Sanctions on Russia have failed to cut the Kremlin off from the export revenues from oil and raw materials that are being used to fund the war in Ukraine, but they have bled the country of hundreds of billions of dollars – indirectly.

A record $253bn left Russia last year as capital flight – the most since the 2008 crisis saw all the returning capital from the boom years turn tail and take flight, the Central Bank of Russia (CBR) says.

The capital flight is equivalent to 13% of GDP, more than the previous record of 11% of GDP that fled the country during the 2008 US mortgage catastrophe.

The net capital outflow from Russia starting February 2022 and ending June 2023 was calculated by the CBR’s Centre for Macroeconomic Analysis and Forecasting.

“Net inflows on current transaction accounts [of $236bn] and net outflows on financial accounts have reached unprecedented levels,” the centre’s experts said earlier this year, reported the Russian version of the Moscow Times.

The total flight of $239bn from Russia last year – including $13bn that left before the war started in the pre-invasion month of January – was four times the amount that was pulled out of the country in 2021, according to the analysis, a “normal” capital flight year, while the average rate of capital outflow over the previous 13 years stood at 5%, according to the Russian Moscow Times.

However, since then CBR Governor Elvira Nabiullina has swung into action and managed to close down one money chute after another, while at the same time the economy has bounced back and, domestically at least, it is booming again, according to the latest S&P Global manufacturer’s PMI.

Capital flight from Russia this year has already slowed dramatically to only $27bn, according to the CBR. But in her latest economic assessment at the annual conference of Russia’s economic elite Nabiullina warned there are still many unknowns and worries that the economy will slow and inflation soar in the next few years, which will only encourage Russian businessmen to try to take more money out of the system.

Net outflows

As bne IntelliNews previously reported, Russia’s capital flight figures make your eyes water. Between 1994, when the CBR started recording capital flight figures, and 2018, the end of the most recent recession, a total of $581bn left the country. But what really makes economists squirm is in all that time there were only two years – 2006 and 2007 – when there was a net inflow of capital: the $131bn that came home in those two years was only slightly less than the total of all the money that had left in the preceding decade, $156bn.

During the boom years finally Russia’s domestic businessmen finally believed that Russia was a place worth investing into and began to bring their cash home to build a future in Russia.

It didn’t last long. In 2008 the crash of the US subprime mortgage market caused a worldwide panic and derailed the Russia story, yet again. In 2008 an eye-watering $133bn left the country again – almost exactly all the money that had been repatriated at the height of the noughties boom years. Russia’s businessmen never recovered their confidence and there has never been a net inflow again, even if state-owned Russia Inc. has always been in profit thanks to its raw material exports.

Now it has happened again. In October 2021, Russia was booming again. The economy was growing, real incomes were up and in the previous 12 months there had been 12 international IPOs of leading Russian companies, mostly tech, all of which had raised at least $1bn. Things were looking good and there were around another 20 companies in the IPO pipeline line.

But at the end of that month the White House said Russia was massing troops on Ukraine’s border and that an invasion could happen “any day.” It happened (four months later) and what little confidence had been re-won evaporated overnight. Arguably, the Ukrainian war-crisis is worse than the 2008 Great Financial Crisis for Russia, as at least in 2008 Russia remained a market economy with an open capital account that could recover and go back to growth. In this crisis Russia’s economy is now being driven by the state, much of the foreign direct investment (FDI) has been frozen or reversed and the capital account is closed. Russians can’t use dollars and have to send what products they can export around the houses to get to a market. Russia’s biggest market for the last three decades, Europe, is now closed to it.

Naturally, anyone with money in Russia wants to get it out. Most of the foreigners have been trapped. Those with business have struggled to sell them and several, like Danone and Carlsberg, have been nationalised and handed over to Russian President Vladimir Putin’s cronies to run. Equity investors have had it even worse. Some $40bn of foreign-owned stocks remained trapped in Russia. So far only one Russian company, supermarket chain Magnit, has managed to buy out its international investors, and even then at a 50% discount to the market prices.

But Russians with dollars in Russia have been a lot more canny, making use of schemes and scams that were refined in the 1990s when everyone was simply trying to avoid the punishing tax rates that briefly topped 100% under Yeltsin, and hide their cash somewhere safe.

Despite imposing strict capital controls on the financial system and introducing a 80% surrender of foreign exchange requirement on raw material exports within days of the start of the war, Nabiullina was unable to prevent a torrent of dollars from leaving the country in the first ten months of 2022.

Stemming the flow

There are multiple schemes for taking money out of Russia, and some of them are legal.

Russian citizens and non-resident individuals from friendly countries are allowed to transfer up to $1mn (or an equivalent in other foreign currencies) to any account in any foreign banks.

“We sold our apartment in Moscow and moved to France. We had about a million dollars in rubles but managed to transfer it out,” Katya, a Russian businesswoman who didn’t want to give her surname, told bne IntelliNews. “It was really difficult and required an enormous amount of paperwork, but once the bank was satisfied it was a legitimate transaction the money went through.”

Russians are also allowed to transfer up to $10,000 a month to friends and family living abroad using a money transfer service, but again a lot of paperwork is required.

Non-resident individuals working in Russia, whether they are from friendly or unfriendly countries, are allowed to transfer funds abroad equating to their Russian salary. And banks from unfriendly states may transfer funds in rubles using correspondent accounts opened with Russian credit institutions, provided that the payer and the payee have accounts with foreign banks.

And many Russians have turned to the unregulated cryptocurrencies to transfer money abroad, although that is getting harder, as many of the world’s leading exchanges are starting to cut ties with Russia. Last year the Ministry of Finance (MinFin) estimated that Russians already hold around 12mn crypto wallets, with a total capacity equalling around $26.6bn. And last week major cryptocurrency exchange Binance sold its entire Russian business to newly established crypto exchange CommEX without a buyback option, the company said.

But by far the biggest scam is for Russian firms to make advance payments for imported goods without their subsequent import into the territory of the Russian Federation. The CBR said in a bulletin this week that this wheeze accounted for well over half (58%) of all the capital flight.

Another scheme is to use cash-out schemes through bank cards and accounts of individuals, which receive non-cash funds from businesses. The CBR has begun checking all these transfers and now has a black list of “entities with a high level of risk” that are known to be sending cash overseas.

“The volume of such operations in the first half of 2023 increased 1.4 times compared to the same period last year,” the CBR said in a bulletin, adding it was making progress on cracking down on this dodge. “The volume of cash withdrawals outside the banking sector – high-risk transit transactions aimed at non-cash compensation of cash proceeds “sold” to third parties by trading and travel companies, payment agents – decreased by 30% compared to the same period last year, to RUB10bn ($100,000).

The CBR has also identified the main sectors that are exporting money: the main offenders demanding shadow financial services in the first half of 2023, as in the same period last year, were the construction industry (37%), trade (29%) and the service sector (19%), the CBR reports.

New capital controls in the works

And the noose could tighten further. Immediately after the start of the war, Nabiullina slapped tight capital controls on the financial system, trapping dollars in Russia. The extreme restrictions were quickly eased but capital controls remain in force, albeit at a lower level. The existing ban on money transfers to foreign countries was extended for an additional six months, according to a statement by the regulator on September 29.

Under the new system the CBR introduced a Know Your Client (KYC) platform, which made it possible to “quickly identify clients with a high level of risk and direct credit institutions to stop suspicious transactions on their accounts,” the CBR said.

The KYC system is being policed by the banks themselves at the behest of the CBR, which now have the right to refuse to make a transfer if they think something dodgy is going on. And to give the system some teeth, the system is backed by a co-operations between the CBR and the Prosecutor General’s Office.

“Cash-outs in the banking sector decreased by 5% to RUB32bn. Suspicious cash withdrawals from the accounts of legal entities were more than halved due to the fact that information about high-risk clients was promptly communicated by the regulator to credit institutions through the Know Your Customer platform,” the CBR said in a statement this week. “Cash-outs outside the banking sector declined to RUB10bn; they amounted to RUB14bn in the same period last year.”

In the last month there has been a lot of talk about reintroducing stricter capital controls, something that both MinFin and the CBR have shied away from so far. However, with the ruble sinking back towards the RUB100 to the dollar again as it did in August, the pressure on the financial authorities is growing again.

In the middle of September, MinFin announced the need to introduce new controls over transfers of rubles abroad. Now Economy Minister Maxim Reshetnikov has proposed using the “Chinese membrane” model to stabilise the ruble exchange rate, which will ultimately mean restrictions on the withdrawal of rubles from Russia. The CBR and most analysts are categorically against it.

The problem is that high interest rates haven’t stopped the ruble from weakening. The mandatory surrender of foreign exchange earnings by exporters and other standard currency control measures are also deemed inadequate, says Reshetnikov.

The ruble exchange rate, according to the minister, can be stabilised using “an analogue of the Chinese model,” in which “there is a kind of ‘membrane’ between the domestic ruble market and the external ruble market.” The Ministry of Economic Development is discussing its idea with the Central Bank, Reshetnikov said during last week’s economic conference.

In China, there are now two yuan exchange rates – offshore and onshore. In the first case, at auctions in Hong Kong, Malaysia, Singapore and others, a purely market rate is established, and in the second, the Central Bank sets a daily reference rate, from which the yuan can fluctuate within 2%. The entry of offshore yuan into China is limited for both individuals and companies, The Bell reported.

It is not clear how exactly the “Chinese membrane” will operate in Russia and Reshetnikov was vague on the details, other than to say no one is talking about two ruble exchange rates. However, in China businesses have to report any significant transactions abroad and confirm the legality of receiving funds as well as plans for their use. In addition, for individuals in China there is a limit on withdrawal of funds: $50,000 per year for citizens and about $500,000 for companies.

Analysts interviewed by RBC believe that the “membrane” may mean restrictions on the withdrawal of funds abroad or the purchase of foreign assets. These measures could lead to the division of markets into external and internal, with more stringent restrictions on the latter.