Wed. Jul 17th, 2024

After hitting Russia with an unprecedented array of sanctions following its full-scale invasion of Ukraine, G7 allies are considering an even more drastic step: spending Moscow’s money.

Western nations, including the US, are exploring ways to justify seizing Russian central bank assets that are frozen in the financial system, and using them to fund Kyiv.

The idea has gained traction in recent weeks as the US and EU struggle to secure political approval for fresh funding packages for Ukraine worth tens of billions of dollars.

But legal experts warn it would represent a dramatic departure from normal practice, carrying legal and economic risks. It is also highly contentious among the allies.

Where are the frozen assets located?

About €260bn of Moscow’s central bank assets were immobilised last year in G7 countries, the EU and Australia, according to a European Commission document seen by the Financial Times.

The bulk of this — some €210bn — is held in the EU, including cash and government bonds denominated in euro, dollar and other currencies. The US by comparison has only frozen a small amount of Russian state assets: some $5bn, according to people briefed on the G7 talks.

Within Europe, the bulk of the assets — about €191bn — are held at Euroclear, a central securities depository headquartered in Belgium. France has immobilised the second-largest amount, some €19bn, according to the French finance ministry. Other holdings are far smaller, with Germany holding about €210mn, according to people briefed on the figures.

What is the US calling for?

Washington has not publicly backed confiscation of the frozen assets, but it has made the case for it privately. One recent G7 discussion paper written by US officials described it as “a countermeasure”, permitted under international law, that would “induce Russia to end its aggression”.

According to the paper, such a move would be considered a legitimate response to Russia’s illegal invasion of Ukraine if implemented by states “injured” and “specially affected” by its aggression. That could include allies of Ukraine who have bankrolled its economy and military during the war.

The US officials suggested the seized assets could be disbursed to Ukraine in tranches, for instance through the World Bank or the European Bank for Reconstruction and Development. This is cast as an “advance” on the compensation to Ukraine that Russia would ultimately be required to pay under international law for its aggression.

What are the legal grounds for this?

The idea of confiscating Russian sovereign assets is legally fraught. Central bank assets are protected under customary international law; actions that appear to cast doubt over that principle would have profound implications for the financial system.

But advocates argue that such a confiscation can, in this case, be justified under international law as an equitable remedy to push Russia to compensate Ukraine for war damages.

Philip Zelikow, a former senior US diplomat now at Stanford University, has cited as a precedent the internationally imposed compensation after the 1990 Iraqi invasion of Kuwait.

“This represents an enormous opportunity,” he said. “We have spent nearly two years working through legal thickets and can now begin to contemplate the possibilities that may be available. If this works, the money at stake — $300bn — would be a game-changer for Ukraine.”

This reading of the law is contested, however. Ingrid Brunk, a professor of international law at Vanderbilt Law School, argues that countermeasures are not a method of obtaining compensation, but are instead designed to push a wrongful state to comply with its obligations.

She told the FT the idea was “unwise”, adding: “Many countries have been damaged by many things that violated international law with no suggestion that we seize foreign currency reserves. These are the most sacrosanct kinds of assets in the global financial system.”

The move would also likely require domestic legislation in many of the countries seeking to implement it, she added, although this may prove a less formidable barrier.

What are the financial consequences?

Opponents worry that such a move would damage the international rules-based order and undermine the trust that countries show when they place reserves with other nations.

The latter argument carries considerable sway with some EU member states and the European Central Bank. Confiscating Russian assets would, for some, cross a line by suggesting to countries such as China or Saudi Arabia that sovereign assets stowed in euros or dollars might not always be safe.

The ECB earlier this year warned member states of the risk of undermining the “legal and economic foundations” on which the international role of the euro rests. “The implications could be substantial,” it said, according to an internal EU note. It warned the bloc of the risks of acting alone and recommended for any action to be taken as part of a broad international coalition.

One EU diplomat said: “Every major euro-denominated economy is treading very carefully on this because of the potential effects for the euro and for foreign investment and clearing in euro.”

But advocates of the idea suggest these worries are overblown. Lord David Cameron, the UK foreign secretary, denied last week that there would be a “chilling effect” on inward investment. Affected investors would already “be pretty chilled” by their assets having been frozen, he said.

How do the Europeans view these arguments?

Officials are aiming for a consensus among G7 countries to seize the assets, but France, Germany and Italy remain extremely cautious.

European officials fear possible retaliation if state immunity is undermined. One noted the US holds only a very small amount of Russian central bank assets by comparison. “From an EU perspective we have much more to lose,” the EU official said.

Russia’s options to counter with litigation are limited. “However, Russia will find other ways to reciprocate . . . that would mean inflicting more harm on businesses in Russia and potential other damages,” said Armin Steinbach, professor of law and economics at HEC Paris.

Steinbach also points out that sovereign immunity cuts both ways. “Germany is still in some countries the target of war damages . . . [going back to] the second world war,” he noted.

What is Europe planning instead?

Rather than seizing the assets themselves, the EU is working on a plan to skim off extraordinary profits that Euroclear generates by holding Russia’s assets. The Belgian central securities depository earned about €3bn last year from reinvesting cash from matured securities that cannot be paid out to Russia.

But these proposals have proven controversial, with some countries fearing the repercussions from even this more limited step. Officials have acknowledged that the live discussion within the G7 could help move the EU proposals along.

Additional reporting by Paola Tamma in Brussels, James Politi in Washington, Martin Arnold in Frankfurt and Richard Milne in Oslo

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