Funding Ukraine’s Aid: New Challenges  

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Introduction

The full-scale Russian invasion of Ukraine, which began on February 24, 2022, is still ongoing, with reconstruction and recovery needs estimated at over 400 billion USD. Given these circumstances, the G7 states are searching for ways to fund Ukraine’s reconstruction and redress for victims without Russia’s consent, using frozen assets of the Central Bank of Russia (CBR) or alternative means. Due to political (elections period, armed conflict in Gaza) and financial (insufficient finds) considerations, the idea of shifting Ukraine’s assistance source from budgetary funds to using Russia’s frozen assets is of significant importance.

Confiscation of Russian state assets: current development, legal grounds

The G7 states have shifted their priorities from confiscation of the CBR assets. Experts have been divided into two camps: supporting appropriation and opposing such measures. The latter proposes to keep Russian state assets untouched, abstaining from investing them or exploiting assets in any other way. Lawyers, academics, and experts supporting confiscation write comprehensive papers and reports focusing on legal, political, and moral grounds for confiscating the assets to aid Ukraine. International law sets grounds for taking robust measures against the aggressor state, which may rest on  collective self-defence  (non-forcible measures of self-defence) and collective countermeasures doctrines. In case of aggression no sovereign immunity protection for the aggressor’s assets is provided if certain conditions are met. However, political considerations remain.

States avoid explicitly claiming collective self-defence, despite all the criteria for invoking it (primarily, since Russia has committed an armed attack against the UN member state), enshrined in Article 51 of the UN Charter, are met regarding the unprecedented Russian armed attack on Ukraine. In light of the wording of Article 5 of the North Atlantic Treaty and Western states’ unwillingness to be recognized as parties to the armed conflict and cobelligerent states, it remains unlikely that G7 states will refer in the nearest future to the right of collective self-defence to confiscate Russian state assets, unless significant escalation from Russia occurs (nuclear threat, attack against one of the NATO states etc.).

The law of international responsibility, covering norms on countermeasures, belongs to the international law of peace. As mentioned above the ‘collective countermeasures’ (‘third-party countermeasures in the collective interest’, ‘countermeasures of general interest’) doctrine receives an increasing interest from researchers looking for international law grounds to confiscate Russian assets. Scholars and practising lawyers warn of the limitations of state countermeasures (reversibility and temporariness criteria etc.) as possible grounds for confiscating frozen assets, which are, however, skillfully addressed by proponents of the idea.

Collective countermeasures are taken by states other than the injured state (in coordination or separately) in response to breaches of obligations to protect the collective interest (erga omnes) or jus cogens violations. The wording of ARSIWA, which is generally perceived as reflecting customary international law on state responsibility, puts light on at least two ways for addressing confiscating Russian assets via collective countermeasures doctrine:

1. Collective countermeasures are a form of ‘classic’ state countermeasures – otherwise unlawful unilateral sanctions of a peaceful character taken by States referred to in Article 48 ARSIWA to induce compliance with communitarian norms. Hence collective countermeasures justify either denying sovereign immunity protection for Russian assets or putting aside responsibility for otherwise illegal confiscation, i.e. permanent seizure without any compensation, or both.

2. Given all the circumstances, collective countermeasures in the form of confiscating Russian state assets are perceived as a ‘lawful measure’ pursued by Article 54 ARSIWA. They may be regarded as a ‘future development’ anticipated by the in its commentary on Article 54 ARSIWA.

However, Western states in majority hesitate to go on with confiscation efforts despite some efforts made in Estonia and very progressive developments in Canada.

Instead of confiscating Russian state assets, the G7 finance ministers and Central Bank Governors have recently affirmed their willingness to explore how extraordinary revenues held by private entities stemming directly from immobilized Russian sovereign assets, which are not required to meet obligations towards Russia under applicable laws, could be directed to support Ukraine’s recovery and reconstruction in compliance with applicable laws. The rhetoric of G7, including the EU and the US as a potential main ‘driving force’ for the confiscation of Russian state assets, witnesses discussions about considering alternative means to finance Ukraine’s aid with Russian state assets involved but kept untouched until the end of the war. The main idea on the table is imposing a ‘windfall tax’ on CBR and other Russian assets, which had already been discussed at the EU level.

Windfall taxes: Russian state assets or private assets?

Since WW1, ‘windfall tax’ has been a typically one-time tax levied on a company or industry when economic conditions result in large, unexpected (‘windfall’) profits. The EU and its member states have already taxed energy providers that generated ‘windfall’ profits stimulated by an energy crisis fueled by Russian aggression.

Russia’s invasion of Ukraine resulted in the market-wide application of international sanctions. Blocked coupon payments and redemptions owed to sanctioned entities, including CBR, result in an accumulation of cash on financial institutions’ balance sheets. According to Euroclear (less information is publicly available about Clearstream’s and other financial institutions’ activities), a group of Belgium-based financial institutionsit holds about €197b n in immobilized Russian assets at the depository, of which €180bn are CBR assets. Reportedly, Euroclear has already earned over €3 bn this year from Russian frozen assets compared to hundreds of millions in 2022. Hence, the war, in fact, gave rise to Euroclear’s unpredictable profits from reinvesting Russian cash in 2023.

Based upon the Central Securities Depositaries Regulation, other EU legislation, and Euroclear procedures, the cash is reinvested to protect the company and the clients. Albeit reinvesting cash by Euroclear may contradict the EU sanctions regime, which prohibits any actions with Russian state assets, that issue falls out of the scope of that blog post. As stated on Euroclear’s official website, the income from reinvestment will no longer be considered Russia’s income but will be classified as Euroclear’s income. However, the property rights issue concerning income generated by Russian state assets requires separate in-depth analysis, which cannot be performed in the margins of this post, particularly regarding publicly inaccessible contracts between Euroclear and its clients, including CBR.

At the same time, the cash itself on Euroclear’s balance sheets belongs to CBR or other Russian entities and should be paid back after the sanctions are lifted in addition to the principal sum of initially immobilized assets.

So far, the EU and the G7 states have been working on measures to tax the ‘windfall income’ of private financial companies based in their jurisdictions but not Russia’s income. The political decision to send part of the ‘regular’ or ‘windfall’ tax income to Ukraine does not intervene with Russian state assets management and Russia’s state interests.

For instance, the first Western state to declare sending Ukraine tax money was Belgium with €92 million in support. Recently, Belgian officials have also stated that the Fund for Ukraine of €1.74bn will be created. No special decision at the EU level is required to repurpose received taxes to aid Ukraine, or cover other needs established by the Belgian government.

Obviously, Euroclear, considering Chinese ownership of Euroclear’s shares, can appeal imposing additional taxes to the EU courts, as did Exxon when suing over windfall taxes in the EU court (the case is pending), or Spanish banks challenging the Spanish government decisions. In fact, ‘windfall tax’ can equal the total expropriation of private property without compensation. 

However, if Russian frozen assets give a surplus, that income could also be taxed at the tax rate depending on the tax system of a state or even be subject to ‘windfall taxes’ and disposed of in favour of Ukraine.  It could be established that the gains were unexpected or war-related. For example, such a tax could be imposed as the EU’s common foreign policy and security measure, which could be justified by the collective countermeasures doctrine.

Investing Russian state assets and other half-hearted measures to fund Ukraine’s aid

The idea of investing immobilized Russian assets and transferring the proceeds to Ukraine has been recently broadly discussed, raising some concerns. First, there is no principled distinction between Russia’s property right to the principal and its right to the returns generated by investing that principal, then property rights and sovereign immunity issues should be addressed. Second, it places additional risks on the investment results. Third, being legally questionable and financially risky, the gained profits (if any) would not cover Ukraine’s even urgent needs and, in a relatively safe investment scenario, would generate approximately $3 billion in returns each year. However, legal issues could be overridden by invoking collective countermeasures. Along with imposing a ‘windfall tax’ (in fact, expropriating the surplus), those measures are countermeasures with the same legal grounds as freezing sanctions are, but more far-reaching and possibly causing a more robust response from Russia. One of Russian officials – Duma’s chairman Volodyn, has recently ‘threatened’ the EU and warned of the upcoming reciprocal confiscation of the EU’s assets.

The above-mentioned half-hearted measures, as well as securing cheap loans for Ukraine secured with frozen Russian state assets, and other creative ideas pitched by some economists and politicians, will face legal challenges and further witness the Western countries’ indecisiveness.

The EU’s and the G7’s explicit attempts to bypass confiscation issues and take away profits of private companies could be perceived as supporting opinio juris proving the illegality of confiscating assets of the aggressor, which is a misconception of the present development of international law.

Keeping the assets totally untouched until the end of the war, thereby securing reparations that Russia should eventually pay, won’t work in Russia’s case either, as its total battlefield defeat and consent on full reparations for Ukraine and the victims look unrealistic. The same could be said about Russia’s consent to compensate by sending part of its gas and oil profits to Ukraine.

Conclusion  

At the very least, taking into account Ukraine’s urgent and constantly growing need to repair its economy, an explicit disclaimer should be made that, for instance, war-related Euroclear’s income is unconditionally withdrawn as a kind of a ‘blood money’, which is unrelated to the subsequent consideration of Russian state assets confiscation. Sending Ukraine tax income collected as ‘regular taxes’ will not aggravate the situation because it requires no outstanding and exclusive measures for governments but their competent decision on the sources of funding Ukraine’s aid.

Apparently, The G7 and other states supporting Ukraine should switch to more robust measures regarding Russian state assets, i.e., confiscating these assets, because self-defence and countermeasures doctrines set all the necessary legal grounds. A part of confiscated assets (say, 70%) should be sent to Ukraine’s compensation fund as an element of the future compensation mechanism (could be accumulated on the escrow account before the mechanism is inactivated), and the rest (30% in that case) could be directed to Ukraine’s reconstruction. The proportions could be discussed and endorsed while preparing a multilateral treaty on a compensation mechanism for Ukraine.

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