The latest rounds of EU and US sanctions against Russia fall short of imposing restrictions on entire industries, but they do have a number of hidden spillover effects for Western multinationals operating in the market. Beyond the obvious impact on MNCs selling to the energy and defense companies directly targeted by sanctions, a broader set of MNCs operating in Russia should be concerned about the banks that have been included in the sanctions list.
Impact on MNCs:
MNCs selling business goods and services are most likely to be indirectly affected by the sanctions, because some of their customers may face a higher cost of credit. Beyond businesses that directly work with the sanctioned banks, Russia’s financial market as a whole is likely to see more expensive credit as more international banks try to restrict new lending out of cautiousness. In the long term, higher lending costs contribute to the contraction in domestic investment, which will prolong Russia’s economic stagnation and reduce demand across all industries.
Actions for executives:
Executives whose business may be affected should speak with their local teams and identify key customers who may work with the sanctioned banks. Such customers may face the risk of rising borrowing costs, particularly if their credit lines need to be rolled over in the near future.
Three consequences of the new round of sanctions:
- They could reduce demand from small and medium enterprises.
Both the European Bank for Reconstruction and Development (which the EU will ask to halt new lending in Russia) and VEB, a bank sanctioned by the US, lend extensively to small and medium businesses. A cut in their lending will result in reduced investment and demand for B2B goods and services at a time when investment activity is already deeply depressed.
- Multiple industries could be see more expensive credit.
VEB and Gazprombank, the two banks the US sanctioned, lend extensively to the corporate sector, including industries such as oil and gas, metallurgy, machine-building, chemicals, and others. 40% of VEB’s lending in 2013 was for infrastructure. Interest rates for corporate customers of both banks are likely to increase, hitting multiple industries at once.
- Lending in Belarus could also be hurt.
Subsidiaries of VEB and Gazprombank hold almost 10% of the Belarussian banking market and are largely dependent on parent-bank financing. Their lending activity and cost of credit is likely to be negatively affected by the US sanctions, affecting some MNCs’ corporate customers in Belarus.
Understanding how the new US sanctions work:
The banks sanctioned by the US – VEB and Gazprombank – are among the largest in Russia. They lend primarily to corporate customers across multiple industries and much of their portfolios consist of long-term loans. To finance these loans, they need to borrow at long maturities on international financial markets, which is exactly the kind of borrowing that US sanctions have restricted. Their alternative sources of long-term capital are notably more expensive and would require them to increase lending interest rates, hurting the businesses to which they lend. Because of the size of these banks, increases of their interest rates are likely to have a spillover effect across the Russian banking sector as a whole.
View the video below to see FSG’s Martina Bozadzhieva discuss investing in Ukraine and Russia on CNBC yesterday.