Russian money trapped in Europe’s financial system is expected to throw off interest worth several billion euros a year. The problem: there is no agreement on what to do with it.
The European Commission has promised detailed proposals within weeks to divert the proceeds to support rebuilding Ukraine, part of a longstanding effort to make Russia pay for the destruction of the war.
But the move is fraught with legal and financial hurdles. EU leaders, who are meeting on Thursday, are divided on how to proceed. Some capitals are privately pushing the commission to delay its proposals.
“There’s a lot of work to do to convince member states,” said one EU official.
What is the EU considering?
After the full-scale invasion of Ukraine last year, the EU, with partners including the US, UK and Canada, froze Russian central bank assets held abroad. It marked one of the most significant sanctions inflicted on Russia — about half of the central bank’s $600bn in assets were frozen.
Officials have since looked at whether those assets can be deployed in the effort to rebuild Ukraine. The west is wary of confiscating them outright, fearful of breaching international law or spooking China and other countries that might worry this could happen to them.
The commission last year said it was examining another route: managing the Russian assets to generate returns that could be used for Ukraine, while ensuring the underlying assets can eventually be returned to Russia. This still carries legal jeopardy, however, and poses a risk that the assets lose value and have to be made whole by European taxpayers.
So what is the answer?
A group of member states has recently been working on a separate plan to tap the income that is being generated by the frozen Russian assets as they sit in an obscure corner of Europe’s financial plumbing.
They are focusing on central securities depositories, most notably Belgium-based Euroclear, where Russian assets worth €196.6bn have been frozen by sanctions.
Euroclear fulfils a crucial role in global financial markets, passing on a payment related to a security, such as a coupon on a bond or a redeemed loan, to its receiver. But the unprecedented sanctions have meant Euroclear and other securities depositories cannot pass on the money, so it sits on their balance sheets.
Euroclear usually reinvests large cash balances, earning interest from lending out the money to financial markets or by leaving it at the European Central Bank. EU officials are looking at whether the proceeds from this, rather than Russian assets themselves, can be diverted to Ukraine. The proceeds are expected to be several billions of euros a year.
How would it work?
Extracting the money for Ukraine might potentially involve a special levy that builds on the EU’s sanctions regime, rather than a windfall tax. Officials argue that pressure to use the money for Ukraine will only grow as the cash pile balloons.
Temporarily reinvesting sanctions-targeted Russian cash in the market generated €734mn of income in the first quarter alone. The interest income is likely to increase this year as the pile swells and eurozone interest rates rise to combat inflation.
Officials conservatively estimate there could be more than €3bn a year in accrued interest.
Euroclear would typically distribute the proceeds from interest income to its shareholders, namely the banks that use it. Mindful of the political sensitivities, the company has yet to distribute the profits.
Why is the ECB worried?
ECB president Christine Lagarde has been consulted on the EU’s plan and so far given it a thumbs-down. The central bank’s main worry is that any move by Brussels to take money which Russia claims as its own would tarnish the international appeal of the euro.
With geopolitical tensions already running high, some countries could even turn their back on Europe’s single currency, fearing they risk suffering the same fate as Russia should they one day be targeted by sanctions, the ECB argues.
The euro accounts for just over a fifth of the world’s $12tn of foreign exchange reserves held by official investors such as central banks. This position as the second-most popular currency for foreign exchange reserves, behind the US dollar, provides Europe with numerous advantages, such as lower borrowing costs and improved trade flows.
The ECB believes a special EU levy to collect the extra profits being made by Euroclear would be slightly less risky than Brussels seeking to invest the assets to raise cash, but it has warned against both options.
Officials also worry about weakening Europe’s central securities depositories, which play a critical role in the financial system. One way to mitigate the risks would be to co-ordinate action internationally, such as through the G7, the ECB believes.
What do the member states think?
EU capitals are heavily divided over the idea. Big member states including Germany are reluctant to rush down this route. Like the ECB, they fear a radical proposal could shake faith in the safety of assets stored by foreign states in Europe.
One German official gave the theoretical example of Brazil worrying about the potential for the EU to impose sanctions over its depletion of the Amazon rainforest and — having seen how Russian central bank assets are being treated — reducing the reserves it holds in euros.
Other capitals counter that the G7 actually broke the taboo in February 2022, when Russian central bank assets were originally immobilised, without provoking a calamitous response in global markets.
“We know that there will be a large bill to foot for Ukraine when it comes to its reconstruction and much of that will fall on the EU,” said Anders Ahnlid, the director-general of the Swedish National Board of Trade and head of the EU working group looking at Russia’s frozen assets.
The questions, he said, are to what extent European taxpayers should bear the burden and whether to use immobilised Russian assets. “It’s evident that we are doing something unique,” he said. “The EU has never embarked on an approach of the sort that we are discussing.”
