Even With New U.S. Sanctions, Kremlin Still Betting on Trump

(Bloomberg) -- Even after the U.S. announced new sanctions against Russia last week that sent the ruble into a tailspin, the Kremlin isn’t holding it against Donald Trump.

Instead, top Russian officials are hoping the U.S. president may yet be able to deliver on his promises of improving relations -- or at least head off pressure growing in Congress for even more draconian sanctions, according to officials and others close to the leadership.

“The Kremlin understands Trump’s logic and that the reaction of the markets and the public is excessive because nothing terrible has happened,” said Andrey Kortunov, head of the Russian International Affairs Council, a research group set up by the presidential administration. “Everybody understands that Trump had to respond to the congressional move and that it’s important for him to put the brakes on it.”

For the moment, Russia has held off retaliating for the new sanctions, limiting its response to angry rhetoric and waiting to see how the debate on a Senate bill for more sweeping restrictions plays out in the fall. With the personal rapport between the leaders warm and contacts expected to continue, the Kremlin is confident that Trump genuinely wants to rekindle ties if he can get a political window of opportunity in Washington.

Digging In

But while it keeps the faith on Trump, the Russian government is quietly digging in. Officials are increasingly convinced that while the size of Russia’s economy -- and Trump’s desire for warmer ties -- are likely to protect it from crippling sanctions like those applied to Iran, its financial and economic isolation will last years and could yet deepen.

Read more on sanctions and the ruble - Russia Insight

The Kremlin is struggling to keep up with the rapidly shifting winds of Washington politics, with many insiders complaining of how unpredictable the U.S. has become.

“Considering the anti-Russian hysteria that has consumed the U.S. and is now taking on unseen dimensions, we should consider the expansion of American sanctions lists an inevitability,” Interfax quoted Deputy Foreign Minister Sergei Ryabkov as saying Friday in response to the latest expansion on U.S. restrictions over North Korea.

Russian officials were upbeat after the warm atmosphere of the July 16 summit in Helsinki. But the backlash in the U.S. that followed Trump’s handling of that meeting doused any euphoria. The ruble began to slide after a bipartisan group of senators introduced the bill to impose tough new sanctions, including on Russian foreign debt and state banks.

Imposition of the latter limits would amount to “an act of war,” Prime Minister Dmitry Medvedev said.

Even With New U.S. Sanctions, Kremlin Still Betting on Trump

Then on Aug. 8, the State Department announced it was imposing additional sanctions over the poisoning in the U.K. in March of a former Russian agent and his daughter. While the initial round of those restrictions, due to be imposed as early as next week, is expected to be relatively modest, much more draconian limits, including restrictions on trade and diplomatic ties, could be imposed 90 days later.

The ruble plunged to the lowest level in two years, forcing the central bank to suspend its buying of foreign currency to rebuild Russia’s emergency rainy-day fund.

Publicly, the Kremlin lamented the move as a departure from the “difficult but constructive” tone of the Helsinki meeting, but held off any retaliation.

“We view this move with understanding of the difficult political situation there,” said Alexander Dynkin, head of a state foreign-policy and economics institute that advises the authorities. “But of course, that understanding isn’t limitless.”

Kortunov, of the International Affairs Council, said the Kremlin is hoping the State Department sanctions will take the steam out of the Senate push for tougher restrictions, possibly opening up room for a warming of ties after the November midterm elections in the U.S.

“We’re not rushing to criticize the administration and we don’t think Trump blew it,” he said. Next week, the two sides will get a chance to put the relationship back on track when their national security advisers are expected to meet in Geneva.

‘New Era’

But the Kremlin isn’t taking any chances. Amid growing fears of sanctions, Russia sharply reduced its holdings of U.S. Treasuries this spring. And even with oil prices up this year, the government has kept an intense focus on cutting the deficit -- and dependence on foreign investors to fund it.

“We’re ready for anything,” said Anatoly Aksakov, chairman of the financial markets committee in the lower house of parliament. “The authorities are being extra careful, to be ready for any way things turn out.”

Putin’s poll ratings have dropped amid a string of unpopular belt-tightening measures, including a hike in the value-added tax and plans to raise the pension age. But the Kremlin isn’t relenting, aiming to tighten its finances to the point where it can balance the budget even if oil falls to $50 a barrel, half the level required just four years ago. Hopes for private investment have been largely ditched in favor of plans for more big state projects.

The central bank and the finance ministry “are behaving much more conservatively than they would otherwise have to be,” said Aksakov. One result of that approach is that the Kremlin’s goal of jumpstarting the sputtering economy is looking less and less realistic, according to economists.

“We’re in a new era. Sanctions will be here for a long time,” said Pavel Medvedev, a former legislator who’s now financial ombudsman for the Association of Russian Banks. “We’re just like marionettes on a string. We’re completely in their hands.”

©2018 Bloomberg L.P.