When "Force Majeure" Isn't Quite
March 1, 2022 | A number of readers have asked our view of western bank exposure to Russia since the invasion of Ukraine. The short answer is that the EU banks bear the brunt of the risk. Citigroup (C) reports less than $10 billion in cross border exposure to Russia and most other US banks have nothing to do with Eastern Europe much less Russia. But the imposition of sanctions on Russia is not as comprehensive as some press reports suggest.
"Force majeure" is a contractual term that means an unforeseeable circumstances that prevent someone from fulfilling a contract. When the markets face “force majeure” in the form of military hostilities, for example, all bets are quite literally off. The obligations of parties to make or receive contracted payments are stayed for the period of the disruption, creating a cascade of risk and non-payment that can quickly build into contagion. The performance of Deutsche Bank AG (DB) and other large European banks tells the tale. Yet the break between Europe and Russia is not complete.
Looking simply at the direct exposure of western banks to Russian counterparties does not begin to describe the risk created by Russia. Customers of global banks with business ties to Russia may also become compromised as a cascade of defaults ripples through the global economy. It will take months and years to discover the true cost of the Russian invasion of Ukraine, particularly in nations such as Egypt that are dependent upon gain produced in both nations. Food prices are likely to move higher in coming months.
Russia is now being pushed into a barter relationship with China, which is unlikely to observe global sanctions on Moscow. Some observers have speculated that a Chinese-Russian payments system may start to compete with the dollar, which has 40% of global reserves and is the largest means of payment in global commerce. Such predictions may be overly optimistic, however. Trade between China and Russia in December 2021 was less than $20 billion, a three-fold increase from December 2005.
In terms of global payments, the actions by the G-20 nations amount to a physical severing of ties between Russian institutions and the outside world. If we recall that the SWIFT network, for example, is simply a technical overlay that operates atop the traditional payments system of correspondent banks, the combination of sanctions and other measures will create further events of default in coming months as the backlog of failed payments grows.
People’s Bank of China, the Chinese central bank, hasn’t given any clues yet about the status of Russian foreign exchange reserves or the currency swap line, Politico reports. As the number of nations cutting off economic ties with Russia grows, pressure on China will grow. Tech firms in China, for example, could be subject to huge fines for violating sanctions, regardless of the Chinese government’s official policy of opposing such measures. US officials are intent upon denying Russia access to all western technology.
While a great deal of attention is focused on relations between China and Russia, in Europe the real questions comes down to Germany and its energy imports. So far, Sberbank and Gazprombank have been excluded from the SWIFT exclusion, but these banks are subject to sanctions in the US and UK. Half of Germany’s natural gas supplies come from Russia. Sberbank is the largest bank in Russia and Gazprombank is the banker to Russia’s energy sector.
Vladimir Putin knows that Germany cannot do without gas imports from Russia. German politicians have made passionate speeches about the need for higher NATO defense spending, but none have yet suggested that Germany end purchases of energy from Moscow. So Putin will murder his neighbors in the Ukraine and suffer the consequences, but ultimately he knows that Germany lacks the resolve to turn away from Russia.