Donbass

PantheraLeo1359531, CC BY 4.0via Wikimedia Commons

In eastern Germany, the traffic light parties are facing heavy losses in the state elections. For this reason and due to a lack of money, aid to Ukraine is being cut. Instead, the focus is on the confiscated Russian assets. But access to them is more difficult than expected.

Due to Western sanctions, Russian assets of around 300 billion dollars (260 billion euros) are frozen in Western financial institutions. Neither the Russian state and its central bank nor sanctioned private individuals and companies can currently access these funds. The money has not been expropriated – not yet. But this is also being considered, particularly in the USA and the Eastern European countries. The European Central Bank in particular is a staunch opponent of such measures. It fears for the reputation of the EU and the euro among international investors.

Capitalist Fall

On the other hand, even though Ukraine has now occupied Russian territory, the situation on the crucial front in Donbass is becoming increasingly difficult. In addition, there are financial difficulties. Not only Ukraine itself, but also its Western supporters are increasingly running out of steam. On the other hand, 300 billion dollars from its wartime enemy Russia are lying untouched in Western accounts. In a capitalist system, it is almost a crime not to use such huge sums of money, and accordingly, desires and considerations as to how the money could be used for one’s own interests are growing.

In April of this year, the US Congress passed the so-called Repo Act, “which gives the President access to Russian foreign currency and instructs him to set up a Ukraine support fund”(1). However, this plan has not yet been implemented because they did not want to stand up to Russia alone, even though Russian reserves in the US are actually quite insignificant at around 5 billion dollars. Washington preferred to get the other states of the values-based West on board.

At the G7 meeting in Italy in June of this year, it was decided not to touch the Russian assets, but to use them as the basis for a loan of fifty billion dollars to Ukraine. The liabilities for this loan are to be paid from the proceeds of the confiscated Russian assets. This procedure would allow Ukraine to have the entire sum at its disposal immediately, instead of the small single-digit billions that the annual interest yields.

Ukraine needs large amounts of money quickly, not only to finance military equipment, but also to maintain the state budget and state functions. But even if the loan could be paid out soon, which does not look likely at the moment, the fifty billion would be “only half of what Ukraine is estimated to need in terms of support each year”(2). After the rating agencies classified the country as no longer creditworthy, there is no longer any prospect of being able to take out loans on the financial markets.

To think

The solution to this problem is seen in the West as being precisely this loan, which is to be taken out on the international financial markets via other borrowers such as the EU or the USA and made available to Ukraine. The interest due on this loan will not be paid from national budgets, but from the interest on Russian assets. This amounts to around 173 billion euros at Euroclear in Brussels alone, the international settlement agent for interstate payments. Annual interest income of around five billion euros is expected for this amount.

Like many other countries, Russia has invested in European bonds that are stored at Euroclear. Interest, repayments and other income that was originally passed on to investors via Euroclear flow back from these bonds. However, due to the anti-Russian sanctions, the money is no longer being transferred to Russia. The money is accumulating in Brussels. The plan was to use this income to service the liabilities to the creditors of the 50 billion loan.

This procedure was seen as having fewer legal problems than the expropriation of Russian assets and their transfer to Ukraine. However, it was not as simple as had been imagined. Legal scholars are now holding academic discussions about whether or not expropriation of Russian assets is covered by international law and how best to argue in order to bring about a legally secure procedure. However, Russia is unlikely to agree with these views.

But the really crucial questions are not legal but political and liability issues. It was obviously too risky for the USA to take on Russia alone, even though the basis for confiscating Russian funds was in place under US law. Moreover, experience had already been gained from similar procedures against Afghanistan, Venezuela and Iran. But Russia is a different story, a rival that is a militarily match for the West and has enough Western investments on its own territory that could be expropriated in return.

The original, seemingly simple plan was for Ukraine to receive a loan of $50 billion. In return, the lenders would issue a bond on the financial markets for the same amount, something Ukraine has been unable to do since the rating agencies stripped it of its credit rating. The interest on the bond would be paid from the proceeds of frozen Russian assets at Euroclear.

But who should be the lender who bears the risks to the international investors? Because at some point they will want their money back. The USA? The European Union? Or even the G7, who designed and agreed on this great plan and apparently didn’t count on the host? At the G7 meeting, everything seemed so simple and clear. But as is so often the case with great ideas that were intended to bring Russia to its knees, reality turned out to be more difficult than the theories and pipe dreams.

Pitfalls

Other questions arose and proved to be additional difficulties. How high should the interest rate on the loan be and how long should it last? All of this had apparently not been sufficiently discussed when the bold statements were made in Italy. After all, if Ukraine were to be granted a long-term loan of, say, twenty years, it would also be necessary to have “access to Russian assets over this period”(3). But that would mean that Russian funds would have to remain frozen for this period.

This would make this bond a significant obstacle to a peace agreement with Russia. It would either have to be included in the peace negotiations or it would lead to a significant financial burden for those who are responsible for the bond on the financial markets. In addition to the disputes between Russia and Ukraine, there would be those arising from the liability problems of the bond for the West.

Whoever of the G-7 issues this bond will thereby increase their own debt. This is more difficult in the EU than in the USA, as the Maastricht treaties set strict limits on national debt, which many countries have already reached their limits. In Germany, there is also the legally enshrined debt brake. In the spring, the Europeans proposed to the USA that Washington should take over the financing of the Ukraine loan and that the EU should provide the income from the Russian interest as guarantees.

But this procedure is too uncertain for the USA. European sanctions against Russia have to be renewed every six months and the number of uncertain cantonists such as Hungary and Slovakia could grow. There is a risk that the sanctions will not be renewed, especially since “the populations of several countries are becoming tired of financing aid to Ukraine”(4).

This would remove the reason for continuing to withhold Russia’s frozen assets and the risk that the interest payments promised by the EU would no longer be made. However, the USA would still be obliged to meet the interest and repayment demands of the investors on the bond. On the other hand, there are major reservations in the EU, particularly in Germany, about a second option, that the EU itself “takes on debt together and lends it to Ukraine”(5). However, joint debt is excluded under EU principles, something which Germany repeatedly points out with good reason in view of the high deficits in other EU member states.

With financial support dwindling, Ukraine is under increasing pressure. The Germans are reducing their payments in the long term, even if they still feel bound by the commitments for 2024 and 2025. But that is no guarantee, depending on how the elections in the East turn out. US presidential candidate Trump has also repeatedly announced that he will further restrict support for Ukraine.

If the G7 camp does not soon reach an agreement on the 50 billion loan, there is a risk that negotiations with the International Monetary Fund will also end to Ukraine’s disadvantage. The International Monetary Fund has already announced that its decision on further funding will depend on the country putting its financial base on a more stable footing. This includes the 50 billion loan.

But that is not what it looks like at the moment. This will have an impact on the negotiations with private investors about a reduction in debt service of around 12 billion dollars. The pressure on Ukraine is not letting up. In addition to the military situation in Donbass and the questionable Kursk adventure, a tsunami is now brewing on the financial front.

Footnotes

(1) Neue Züricher Zeitung, 24 April 2024: In the slipstream of Ukraine aid – the USA is tinkering with international law

(2) Frankfurter Allgemeine Zeitung (FAZ) of 20.8.2024: Uncovered

(3) FAZ of 21.8.2024: A Russian lever against Putin

(4) ibid.

(5) ibid.

Rüdiger Rauls is a repro photographer and book author. He runs the blog Political analysis.

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