Steven Blockmans
Senior Research Fellow, CEPS
As Russia’s war against Ukraine barrels on, reconstruction costs are mounting. Current estimates for rebuilding Ukraine vary between several hundred billion up to EUR 1 trillion. Yet a ballooning defense budget of EUR 40 billion and dwindling international aid could push Ukraine’s war-torn economy to the brink.
With President Biden’s support package stuck in Congress, the EU’s decision to send an annual EUR 12.5 billion in budget support to Ukraine for the next four years is a much-needed injection that will prevent sovereign default. But it won’t be sufficient to protect the country from further military onslaught, let alone allow it to ‘build back better’. According to the International Monetary Fund, Ukraine would need at least EUR 35 billion in external support this year to remain resilient (and solvent).
Given the scale of the potential financial commitment, unusual funding sources should be considered, also to signal to Russia that it’s already paying for Ukraine’s recovery. To avoid a populist backlash during upcoming elections in the EU, UK, US and possibly Japan, funding sources should spare taxpayers as much as possible.
Mobilising proceeds before confiscating frozen assets
The seizure of close to EUR 300 billion-worth of Russian Central Bank (RCB) assets frozen by the US, the UK, Japan, Canada and especially the EU (EUR 191 billion, mainly in Euroclear, a Belgium-based global securities company) has long been touted as a means to continue funding Ukraine. While the US, Belgium, Estonia, and the Czech Republic have been looking into how to use freezes within a national context, the G7 debate has lingered due to both concerns over international law and fears over foreign reserves held in Russia. The European Central Bank has also warned that the move could undermine investor confidence in the euro, leading to capital flight and volatile financial markets.
Such concerns should not be blown out of proportion though. It’s key that international investors do not perceive such action as arbitrary and risky. Although legally justifiable as an exceptional derogation from the immunities of state (due to the ‘erga omnes’ obligation that rests on all states to ensure Russia stops its blatant violations of international law as codified in the UN Charter and international criminal law), further justification for undertaking such action would stem from the International Court of Justice’s Order of 16 March 2022 that Russia immediately suspends its military operations in Ukraine. Retaliatory measures from Russia would only unsettle global markets if China, Saudi Arabia and other economic powerhouses were to bet that their divestment from the eurozone would be worth the economic pain in the short to mid-term. Suffice to say, chances that they would make such a decision are low.
The euro’s resilience as a reserve currency is strong, thanks to the lure of the Single Market and its democratic underpinnings anchored in the rule of law. If confiscation happened simultaneously in all G7 countries, then the risk of the euro losing points on its star rating would be mitigated. To avoid its reserve currency status – and that of the dollar, yen and pound sterling – from being undermined, diplomatic channels should be used to persuade other countries (Switzerland in particular) to close ranks with the G7.
To show support for Ukraine ahead of the second anniversary of Russia’s full-scale invasion, EU Member States have unanimously taken the first step by agreeing to set aside ‘windfall profits’ generated from RCB assets immobilised in Europe. Future proceeds (estimated at more than EUR 4 billion per year) will be booked separately and won’t be paid out as dividends to shareholders until Member States unanimously decide to set up a financial contribution to the EU budget that would be raised on these net profits to support Ukraine.
Such a levy, the European Commission believes, should be consistent with applicable contractual obligations and in accordance with EU and international law. The Commission would transfer the money to the EU budget and then to Ukraine.
Two other ideas
To prevent a populist backlash in elections on both sides of the Atlantic it’s important to find sources of funding that would require as little as possible from taxpayers.
Belgium (which holds the bulk of the money and, according to pollsters, will see two Flemish nationalist parties come out on top in its general election in June) has proposed to the G7 countries to use immobilised RCB assets as collateral to raise debt for Ukraine’s reconstruction. This would involve borrowing against Russia’s obligation to pay reparations, coupled with a commitment to keep RCB assets frozen until the obligation is discharged. If not discharged by the maturity of the bonds, then RCB assets would be seized.
Even with the ‘erga omnes’ obligation invoked above, the proposal to collateralise RCB assets runs into legal and economic problems. If Ukraine transferred its right to claim reparations from Russia to G7 members, then those allies would issue bonds backed by their own rather than Ukraine’s claims against Russia. Disregarding the time needed to issue these bonds (in particular by the EU) and raise the necessary capital, would Russia’s default on a payment assigned by Ukraine to, for instance, Belgium (on this issue de facto the eighth ‘G7’ member) be an internationally wrongful act against which Belgium could take countermeasures as a directly injured state? This is unlikely in view of the (scarce) jurisprudence. What’s more, in practical economic terms, the G7’s dithering in the confiscation debate is already undermining the credibility of the threat to seize assets, needed to persuade investors than their loan will eventually be repaid.
A much more straightforward alternative to raise funds for Ukraine would be for G7 members to make Western companies that continue to do business in Russia, despite sanctions, pay for the privilege. While some of the world’s largest companies have completely pulled out of Russia, most EU and G7 firms have maintained a foothold in Russia to ‘honour’ existing contracts. Taxing them would make them pay for their contribution to Russia’s war effort against Ukraine.
It’s time for the EU and the rest of the G7 to quit dithering. To echo Robert Zoellick, former President of the World Bank – if one approves of sending weapons to fight the Russian aggressor, then it seems odd to shrink from using the obvious economic tools to help Ukraine resist, recover and reconstruct.
The blog is replicated from the CEPS
