WASHINGTON — The Biden administration will begin blocking Russia from paying U.S. bondholders, increasing the likelihood of Russia’s first foreign debt default in more than a century.
An exemption from the sweeping sanctions the United States imposed on Russia as punishment for its invasion of Ukraine has allowed Moscow to continue paying its debts since February. But that exclusion will expire on Wednesday and the United States will not extend it, according to a notice issued Tuesday by the Treasury Department. As a result, Russia will be unable to pay billions of dollars in debt and interest on bonds held by foreign investors.
The move represents an escalation in US sanctions at a time when the war in Ukraine continues to drag on, with Russia showing few signs of letting up. Biden administration officials had been debating whether to extend what is known as a blanket license, which allowed Russia to pay interest on debt it sold. By extending the waiver, Russia would have continued to deplete its US dollar reserves and US investors would have continued to receive their guaranteed payments. But officials, who tried to step up the pressure on the Russian economy, ultimately determined that a Russian default would not have a significant impact on the global economy.
Treasury Secretary Janet L. Yellen outlined how the Biden administration was leaning during a press conference in Europe last week, when she said the exemption was created to allow for an “orderly transition.” so that investors can sell securities. It was always planned for a limited time, she said. And she noted that Russia’s ability to borrow money from foreign investors has already been essentially cut off by other US sanctions.
“If Russia is unable to find a legal way to make these payments, and it technically defaults on its debt, I don’t think that really represents a significant change in Russia’s situation,” Ms. Yelen. “They are already cut off from global capital markets, and that would continue.”
While the economic impact of a Russian default may be minimal, it is an outcome Russia had tried to avoid and the Biden administration’s move represents an escalation in US sanctions. Russia has previously tried unsuccessfully to make bond payments in rubles and has threatened to take legal action, arguing it shouldn’t be considered default on its debt if it isn’t cleared. to make payments.
“We can only speculate on what worries the Kremlin most in the event of a default: the stain on Putin’s record of economic management, the reputational damage, the financial and legal dominoes that a default sets in motion. , etc.”, said Tim Samples, a professor of legal studies at the University of Georgia’s Terry College of Business and a sovereign debt expert. “But one thing is pretty clear: Russia was keen to avoid this scenario, even willing to make payments with precious unsanctioned foreign currency to avoid a major default.”
Sanctions experts have estimated that Russia has about $20 billion in outstanding debt that is not held in rubles. It is unclear whether the European Union and Britain will follow the US lead, which would put even more pressure on Russia and leave more investors unpaid, but most recent sanctions have been closely coordinated.
The prospect of a Russian default has already plagued some large US investors with losses. Pimco, the investment management company, has seen the value of its Russian bond holdings fall by more than $1 billion this year and pension funds and mutual funds exposed to emerging market debt have also suffered. drops.
In the short term, Russia has two foreign currency bond payments due Friday, both of which have clauses in their contracts that allow repayment in other currencies if “for reasons beyond its control” Russia does not is unable to make payments within the initially agreed timeframe. currency.
Russia owes about $71 million in interest payments for a dollar-denominated bond that will mature in 2026. The contract includes a clause to be paid in euros, pounds sterling and Swiss francs. Russia also owes 26.5 million euros ($28 million) in interest payments for a euro-denominated bond that will mature in 2036, which can be repaid in alternative currencies, including the rouble. Both contracts provide a 30-day grace period for payments to reach creditors.
Russia’s Finance Ministry said on Friday it had sent the funds to its payment agent, the National Settlement Depository, a Moscow-based institution, a week before payment was due.
The Ministry of Finance said it had honored these obligations. But further dealings are needed with international financial institutions before payments can reach bondholders.
Adam M. Smith, who served as the Obama administration’s top Treasury Department sanctions official, said he expected Russia to most likely default in July and a wave of lawsuits from Russia and its investors are likely to ensue.
While a default will inflict psychological damage on Russia, he said, it will also increase borrowing costs for ordinary Russians and hurt foreign investors who were not involved in the Russian invasion of Russia. Ukraine.
“The interesting question for me is, what is the political objective here?” said Mr. Smith. “That’s what’s not entirely clear to me.”
Alan Rappeport reported from Washington and Eshe Nelson from London.