Post

1/ "Secondary Sanctions" - What are they, and how do they work? Since Donald Trump is floating them against Russia's trading partners, and with absolutely no expectation he won't change his mind again next week and declare Zelenskyy the real villain, I thought I'd do a (long, sorry) explainer.

2/ First, what are sanctions? Sanctions are rules that make it illegal for my citizens to conduct certain forms of business with whomever the sanctions target. Who they apply to (targets), and what kind of business they cover (scope), can be vary in breadth.

3/ For example in terms of targets the EU sanctions individuals, entities (companies or organizations) and entire regimes. And in terms of scope they might ban travel, freeze assets, restrict sales of certain goods or ban all financial interactions.

4/ Sanctions tend to have a range of objectives: a) Symbolically signalling outrage and punitive intent; b) Denying a state weapons or the inputs it needs to make weapons; c) Applying economic pressure toward policy changes or regime change

5/ I should note at this point that this can all get hideously complicated for business to navigate, and governments to enforce. Eg. Banks and other financial entities have to spend millions on "Know Your Customer" stuff to make sure they're not accidentally doing business with sanctioned entities.

6/ Moreover, once you sell a good to a 3rd party it's generally out of your hands. There are limits to how much you can reasonably expect the seller of a microchip to vet a potential client to make sure they're not going to onsell it to someone who onsells it to someone who onsells it to Russia.

7/ A challenge sanctions have is that they're limited by how indispensible you (and those who join you) are to the sanctioned party. If you won't sell Canada AK-47's but the US will sell them M4 Carbines, then your sanctions are an inconvenience but not a true impediment to Ottawa's war machine.

8/ When wealthy Russians found themselves unable to take their mistresses to Milan or Paris, they started flying them to Istanbul and Dubai. When Europe stopped buying Russian gas, they started selling it to China and India.

9/ Secondary sanctions attempt to deal with this problem by imposing measures against companies in 3rd countries, or the 3rd countries themselves, if those coutnries don't apply (or enforce) the same sanctions regime you do.

10/ There are two ways to go about this - firm level, or regime level. At the firm level, you're aiming to discourage individual companies from doing certain forms of business with a sanctioned state or its citizens.

11/ Effectively what you're saying is that if say, a Chinese firm sells high tech airline components to Russia, you're going to put them on a list that makes it illegal for US firms to buy from them, illegal for US investors to invest in them, and illegal for US banks to handle their transactions.

12/ Probably only the European Union and the US are big and systemically important enough to even consider an approach like this with any hope of success. No one cares about being blacklisted by New Zealand*. * Please read this in my Australian accent.

13/ A problem with this approach is it relies on having very good visibility of financial transactions that occur entirely outside your own territory. Working out exactly which firm is selling what to whom, whether they're doing it on purpose, is hard enough at home - and a nightmare abroad.

14/ In most cases, you're relying on the perception of risk dissuading economic activity, rather than actual enforcement. In other words, you hope getting put on your secondary sanctions list is so scary a prospect that firms abroad simply won't risk it, even if you're unlikely to ever catch them.

15/ The more alternatives there are to your market and institutions, the more money there is to be made and the longer firms have to come up with clandestine methods of transacting commerce, or complex corporate structures that mask what they're doing, the less effective this kind of threat becomes.

16/ An alternative then is to try and outsource the problem to the countries where these firms are located through regime level secondary sanctions. You basically announce that if a country continues to allow certain kinds of business with an entity you've sanctioned, you'll hit them too.

17/ An example of this is the Trump administration's threat to impose tariffs on countries buying oil from Venezuela. www.whitehouse.gov/presidential...

18/ What you're basically hoping to do here is to bully other countries into themselves imposing what are effectively sanctions so as to avoid your wroth. Governments tend to have both more visibility into and more control over what their businesses are doing, so they're better placed to stop it.

19/ There are a number of challenges with this approach too. First, as with all tariff threats, you're threatening other countries with raising taxes on your own citizens. There are limits to this approach discussed at length elsewhere.

21/ Third, it requires the tariffs into your market to be a significantly greater threat than losing the business of the sanctioned state. This limits the number of actors who could hope to pull this off to just a handful. (Feel free to insert your own gratuitous New Zealand joke here.)

22/ Even if you are able to arm-twist other governments into effectively joining your sanctions regime through the threat of secondary regime level tariffs, they're not going to be enthusiastic participants. They are likely to be resentful and complying in the bare minimum way.

23/ Unenthusiastic compliance is a problem because the effectiveness of sanctions depends a huge amount on the thoroughness, resourcing and dilligence of the enforcement regime. It's very easy for things to slip through if officials don't look under rocks or shake trees.