Will frozen Russian assets worth $300B lead to dollar, euro backslide?

In response to Russia’s military campaign in Ukraine a little over two years ago, the United States and its allies imposed harsh sanctions to put pressure on Moscow’s monetary system.

Among the more contentious economic penalties includes Western sanctions which saw some $300 billion in Russian foreign assets effectively frozen in a bid to put a dent on the “fortress economy.”

Since then, experts have called into question the control central banks have over their international reserves and debated whether governments can legally seize the foreign exchange reserves of Russia’s central bank in the West.

As Europe and the US lean closer towards using frozen Russian assets to rebuild Ukraine’s economy, there is growing concern on how the move may potentially impact the stability of the euro and dollar.

“There is a concern among some — the US Treasury, the Fed, the ECB — that if you do this you undermine the reserve status of the dollar and euro,” Jacob Kirkegaard, a senior fellow at the Peterson Institute for International Economics, told the US media, adding that he didn’t think taking away assets would turn key countries away from the world’s two most liquid currencies.

Agathe Demarais, a senior policy fellow on geoeconomics at the European Council on Foreign Relations, also noted that “Data from both the European Central Bank and the US Federal Reserve show that global de-dollarization efforts have not accelerated meaningfully since the Russia-Ukraine war began, both when it comes to currencies used for trade (the dollar and euro dominate) and foreign purchases of US securities (they are broadly stable).”

According to Mark Sobel, US chair of London-based think-tank Official Monetary and Financial Institutions Forum (OMFIF), the dollar’s dominance, though may decline slightly, is here to stay.

“Western steps to block Russian central bank and oligarch assets have surely caught the attention of Chinese and Middle Eastern officials and funds,” Sobel wrote in an opinion piece part of OMFIF’s 2023 Global Public Investor report, adding that “It will make them reflect, instil caution and could diminish willingness to hold dollars and euros.

“Still, US and European capital markets are too big to avoid. To the extent the US (and allies) avoids overuse of sanctions, deploys them multilaterally rather than unilaterally and steers clear of secondary sanctions, the use of sanctions will be less concerning to the rest of the world.”

About $300 billion worth of the assets are held for the most part in Belgium, France, the US, and elsewhere in the West, with $612 billion worth of Russian foreign currency and gold reserves held overall in the world, according to Reuters.

The US, which has about $5 to $6 billion stored in the country, already has an unprecedented bill in the works: the Rebuilding Economic Prosperity and Opportunity for Ukrainians Act, or REPO for Ukrainians Act.

If signed into law, the act would allow Washington to seize central bank assets from a country with which it is not at war, and in this case, hand them over to Ukraine for rebuilding process.

US Treasury Secretary Janet Yellen, who has pushed for confiscating frozen Russian assets as “necessary and urgent,” despite acknowledging the risks involved, has minimised concerns about how such a move could undermine dollar and euro roles as important global reserve currencies.

Reuters quoted her saying that, based on Russia’s disregard for international standards, as well as the nature of the circumstances, it is "extremely unlikely” for any G7 move to result in a massive shift from currencies.

"It's important for the G7 to work together. We need to find a way that is legal, both domestically in all of our countries and also in accordance with international law," Yellen said.

European officials think seizing Russian assets and handing them over to Kiev would ease the pressure on the West to finance Ukraine's war effort, but at the same time dismiss the notion as too legally risky.

Should the option to use frozen Russian funds without legal grounds be pursued, foreign confidence in the security of assets and investments could also be lost, while a precedent for transferring US and EU assets and investments would be set.

In January, Belgian Finance Minister Vincent van Peteghem said, “We need to be very prudent with that proposition” of confiscating Russian assets. “I think that it's important that what can come on the table should be legally sound and we should avoid any impact on financial stability," he added.

Despite worries of devaluing the currency, according to OMFIF’s 2023 Global Public Investor report, a net 14% of central banks are planning to increase their euro holdings over the next two years, compared to a net zero saying they would do so in 2021 and 2022, adding that no other currency has higher net demand in the near term.

"Europe has not really followed US foreign policies against China or on the Middle East," said Eurizon SLJ Capital CEO Stephen Jen. "A shift in balance in allocations away from dollars toward euros makes a lot of sense."

Britain, in a similar vein, is reportedly prepared to loan Ukraine all frozen Russian central bank assets in the UK, according to foreign secretary David Cameron, who, on March 5 said Russia will be forced to pay reparations to Ukraine at the end of the war, hence the assets would act as a surety for this.

“There is an opportunity to use something like a syndicated loan or a bond that effectively uses the frozen Russian assets as a surety to give that money to the Ukrianians knowing that we will recoup it when reparations are paid by Russia,” The Guardian quoted Cameron saying.

“That may be a better way of doing it. We are aiming for the maximum amount of G7 and EU unity on this but if we cannot get it, I think we will have to move ahead with allies that want to take this action.”

Meanwhile, the EU last month took its first step to use Russia's frozen assets for Ukraine after adopting a law to set aside windfall profits from the money. Two thirds of the estimated $300 billion funds are in the EU with the majority of that held by Belgium's clearing house Euroclear.

Last month, Kremlin spokesman Dmitry Peskov reiterated that Russia would challenge any confiscation of frozen assets in court.

Peskov told a press briefing in Moscow, "If such decisions are made, they will be deeply illegal. They will have very, very long, for many decades, judicial prospects for those who make these decisions and for those who implement these decisions.”