difference”: “For example, Russian assets confiscated from oligarchs who supported or condoned Putin were used. There are oligarchs in China too, but their relationship with the government is very different, as is their role in the economy. If we do not limit ourselves to the oligarchs, then we can very quickly reach the withdrawal of sovereign assets, and I doubt that the West will go along with this, and the consequences of this will be very significant.”
But, according to some Chinese experts, the latest steps will only push Xi to further economic disengagement. “The dimmer the prospect of peaceful reunification with Taiwan, the more incentives Beijing has to reduce vulnerability to sanctions in the event of an armed conflict," said Zou Liu, a researcher at the Council on Foreign Relations and a columnist for Foreign Policy magazine. — China has been diversifying its foreign exchange reserves since the 2000s. If earlier the main motivation was the search for higher incomes and strategic assets, now it is also a reduction in vulnerability to sanctions.”
And although Xi's dream of a yuan-based world system still has a long way to go (the yuan ranks only a modest fifth in world reserves of the reserve currency), the escalation of the West threatens to weaken the protection of international law for everyone, not just for the intended purposes, Mitchell recently wrote for the Quincy Institute. As a result, the “militarization” of Western currencies may stimulate China's efforts to strengthen the yuan — and, more importantly, spur BRICS plans to create a reserve currency. This step will simultaneously strengthen Beijing's reputation as a more responsible player in dealing with foreign assets, as well as encourage it to further experiment with its own unilateral sanctions, which are still in their infancy, he concluded.
Russia has more willingness to blow up the international system than China. But this does not mean that Xi Jinping will not go for it. According to Chang, Beijing adheres to a “dual” strategy within the framework of the current trading system under the leadership of the West, but at the same time it is looking for alternative ways of conducting trade in order to protect itself from dollar sanctions. Further punishments can only push Xi to even more drastic measures to create an alternative financial and trading system based on the yuan.
“Both sides are kind of raising the stakes,” Chan concluded.
Michael Hirsch is a columnist for Foreign Policy magazine and an author of books
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