The Breakdown - Russian Banks Cut Off From SWIFT, Central Bank Reserves Blocked as West Responds

Episode Date: March 1, 2022

This episode is sponsored by Nexo, Arculus and FTX US. Today on “The Breakdown,” NLW looks at what we learned over the weekend about the U.S. and European Union’s response to the Russian invasion of Ukraine. The West significantly increased its economic pressure on Russia, removing some banks from SWIFT as well as freezing the foreign reserve assets of Russia’s central bank. As Monday dawned, the Russian ruble was sent tumbling, major Western corporations were withdrawing their investments from Russia, and Putin and Russia began their economic counters as well.   - Nexo is a powerful, all-in-one crypto platform where you can securely store your crypto. Invest, borrow, exchange and earn up to 18% APR on Bitcoin and 20+ other top coins. Insured for $375M. Audited in real-time by Armanino. Rated excellent on Trustpilot. Get started today at nexo.io. - Arculus™ is the next-gen cold storage wallet for your crypto. The sleek, metal Arculus Key™ Card authenticates with the Arculus Wallet™ App, providing a simpler, safer, and more secure solution to store, send, receive, buy, and swap your crypto. Buy now at getarculus.com. - FTX US is the safe, regulated way to buy Bitcoin, ETH, SOL and other digital assets. Trade crypto with up to 85% lower fees than top competitors and trade ETH and SOL NFTs with no gas fees and subsidized gas on withdrawals. Sign up at FTX.US today. - “The Breakdown” is written, produced by and features Nathaniel Whittemore aka NLW, with editing by Rob Mitchell, research by Scott Hill and additional production support by Eleanor Pahl. Adam B. Levine is our executive producer and our theme music is “Countdown” by Neon Beach. The music you heard today behind our sponsor is “Vision” by OBOY. Image credit: Diego Puletto/Getty Images News, modified by CoinDesk. Join the discussion at discord.gg/VrKRrfKCz8.  

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big-picture power shifts remaking our world. The breakdown is sponsored by nexus.io, Arculus, and FtX, and produced and distributed by CoinDesk. What's going on, guys? It is Monday, February 28th. And today, we are picking up the story of Russia and Ukraine, specifically the West's economic response to Russia from where we left off last week. Before that, if you were enjoying The Breakdown, please go subscribe, give it a rating, give it a review, or if you want to get deeper into the conversation, and there is certainly no shortage of things to discuss right now. Come join us on the Breakers Discord.

You can find a link in the show notes or go to bit.orgly slash breakdown pod. Finally, one disclosure, as always, in addition to them being a sponsor of the show, I also work with FTX. Now, let's get caught up. I'm going to assume a little bit that you have background on this situation. if you're listening to the show. And if you don't, go back and listen to a couple of episodes from last week where I talk about the economic implications of Russia's invasion of Ukraine. So five key things, I think, happened over the weekend just to level set ourselves. First is that Ukraine still stands independently. Specifically, it's still in control of Kiev.

This is much more than many would have hoped for when Russia actually made the decision to invade and is shaping the policy discourse in major ways. Ukraine and the West have been absolutely winning the information war, and it's having major impacts on how nations are deciding to respond. Number two, Ukraine and Russia are currently meeting in Belarus for talks without preconditions. They've just concluded the first day, and while one representative of the Ukrainian delegation has said that the Russians are still biased in many ways, there was enough to be going on that they're going to continue meeting.

Number three, over the weekend, Putin put Russia's deterrence forces on high alert, a.k.a. he threatened nukes. This was perhaps not unexpected, but obviously represents a new phase in the story of this conflict. It changes the nature of the discourse in the West, certainly. For their part, the EU and the U.S. have chosen not to take the bait, basically saying that this is another empty threat of Putin's and not escalating the situation further, at least rhetorically speaking. For, the EU has emerged with a largely unified voice. Germany announced $100 billion of new defense spending in a major policy shift. Switzerland is actually going along with them supporting many of the sanctions,

which is a huge deal given their historic neutrality. And there are many countries who are sending arms to Ukraine as part of their support. Fifth, and this is where we'll be focused today, sanctions on Russia have increased dramatically. That has itself caused a lot of chatter around crypto, which will get a bit into here. but today we're going to mostly focus on this new wave of sanctions. The first round of sanctions, which were announced last week, specifically targeted a set of specific banks and freezing assets, but it didn't amount to a full cutoff from Swift.

And for most of the back half of the week, that's where the debate was, should the U.S. and its European allies be doing more. Over the weekend, that changed. Ursula von der Leyen, the president of the European Commission, said, in coordination with the USA, France, Germany, Italy, Canada, and Great Britain, I will now propose new measures to EU leaders to strengthen our response to Russia's invasion of Ukraine and cripple Putin's ability to finance his war machine. First, we commit to ensuring that a certain number of Russian banks are removed from SWIFT. It will stop them from operating worldwide and

effectively block Russian exports and imports. Second, we will paralyze the assets of Russia's central bank. This will freeze its transactions and make it impossible for the central bank to liquidate its assets. Now, even if some thought that the swift moves were inevitable, there was basically no one last week discussing this degree of targeting of Russia's central bank. The financial times called the pledges, quote, the most severe yet. And a Biden administration official pulled no punches, saying that Putin had turned Russia into, quote, a global economic and financial pariah. The official said, quote, what we are committing to do here is disarm the central bank. Without being able to buy the ruble from Western financial institutions, Putin's central bank will

lose the ability to offset the impact of our sanctions. The rubble will fall even further, inflation will spike, and the central bank will be left defenseless. Now, as I mentioned, the swift thing is something that has been a part of many discussions, but the central bank thing is something new. Part of the reason that Putin has believed that he could weather sanctions, part of the way that he made his country sanction proof in his estimation, is the significant focus on growing the central central bank's reserves. Those reserves had gotten up to $630 billion. Of that, a little over 30% is in euros, over 15% is in U.S. dollars, around 7% is in the pound sterling, 10% is other, while around 20% is in gold, and 12 to 15% is in the Chinese R&B. The specific designation of

those reserves matters, but also where the reserves are held. A big chunk of this is held overseas in the U.S., Germany, France, UK, Austria, and Japan. It seems clear that. It seems clear that that many of those assets will now not be accessible to the Russians, as much as two-thirds or more than $400 billion. What seems more available includes the 2,299 tons of gold, the world's fifth largest stockpile, that's all contained within the Russian state itself, and the around 14% of Russia's foreign reserves that China holds, which is its single biggest foreign share. That said, I don't think we should jump to the conclusion that China is super eager to help. While China is no fan and is in fact loudly against economic sanctions as a tool

of diplomacy and warfare, it remains likely concerned around second order targeting should they decide to actually go out and help Russia. So what all of this means in practice is that the Russian central bank will have a much harder time defending the value of the ruble by selling foreign assets and buying the ruble. This could increase the likelihood of a bank run and we've already seen citizens in Russia start to get nervous. As early as Thursday, people started queuing up. up to withdraw their money in both rubles and in any international currency they could get their hands on. A financial Times reporter said that by mid-Thursday, some branches of international banks had run out of currency. Over the weekend, this got more intense. When the news about disconnection from certain banks

to Swift came out, Russians who were concerned that they won't be able to pay with their visa cards or master cards were out looking for any type of cash, lining up at five in the morning waiting for new cash reserves to be delivered to ATMs. The central bank spent the weekend trying to reassure Russian citizens and banks that everything would be fine. They said that they would continuously supply banks with rubble liquidity, with no limit on how much banks could borrow, and it also said that it was going to, quote, significantly expand what it calls its Lombard list, which includes the securities it accepts as collateral that banks can use to help keep themselves financed. In a statement, the central bank said the Russian banking system is stable, has sufficient

capital reserves and liquidity to function without outages in any situation. All client funds are secure and available at any time. However, privately in the country, bankers are clearly nervous about the impact on the ruble. One banker told the financial times, I cannot even imagine the ruble tomorrow when trading opens. The central bank will try to support the rubble, the question is for how long? Non-residents are selling Russian assets getting rid of the rubble and it is very bad for us. As we'll see, trading for the ruble told the story of just how fast these sanctions are having an impact. Nexto is a trusted and easy-to-use crypto platform where you can buy cryptocurrencies at the touch of a button

and start earning up to 18% annual interest that is paid out daily. They support all of the major assets on the market and even allow you to swap one asset for another or borrow cash against your crypto without selling it. Nearly 3 million people in over 200 countries trust Nexo with their digital assets. So whether you're just getting started or you're a season pro, get the most of your crypto today with NXO at NXO.com. Meet Arculus, the next generation cold storage wallet. Arculus secures your crypto using three-factor authentication, providing a simpler, safer, and smarter way to store, buy, swap, send, and receive crypto. Arculus is offline cold storage.

Your private keys are encrypted on the Arculus key card and are never online. Stay safe from hackers with no cords, no charging, no Bluetooth. Just crypto security made simple. Buy now at getarkilus.com. That's G-E-T-A-R-C-U-L-U-S dot com. The breakdown is sponsored by F-TX-U-S. F-T-X-U-S is the safe, regulated way to buy and sell Bitcoin and other digital assets, with up to 85% lower fees than competitors.

There are no fixed minimum fees, no A-C-H transaction fees, and no withdrawal fees. One of the largest exchanges in the U.S. FDXUS is also the only leading exchange that supports both Ethereum and Solana NFTs. When you trade NFTs on FTCS, you pay no gas fees. Download the FTCS app today and use referral code breakdown to support the show. Now, as Western governments got more aligned with taking these dramatic actions against Russia's economy, there are still lingering questions around other types of long-term consequences.

Luke Groman tweets, Russia's currency is nominally the ruble, but Russia's currency functionally is oil and gas, and this currency is rising against every other currency in the world. This seems like a subtle but important nuance many are ignoring which gives Russia some unappreciated options. Luke also discussed about how this could represent a threat to the U.S. dollars reserve status. He writes, by openly weaponizing U.S.T. reserves, the U.S. may have lit the fuse on a global murder on the Orient Express strategy. Remember the massive central bank gold buying and repatriations of the last 10 years? What's the difference between

7 trillion in U.S. Treasuries and $0.00 in gold versus $7 trillion in gold in $0 in U.S. Treasuries. Spoiler alert, for those who haven't read or seen murder on the Orient Express, there was no murderer because everyone took a turn stabbing the victim once. The victim here is the U.S.T.'s status as global primary reserve asset. The stabbings were the central bank buying of gold. Bloomberg's editors wrote a piece called wielding Swift against Russia is a big risk. They make the same point that Swift runs on a network effect and that having the widest possible participation through neutrality is important. They also write, quote, the example of Russia could prompt others such as China to turn to alternatives, fragmenting the payment system and potentially

even undermining the U.S. dollars' dominance as the global reserve currency. One could even imagine a future in which rival nations turn similar financial weapons against the U.S. Still, the alternative view is clearly much more prevalent right now. And this is the view that Whatever new risks this weaponization adds to the U.S. dollar when it comes to being a world reserve currency, the dollar will remain to use the famous phrase, the cleanest dirty shirt. Joey Palatano tweeted the people saying sanctioning Russia risks the dollar reserve currency status are very much missing the forest for the trees. China can't become a reserve currency issuer with such strict capital controls, and they aren't giving up those capital controls anytime soon.

What are countries going to use? The euro, the yen? That's just inconveniencing yourself without solving the underlying problem of being reliant on the existing global financial system. And no, people aren't going to be able to settle international trade and Bitcoin Lull. The dollar is the world's reserve currency, partially because there are no realistic competitors, and partially because the U.S. remains the world's global financial and economic hub. Neither of those things are changing anytime soon. Now, I'll leave that Bitcoin part out for now, as that's going to be the subject I believe of tomorrow's show, but you get the point that this is the view.

The view that the dollar remains the best option, even if it can be well, weaponized against you is pretty much what most people believe. So let's talk about the impact of these sanctions, and it's already big. The rubble has been on an absolute ride. Let's turn to Max Sadan, the Moscow bureau chief at the Financial Times early this morning, who tweets, The ruble, which was already at a historic low down almost 30 percent so far. Russia's central bank is pushing back trading several hours ahead of what is likely an even bigger crash. We are truly an uncharted territory here. I can't overstate how unprecedented this is. The ruble was at 25 to the dollar pre-2014 and 60 after the oil crash that year.

Most Russians don't have savings, 20 million are in poverty. Migrants send remittances to Central Asia. It's ordinary people who will really suffer. The idea is sanctions will make Putin change course, but we're eight years in and he's given no sign he'll do anything but double down. And they're easy to spin as a hostile measure from the West, which Russians will blame for the huge suffering they're about to go through. My Russian bank is offering dollars at the rate of 166 rubles. 120-ruble rate they had last night, or 130-ruble rate they had 45 minutes ago, was a steal by comparison. For some context, the losses earlier this morning were worse than the height of

the 1998 Russian financial crisis. And the biggest issue here is that there's no liquidity. So the market isn't really having an easy time finding a price to match buyers and sellers because there just isn't anyone transacting. Before markets open today, the central bank hiked interest rates from 9.5% to 20%, and then, in fact, didn't open the stock market. However, while the Russian stock market did not open today, London listed shares of Russian companies absolutely cratered. Spurbank of Russia dipped 77%, gas prom was down 62% and it's low, and that was just the tip of the iceberg. In Moscow, reports are that Google Pay and Apple Pay are no longer working on the metro. From Bloomberg, quote, the cost of ensuring Russia's government

debt rose to a record after harder-hitting sanctions on the country prompted Moscow to take emergency measures to shield its financial sector. Credit default swaps ensuring $10 million of the country's bond for five years were quoted at about $4 million upfront and $100,000 annually on Monday, signaling around 56% likelihood of default, according to ICE data services, the main clearinghouse for European credit default swaps. There are also the implications of specific businesses. British Petroleum is exiting its 20% stake in the Russian oil giant Rosneft. B.P.'s Chief Executive Bernard Looney is resigning from the board of Rosneft immediately. Looney said, I have been deeply shocked and saddened by the situation unfolding in Ukraine.

Our immediate priority is caring for our people in the region and looking at how BP can support the wider humanitarian effort. The chair of BP said that while the company has operated in Russia for over 30 years and has, quote, brilliant Russian colleagues, the invasion represents a fundamental change. Quote, Russia's attack on Ukraine is an act of aggression which is having tragic consequences. Norway's sovereign wealth funds also made a huge change in tone from Friday to Sunday. This is a $1.3 trillion fund that has about $2.8 billion in Russian equities. On Friday, they said, quote, if we sold out of Russia now, it would be a wrapped gift to the oligarchs who buy our shares.

But by Sunday, this which is the world's largest sovereign wealth fund sent, we want to give a very clear and unequivocal response that the type of abuse we have seen in recent times cannot be accepted. And the point here in both of these cases is that these folks are going to, to be selling at a loss, as there are no buyers, and as we'll get into in a minute, increasing isolation of these markets. BP is saying is that offloading their stake in Rosneft could represent a write-down of $25 billion. Now, as I just intimated, this is creating action from both sides. Phil Stewart, the military and intelligence correspondent at Reuters writes, Breaking, the Russian Central Bank has ordered market players to reject foreign clients' bids to sell

Russian securities from 400 GMT on Monday, according to a central bank document seen by Reuters. Max Sadan again says Russia's finance ministry says it's forcing exporters who sell the oil, gas, and metal the Kremlin gets most of its budget revenue from to sell 80% of FX income. That move appears designed to help prop up the ruble now that central banks can't sell reserves. Dmitri Alperovich, the chairman at Silverado Policy Accelerator, says remarkable move by Russian Central Bank to prohibit foreign clients from selling equities. That's basically a self-sanction. There will likely be very few to know foreign capital inflows into Russia after such a move. And finally, from Bloomberg, President Vladimir Putin banned all Russian residents from transferring hard currency abroad, including for servicing foreign loan contracts.

It wasn't clear whether the new rules applied to Russia's sovereign debt and if they constituted default. The central bank put Russia's total external debt at $478 billion. Peter Zion says it is done. Russia is completely separated from global capital markets. If you still own a Russian stock certificate or bond, it is formally worthless. Now, there is a lot here that is relevant for crypto. Indeed, it is a surprisingly large theme. Nick Carter writes, so turns out digital bearer assets that can't be seized or frozen

are pretty important after all. Eli Ben-Sassan writes, Swift banning of Russia as watershed moment for cryptocurrencies. Before, governments say, crypto is regulation-superferferferferfer. money, only criminals need it. After governments say we need crypto in case we're swift-banned, we need it big enough for nation-states. This is going to be the theme of our show tomorrow. We're going to talk about the narrative competition between, on the one hand, crypto being a freedom of money that is actively being streamed to Ukraine's army right now

and put into practice in short order versus a potential runaround of these sanctions. Another topic I think we need to explore later this week is Europe Emergent, the return, the return or the emergence in the first place of the EU as a block of power. It is notable to me the shift between Friday and Monday. The U.S. was leading the rhetorical charge at the end of last week. It is now following its European allies. To some of today, though, I want to end with a thread from Richard Fontaine, who's the CEO of the Center for a New American Security.

He captures, I think, just how quickly things are changing around us. He writes, Since the invasion began, the scale and rapidity of geopolitical shifts have been astonishing. Already, Russia has moved from a sullen revisionist state to a clear and present danger to its neighbors and has directly threatened countries beyond Ukraine. Governments have no trust and or tolerance for the Putin regime. The world's major economies, save China, have combined to foment a financial crisis in Russia, casting aside the previous worries about systemic economic risk.

That, in turn, may provoke domestic unrest with unknown implications. Germany has moved from a pacifist laggard on defense spending to announcing a huge increase, moving ahead of 2% of GDP. We must put a stop to warmongers like Putin, the new chancellor says. That requires strength of our own, a new Germany. Finland and Sweden are firmly aligned with the West and against Moscow, and the invasion may tip them into NATO membership. Neutral Switzerland, Switzerland will freeze Russian assets as a result of Moscow's aggression.

Full neutrality has become untenable given popular revulsion at the invasion. The sanctions response has been global, with Japan, South Korea, Australia, Singapore, and more, joining the anti-aggression bloc. Economic and geopolitical implications stretch well beyond Europe. China is badly exposed, having trumpeted a no-limits friendship with Russia. It is openly siding not with the numerous wealthy, powerful and unified countries opposing Moscow's aggression, but rather with a reckless country that is being isolated and impoverished. The European, which for two decades has talked about taking on a military role, with very little to show for it, is suddenly providing EU-funded fighter jets to Ukraine, crossing a Rubicon.

The world is disconnecting Russia from globalization's benefits, trade, travel, finance, technology, and drawing a curtain around the country. The result will be a poorer, more isolated, and weaker, Russia, a bet on diminishing Russian capability rather than changing its behavior. All this and more over a long weekend. We don't know how this war ends other than in tragedy for all those caught in its grasp, but already some geopolitical outlines are coming into focus. there will be more to come. There is a lot to keep track of with this situation. And although a lot of you guys are just here to discuss Bitcoin or crypto or whatever, whatever brought you to the show, I think that this is one of those moments where you have to keep that larger context in mind

to have any semblance of understanding about just what's happening and why it matters. I want to say thanks again to my sponsors, nexus.io, Arculus and FTX for supporting the show. And thanks to you guys for listening. Until tomorrow, be safe and take care of each other. Peace.