Could Russia lose one of its last ties to the global financial system?

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Hello! This is Alexandra Prokopenko with your weekly guide to the Russian economy — brought to you by The Bell. This week we focus on Russia’s possible blacklisting by the Financial Action Task Force (FATF), which could mean the severing of one of its last ties to the global financial system. We also look at new measures to stop officials traveling abroad and Central Bank head Elvira Nabiullina’s visit to Iran.

Kyiv pushes for Russia to be blacklisted by international money-laundering body

Russia could be blacklisted by the Financial Action Task Force (FATF). Ukraine is insisting on this course of action, which would sever the last threads connecting Russia to the global financial system. According to Bloomberg, the Kremlin is taking this threat seriously and is putting pressure on other member countries to stop it happening — claiming it would cancel defense and energy deals if the measure is passed.

What’s going on?

FATF is meeting in Paris from July 19-23. The international group, established in 1989 by the G7, uses such events to discuss how effectively any given country’s legislation and enforcement meets anti-money laundering recommendations. Russia joined FATF in 2003, but was suspended due to the war in Ukraine. The Council of Europe’s equivalent organization, MONEYVAL, also suspended Russia’s membership.

At the Paris meeting, participants will determine its blacklist and “gray” list of countries according to their compliance level. Any nation on the blacklist (currently Iran, Myanmar and North Korea) is effectively cut off from international banking systems and can only carry out financial transactions via intermediaries. Being placed on the blacklist means FATF believes you do not comply with money laundering rules, that investigators and regulators have been denied access to bank records and physical access to assets is impossible.

The gray list, which is more frequently revised, is made up of states which, in theory, support the anti-money laundering recommendations and are willing to revise their laws and practices. Until they do this, though, financial transactions with clients from these countries are subject to enhanced verification procedures. In practice, this means that some transactions cannot be processed, and others take much longer. This leads to increased transaction costs that are reflected in a country’s investment costs and even its credit rating.

However, several tax havens such as the Cayman Islands, Barbados and Panama have been on the gray list for years. Apparently, the income they derive from being non-transparent is greater than the potential benefits of complying with FATF rules.

What Moscow demands?

One Russian document sent to Indian officials calls for “loud” opposition to any Ukrainian efforts to place Russia on the blacklist of high-risk nations. It adds that, even if Russia is only put on the gray list, it will cause difficulties for all sides.

Russia listed several India-related projects that would be in jeopardy:

  • Deliveries of Russian weapons and military technology to India, as well as defense sector cooperation;
  • Cooperation between Rosneft and Indian gas company Nayara Energy;
  • A joint aviation project between the two countries unveiled in February at the Aero India 2023 exhibition;
  • Energy and tech cooperation on the Indian nuclear power plant in Kudankulam;
  • An agreement between Russian Railways Logistics and the Container Corporation of India on transporting goods as part of the development of the ‘North-South corridor’.

Moscow is also unhappy that foreign countries have been ignoring requests from Rosfinmonitoring as part of Russia’s own money laundering investigations. Rosfinmonitoring was set up specifically to ensure compliance with FATF rules. Now, it is complaining that countries are starting to disregard information from Russia about “crimes or criminals committed or located on their territory.” The agency did not specify which countries.

What does Ukraine want?

Ukraine makes no secret of its wish to see FATF add Russia to its blacklist, or at last the gray list. After Bloomberg’s report about Russia attempting to head this off, Ukrainian Finance Minister Sergei Marchenko accused Russia of blackmail and political pressure on the group’s member nations. According to Ukraine, Russia is violating the rules of the organization, cooperates with Iran and North Korea in breach of UN sanctions and funds terrorism. The McFaul-Yermak group also recommends that FATF blacklist Russia.

FATF suspended Russia’s membership last year due to its aggression against Ukraine and arms deals with countries under UN sanctions. Although this sounds like a big deal, it means less in reality. Russia is still complying with all international requirements in the fight against money laundering and funding terrorism. Russian importers even complain that the financial operations required to deliver sanctioned goods via Iran are difficult to arrange.

Russia has been blacklisted by FATF once before — in 2000, FATF drew up a list of 25 red flags in bureaucratic and business practices which might indicate a country’s unwillingness to tackle money laundering. Russia was found to have 10 of those 25 red flags and, as a result, was blacklisted. It took two years of legislative activity for Russia to get off the list. Ukraine has also been blacklisted: once from 2002 to 2004, and again in 2010.

Is this serious?

The chances of Russia going on the blacklist are minimal. Such a move would guarantee a halt to existing export flows from Russia, including oil, grain, uranium, metals and fertilizers. A fall in exports of these goods would lead to global price rises and a surge in inflation. In addition, there are no formal grounds to add Russia to the blacklist. Despite being suspended, Moscow continues to fulfill its FATF obligations. The organization itself aims for neutrality and tries to avoid allegations that it is politically motivated: it’s one thing to suspend Russia’s membership because of the war, but quite another to blacklist a country that complies with its requirements.

Inclusion on the gray list is also unlikely — again, because Russian financial institutions are still meeting their FATF obligations and Russia’s laws have not changed.

Why the world should care

Even if Ukraine manages to persuade FATF to put Russia on the gray list, it wouldn’t have much impact. Most Russian transactions that are carried out in dollars or euros go through the European or U.S. banking systems, and, therefore, are already examined very closely. Meanwhile, Russia’s investment rating — which would theoretically suffer if the country was blacklisted — currently has no relevance: global ratings agencies withdrew Russia’s ratings and stopped evaluating after the full-scale invasion of Ukraine.

The return of the Iron Curtain: Russians face more restrictions on leaving the country

Russia’s parliament this week passed amendments that allow the confiscation of passports. Firstly, travel documents can now be confiscated from men called up for military service. Under the new law, conscripts will be obliged to hand over their passports to the Interior Ministry within five days of receiving call-up papers. The document itself will be held until the end of the travel restrictions, or the expiration of the passport. Any passport that is not handed over before the deadline will be regarded as invalid.

Previously, such measures were not applied to ordinary people. The Interior Ministry was only responsible for issuing documents — not for seizing or storing them. And the only people from whom passports were routinely confiscated were those with access to classified information (and in these cases, the documents were kept by the employer).

In addition, under a new law, Federal Security Service (FSB) officers now have the right to confiscate passports at Russia’s borders. If they have reason to suspect the document contains unreliable information, or was issued on the basis of false information, they will be unusable. All these passports will be regarded as invalid by the FSB.

Since the invasion of Ukraine, the Russian authorities have several restrictions on leaving the country. As The Bell previously reported, government staff can now only travel abroad with the permission of the prime minister. “Passports were taken back in the fall,” said one top official. “Even at New Year we had to stay in Russia.” According to the Financial Times, the Russian security services are seizing passports from not only high-ranking officials and people with access to state secrets, but also mid-ranking officials and managers at state companies. Anyone subject to a travel ban has to hand over both their international and internal passports, The Moscow Times reported earlier this year.

Why the world should care

Russia experienced two big waves of emigration last year. The first, in March, was related to fears that the borders would be closed after the invasion of Ukraine. The second followed Putin’s announcement of partial mobilization in September. Fearing that more people would leave, the authorities have clearly decided to make it harder to go abroad. Such restrictions are yet another sign of Russia’s drift towards totalitarianism.

Central Bank Governor Elvia Nabiullina heads to Tehran

The head of the Central Bank, Elvira Nabiullin, visited Iran this week. She met with her Iranian counterpart, Mohammed Reza Farzin, who later tweeted that the encounter was constructive. He said that they agreed on the need to develop currency relations and had come up with a roadmap. “The use of national currencies in bilateral relations and the strengthening of our bilateral settlements system are part of this operational plan,” he wrote.

Nabilullina was accompanied by her deputie Olga Skorobogatova and director of the payment system department Alla Bakina, who are responsible for developing Russia’s domestic Mir payment system, and the head of the international settlements department, Mikhail Kovrigin. Judging from the delegation’s composition, the issues under discussion related to integrating Mir with Iran’s Shetab equivalent and other issues related to transactions and settlements.

In January, Moscow and Teheran signed an agreement to facilitate banking transactions. “Iran is determined to ditch the dollar in its mutual settlements with Russia,” Iranian Vice President Mohammmad Mokhbe announced at the time.

Amid Western sanctions, Russian companies have repeatedly encountered problems with financial transactions. Attempts to import sanctioned goods to Russia via Iran, for example, often end in failure because Russian banks will not allow payments from Iranian companies — importers complain that they are blacklisted. International monitoring of payment transactions to ensure compliance with sanctions against Russia has intensified, said Central Bank deputy Ksenia Yudayeva (who did not accompany Nabiullina to Iran).

Political and economic ties between Moscow and Tehran have warmed significantly during the war in Ukraine. Trade between Russia and Iran in 2022 increased 15% to $4.6 billion and it’s likely to exceed $5 billion in 2023. Last week, it emerged that Russia will invest €1.3 billion on building the Rasht-Astara railroad in Iran.

Why the world should care

The Kremlin’s desperation about international payments was recently demonstrated by Putin’s expression of eagerness to modernize and utilize the hawala payment system, which is popular in Iran but illegal in many nations because of anti money laundering legislation.

Key figures

  • Weekly inflation from May 16-22 was 0.04%. Year-on-year inflation stands at 2.32%. Food prices continue to fall (-0.02%) due to lower prices for fruit and vegetables (-1.5%). The biggest drops were for cucumbers (-11.8%), tomatoes (-7.3%) and bananas (-1.3%). At the same time, there were increases in the price for cabbages (+15.1%), carrots (+5.1%), beets (+2.5%) and potatoes (+2.4%).
  • Inflationary expectations remain high. The latest InFOM poll for the Central Bank shows that people expect inflation to run at 10.8% over the coming 12 months. Business expectations over the coming three months were lower.
  • The Central Bank’s business climate indicator showed some deterioration in the mood of the business community: the index dropped 1.5 points. Demand and production estimates are lower than in April. Expectations mostly declined in sectors where export restrictions are in force, or where there is moderate consumer activity. The most positive outlook is found among producers of investment goods. There was also a decline in expected output (services) following a 10-year high last month.

What to watch in the coming week

  • Central Bank’s “What the trends say” bulletin (May 30)
  • Central Bank’s “Regional economy” report (May 31)
  • Inflation figures from May 23-29
  • Industrial output figures Jan-April

Further reading

Putin’s Tactic of Inaction Could Backfire at Home — Tatiana Stanovaya uncovers the reasons of Putin's disengagement with current affairs

Feeling the chill: Navigating Arctic governance amid Russia’s war on Ukraine — Johanna Hosa reminds us why Europe needs to cooperate with Russia in the Arctic

Toughening Financial Sanctions on Russia — Guntram Wolff, Elina Rybakova and Benjamin Hilgenstock review policymakers’ options

The author of this newsletter is one of Russia’s leading writers on this topic: independent economic analyst Alexandra Prokopenko. Alexandra worked as an advisor at Russia’s Central Bank and Moscow’s Higher School of Economics from 2017 to 2022 — and before that she was an economic journalist for Vedomosti, then Russia’s leading business newspaper. Today, Alexandra is a columnist at the Carnegie Endowment for International Peace and a visiting fellow a the Center for Order and Governance in Eastern Europe, Russia, and Central Asia at the German Council on Foreign Relations. She holds an MA in Sociology from the University of Manchester.

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