The Foolishness Of The Sanctions War: Russian Money Gushes into Hong Kong

The sanctions, the last batch of which took effect on Friday, are targeting with ever increasing intensity the Russian economy and a growing number of key individuals. The defense, financial, and energy sectors have been hit the hardest. Oil and gas exports are Russia’s economic and fiscal lifeblood; Western financing is Russia’s corporate lifeblood. And that’s where the sanctions have begun to bite viciously. But not only in Russia….

They’re gnawing at the revenues and profits of German companies, and potentially at the value of stock-based compensation and bonuses of their chieftains, who have been waging a loud and relentless campaign against the sanctions, which so far has fallen on deaf ears in Berlin.

A major shift in mercantilist Germany. The prior Chancellor, Gerhard Schröder, a West German through and through, has become Putin’s best buddy over the years, and within practically moments after getting kicked out of office in 2005, started to work for him. Which has led to some delicious imbroglios [for example… Putin Parties With German Ex-Chancellor, Sanctions Be Damned].

Chancellor Angela Merkel originated in Soviet-dominated East Germany, had to learn Russian in school, and experienced Soviet power first-hand. There’s no love lost between her and Putin. Even before the Ukrainian fiasco mucked up the “strategic relationship,” as every German government has insisted on calling it, meetings between them were, let’s say, awkward – though big commercial deals were always signed, and that’s what counted in mercantilist Germany. But not anymore.

Over the weekend, it was Eckhard Cordes, chairman of the Committee on Eastern European Economic Relations, who attacked the new sanctions, warning that they would not contribute to a de-escalation of the crisis. He added the word “dangerous” to the already common “sanction spiral.”

“We are increasingly harming ourselves, without achieving the hoped-for political effect,” he said. Great frustration reigns in the Mittelstand – Germany’s vaunted and vast collection of medium-sized, often privately-held companies. And he warned, “Especially small and medium-sized enterprises that have a significant portion of their business in Russia and cannot easily switch to other markets are threatened in their existence.”

His organization lobbies for companies with interests in Russia, Central and Eastern Europe, South-East Europe, the Caucasian Republics and Central Asia. It’s backed most notably by the Federation of German Industries (BDI) and the Association of German Banks (BdB), among others. And it represents the 6,000 German companies doing business in Russia – some of them now, as he said, “threatened in their existence.”

With the German government no longer on the side of Russia, and with the “strategic relationship” in tatters, Russian companies have to evaluate their options; they don’t want to be sitting ducks.

Those in the energy sector are operating in a dollar-based economy, receiving at least part of their revenues in dollars and borrowing in dollars and euros. They’re facing about $150 billion in debt repayments this year. But Western banks have turned off the spigot. Refinancing that debt is going to be tough.

And every dollar that isn’t nailed down is fleeing Russia. In 2013, Russia still enjoyed a net-inflow of $36 billion, according to CrossBorderCapital in London, cited by the South China Morning Post. But through July this year, Russia already experienced a net outflow of $28 billion.

With Western money drying up, Russian companies and black-listed individuals are trying to dodge the sanctions by looking for banking relationships in China, Singapore, and particularly Hong Kong – whose currencies are pegged to the US dollar. But Hong Kong banks are leery. They don’t want to get tangled up in money laundering.

So they have been scrutinizing Russian entities and individuals wanting to deposit or borrow money. Since the sanctions started, they have been “unwilling to provide financing to certain Russian individuals and corporate entities who failed to pass the banks’ anti-money-laundering procedures,” Hugo Williamson, managing director of IPSA International, told the SCMP. “With this increased interest in Asian money markets comes the increased risk to Asia of possible money laundering by certain Russian criminal or corrupt interests.”

The Russian media, according to the SCMP, had already reported that Megafon, a Russian mobile network operator, would convert 40% of its $1.3 billion in cash to Hong Kong dollars. And Russia’s second largest natural gas company, Novatek would also convert a big part of its US dollars into Hong Kong dollars.

But Russians who’ve been trying to establish companies and open bank accounts in Hong Kong since the onset of the sanctions have had a harder time than other nationalities, confirmed Ashley Galina Dudarenok, founder of Alarice International, a Hong Kong consultancy that advises multinationals on “their growth strategies” in Hong Kong and China, and an “organizer” at the Russian Business Club in Hong Kong that had its first event in April as the sanctions were taking off. These Russians apparently are desperate: “They do not mind going through all the trouble because they really want to have a presence here,” she said.

Targeted by the ever tightening sanction spiral, Russian companies and individuals are maneuvering to get their money out of harm’s way and to open up new sources of financing that don’t depend on US dollars and are not subject to the long and sinewy arm of the US government. The banks they’ve been approaching in Hong Kong are “interestingly” not branches of US or EU banks, according to Nikos Asimakopoulos, of risk consultancy Alaco, “but Chinese financial institutions.”

Another indication where Russian money (hot or black or otherwise) will be heading, and from where Russian energy companies will increasingly get their funding, in exchange for what China needs the most: oil and gas.