What Are Russia’s Trade And Supply Chain Alternatives If The US And EU Impose Sanctions?

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Russian trade is heading east

By Chris Devonshire-Ellis

The Eurasian Economic Union Has Multiple Pending Free Trade Agreements While Russia-China Trade Is Increasing At Rates Of 30% Plus

The United States has been threatening “the Mother of all sanctions” upon Russia over the Ukraine issue with the EU and UK also following through with statements concerning ”cutting off essential supplies“. But how realistic is this?

The United States bilateral trade with Russia is minimal at about US$34 billion, which will have negligible economic impact – Russia is a US$1.7 trillion economy. US sanctions however could include cutting Russia off from the SWIFT global payments system, which would have a hugely disruptive effect on Russia’s trade and its ability to settle bills in US dollars. The US will also look at punishing other economies that trade with Russia – although much of that would be limited to its Western allies in Europe and elsewhere.

The EU however has a much broader trade relationship with Russia, with bilateral trade running at about US$219.77 billion. The EU has threatened a hit on ”necessary supplies” to Russia, which actually amounted to exports of slightly less than US$80 billion in 2021 – or about 5% of the total value of the Russian economy. There would undoubtedly be shortages of a large number of EU manufactured commodities that Russia would no longer have access too. But in return, Russia would cut off the EU’s gas supplies. That, it appears, would be far more damaging to the West than it would be for Russia, as the latter has alternative trade corridors it can access. Plugging the hole in the EU’s energy supplies would be far more difficult. So where are Russia’s alternative sourcing markets?

The Eurasian Economic Union

Trade

The Eurasian Economic Union (EAEU) is a free trade area, loosely modelled on the EU and includes Armenia, Belarus, Kazakhstan, Kyrgyzstan and Russia. Geographically, it fills a space between China and the Eastern EU. In its own right, Russia is by far the dominant partner, however bilateral trade is increasing – intra-EAEU trade grew by 33% in the first half of 2021 with that trend appearing consistent. There are technical changes that could be made to EAEU trading operations, including improved customs efficiencies and a lowering of certain tariff barriers that could accelerate an improvement in EAEU trade. Russia would simply look to its own Free Trade Bloc area for increases and make tariff adjustments to facilitate this.

Reducing EU-China Supply Chains 

It is also important to recognize the significance of the EAEU to the EU. It is a trade corridor between China and Europe – via Russia. Sanctions placed by Brussels on Russia could have the effect of slowing or stopping the bilateral trade flows currently operating between China and Europe as Moscow could organise a go-slow or a complete halt in transiting freight. 50% of all EU bound rail freight traffic enters via Russia and Belarus. That traffic rose 30% in 2021. China would want to manage the situation as a reduction of trade with the EU is not in its longer-term interests. However, Messrs. Putin and Xi get on well and could orchestrate a China-EU trade slowdown that would create supply chain pain in Brussels. China also wishes to reduce the possibility of being hit by sanctions – switching some supplies from Europe to China to being provided by Russia instead would make strategic sense in many supply chain areas, such as agriculture where Russia is already the worlds largest grain producer. That would hit EU farmers hard.

An Enlarged EAEU Free Trade Area 

Russia can also fast-track the numerous Free Trade Agreements currently under discussion with the EAEU. At present, these include relatively small, but growing agreements with Iran, Singapore, and Vietnam and have largely gone under the radar. However, over the past three years Moscow’s diplomats have been busy, and Free Trade Agreements and Tariff reductions are currently being negotiated with China and India as well as with pending FTA to be concluded with

BangladeshCambodiaPakistanIndonesiaMongoliaSouth KoreaThailandBosnia,  IsraelMoldovaEgyptUAE, and Uzbekistan, and is beginning to make steps in South America. The entire ASEAN bloc is also considering an EAEU FTA, while Russia is also targeting the African continent.

Such a reach completely undermines the potential damage any US or EU sanctions could impose. Short term trade and investment pain in Russia would merely accelerate these alternatives.

Russia-China Trade

Neither Beijing nor Moscow are big fans of Washington, with Beijing highly aware that whatever sanctions the United States places on Russia could later be imposed upon China as the US uses such mechanisms to impose its own trade will and foreign policy. In this context, China’s Belt and Road Initiative can be viewed as one gigantic alternative supply chain route map with all roads – except those from the United States and EU – leading to Beijing. 144 countries have signed off China BRI memorandum of understandings, all of which include trade references. Both China and Russia are technologically advanced nations, despite US Senator Risch’s statement yesterday that Russia is a gas-filling station masquerading as a sovereign state – a perspective that is hugely concerning as it grossly underestimates the Russian economy and its hi-tech assets, and reflects an outdated attitude debunked by Goldman Sachs way back in 2017. Yet it is these attitudes that are leading the US to needle Russia towards sanctions without considered thought of the consequences.

As a result, Beijing wants to improve trade with Russia and vice-versa – and this is exactly what is happening – bilateral trade rose 35% in 2021 and hit a record high of US$147 billion. The two countries have set an initial target to achieve US$200 billion by 2024 and are on track to accomplish this. Such a figure can fairly easily be accelerated should the two sides reach agreement on tariff reductions – they signed off an as yet non-preferential Free Trade Agreement (via the EAEU) in 2018. Putin is a guest of China’s President Xi Jinping for the opening of the Beijing Winter Olympics set to begin on February 4th. They will have much to discuss.

An FTA with India is also in the offing – with Indian Prime Minister  Modi meeting President Putin in Moscow last month, with Delhi eying an EAEU market of some 183 million consumers and Moscow eying gas, weapons and other trade supplies to an Indian market with a middle class of 500 million.

The conclusion therefore has to be that Russia is prepared or sanctions. Measures such as the SWIFT disconnection would create serious short-term disruptions, but as I explained here, would ultimately lead to the longer term global development of alternatives. User countries such as China and India will view the system as unreliable and subject to use by the United States as a trade weapon for its own agendas – something SWIFT was never supposed to become. It would also hasten a rapid move towards de-dollarization – Russia and Iran have just announced they will cease using the currency in bilateral trade settlements. Others would follow. A SWIFT alternative payments system is also likely to reach conclusion with a merging of Russia’s SPFS and China’s CIPS digital financial clearing systems. Such discussions are already underway.

The case for imposing sanctions upon Russia will only accelerate an increased division between East and West and see the United States effectively trade merged with the European Union. With China’s BRI already a significant presence in Africa and encroaching upon Latin America, 2/3 of global trade will be in the hands of Beijing and Moscow. The United States withdrawal from the global trade mechanisms and concept of globalization will then be completed. It will be the Cold War 2.0 with the West as the minority partner, and the current situation with Ukraine seen as the tipping point in the balance of power shifting East. Sanctions seeking Senators spouting outdated statistics and wildly inaccurate opinions should really be very careful for what they wish for.

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Russia Briefing is written by Dezan Shira & Associates. The firm has 28 offices throughout Eurasia, including China, Russia, India, and the ASEAN nations, assisting foreign investors into the Eurasian region. Please contact Maria Kotova at russia@dezshira.com for Russian investment advisory or assistance with market intelligence, legal, tax and compliance issues throughout Asia.

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