Firms' Profit Potential Outweigh Commitment to Sanctions


Western companies' return to the St. Petersburg International Economic Forum this year after largely being absent in 2014 raises questions about the commitment to sanctions by profit driven enterprises and the political elite they lobby back home.


 

Reinforcing Economic Ties

After last weekend’s St. Petersburg International Economic Forum (SPIEF), economic activity by Western companies in Russia appears to have been reinforced. Among the attendees of the event, major European and American companies’ strong presence provides insight into the divergence of political and economic perceptions as the standoff between Russia and the West continues. Unlike the 2014 forum, where U.S. and European governments exerted strong pressure on their business communities to boycott SPIEF over events in Ukraine, Western businesses returned in strong numbers this year.

Coupled with internal political divisions in the West, the division of security and business interests over Russia limits the West's success going forward. Political differences continue to clash in Europe regarding Russia, despite the fact that EU foreign ministers unanimously extended sanctions against Russia through January 2016. But that level of coherence is even less visible in the business sector.

European and American companies, despite scaling back their exposure to the Russian market, have largely committed to maintaining a presence in Russia and some enterprises have even sought to circumvent sanctions to create new contracts with Russian firms. Even without the successful implementation of the Minsk II ceasefire and a withdrawal of sanctions against Russia, strategically focused businesses are likely to pursue options that solidify their presence on the Russian market in the long-term. The result is an actual weakening of sanctions and a redistribution of foreign enterprises’ market share in Russia. This bottom line issue for firms stems from a diminishing willingness among economic actors to sacrifice opportunities despite strong political and security concerns in their home countries.

 

Business Perceptions Post-SPIEF

Without a doubt, the sanctions have significantly altered Western companies’ calculus when it comes to strategic planning. From 2013 to 2014, when sanctions against Russia’s economy were installed in June, annual foreign direct investment fell from 69.2 billion USD to 21.0 billion USD. Further, both Russian government officials and foreign business representatives acknowledge Russia’s failure to diversify its economy away from dependence on natural resources, exacerbating the country's economic crisis.

For strategically focused multinationals, the consensus is that Russia is too important a market to withdraw from. Companies have hedged their investments on the assumption that political relations will improve. Additionally, Russian assets are relatively inexpensive. The low price of oil, sanctions environment, and economic contraction led to significant capital flight—over 150 billion USD—from Russia in 2014, an opportunity for firms that expect returns in the long-term.

As a result, the long-term investments that major firms have made tend toward weathering the current political situation and undercutting competition now for when the relations normalize. And those firms, such as Boeing Russia and CIS, Coca-Cola, or European oil giants like Shell, BP, and Eni, are keen to expand the strategic investments that have already been made.

 

Circumventing Sanctions

The divergence on the EU’s collective approach to Russia extends beyond the political and even military sphere. The extension of sanctions with little debate would imply some coherence among European states, but their respective actions in the adherence to the spirit of the sanctions indicates otherwise.

While Rome, Athens, and Budapest are known to maintain more friendly relations with Russia, the EU’s more significant economic players are using a double standard—strong rhetoric against Russia in the security sphere contrasts with support for domestic companies to secure advantageous positions on the Russian market.

To this end, energy companies, including BP and Shell, have received consent from the British and Dutch governments to pursue joint ventures with Russian energy firms despite London’s strong support for sanctions against Moscow.

BP has already used this to its advantage. The oil company has purchased a 750 million USD stake (20%) in Siberia’s Taas-Yuriakh field from Rosneft and the two companies agreed to restructure their oil refining joint venture. BP already owns a 20% stake in Rosneft, which is majority owned by the government. While the latest deal would appear to violate sanctions, Energy Development Foundation director Sergey Pikin contends: “the deal does not concern the purchase of Rosneft, but the purchase of a part of a deposit. From a legal viewpoint, this deal does not come under the terms of the sanctions.”

Further, Gazprom, Shell, E.ON, and OMV signed a memorandum of intent to significantly expand the Nord Stream pipeline running from Russia to Germany at SPEIF on the 18th of June. The agreement has no legal basis and is a long-term goal coinciding with the proposed Turkish Stream, but the deal further illustrates the desire of European companies to expand their presence in the Russian energy market despite the drop in prices.

The permissive environment for European energy companies, however, does not extend to American counterparts according to Financial Times. The terms of U.S. sanctions against Russia are more stringent and, most importantly, retroactive, limiting American companies’ ability to circumvent the intention of sanctions, unlike their European competitors. In the event Russia and the West normalize political relations and sanctions are withdrawn, European companies will have already secured additional market presence.

 

Going Forward

Despite the fragile cohesion that the EU has managed to maintain over the last year, its continued factionalization reduces the efficacy of such sanctions. The simultaneous economic crisis in Russia has pushed down prices. These two factors encourage profit driven enterprises to expand their market presence in Russia.

The energy sector may be high-profile and it is risky for politicians to sign off on deals considering the current geopolitical environment, but oil and gas companies’ success in lobbying home governments for special approval underlines two important points. On a political and social level, Western states have failed to exact from Russia the desired economic cost for its involvement in Ukraine. The resulting de-facto weakening of sanctions undermines Western posturing elsewhere with implications for balancing the security regime on the continent going forward. 

 

Photo courtesy of RIA Novosti