Russia should pay for Ukraine — but using frozen assets won’t be easy

 Mujtaba Rahman is the head of Eurasia Group’s Europe practice. He tweets at @Mij_Europe.

The political debate over the extent to which Russia should be made to pay for its war in Ukraine — and how it should do so — continues to rage in the West.

Given the approximately $300 billion of frozen Russian assets in Western jurisdictions, the answer to this should be easy. Yet, for European capitals, a complex set of legal and political challenges means it won’t be.

That tide may finally be changing. It is not before time.

EU member countries recently agreed to extract so-called “windfall profits” from immobilized Russian assets held in Euroclear and other European depositories, and to use them in support of Ukraine. These profits are estimated to fall between €3 to 5 billion per year, and of the total amount earmarked for Ukraine this year, 90 percent will be directed to the European Peace Facility to underwrite EU arms deliveries, while 10 percent will be added to the €50 billion Ukraine facility that runs through 2027.

Despite this agreement, however, the U.S. is still pressuring the EU to be even more ambitious. Indeed, the original ask from U.S. President Joe Biden was for the outright seizure and confiscation of the entirety of frozen Russian assets in the West.

However, substantial political opposition to the idea of confiscation, due to worries over legal and financial stability, meant the outright seizure of Russia’s frozen assets in Europe was very unlikely to happen. And recognizing this, the U.S. demand evolved, seeking to leverage the windfall profits they generate instead.

G7 finance ministers will now spend much of their gathering in Stresa on 23-25 May discussing this proposal. And reading the political tea-leaves suggests momentum is shifting behind a deal – although it will take time to come together and will ultimately be a political decision for G7 leaders at their summit on 13-15 June.

The U.S’s most recent ask landed several days before the International Monetary Fund and World Bank spring meetings in Washington, and it has reenergized the EU debate on finding more innovative ways to use frozen Russian assets.

The main interpretation of this latest U.S. proposal — and there are several, given the vague way it’s been drafted — is that the U.S. alone, or possibly alongside a collective of G7 members, would issue billions in new debt for Ukraine, perhaps via a special purpose vehicle. In broad terms, this debt would be passed to Kyiv in the form of grants and used to support Ukraine’s war effort. Then, the EU would use the profits generated from immobilized Russian assets to repay this debt — both its principal and interest.

Put differently: The U.S. would provide the liquidity, Europe the repayment capacity. And according to back-of-the-envelope calculations, this could raise an additional €75 billion for Ukraine as soon as early next year.

The original ask from U.S. President Joe Biden was for the outright seizure and confiscation of the entirety of frozen Russian assets in the West. | Andrew Caballero-Reynolds/AFP via Getty Images

The EU is more open to the U.S.’s latest plan. However, Brussels and member countries already have several reservations— meaning any G7 deal is likely to take time, probably beyond the leaders gathering in June.

The biggest concern is that the U.S. plan relies on a highly uncertain revenue stream from profits that accrue from immobilized Russian assets, which in turn depend on the EU’s sanctions regime. For example, what would happen if Donald Trump won the U.S. presidential election in November, and his stated commitment to ending the war in 24 hours resulted in pressure to unwind sanctions and unblock frozen Russian assets as part of a peace agreement?

Although multiple G7 statements have made clear the intention to make Russia pay war reparations for damages in Ukraine, it is unclear whether Trump would stand behind these commitments.

The EU is also reluctant to cede any autonomy over its sanctions policy to the U.S., which — for the proposal to work — is pushing for frozen Russian assets to remain immobilized as long as any loans are outstanding. But currently, the EU’s sanctions regime against Russia is reviewed every 6 months.

This change is something the 24 non-G7 EU member countries will fiercely oppose — especially Hungary — arguing it would risk undermining the possibility of diplomacy and negotiations with Russia. For many EU capitals, it would also blur the legal line between immobilization and outright confiscation, reigniting many of the fears member countries had about the original U.S. proposal.

Moreover, the uncertainty surrounding the durability of this revenue stream means EU members would have to provide state-backed guarantees, so investors would be certain European governments would make good on the debt’s repayment, if profits were to fall away. However, these guarantees would impact the deficit and debt profile of member countries, which would then require the approval of national parliaments, creating an additional — and significant — political hurdle.

In the EU’s view, the U.S. should also stand ready to cover both debt servicing and repayment if the profits from immobilized assets are to fall away. So in order to win over reluctant G7 partners, the White House will likely try to sell a commitment to stand behind additional debt issuance for Ukraine—whether solely by the US or via the G7—contingent upon the future approval of Congress. This would ultimately be tantamount to a loose US fiscal guarantee, one that would be subject to significant domestic political risk.

The robustness of the US guarantee will be key for the saleability on the EU side. Indeed, there are some members countries who believe the U.S. is effectively looking to use “EU” money to sort out its own internal political problems, as the proposal creates a possible pathway to funnel more money to Ukraine while getting around Congress, at least in the short-term. Despite Congress’ recent approval of an additional $61 billion for Ukraine, headwinds remain — as does the possible risk presented by Trump, who many in Europe fear may cut funding to Ukraine altogether.

Still, many senior EU officials think the bloc shouldn’t be sorting out America’s domestic challenges for it, just as the EU itself had to overcome Hungarian Prime Minister Viktor Orbán’s veto to approve the EU’s €50 billion Ukraine facility. As one senior EU official said: “We shouldn’t let off our American friends with funny constructions that take pressure off the administration and Congress doing more.”

Furthermore, the institutional arrangements involved in establishing a new special purpose vehicle, if the US doesn’t simply issue the additional debt alone, are far from straightforward.

Establishing a new structure would create its own governance and administrative challenges, such as who decides where the money’s spent — European capitals are adamant they won’t use “EU” money to buy American arms.

It would also require a legal change to the EU’s recent agreement on where profits will be directed, which is doable but not easy, given unanimity would be required. Also, the need for an elaborate set of governance arrangements undermines the argument that the vehicle would be “Trump-proof” — once governance is involved, so are governments, including those in the future.

However, when all is said and done, the US’s latest proposal speaks to the ongoing political desire from the Biden administration, and the EU, to stand behind Ukraine, and to try to get in front of the political risks that loom just over the horizon, given the US’s highly consequential election in November.

For that reason, a deal that makes more ambitious use of Russia’s immobilized assets to support Ukraine seems more likely than not – even if it is going to take time.