The Danger Of Sanctions

Economic retaliation against Russia for its aggression in Ukraine could harm vulnerable people around the world and create lasting damage to the global economy if not crafted carefully.

A protest against Russia's invasion of Ukraine in London on March 20. (Martin Pope/Getty Images)

Esfandyar Batmanghelidj is the founder and CEO of the Bourse & Bazaar Foundation and a visiting fellow in the Middle East and North Africa program at the European Council on Foreign Relations.

Francisco Rodríguez is the director and founder of Oil for Venezuela and an international affairs fellow in international economics at the Council on Foreign Relations.


Four decades ago, as Soviet tanks rolled into Afghanistan, Jimmy Carter’s administration responded to Moscow’s aggression with “stiff economic penalties,” including an embargo on U.S. grain exports, which at the time accounted for around two-thirds of the USSR’s corn and wheat purchases. The logic was simple: Swift and harsh economic penalties on the Soviet people would fuel internal dissent and force the country’s leaders to reassess their belligerence.

Among the few dissenting voices was Nobel Laureate Milton Friedman. The “central feature of economic markets,” Friedman wrote in a Newsweek article just after the embargo was announced, is their “subtlety with which they connect producers and consumers and the anonymity in which they clothe the participants.” Friedman believed sanctions were often ineffective — the sanctioned country was usually able to find other partners with whom to trade. He predicted that Russia would have no problem finding other sources of grain, and that the big losers would be American farmers and taxpayers. 

Notwithstanding his academic recognition, Friedman’s views were far from mainstream at the time. Yet they caught the attention of a rising political figure. During the 1980 presidential election, Ronald Reagan pledged to repeal the embargo, which he did shortly after taking office. Reagan was hardly weak on the Soviet Union. Yet alongside his willingness to raise military spending, fund anti-Communist insurgencies and denounce the “evil empire,” Reagan remained reluctant to use economic sanctions against his main adversary. 

President Biden has not shown the same reluctance. The world economy has changed significantly since Reagan’s time. Russia’s embrace of capitalism — even if it is a crony variety — has altered the conditions under which sanctions can be used. As David Cortright and George López have recently highlighted, financial and banking sanctions, especially when enforced multilaterally, have the power in a globalized world to severely restrain a target country’s capacity to carry out even the most basic transactions. The unprecedented sanctions imposed on Russia in February have contributed to the collapse of its stock market and a sharp devaluation of the ruble. 

Yet precisely because of increased globalization and interconnectedness, these sanctions are also likely to have major repercussions for global welfare, affecting the livelihoods not only of ordinary Russians, but also of many of the world’s most vulnerable people. It is because of such second-order effects, Friedman warned, that sanctions risk “weakening the system of free markets that is our greatest source of strength.” 

“These sanctions are likely to have major repercussions for global welfare, affecting the livelihoods not only of ordinary Russians, but also of many of the world’s most vulnerable people.”

Free markets are weakened by sanctions in two ways. First, sanctions like those placed on Russia create severe dysfunction by creating acute supply-side disruptions within free markets. And second, the sanctions spur actors to move away from the common regulatory frameworks and payment systems that underpin global free markets.  

The supply-side shocks can be seen in surging food and energy prices. Russia and Ukraine account for 14% of world wheat production and 29% of world wheat exports, yet all grain and vegetable shipments from both countries are effectively cut off at present. Wheat futures have risen by around 40% so far this year, reaching their highest levels since 2008. According to the U.N.’s Food and Agriculture Organization, a shock to prices that causes a drop of a third in real incomes could leave a billion people undernourished

In energy markets, the decisions by the U.S., the U.K. and the Europe Union to banphase-out or significantly reduce oil and gas imports from Russia will send energy prices higher and will significantly affect global price stability, forcing central banks to maintain restrictive monetary policies and derailing the recovery of a global economy still reeling from the effects of the pandemic. Higher prices may also undermine the willingness of consumers in the U.S. and Europe to support sanctions once they begin to perceive direct effects on their pocketbooks. Even more problematic is the fact that as long as energy prices are high and Russia finds a way to still sell its oil, Putin will continue to have the means to fund his military expansionism. This should not be hard: “Sanctions busters” can render trade restrictions ineffectual. China, the world’s largest oil importer, has already vowed not to join the West’s sanctions on Russia and its privately owned refiners have found ways to circumvent banking restrictions in order to continue purchasing oil from Russian producers.

Sanctions induce inflation that can seriously harm ordinary people, in effect punishing them for the actions of their rulers. Sanctions on Iran and Venezuela, for example, targeted access and use of foreign exchange, thus stoking runs on the currency, fueling price inflation and deepening humanitarian crises. Exemptions and licenses intended to permit the imports of food and medicine do little to offset the effect of sanctions because of the overall impact on purchasing power and the general toxification of even routine economic activity — financial actors often refuse to facilitate humanitarian trade and the work of humanitarian agencies. But the Russia sanctions introduce a new dimension of this problem. Given Russia’s major role as a commodities exporter, the inflationary impacts of the newly imposed sanctions are not limited to the target country but extend to the global economy and the billions of people whose welfare depends on the reliable operation of free markets. 

Given these supply-side disruptions, a more significant challenge arises. In their response to the Russia crisis, the U.S. and its European allies have embarked on a set of aggressive measures that target the country’s access to global financial markets as well as the Russian government’s control over key policy levers. These measures include freezing the Russian central bank’s access to its international reserves, dropping various Russian banks from the SWIFT system of international transactions and impeding investors in ruble-denominated debt instruments from exiting those investments. They also reduce the trust that economic actors around the world have in the functioning of two interrelated systems: the global market for trade in goods and services that allows economies to specialize in doing what they do best, and the global financial system that enables actors to transact within that market. 

“Higher energy prices may also undermine the willingness of consumers in the U.S. and Europe to support sanctions once they begin to perceive direct effects on their pocketbooks.”

As Adam Posen has argued, in the absence of trust, countries will aim to “protect themselves by withdrawing from the global economy.” He concludes that it “now seems likely that the world economy really will split into blocs.” It is not simply a model of economic organization that is at stake in this split. The consolidation of the global market and financial system in the modern age of globalization has contributed to an unprecedented improvement in global living standards, helping lift more than two billion people out of extreme poverty. Deliberately interfering with the free flow of goods and payments on which the global economy depends runs the risk of undermining growth and prosperity around the world.

The problem is more serious than it may appear. Russia is not just an isolated case. More than 800 million people live in countries under a U.S. sanctions program or that have a major national-level political group sanctioned — 12% of the population of the developing world. Sanctions are increasingly becoming the norm rather than the exception when Western politicians want to convey that they are taking strong actions to punish violations of international norms. In Friedman’s sharp words, “The resort to economic sanctions is a confession of impotence, crafted primarily for domestic consumption, to reassure the public.”

Of course, sanctions have gotten “smarter” since Friedman’s time and policymakers today have a far greater capacity to target and calibrate their use of economic coercion. We are not opposed to sanctions that pressure Russian leaders to respect the international order. But if we are going to learn from the past, sanctions need to be carefully crafted to minimize the risk of creating lasting damage to the global economy and international security. The best check on Russian aggression intended to subvert the international order is to maintain the strength of the global economy even when sanctions are imposed. Four measures should be taken with that goal in mind. 

First, sanctions need to be designed so that their effects are more carefully concentrated on the Russian elite, not ordinary people. Destroying the savings and earnings capacity of millions of Russians should not be an intended consequence of the foreign policy of the U.S. and Europe. The cases of Venezuela and Iran made clear that doing so will simply galvanize animosity towards the West and diminish the ability of Russia’s civil society to hold their leaders accountable, as economic anxiety overtakes political activism as people’s primary concern. 

Second, policymakers must identify vulnerable populations harmed by the second-order economic impacts of the Russia sanctions and help them cope. Russia is home to at least 5.5 million foreigners, for example, most of whom are from Eastern Europe and Central Asia. In 2020, these workers sent $17 billion back to their home countries. Countries like Kyrgyzstan and Tajikistan receive as much as a third of their GDP in remittances from Russia. The depreciation of the ruble and the recession that will certainly follow will create the risk of a humanitarian catastrophe for these groups. The international community needs to be ready to assist these populations and their home countries, without hidden political objectives. As Nicholas Mulder has argued, such an effort would entail the use of the “positive instrument of aid” to stabilize the global economy through logistical and financial aid to those countries hit hardest by supply-side disruptions. 

“The resort to economic sanctions is a confession of impotence, crafted primarily for domestic consumption, to reassure the public.”
— Milton Friedman

Third, while alternative suppliers should be encouraged to increase production and exports, steps must be taken to protect the flow of vital commodities from Russia and Ukraine to the rest of the world, thereby avoiding unsettling markets crucial to global food security. To the extent possible, this should mean convincing the sides of the conflict to protect the ports, roads and installations crucial to this trade, as well as ensuring that restrictions on international payments systems do not impede transactions related to food and energy. 

Russia can be incentivized to sustain key non-energy commodities exports in the face of the sanctions campaign through the creation of carveouts and licenses that enable it to spend foreign exchange revenues earned through the export of commodities for which supply shocks could have humanitarian impacts. Typically, such carveouts have been used to preserve the ability of sanctioned countries to buy key foodstuffs. But in the case of Russia, which is a major agricultural producer, the priority must be to sustain exports on which other countries depend. Certain non-food goods, such as fertilizers, ought also to also be considered vital. Western policymakers must make clear that they will protect Russia’s participation in certain parts of the global economy. This is not a concession to Russia, but a commitment to the integrity of the global economy itself. 

Finally, and perhaps most importantly, restrictions on international payments systems should be reassessed and circumscribed as much as possible, given the potential knock-on consequences for global economic stability. It is important to clarify and clearly delimit the grounds for these interventions and the conditions under which they can be imposed. International investors and monetary authorities should be able to count on the stability of a rules-based system for international transactions rather than being led to believe that the security of their holdings depends on the whims of global leaders.

Pushing back against the urge to punish aggressors is not an easy task, but Friedman is not the only economist to have displayed such courage. John Maynard Keynes walked out of the negotiations over the 1919 Treaty of Versailles, in which the Allied powers mandated reparations from Germany after its defeat in World War I. In “The Economic Consequences of the Peace,” which he wrote immediately after returning to Cambridge, Keynes warned about the devastating consequences of an agreement designed to “crush the economic life” of Germany. Keynes was also a strong critic of the blockade of Russia imposed after the Bolsheviks took power in 1917. Expressing a sentiment later echoed by Friedman, Keynes argued that the blockade risked leaving Europe vulnerable to food shortages. It was “a foolish and short-sighted proceeding,” he wrote. “We are blockading not so much Russia as ourselves.” 

Decisive actions are certainly needed to convey to autocrats that they must respect the global world order. But these actions should not undermine the basis for global prosperity nor put at risk the livelihoods of vulnerable people around the world. As Reagan underscored when he spoke in front of the Berlin Wall in 1987, the Cold War was not won on a battlefield. It was won by demonstrating that freedom could bring about prosperity and peace to millions of people. It is worth bearing that lesson in mind before we begin using sanctions in ways that weaken free markets and divide the world behind new unscalable walls.