Econ_May_05

ARFARE has been transformed by drones. Using pilotless

aircraft armed with precision weapons America can kill its

enemies—in, say, the Hindu Kush or Syria—with a click of a

mouse. There is a similar shift in economic diplomacy, whereUn-

cle Sam has perfected new weapons that exploit its power over

theworld’s financial plumbing and over the brainiest parts of the

tech industry. In April these weapons were used in anger on big,

important firms for the first time. The targets were Rusal, a Rus-

sianmetals firm, and

ZTE

, a Chinese electronics company. The re-

sults have been devastating—and alarming.

In 1919 WoodrowWilson called international sanctions a “si-

lent, deadly remedy” and over the next 70 years America de-

ployed themabout 70 times, reckonsGaryHufbauer of the Peter-

son Institute. America achieved its geopolitical objectives only a

third of the time, he says. But there was little doubt that it could

meet its narrower goal ofinflictingpain byhalting tradewith oth-

er countries and by freezing foreigners’ assets in America.

But by the1990s globalisation hadweakened America’s clout.

Foreign firms had more countries to trade with. Multinationals

saw fines from the authorities as a tolerable cost of doing busi-

ness. The nadirwas the Iraq oil-for-food programme in the 1990s,

administered by the

. Over 2,000 firms were suspected of

making illegal payments to SaddamHussein’s regime.

Everything changed after September 11th 2001. American offi-

cials realised they could use data and financial flows as a weap-

on, according to Juan Zarate, a former official, in his memoir

“Treasury’s War”. The Patriot Act in 2001 allowed the Treasury to

label foreign banks as threats to financial integrity and to ban

them from the system for clearing dollar payments. In 2001-03

America won the right to peer into

SWIFT

, a formerly confiden-

tial global bankmessaging system. SuddenlyAmerica could track

its enemies. And it couldmake them radioactive tomost counter-

parties, because anybankthat touched them, even indirectly and

withmultiple degrees of separation, could be banned fromclear-

ing in dollars—which, if you run a cross-border bank, is fatal.

Between 2002 and 2008 the Treasury experimented with

small fry. It brought to heel Victor Bout, an arms dealer;

BDA

, a

bank inMacau that tradedwithNorth Korea; andNauru, a Pacific

islandwitha sideline inexoticfinance. Since 2008Westernbanks

have been fined for breaking rules in the past, but not banned

fromdollar clearing. More recently Iran and Syria have faced new

sanctions but they have few linkswith the global economy.

Last month, the stakes were raised. At the end of 2017 Rusal

was one of the world’s largest aluminiumproducers, with an en-

terprise value of $18bn, controlled byOlegDeripaska, an oligarch

close to Vladimir Putin. Kapow! In April it was sanctioned as part

of a package ofmeasures against Russia. Rusal’s links to America

are slight. It makes 14% of its sales there, does not typically use

American banks and is listed in Hong Kong andMoscow (a relat-

ed company,

+, is listed in London).

The consequences have still beendevastating. Many investors

must sell their securities. Rusalmaybe unable to refinance its dol-

lar debts. Global trading houses that buy its product have cur-

tailed activities, as hasMaersk, a shipping line. The LondonMetal

Exchange has limited trading with Rusal. Credit-ratings agencies

havewithdrawn ratings. European clearinghouseswill not settle

its securities. Its shares have dropped by 56% and its 2023 bonds

trade at 45 cents on the dollar. Mr Deripaska is scrambling to sell

down his indirect interest in Rusal to try and save it.

What about

ZTE

? At the end of last year it was the world’s

fourth-biggest telecoms-equipment firm, with an enterprise val-

ue of $17bn, boasting a Chinese state firm as its anchor share-

holder. It onlymakes around15%of its sales inAmerica. Bang! On

April 16th the Commerce Department banned American firms

from supplying it with components for seven years.

ZTE

had ad-

mitted trading with Iran and North Korea and then, in 2016 and

2017, it lied about the remedies it had put in place.

ZTE

’s shares

have been suspended. The fallout will be severe.

UBS

, a bank,

reckons that 80% of

ZTE

’s products rely on components from

America, mainly cutting-edge semiconductors. Western banks

and firmswill beworried about coming into contact with it.

Companies that breakthe lawor act in concertwith autocratic

governments donot deserve sympathy. But there are three, unset-

tling conclusions to draw fromAmerica’s first use of smart weap-

ons against big foreign firms. First, any large company can be

reached. No fewer than 2,000 big companies outside America is-

sue dollar bonds, for example. Total dollar debt owed by firms

outside America is over $5trn. Cross-border supply chains mean

most firms rely on American tech components in someway.

Second, these powers could be misused, either for overtly po-

litical ends or because they are badly calibrated. The aluminium

market is in turmoil—so much so that the Treasury, surprised by

its own potency, may do a

-turn over Rusal. After

ZTE

, investors

worry thatHuawei, aChinese rival, couldbe next. Its internation-

al sales are two-thirds as big asGeneral Electric’s. Or takeChinese

banks, which have built up huge dollar debts and deposits as

they globalised. Last year the Treasury considered sanctioning

CCB

and Agricultural Bank, according to Bloomberg. In total they

have $344bn of dollar liabilities; sanctions could start a run.

Killingme softly

The third conclusion is that other countries will develop ways to

escape America’s reach.

ZTE

and Rusal offer a step-by-step guide

to what you need to survive without American permission:

semiconductors, a global currency and clearing system, credit-

ratings agencies, commodity exchanges, a pool of domestic in-

vestors and shipping firms. These are all things that China is

working on. America’s use of its new weapons simultaneously

demonstrates its power andwill hasten its relative decline.

Attack of the drones

Zap! American officials cannowdestroy foreignfirms like gremlins in a computer game

Schumpeter

64 Business

The Economist

May 5th 2018

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