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The Effects of COVID-19 on Sanctions and Export Controls

export controls

The Effects of COVID-19 on Sanctions and Export Controls

The global outbreak of the novel COVID-19 virus and resulting pandemic have disrupted nearly all fields of commerce throughout the world. While the situation continues to develop and has had broader implications, the effect both on U.S. and EU sanctions and export control policies is notable. We summarize below some of the changes to U.S. sanctions and export controls that have occurred in recent weeks in response to the pandemic. We also present the European response to this crisis with respect to export control regulations. Because the situation is dynamic, compliance professionals should continue to monitor further developments closely.

The U.S. Response to COVID-19

Favorable Licensing for COVID-19 Related Goods and Services for the Time Being

For the time being, many items related to the coronavirus response are subject to general authorization and otherwise favorable review standards. Already the U.S. government has issued general licenses to facilitate the provision of humanitarian goods to Iran, where the virus has had a devastating impact. Specifically, on February 27, 2020, the U.S. Department of the Treasury, Office of Foreign Assets Control (“OFAC”) – the U.S. agency responsible for administering and enforcing most U.S. sanctions – issued General License 8. That general license authorizes payments and related transactions involving the Central Bank of Iran for exports of food, medicine, and medical devices. The general license builds upon several existing authorizations, which are summarized in a new Frequently Asked Question issued on March 6, 2020, and broadly permits certain donations and other humanitarian aid to Iran, so long as the recipients are not the Government of Iran, Specially Designated Nationals, or otherwise prohibited parties.

To date, there have been no similar general licenses issued by the U.S. Department of Commerce, Bureau of Industry and Security (“BIS”), which is the U.S. agency responsible for dual-use export controls on goods and technology. For the time being, we anticipate that license requests for COVID-19 related items that would require authorization from BIS will generally be reviewed favorably by the agency, consistent with the policy underlying OFAC’s General License 8. In particular, on February 7, 2020, BIS issued guidance specifying that the COVID-19 virus is classified as EAR99, meaning that samples of the virus subject to the EAR (by, for example, being present in the United States) generally may be exported, re-exported, or transferred to most countries without a destination-based license. This is notable because the related virus from the SARS outbreak in 2003 is classified under ECCN 1C351.a.46, which is subject to more stringent licensing requirements. The current classification of the COVID-19 virus as EAR99 could, therefore, more easily facilitate international research on treatments and vaccines for the virus.

However, as the crisis continues to unfold, if certain essential resources become globally scarce – such as respirators and certain medicines – it is possible that BIS could control such items under its existing powers applicable to goods in “short supply,” which are described in Part 754 of the Export Administration Regulations. In the immediate aftermath of the outbreak, a number of countries around the world instituted unilateral trade controls on medical equipment and other supplies needed to respond to the pandemic.  Indeed, according to one report, as of March 21, 2020, at least 54 governments had instituted such controls. In addition, following restrictions by some individual member states, the EU instituted a license requirement for the export of personal protective equipment. Other counties – including Russia, Turkey, and India – have imposed similar restrictions or outright bans on export. The White House is also reportedly drafting a “Buy American” executive order intended to bring pharmaceutical and medical supply manufacturing back to the United States, but has been met with opposition within the administration.  In addition, on April 3, 2020, the White House used the Defense Production Act to block U.S.-based 3M from exporting surgical face masks abroad, signaling perhaps a more aggressive approach towards controls on items used to contain the outbreak.

Timing Delays

With the metropolitan Washington, D.C. area and other major cities throughout the United States subject to shelter-in-place orders, all but essential government employees have moved their work from their normal physical locations to home.  Inefficiencies, distractions, and family needs could delay and expand the review timelines of license applications and other requests for authorization. If a large number of the personnel responsible for license reviews or their immediate family members become ill, delays could be extended even further.

In addition, even for exports or re-exports that are authorized, finding available shippers and freight forwarders may prove challenging, with many non-essential shipments being delayed to free up supply-chain resources necessary to effectively respond to the pandemic. Shippers, such as FedEx, have reduced their capacity in response to the slowing economy, and have suspended their service guarantees in anticipation of delays.

Further, ongoing regulatory objectives may be put on pause or delayed. In particular, the Export Control Reform Act of 2018 directed BIS (in conjunction with the Departments of Defense, Energy, State, and other agencies as appropriate) to define the terms “emerging technologies” and “foundational technologies,” and to impose controls on such technologies that are “essential to the national security of the United States.” In late 2018, BIS issued an Advance Notice of Proposed Rulemaking to solicit comments on the criteria that should be considered in defining “emerging technology,” and recently – in January 2020 – issued an interim rule with the first restrictions applicable to artificial intelligence software. A proposed definition for “emerging technology” had been expected by the end of 2019, but it is likely that the COVID-19 crisis will result in further delay of additional rulemaking on this issue.

Enforcement Remains Steady

Nevertheless, enforcement activity – at least throughout the early part of the crisis – has continued. For example, during the week of March 16, 2020 alone, OFAC took three separate enforcement actions to designate nearly twenty parties involved in exporting Iranian petroleum products. Similarly, on March 26, 2020, U.S. Department of Justice announced that a federal grand jury had indicted Venezuelan President Nicolás Maduro on drug trafficking and money-laundering charges, even as courts across the country began to close and suspend proceedings in response to the crisis.  The devastating effect that the virus has had thus far in Iran in particular has drawn international pressure for the U.S. to lift sanctions targeting that country and others, with one of the most prominent calls coming on March 31, 2020, from the UN Special Rapporteur on the Right to Food. However, Treasury Secretary Steven Mnuchin vowed, “The Trump administration will continue to target and isolate those who support the Iranian regime.”

It is therefore imperative that companies remain vigilant in their compliance efforts, even while juggling a myriad of unprecedented and difficult challenges. In particular, employees working from home should exercise care, especially when utilizing technical data subject to export controls, to avoid inadvertent “deemed” exports to unauthorized persons. Compliance officers should also stress that companies’ compliance procedures – such as screening and third-party due diligence – remain in effect throughout the crisis.

The EU’s Response to COVID-19

In response to the crisis, EU Member States have aimed to protect the supply of goods and technologies within the medical and healthcare sector at the country level, while at the same time regulating EU exports to third countries at the European level.

The EU’s Limitations on Export Restrictions Between Its Member States

According to Article 168 of the Treaty on the Functioning of the EU (“TFEU”), public health falls within the jurisdiction of Member States themselves. Member States are therefore, in principle, free to organize and supply their healthcare systems as they see fit.

However, EU action can, by its own terms, “supplement” and “support” these national policies. As such, Article 4 of the TFEU and Article 168 of the TFEU provide for shared jurisdiction between the EU and Member States on common security and public health issues. This shared jurisdiction includes such issues as disease prevention, combating major health scourges, and combating serious cross-border threats to health. Nevertheless, it should be noted that the EU’s ability to legislate and adopt legally binding texts on these matters is limited to those that do not require legislative or regulatory harmonization of Member States’ national laws.

For their part, Member States have the obligation to respect the fundamental principle of the free movement of goods within the single EU market, as provided for in Articles 26 and 28 to 37 of the TFEU, and barriers to the trade of goods may only be re-established in certain circumstances, such as the protection of public health.

In this vein, since the beginning of the health crisis in Europe, several countries, including France and Germany, have taken national measures introducing requisitions of personal protective equipment (“PPE”) – which includes equipment such as masks, protective goggles and visors, face shields, oral-nasal protective equipment and protective clothing – and restrictions on the export of this PPE. For example, France seized all stocks of anti-projection and FFP2 type surgical masks from national producers and distributors, and then extended this requisition to other types of surgical masks. These national requisitions have de facto restricted all exports of masks outside French and German territories.

To respond to this seeming retreat within national boundaries, and in order to ensure the free movement of goods between Member States, the EU has reacted twofold: to provide a coordinated response to the health crisis and ensure unhindered access to medical supplies within the EU.

First, on March 13, 2020, the European Commission reminded the French and German governments, without naming them directly, that “[i]t is essential to act together to secure production, stocking, availability and rational use of medical protective equipment and medicines in the EU, openly and transparently, rather than taking unilateral measures that restrict the free movement of essential healthcare goods.”  In so doing, Brussels therefore called upon the crucial importance of solidarity between Member States during the current health crisis.

Second, the Commission issued new guidelines on border management measures to protect public health and ensure the availability of essential goods and services. The text emphasizes that “[t]he coronavirus crisis has highlighted the challenge of protecting the health of the population whilst avoiding disruptions to the free movement of persons, and the delivery of goods and essential services across Europe.” The EU, through these guidelines, thus reminded its Member States that safeguarding the functioning of the single market is essential to address shortages that would exacerbate the social and economic difficulties Member States are already experiencing.

In response to the Commission’s call, France and Germany decided to withdraw their restrictive measures on transfers of PPE to ensure that “the [PPE] equipment held goes where it is needed, to patients, doctors, hospitals, health care staff, etc.” By way of example, at the end of March, France and Germany each sent more than a million masks and 200,000 protective suits to Italy.

Export restrictions between EU Member States and third countries

The Commission has adopted Regulations (EU) 2020/402 and (EU) 2020/426, requiring PPE exports from the EU to non-EU states to be subject to prior authorization by the competent authorities of the Member States.

This measure is applicable for a period of six weeks starting on March 15, 2020. However, exports to Norway, Iceland, Liechtenstein, and Switzerland, as well as to the Overseas Countries and Territories (i.e., those countries identified in Annex II of the TFEU which are described in Article 198 of the TFEU as “non-European countries and territories which have special relations with Denmark, France, the Netherlands and the United Kingdom”), the Faroe Islands, Andorra, San Marino and Vatican City, will not be subject to these restrictions.

In France, it is the Service des Biens à Double Usage (i.e., the French Dual-Use Goods Agency, the “SBDU,” attached to the Ministry of the Economy), that has been designated by the Commission as the authority for issuing export authorizations for the medical protection goods listed in the Schedule to Regulation 2020/402 of March 13, 2020. The SBDU is authorized to receive applications, organize the administrative process, and make licensing decisions according to the criteria set out in the aforementioned Regulation.

Conclusion

The COVID-19 outbreak presents new and unprecedented challenges. Its effect on the U.S., EU and international approach to sanctions and export controls may be felt for months or even years to come. While the crisis is still in its early stages, compliance professionals should monitor developments daily, ensuring their respective companies are continuing to maintain appropriate risk-based compliance efforts.

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By Ryan Fayhee, Roy (Ruoweng) Liu, Alan G. Kashdan, Olivier Dorgans, Tyler Grove and Camille Mayet at Hughes Hubbard & Reed LLP

humanitarian

ECONOMIC SANCTIONS EXEMPT HUMANITARIAN TRADE

Ailing Relations

Iran has been among the worst affected countries from COVID-19, having emerged as an early hotspot outside China. As of April 7, there were an estimated 62,589 confirmed cases with over 3,800 deaths. Iran’s cases appear to have peaked in late March, but exact numbers are unknown due to the secretive nature of its totalitarian regime. Other countries throughout the Middle East began reporting cases in late February and continue to battle spread of COVID-19 due to travel linked to Iran.

U.S. offers of assistance were rejected by Iran’s Supreme Leader Ayatollah Ali Khamenei, who said publicly on March 22, “You might give us a medicine that would spread the disease even more or make it last longer.”

According to the U.S. State Department, the United States has offered more than $100 million in medical assistance to foreign countries, including to the Iranian people, and reports that Iranian health companies have been able to import testing kits without obstacle from U.S. sanctions since January. The U.S. government has urged Iranian leaders to be more truthful about its efforts to contain the virus.

Iran assistance

Humanitarian Trade Exemptions

U.S. economic sanctions against Iran include a general exemption for U.S. exports of agricultural commodities, food, medicines and medical devices to Iran and an authorization process to obtain licenses for a specific list of medical supplies and equipment not covered under the general exemption. Such licenses are usually given for one year.

The U.S. government recently reinforced its messaging that sanctions are directed at the Iranian regime, stating: “[Sanctions] are not directed at the people of Iran, who themselves are victims of the regime’s oppression, corruption, and economic mismanagement.”

A 2019 Congressional Research Service report suggests U.S. sanctions have limited access by the Iranian population to “expensive Western-made medicines such as chemotherapy drugs,” due to a lack of bank financing for such transactions and that the limited supplies that exist have gone to elites.

Role of Financing

Between 2018 and 2019, overall U.S. trade with Iran went from small to very small under tightened sanctions. In 2018, U.S. exports to Iran were valued at $425.7 million. In 2019, U.S. exports had decreased 82 percent to $73.1 million.

Underlying that decrease in trade, even of humanitarian-related goods and services, reflects a tendency toward over-compliance by banks and multinational firms that avoid transactions with Iran to minimize possible violations of U.S. sanctions. Doing so, even inadvertently, could cut off their access to vital U.S. financial markets. The U.S. government has also explicitly cited concerns about the Iranian regime’s abuse of humanitarian trade to evade sanctions and launder money.

To close these loopholes, in October 2019 the Treasury Department announced a new payment mechanism “to facilitate legitimate humanitarian exports to Iran.” The measure restricts the role of the Central Bank of Iran in facilitating humanitarian trade, which the U.S. government views as financing terrorism. It also imposes rigorous reporting requirements to thwart diversion of funds intended for humanitarian use.

By late February 2020, as the COVID-19 medical crisis unfolded in Iran, the U.S. Treasury Department issued a general license authorizing certain humanitarian trade transactions involving the Central Bank of Iran while also approving the use of a Swiss financial channel to finance such transactions.

The Swiss Humanitarian Trade Arrangement (SHTA) enables Swiss-based exporters and trading companies in the food, pharmaceutical and medical sectors to access a secure payment channel with a Swiss bank to guarantee payments for their exports to Iran. Novartis was the first Swiss company to send medicine for use in cancer treatments. Germany, France and Britain have also used this new channel to offer a $5.5 million package to Iran to help fight the coronavirus.

exemptions in sanctions

Trade in Food and Medicine

Much has been written recently about governments restricting exports and otherwise increasing the cost of traded medical supplies during the pandemic.

For two decades now, the Trade Sanctions Reform and Export Enhancement Act of 2000 (TSRA) has ensured that each U.S. country-based sanctions program provides for trade of agriculture, medicine and medical devices under a broad humanitarian exemption. This is intended to limit potential adverse effects on civilian populations who are not the target of sanctions.

The United Nations Security Council maintains 14 active sanctions programs that also include humanitarian exemptions driven by the belief that a supportive and healthy citizen population is necessary to achieve improvements in a sanctioned regime.

Recently, the United Nations Security Council approved a humanitarian exemption to sanctions against North Korea (DPRK) requested by the World Health Organization for diagnostic and medical equipment to address COVID-19. The United States supported this decision.

Exemptions Thwarted by Totalitarian Regimes

The health impacts of embargoes are difficult to isolate and quantify. They may not become apparent until years after resource shortages occur. Domestic production challenges can also play a role. For example, Iran produces 97 percent of its medicines locally, but a third of these drugs rely on active ingredients that are imported, according to the head of Iran’s Food and Drug Organization.

Although humanitarian trade exemptions are intended to mitigate shortages of essential supplies, totalitarian regimes are known for putting their goals before the needs of their citizens. The negative impacts of sanctions are often compounded by inequitable distribution or outright theft of essential goods and ongoing civil conflicts.

In any case, it’s difficult to know the net effect of sanctions and humanitarian trade exemptions because data on key indicators of health effects are often missing or unavailable from embargoed regimes. However, it is clear that enabling trade in essential goods like food and medical supplies has served a role in health diplomacy for decades.

During her career in international trade and government affairs, the author worked with pharmaceutical and medical device manufacturers to navigate U.S. sanctions policies and requirements.

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Sarah Smiley is a strategic communications and policy expert with over 20 years in international trade and government affairs, working in the U.S. Government, private sector and international organizations.

This article originally appeared on TradeVistas.org. Republished with permission.

cosco

U.S. Lifts Sanctions on Cosco Vessel that Moved Iranian Oil

The U.S. Treasury Department and Office of Foreign Assets Control (OFAC) of removed sanctions on shipping tanker COSCO Dalian on Jan. 31.

On Sept. 25, 2019, OFAC designated COSCO Dalian and a second vessel from China’s largest shipping company on the Specially Designated Nationals and Blocked Persons List for transporting Iranian crude oil to China.

That had an enormous and immediate impact on the oil and shipping industries since a handful of COSCO subsidiaries and dozens of vessels were also considered sanctioned by OFAC and effectively removed from the petroleum shipping market.

“OFAC hasn’t announced the policy rationale yet, but [it] likely resulted from receiving credible assurances that the Chinese company would no longer ship Iranian oil,” observes Beau Barnes, an attorney at the global firm Kobre & Kim. “The speed of the removal is lightning fast by OFAC’s standards, and likely stems from the company’s critical role in the global supply chain.”

Some have opined that ongoing U.S.-China trade talks played a role in the OFAC delisting.

“COSCO’s original designation had caused increased global tanker freight rates to increase, leading OFAC to issue two waivers to temporarily allow transactions with the company,” notes Barnes, who represents clients in white-collar criminal defense matters, investigations, regulatory actions and commercial litigation, with a particular focuses on matters related to national security, economic sanctions, export controls, economic espionage and cybersecurity.

export control

New DOJ Sanctions and Export Control Enforcement Policy Incentivizes Self-Disclosure

On December 13, the U.S. Department of Justice (“DOJ”) released a revised policy that expands and clarifies certain incentives for voluntary self-disclosure of potential criminal sanctions and export control violations.

The new policy (the “VSD Policy”), which is effective immediately, has important ramifications for companies and their interactions with DOJ regarding potentially willful violations of US sanctions and export control laws.

Notably, the DOJ’s policy now extends to financial institutions and establishes disclosure benefits in mergers and acquisitions for acquiring companies who discover misconduct through “thorough and timely due diligence.” The policy also establishes a presumption of a non-prosecution agreement for companies that meet certain criteria in the absence of aggravating circumstances, as well as substantial mitigation credit where a penalty is warranted.

Components of the VSD Policy

Most notably, the VSD Policy specifies that, subject to certain conditions and absent aggravating factors, there will be a presumption that a company will receive a non-prosecution agreement and will not pay a fine for self-disclosed sanctions and export control violations. In order to be subject to such a presumption, the company must (1) voluntarily self-disclose violations, (2) fully cooperate with DOJ and (3) timely and appropriately remediate any violations.1

The VSD Policy also sets out specific definitions for these criteria. For instance, in order to “voluntarily self-disclose” pursuant to the VSD policy, a disclosure must be:

-Prior to an imminent threat of disclosure or government investigation;

-Within a reasonably prompt time after a company becomes aware of the offense; and

-Include all relevant facts known to the company at the time of disclosure, including with respect to individuals substantially involved or responsible for the disclosed violations.2

Importantly, voluntary self-disclosures must be made to DOJ in order for the VSD Policy to apply. In other words, companies that make self-disclosures to regulatory agencies but not to DOJ will not be able to receive the benefits of the VSD Policy. Equally of note is that any company receiving the benefits of the VSD Policy, including one that receives a non-prosecution agreement, will not be permitted to retain any gains from the unlawful conduct and will be required to pay all disgorgement, forfeiture, and/or restitution stemming from the disclosed violations.

The VSD Policy sets forth a number of specific requirements that companies must meet in order to “fully cooperate.” In order to “fully cooperate” under the VSD Policy, a company must:

-Disclose all facts relevant to the wrongdoing on a timely basis. This includes, inter alia, relevant facts from an internal investigation and updates to those facts (as well as updates on an internal investigation), attributed to specific sources. Such facts must include those related to involvement in criminal activity by officers, employees, or agents and facts about potential criminal conduct by third parties.

-Proactively, rather than reactively, cooperate. This proactive cooperation must include the timely disclosure of relevant facts, even if the company is not asked to do so.

-Preserve, collect, and disclose relevant documents and information in a timely manner. These actions include the disclosure of overseas documents (as well as where they are located and who found them), the facilitation of third-party production of documents, and document translations where appropriate.

-De-conflict witness interviews in order to align a company’s internal investigation with an investigation by DOJ when requested and appropriate (although, the VSD Policy notes, DOJ will not affirmatively direct a company’s internal investigation); and

-Make company officers and employees possessing relevant information available for interviews by DOJ when requested, including former employees and those located overseas, and facilitate interviews of third-party witnesses when possible.3

Finally, in order to “timely and appropriately remediate” pursuant to the VSD Policy, there are several actions that a company must undertake:

-A “root cause” analysis that analyzes underlying conduct and remediates those root causes where appropriate;

-The implementation of a compliance program, which would be updated periodically. The VSD Policy acknowledges that such a program will vary depending on the organization’s size and resources, but notes that it may include information on:

-A company’s culture of compliance, including that criminal conduct will not be tolerated by the company;

-Company resources dedicated to compliance, as well as the compensation and promotion of compliance personnel and their quality and experience;

-The independence of a company’s compliance function, the auditing of the compliance program, the access of the board of directors to compliance expertise, and the reporting structure of compliance personnel; and

-Details about a company’s risk assessment, its effectiveness, and how a compliance program has been tailored based on that risk assessment;

-Discipline of employees, including those responsible for misconduct and those with oversight and supervisory authority;

-Retention of business records and the prohibition on the improper destruction of such records, including guidance and controls on personal communications; and

-Any additional steps necessary to demonstrate recognition of misconduct, the acceptance of responsibility, and measures to reduce the risk of future misconduct.4

Aggravating Factors

As noted, the presumption of a non-prosecution agreement and the absence of a fine will only be available under the VSD Policy in cases of voluntary self-disclosures where there are no aggravating factors. The VSD Policy includes a non-exhaustive list of such aggravating factors, and specifies that if such factors are substantially present, a “more stringent” resolution may result:

-Exports of items controlled for nuclear nonproliferation or missile technology reasons to a proliferator country;

-Exports of items known to be used in the construction of weapons of mass destruction;

-Exports to a Foreign Terrorist Organization or Specially Designated Global Terrorist;

-Exports of military items to a hostile foreign power;

-Repeated violations, including similar administrative or criminal violations in the past; and

-Knowing involvement of upper management in the criminal conduct.5

Even if such aggravating factors are present, the VSD Policy provides incentives for companies to voluntarily self-disclose violations, cooperate with DOJ, and timely and appropriately remediate, consistent with the definitions in the VSD Policy. In such instances, DOJ will recommend a fine that is capped at 50 percent of the amount otherwise available. In addition, if the company has implemented an effective compliance program, DOJ will not require the appointment of a monitor for the company.

Takeaways for Companies

DOJ’s new VSD Policy is a clear effort by the agency to encourage and reward timely voluntary self-disclosure by companies that identify potential willful violations of export control and sanctions laws. The VSD Policy brings DOJ’s practices closer in line with those of the Office of Foreign Assets Control and the Bureau of Industry and Security, both of which also incentivize self-disclosure by limiting penalties. DOJ’s incentives aim to encourage the private sector to implement effective compliance programs to prevent and detect violations in the first place and report them to DOJ in a timely manner if they occur. A clear goal of the VSD Policy is also to provide DOJ with the information and resources to prosecute individuals responsible for wrongdoing.

Notably, unlike previous guidance issued by DOJ, the VSD Policy does not include a carve-out for financial institutions. As a result, these entities will be able to take advantage of the VSD Policy going forward. Additionally, the VSD Policy provides incentives for self-disclosure in mergers and acquisitions. Specifically, the VSD Policy specifies that a successor entity that makes a timely voluntary self-disclosure (even as a result of post-acquisition due diligence) will be able to take advantage of the incentives set forth in the VSD Policy. Companies wishing to review or strengthen their compliance programs should consult sanctions and export control counsel in order to ensure that such programs are tailored to the criteria set forth by DOJ and reflective of the risk involved in the company’s activities.

Also worth noting is that while the VSD Policy aims to incentivize self-disclosure to the DOJ by providing certain defined benefits, those benefits are not without cost or risk. Companies with a potential sanctions or export control violation should consult experienced sanctions and export control counsel to provide guidance on the decision of whether to self-disclose, which involves a complicated balance of numerous factors.

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1 U.S. Department of Justice, Export Control and Sanctions Enforcement Policy for Business Organizations, 2, Dec. 13, 2019 (hereafter “VSD Policy”).

2 VSD Policy at 2.

3 VSD Policy at 3-4.

4 VSD Policy at 5-6.

5 VSD Policy at 6.

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Greg Deis is a partner in Mayer Brown’s Chicago office and co-chair of the firm’s White Collar Defense & Compliance practice.

Ori Lev is a partner in Mayer Brown’s Washington DC office and a member of the Financial Services Regulatory & Enforcement practice and the Consumer Financial Services group.

Tamer Soliman is a partner in Mayer Brown’s Washington DC and Dubai offices, global head of the firm’s Export Control & Sanctions practice and a member of the International Trade practice.

Margaret-Rose Sales is counsel in Mayer Brown’s Washington DC office and a member of the International Trade practice.

Mickey Leibner is an associate in the Public Policy, Regulatory & Political Law, International Trade and Cybersecurity & Data Privacy practices in Mayer Brown’s Washington DC office.

Syria

Civil War in Syria: How Conflict Erodes Trade

Syria has a turbulent history. Numerous nations, factions and leaders have wrestled for control of the country at turns over the last 100 years. The present conflict, a civil war raging for eight years now, has drastically affected Syria’s trade by destroying infrastructure, displacing its productive workforce, and weakening business confidence in the region. The World Bank estimates the current conflict has produced a cumulative loss in Syria’s GDP at $226 billion as of 2017, an amount equal to four times Syria’s GDP in 2010.

Syrian Trade Throughout History

The region now called Syria was home to one of the most ancient civilizations on earth. Evidence of early trade relations dates as far back as 10,000 BC. Many of the greatest human achievements had their origins in the area known as the Cradle of Civilization. Its location on the Silk Road enriched Syria with wealth and strategic importance during the Roman Empire.

Throughout the 20th century, Syria experienced French control, uprisings, nationalization, regional wars, and conflict among rival factions. The economic outlook for Syria seemed to be improving in the 1990s and early 2000s. The World Bank considered it a fast-growing, lower-middle-income country. Syria’s main exports were crude and refined oil and information and communications technologies. Syria also enjoyed a healthy travel and tourism industry.

Impacts of the Civil War

The civil war has either eliminated or drastically reduced all of Syria’s main trading industries, exacerbating the suffering for Syrian civilians. In 2010, exports totaled around $19 billion. By 2016, they had fallen to $555 million. Syria’s ranking as a global exporter fell from 88th in 2011 to 141st in 2015.

Syria trade profile post civil war

Sanctions, Destruction and Displacement

A consequence of the conflict, Syria is subject to numerous sanctions by the United States, Canada, European Union, Arab League and Turkey. These include embargoes on investment, blocks on trade in key industries such as oil, financial services and precious metals, and the freezing of assets. The aim of such sanctions is to pressure Syrian leaders to end the conflict, but average Syrians also suffer the economic fallout.

As in any war, destruction is rampant. Mortar fire and airstrikes have damaged and demolished key infrastructure for trade. Bridges, grain silos, roads and other economically significant assets are strategic targets for both sides. Access to fuel and electricity is limited, denying Syrian businesses the productive factors necessary to produce goods to trade as well as the means to transport them. Schools, food sources and medical buildings have also been targeted. As of 2017, seven percent of housing stock has been destroyed, and 20 percent damaged. Trade necessarily takes a back seat when citizens struggle to have their basic physical needs met.

Given the dire circumstances, over half the country’s pre-war population has been displaced either internally or externally. According to recent estimates, over five million refugees have fled Syria. It’s a human tragedy with immediate and long-term implications. As the workforce collapses, goods are no longer able to be produced, and trade grinds to a halt.

Syria trade exports drop 92%

Distrust, Uncertainty and Disassociation

Businesses are wary to engage in nations experiencing conflict. The Syrian Civil War is complex and associated with a corrupt regime causing suffering for its citizens. International sanctions create a legally uncertain environment. Even if it is possible to engage in trade with Syrian firms, there is no guarantee that in a month or a year it will still be possible — new sanctions may be imposed or the factory producing the goods could be targeted. These risks substantially raise the cost of engaging in trade with Syria.

Adding to Syria’s economic woes is the curtailment of economic development assistance. The World Bank Group ceased all Bank operational activity with Syria at the onset of the war. Previously it provided technical assistance and advisory services on private sector development, human development, social protection and environmental sustainability. Although not directly related to trade, much of this support helps local businesses and the economic health of communities.

Why Trade Matters for Syria

Any kind of conflict can have negative effects on trade, directly by destroying factors of production and dislocating people, and indirectly by causing uncertainty and breaks in connectivity with global supply chains. Reduced trade invariably damages the economy, causing individual suffering which can foment more unrest. Nations become trapped in a vicious cycle.

This seems undoubtedly to be the case in Syria, where the destruction of trade has meant economic suffering that aggravates the humanitarian crisis. The longer conflict persists, the deeper the separation from global society, and the harder it will be to rebuild the economic mechanisms and institutions necessary to increase trade and encourage economic growth.

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Alice Calder

Alice Calder is a graduate research assistant at George Mason University, currently pursuing her MA in Applied Economics. Originally from the UK, where she received her BA in Philosophy and Political Economy from the University of Exeter, living and working internationally sparked her interest in trade issues as well as the intersection of economics and culture.

This article originally appeared on TradeVistas.org. Republished with permission.

sanctions

Getting Caught on the Backswing – Will US Sanctions Undermine the Dollar?

Since the Bretton Woods Agreement in 1944 there has been one currency that eclipses all others for international trade: the U.S. dollar. The dollar dominates when it comes to reserves and the settlement of trades, a hegemony that affords U.S. foreign policy incredible strength on the world stage. However, the U.S. reliance on the strength of the dollar to pursue far-reaching sanctions is also beginning to cut at the roots of that strength, as allies and global trading partners simultaneously pursue their own economic agenda and react to perceived over-reach by U.S. policymaker. 

A View from the Top

In 2019, the dollar comprised over 60% of global debt, more than 60% of global reserves for foreign exchange, and was the medium used in 40% of international payments, according to the European Central Bank (ECB). Despite the economic output of the Eurozone roughly matching that of the U.S., the euro accounted for only 20% of foreign exchange reserves and just over 20% of international debt (1).

This allows U.S. foreign policy a potency lacking in other international currencies. The Trump administration has relied heavily on this dynamic, imposing coercive economic measures on a wide spectrum of targets from Venezuela to North Korea and exponentially increasing the number of sanctioned entities. In fact, the U.S. sanctioned around 1,500 Specially Designated Nationals and Blocked Persons (SDNs) in 2018 alone, almost 50 % greater than in any other single year. 

Growing trends have become noticeable in the financial streams flowing between borders; a rise in the use of the euro, RMB and ruble as forex currencies, development of routes around the conventional financial sector, and flurry of interest surrounding the nascent potential of cryptocurrencies. The major drivers of these changes are unrelated to sanction policy and are more tied to the politicization of U.S. monetary policy or the inherent economic interests of other nations and trading blocs, including turning their own currencies into global standards. Regardless of the drivers, these developments suggest an international system ill-at-ease with the power of the dollar.

Secondary Nature, Primary Threat

The unrivaled strength of the U.S. dollar affords U.S. policymakers a weapon unavailable to any other nation. This is built on by the ‘secondary’ nature of U.S. sanctions – extending the impact of sanctions to non-U.S. entities who do business with sanctioned entities or individuals – that leaves few avenues to evade the regime. 

As virtually all dollar-denominated transactions pass through the U.S. financial system, even if just momentarily when they are “cleared,” very few businesses are able to trade with the targets of primary sanctions without themselves falling under the secondary regime. Violators are potentially liable for sizeable fines or other punishments, including being locked out of the U.S. financial system themselves. 

While this is a useful tool for closing down avenues of terrorism, crime or other illicit activity, it also means countries that disagree with the targets of U.S. sanctions must either comply or place their own industry at risk. The EU-U.S. divergence on the Iranian Nuclear deal, or on U.S. sanctions towards Cuba, are good example of this. 

This increasing sanctions activity provides the seedlings that may undermine the dollar’s strength, as it prompts allies that disagree with sanctions regimes to develop alternatives to the dollar – such as the Euro, Chinese RMB or Russian ruble. Special Purpose Vehicles, such as the EU-Russian INSTEX, are created – albeit with difficulty – to provide routes around the conventional financial system. 

Alternatives

Against this politicization of the dollar, various countries are developing alternatives. The euro is staking its claim with the development of the INSTEX vehicle and a declaration by Jean Claude Juncker, then-president of the European Commission, “to do more to allow our single currency to play its full role on the international sector” (2).

Similar gauntlets are being thrown by the ruble – Russia has been developing its own payments system since the Crimean sanctions in 2014 – and the RMB, with the Chinese Cross-Border Interbank Payment System (CIPS) launched in 2015. Given the size of the Chinese market and its growing world position, the RMB could theoretically pose a challenge to the dollar. However, the politicization of the RMB’s value – witnessed most recently in its rapid devaluation targeted at injuring the U.S. as part of the trade war – undermines its use as a global currency in the near to medium term. 

Another potential pitfall for the dollar is the development of new financial technologies, including the much-discussed Blockchain and cryptocurrencies. Such systems allow for the circumvention of the U.S. financial system and enable payments in relation to sanctioned activities, and have already have been used to facilitate illicit payments in North Korea and Iran. 

Mobile payments are also on the rise, further reducing global exposure to the dollar. However, as with other examples above, the use of some of these alternatives are being driven in significant part by illicit activity, which may lay the seeds of its own demise or limited adoption. 

The dollar’s strength on the international stage is undeniable, affording U.S. foreign policy unparalleled reach and potency. However, increasing international attention is being given to the Trump Administration’s fondness for relying on coercive economic measures in foreign policy, including the imposition of sanctions, tariffs, export controls, and investment restrictions. 

Each time a trading partner or ally objects to the U.S. policy goals but is forced to accept a new sanctions regime because of the dollar’s dominance, that dominance is eroded. While the dollar remains by far the best safe-haven for investments, backed as it is by a resilient economy and a history of stability, the potential corrosive effect of sanctions cannot be ignored. The future use of sanctions should factor in this unintended consequence and overall sanctions policy designed to ensure the long-term dominance of the U.S. dollar. 

 

Matthew Oresman leads Pillsbury Winthrop Shaw Pittman’s International Public Policy practice, carrying out high-profile activities in many of the world’s capital cities. He principally advises governments, political leaders, businesses and NGOs on achieving their most important objectives. He regularly designs and implements legal and policy solutions, including managing integrated U.S. and Europe-based initiatives. He advises global businesses on entry into emerging markets and compliance with U.S. and international regulations.

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(1)https://www.ecb.europa.eu/press/key/date/2019/html/ecb.sp190215~15c89d887b.en.html

(2) See Juncker, J.C. (2018), “The Hour of European Sovereignty”, State of the Union Address 2018 – https://ec.europa.eu/commission/sites/beta-political/files/soteu2018-speech_en_0.pdf

U.S. Strengthens Sanctions Targeting the Government of Venezuela

On August 5, 2019, the Trump Administration intensified pressure on the administration of Nicolás Maduro by imposing broad economic sanctions against the Government of Venezuela, a move that could escalate existing tensions with Venezuela’s supporters, Russia and China.  In a late-night Executive Order, President Trump announced that all property, and interests in property, of the Government of Venezuela, including its agencies, instrumentalities, and any entity owned or controlled by the foregoing, that are within the jurisdiction of the United States would be blocked.

The Order further suspended entry into the United States of sanctioned persons absent a determination from the Secretary of State. The Order also authorizes the Secretary of the Treasury to impose additional secondary sanctions on non-U.S. persons who materially support or provide goods or services to the Government of Venezuela.

Background

In January 2019, after months of economic turmoil and political unrest under Venezuelan President Nicolás Maduro, the United States formally recognized Juan Guaidó, the leader of the Venezuelan National Assembly, as the country’s legitimate head of state.  More than fifty nations followed suit, asserting that President Maduro’s 2017 reelection was illegitimate and that Guaidó was the rightful interim president under the Venezuelan constitution.

The Trump Administration followed its recognition of Mr. Guaidó as interim president with sweeping sanctions on the Venezuelan government. The measures included designating Venezuela’s state-run oil company, Petróleos de Venezuela, S.A. (“PdVSA”), as a Specially Designated National (“SDN”), thereby prohibiting U.S. persons from engaging in transactions with PdVSA, as well as transactions by non-U.S. persons conducted in U.S. dollars, unless otherwise authorized by the U.S. Department of Treasury, Office of Foreign Assets Control (“OFAC”).  (We previously summarized the PdVSA SDN designation here.)

Despite the increasing U.S. pressure, President Maduro has refused to cede power.  He retains the support of the Venezuelan military, and Russia, China, Iran, Cuba, and Turkey have continued their economic and diplomatic relationships with the regime.

Sanctions Overview

Through this new Executive Order, the Trump Administration has ratcheted up its efforts against the Maduro regime, asserting that further measures are necessary to combat “human rights abuses,” “interference with freedom of expression,” and “ongoing attempts to undermine Interim President Juan Guaidó and the Venezuelan National Assembly’s exercise of legitimate authority in Venezuela.”

However, contrary to initial press reports, the action does not create a comprehensive embargo against Venezuela (on the model of the U.S. sanctions against Iran) that would prevent U.S. persons from engaging in almost all transactions. Instead, the new measures focus on the Venezuelan government by blocking all property and interests in property of the government that are currently in the United States, will be brought into the United States, or come into the possession or control of a U.S. person. There is, however, an exception for humanitarian goods, such as food, clothing, and medicine.  The Order applies regardless of contracts entered into, or licenses or permits granted, prior to the Order.

Further, the Order could have a broad impact outside of the United States by authorizing secondary sanctions against any party determined by OFAC to “have materially assisted, sponsored, or provided financial, material, or technological support for, or goods or services to or in support of” the Government of Venezuela.  U.S. National Security Advisor John Bolton warned the day after the Order, “We are sending a signal to third parties that want to do business with the Maduro regime: proceed with extreme caution.  There is no need to risk your business interests with the United States for the purposes of profiting from a corrupt and dying regime.”

In conjunction with the Order, OFAC also revised twelve existing general licenses (“GLs”) and issued thirteen new GLs.  Notably, GL 28 authorizes through 12:01 a.m. on September 4, 2019, transactions necessary to wind-down contracts with the Government of Venezuela.  GL 31 also authorizes transactions with the Venezuelan National Assembly and the shadow government of Interim President Juan Guaidó, underscoring that the target of the action is the administration of Nicolás Maduro.

The GLs and related guidance make clear that the people of Venezuela are not the target of the sanctions.  Specifically, OFAC released a document entitled “Guidance Related to the Provision of Humanitarian Assistance and Support to the Venezuelan People,” which emphasized that “humanitarian assistance and activities to promote democracy are not the target of U.S. sanctions and are generally excepted from sanctions . . . ”  OFAC simultaneously issued four new Frequently Asked Questions (FAQs).  FAQ 680 stresses that “U.S. persons are not prohibited from engaging in transactions involving the country or people of Venezuela, provided blocked persons or any conduct prohibited by any other Executive order imposing sanctions measures related to the situation in Venezuela, are not involved.”

OFAC also issued a number of GLs to authorize humanitarian transactions and transactions necessary for communications involving Venezuela, including new GLs 24 (telecommunications and common carriers), 25 (Internet communications), 26(medical services), and 29 (broadly authorizing certain non-governmental organizations).

Further, U.S. persons in Venezuela are not targeted by the sanctions.  Section 6(d) of the Order exempts from the definition of Government of Venezuela “any United States citizen, any permanent resident alien of the United States, any alien lawfully admitted to the United States, or any alien holding a valid United States visa.”  Further, GL 32authorizes U.S. persons resident in Venezuela to engage in ordinary and necessary personal “maintenance” transactions, including “payment of housing expenses, acquisition of goods or services for personal use, payment of taxes or fees, and purchase or receipt of permits, licenses, or public utility services.”

Such measures targeting an entire government have rarely been used by the United States, and there are many questions about how the restrictions and related authorizations will be interpreted and applied.  As Bolton observed, “This is the first time in 30 years that [the U.S. is] imposing an asset freeze against a government in this hemisphere.”

Effect of the Sanctions

There has been some confusion in the media over the breadth of the measures.  Some reports have mischaracterized the Order as a “total embargo;” however, the scope of the Order is limited to property, and interests in property, of the Venezuelan government, its agencies, instrumentalities, and entities owned or controlled by these.  Because many major Venezuelan government entities have already been designated as SDNs in earlier actions, including PdVSA and the Central Bank of Venezuela, the measures appear to be only an incremental expansion of the existing sanctions program.

More significantly, the Order creates a secondary sanctions regime for OFAC to designate non-U.S. parties who continue to do business with the Maduro government.  While these secondary sanctions are most likely to target Cuban, Russian, and Chinese entities that continue to provide aid to the ailing regime, all non-U.S. persons engaging in transactions in the country should carefully assess whether those transactions could benefit the government.  In particular, companies trading with Venezuela should conduct due diligence sufficient to ensure that their counterparties are not owned fifty percent or more by the Government of Venezuela, or are not otherwise controlled by the government.

In addition, from a practical standpoint, although the sanctions only apply to Government of Venezuelan and related entities, the measures may cause financial institutions, insurers, freight forwarders and other companies – who often apply a heighted level of compliance going beyond the minimum required by OFAC – to avoid dealing with Venezuelan entities altogether.

The measures against Venezuela could also escalate existing tensions with Russia and China if the sanctions further restrict the countries’ access to Venezuelan oil.  Russia and China, which have continued to back the Maduro regime, currently import Venezuelan oil as part of a debt relief program.  China is slated to continue receiving oil from Venezuela until 2021, so it stands to suffer substantial losses if it is unable to continue the shipments.  This uncertainty comes in the midst of deteriorating relations between the United States and China due to the ongoing trade war, relations which suffered another blow this week when the Trump Administration labeled China a “currency manipulator.”

U.S. DOLLAR PROVIDES THE MUSCLE FOR ECONOMIC SANCTIONS

Money Talks

From drug kingpins to terrorists and from human traffickers to money launderers, the United States has nearly 8,000 economic sanctions in place, and the list is growing. Particularly in the post-9/11 era, the U.S. government has leveraged the global preeminence of the U.S. dollar to turn off spigots of funding for sinister activities and unwanted behaviors by state actors.

Among additional sanctions against Iran, Russia and Venezuela, The Trump administration earlier this month tightened travel restrictions to Cuba stating, “Cuba continues to play a destabilizing role in the Western Hemisphere…these actions will help to keep U.S. dollars out of the hands of Cuban military, intelligence, and security services.”

The muscle behind an array of U.S. financial sanctions derives from the reach and power of the U.S. dollar as the “lead currency” in the global economy. This status makes it possible to not only prevent U.S. individuals and companies from doing business directly with a sanctioned entity, it makes it risky to do business with third-country companies that do business with sanctioned entities. Acutely aware of their vulnerability, non-U.S. companies also frequently take steps to minimize their exposure to possible violations of U.S. sanctions lest they jeopardize their access to the U.S. financial system.

The U.S. Dollar Reigns

How strong is the dollar’s foothold in the global economy? The U.S. dollar was used in 88 percent of global foreign exchange transactions in 2016. For comparison, the euro was the medium of exchange in 31 percent of transactions in 2016, the Japanese yen in 22 percent, the British pound in 13 percent, and China’s renminbi in four percent (as two currencies may be involved in exchange, these numbers will add up to more than 100 percent).

Companies selling their goods and services outside the United States often accept dollars as payment because they can easily turn around and use dollars to pay for imported products and inputs. Or, they can hold onto their dollar revenues with confidence they are storing value.

Why is the Dollar Preferred?

The dollar is the world’s lead currency because it meets three key conditions.

First, the dollar is fully tradable and exchanged at relatively low costs. The U.S. government does not restrict the purchase or sale of the dollar.

Second, the dollar holds its value against other currencies. The United States is still considered a stable and open market economy, current tariff vagaries notwithstanding. At the end of last year, just under 62 percent of all central bank reserves were held in U.S. dollars.

Third, the United States is still the largest economy in the world, equivalent to 24 percent of global GDP. Below is a snapshot from the International Monetary Fund comparing the world’s largest economies. We have a large money supply, providing liquidity for the global economy.

Into the Arms of Another

Some have argued bad actors like North Korea will find always find ways to evade U.S. sanctions. Buyers of Iranian oil will seek alternative currencies for their transactions, both diluting the effect of sanctions and hastening reduced dependence on the dollar.

Several European countries developed a clearinghouse to enable companies to avoid the U.S. financial system in transactions involving Iran as part of their effort to salvage the nuclear pact the Trump administration pulled out of last year before restoring a slew of sanctions against Iran.

Despite initial discussions about a wider scope, Europe’s Instrument in Support of Trade Exchanges (INSTEX) will, at least for now, only facilitate trade in humanitarian goods such as pharmaceuticals, medical devices and agri-food products, all of which are already permissible under U.S. sanctions. Despite European government grumbling about being beholden to the U.S. dollar, there appeared to be little appetite on the part of European companies and commercial banks to risk U.S. penalties by using such a clearinghouse for other types of transactions.

Will the Euro or Renminbi Overtake the Dollar?

Not anytime soon.

The euro covers a large economic zone featuring sophisticated financial market institutions, but the politics surrounding continued support by members of the euro zone and unresolved debt discussions with southern states (we were talking about Grexit long before Brexit) are holding the euro back in overtaking the U.S. dollar.

Although the renminbi’s share in global transactions is still low, it should be noted that usage and overseas holdings of China’s currency by individuals, businesses and central banks has expanded in the last decade, enabling China to break through in 2016 to join the top five most-used currencies. The Chinese government is making a big push to internationalize its currency through global infrastructure investment funds associated with its Belt and Road initiative and through renminbi-denominated commodities futures contracts, among other initiatives.

China’s currency, however, is not freely convertible, its performance has been volatile, and the degree of state and private debt in China’s financial system remains murky.

The Dollar’s Achilles Heel

For the time being, most experts believe there’s no real threat to the U.S. dollar’s dominance. Europe would need to address skepticism regarding the monetary union’s future, China would need to implement significant reforms to its financial sector, and much-hyped cryptocurrencies still have long way to go to challenge the conventional system of global payments.

These are all big “ifs”. Instead, the dollar’s Achilles’ heel is of our own making. One of the biggest risks to the dollar’s long-term value is continued fiscal imbalances in the United States and the sustainability of our debt burden.

Andrea Durkin is the Editor-in-Chief of TradeVistas and Founder of Sparkplug, LLC. She is a nonresident Senior Fellow at the Chicago Council on Global Affairs and an adjunct fellow with CSIS. Ms. Durkin previously served as a U.S. Government trade negotiator and has proudly taught International Trade for the last fourteen years as an Adjunct Associate Professor at Georgetown University’s Master of Science in Foreign Service program.

This article originally appeared on TradeVistas.org. Republished with permission.

Update on Russia: Restrictions Expanded to New Actors, Industries

Since the beginning of August 2018, the United States has taken multiple actions that will affect U.S. trade with Russia.  The actions cover exports to Russia, doing business with Russian partners, and potential Russian investment in the United States.  These actions have added to the already challenging landscape of conducting business in and with Russia.

 

Economic Sanctions in Place Since 2014 Are Expanded Again

The United States has maintained targeted economic sanctions on Russia since 2014.  Most of these sanctions are administered by the U.S. Treasury Department, Office of Foreign Assets Control (OFAC).

These sanctions ensnare many prominent Russian individuals and entities.  They have also ensnared prominent U.S. companies: see our July 2017 blog post on penalties imposed against Exxon for Russia sanctions violations.  For an example of how sanctions have been periodically and consistently extended, see our September 2016 blog post.

There are also more recent examples.

First, in Executive Order 13,848, issued on September 12, 2018, President Trump established a process to investigate and impose sanctions against foreign parties and their agents that interfere in U.S. elections.  Under the Order, no later than 45 days after an election is concluded, if there is an indication of actions taken to interfere with the outcome of the election, an assessment must be conducted.

When the assessment is concluded, the outcome must be reported to the President, the Attorney General, and the Secretaries of Defense, Homeland Security, State, and Treasury.  Within 45 days of receiving that assessment, the Attorney General and Secretary of Homeland Security must report on whether there was foreign interference in the election.  Any party deemed to have been involved in that interference can be designated as a Specially Designated National (SDN).  As a general matter, U.S. persons cannot conduct any business with an SDN.

In addition, the Order authorizes the imposition of sanctions against the largest business entities licensed or domiciled in a country whose government authorized, directed, sponsored, or supported election interference, including at least one entity from each of the following sectors: financial services, defense, energy, technology, and transportation (or, if inapplicable to that country’s largest business entities, sectors of comparable strategic significance to that foreign government).

While the Executive Order does not say so specifically, it is safe to conclude that the Order is directed at least in substantial part toward Russia.

Second, sanctions were imposed pursuant to the Countering America’s Adversaries Through Sanctions Act (CAATSA).  (More information about CAATSA is available in our August 2017 blog post.)  Under CAATSA, among other things, the U.S. government designates parties that are affiliated with the Russian government’s defense or intelligence sectors, and can impose sanctions against persons that transact with those designated parties.

On September 20, 2018, the U.S. State Department designated 33 such parties and added them to the list of 39 parties designated previously.  Those 72 parties are listed on the CAATSA section 231 List of Specified Persons (the LSP).

There is no outright prohibition on conducting business with these 72 parties.  However, any person – regardless of nationality – that engages in a “significant transaction” with a party on the LSP is subject to sanctions, including designation by OFAC as an SDN.

What constitutes a “significant transaction” is not well-established in OFAC regulations or guidance.  But some insight was offered on September 20.  On that day, acting in concert with the State Department, OFAC designated one Chinese individual and one Chinese entity as SDNs for involvement in a significant transaction with parties on the LSP.

The designations, and additional trade restrictions imposed on these two Chinese parties by the State Department, were made because the Chinese parties were involved in a transfer to China from Russia of combat aircraft and surface-to-air missile system-related equipment. The State Department characterized this as a significant transaction which triggered designation under CAATSA, though State did not specify whether the size of the transaction, the nature of the equipment transferred to Russia, and/or other factors rendered this a significant transaction.

 

New Export Restrictions Announced Under Chemical and Biological Weapons Law

On August 6, the State Department announced its determination that the government of Russia used chemical weapons in England in an effort to assassinate Sergei Skripal, a former Russian spy, and his daughter.  The determination was made pursuant to the Chemical and Biological Weapons Control and Warfare Elimination Act of 1991 (the CBW Act).

On August 27, acting in accordance with the CBW Act, the State Department announced the following restrictions on Russia:

-Termination of sales to Russia of defense articles and defense services, including termination of existing licenses for exports of such articles and services, except for exports in support of government and commercial space activities; and

-The prohibition on exports to Russia of commercial products and technology (e., items controlled for export under the Export Administration Regulations) subject to national security controls, with exceptions for certain exports specifically authorized under new licenses and specific license exceptions.

The State Department also imposed limits on certain financial assistance and aid for Russia.

The restrictions, which will remain in place for at least one year, augment existing restrictions on exports to Russia of certain oil and gas exploration equipment and exports to military end-users and for military end-uses.

 

Russian Investment in United States Likely to Be Subject to Greater Scrutiny

In August 2018, President Trump signed the Foreign Investment Risk Review Modernization Act (FIRRMA) into law. FIRRMA expands the jurisdiction of the Committee on Foreign Investment in the United States (CFIUS) to review more types of transactions for potential national security concerns.

Much attention has understandably been paid to the impact that FIRRMA will have on investment from China. The impact on investment from Russia is likely to be significant, too.

For one, FIRRMA specifically contemplates scrutiny of investments originating in countries of “special concern.” In addition, the new law anticipates careful review of transactions that could create or expose U.S. cybersecurity vulnerabilities, including if the acquisition could facilitate election interference.

Russia is one of the countries that will be most impacted by these new provisions. Moreover, Russian investment in the United States will likely trigger CFIUS interest simply given how aggressively the Trump Administration has used national security as a basis for implementing trade restrictions. (In one particularly obscure example, OFAC recently emphasized how North Korea is using a large number of North Korean laborers in Russia to evade U.S. sanctions.)

 

Conclusion

We do not foresee the U.S. government easing trade restrictions on Russia anytime soon. To the contrary, we believe the U.S. government will continue to expand restrictions on Russia using mechanisms such as those described in this article.

It is therefore essential for companies to fully understand the scope of their Russia business. Screen transaction parties against the U.S. government restricted and prohibited parties lists, including – now – the LSP. Recognize that many U.S. exports to Russia are restricted based on the recipient or end-use of the product. Beware that Russian investment in the United States may face extra scrutiny.

Unfortunately, due diligence on Russian counterparts presents unique challenges. The ownership and organizational structures of such entities can be convoluted and obscure.  Accordingly, if a company has any reason to think a Russian business partner is affiliated in any way with a sanctioned entity, it is essential to enlist expert assistance to fully tease out ownership and control before proceeding.

Thad McBride is a partner in Bass, Berry & Sims PLC’s Washington, D.C. office in the firm’s International Trade Practice Group. They focus on counseling clients on compliance with economic sanctions and embargoes, US export regulations (ITAR and EAR), and the Foreign Corrupt Practices Act (FCPA). He may be reached at tmcbride@bassberry.com.

 

 

Moscow Targets McDonald’s Charity Operation

Los Angeles, CA – Ronald McDonald House Charities is the latest target of Moscow’s campaign of investigations into the Russian operations of global fast food giant McDonald’s.

Russian authorities are reportedly preparing to level tax evasion and money laundering charges against the charity, which operates a sports facility for physically and mentally disabled children in Moscow, and a residential facility near a children’s hospital in Kazan, 450 miles east of Moscow.

In an interview with the Washington Post, Russian Duma legislator Andrei Krutov said, “They use donations from ordinary Russians, so that is why we want to know how this money is spent. I am talking only about financial aspects of their activities, and technical questions about their work. We do not want you to think that we have political reasons for doing this.”

In August, Russia’s consumer protection agency ordered four of the company’s largest restaurants to suspend operations over a host of alleged hygiene violations and shortly afterwards added another five to the list.

Since then, 12 restaurant in Russia have been closed for alleged “sanitary reasons” while more than 200 unscheduled hygiene and safety “inspections” have been carried out.

Last week, nine more McDonald’s outlets – four in Moscow, two in Yekaterinburg, two in Volgograd and one in Sochi – were “temporarily” shut-down.

The latest move subjects more than half the McDonald’s franchises in Russia to government scrutiny.

McDonald’s Russia issued a statement on its website over the weekend saying that, “Right now, more than 200 probes have been initiated,” adding that a Russian court had extended the government’s temporary closure of the initial nine restaurants and added that it would appeal against the decision.

The company, which opened its first restaurant in Russia in 1990, has 450 restaurants across the country, more than 100 of which are in Moscow and the surrounding region. More than 60 are in St Petersburg and the surrounding region, the country’s second big metropolitan area.

Moscow’s investigation campaign is seen in the West as a slap-back at the economic and financial sanctions and executive orders put in place earlier this year by the US in response to Russia’s seizure of the Crimea and continued incursions into neighboring Ukraine.

10/20/2014