Sanctions Land Like a Bomb in Corporate Suites

Within minutes of the announcement of U.S. sanctions against Russia in March, there was a surge in traffic on the website of Treasury's Office of Foreign Assets Control, which sends out a blacklist of targets. Top banks, financial firms and companies around the world quickly flooded Treasury's 1-800 hotline with urgent questions about how to apply the sanctions to individuals and companies on the list.

Visitors to OFAC's website shot up to more than 7,000 a second from the usual 100 to 200 a second, according to Treasury, and social media was ablaze.

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The reason for all this consternation: Treasury's power to issue sanctions and enforce them is non-negotiable. But Wall Street isn't yet sure what to make of the government's blacklist, let alone how to apply it. In fact, a number of lawyers and executives from big banks and multinationals privately told Newsweek that their confusion over how to apply the sanctions is only exceeded by their fear of violating them—and being slammed with multimillion-dollar penalties. In recent years, fines at Treasury have been so steep, the Office of Terrorism and Financial Intelligence has been a net revenue generator—a rarity in U.S. government—bringing in more than a billion dollars in 2012 alone from settlements with banks like Standard Chartered and HSBC.

"The Treasury has deputized the entire U.S. financial system to help it achieve foreign-policy goals," said John Reynolds, a partner at law firm Davis, Polk & Wardwell in Washington, who is advising a number of companies, including major banks and financial firms, about how to apply the Russia-Ukraine sanctions. "It's a new frontier."

Commodities trading firms such as Gunvor rely on global banks to finance them, which means that if any of their executives are placed on the blacklist, their businesses could also take a hit.

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Among the first calls Gunvor made, according to a Gunvor executive, were to the compliance departments at its global banks, including HSBC, whose chief legal officer is Stuart Levey, the former head of TFI – the very agency that had just blacklisted its co-founder, Gennady Timchenko. The executive said nobody at Gunvor had direct conversations with Levey. A source close to Levey also said he was not contacted and did not have a conversation with Gunvor. Within 48 hours, the Gunvor executive said, global banks, such as Goldman Sachs, which handled a $500 million bond issuance for Gunvor last year, "stood by us." Goldman declined to comment for this story. (Timchenko had sold his stake just before the blacklist came out.)

But that did not mean the banks, behind the scenes, did not sweat the detail. According to a lawyer close to the situation, it was a high-wire act, precisely because Treasury does not provide exact guidance on how to apply sanctions to third parties and leaves much up to the guesswork of banks while "also reserving the right to fine the banks if they happen to guess wrong."

While much has been made of the notion that Wall Street calls the shots on Washington, this has not been the case with Treasury's approach to financial warfare, which relies heavily on pressuring players in the financial sector. In Treasury's War, the memoir out last year from Juan Zarate – the mastermind behind Treasury's financial warfare strategy – a passage highlights how Levey, while still at TFI, ultimately prevailed upon the banks.

"Bank executives in money centers around the world took Levey's briefings to be not-so-subtle threats of sanctions and enforcement to come" if they did not stop doing business with countries under U.S. sanction, such as Iran and North Korea, Zarate wrote. "Some bankers—perhaps in a response reinforced over time by financial lore—recall an angry Levey pounding the table and threatening dire actions."

Levey, now chief legal counsel at HSBC, has denied this, but Treasury officials acknowledge they are frequently accused of threatening banks, while banks say it is a well-known fact that Treasury is quick to impose crippling fines if they violate sanctions, wittingly or unwittingly.

Treasury's sanctions are also costly to enforce, as banks and other financial firms must pay for software to flag and screen out blacklist targets – systems that start at $100,000 for a top-tier bank to set up just the filter for the OFAC blacklist, according to Computer Services Inc., a major software provider based in Paducah, Ky. (In the 30 days following the issuance of the Russia-Ukraine blacklist, the company noted a 58 percent increase in transactions flagged as suspicious, against the historic average.)

In recent days, multinational companies with longstanding relationships to Russia, such as Exxon Mobil, were rattled enough to speak directly to the White House.

As Treasury's sanctions began to roll out, Rex Tillerson, the chief executive of Exxon Mobil, shared his concerns with Valerie Jarrett, a senior adviser to President Barack Obama, who asked Tillerson on the sidelines of an event what might happen to Big Oil if sanctions on Russia reached Level 3 (hitting the nation's critical energy, minerals and mining sectors), according to a person at Exxon briefed on the matter. Tillerson told Jarrett the situation "could be important from a global security and supply perspective," the person told Newsweek. Exxon is pursuing long-term plans to explore the Arctic and Black Sea for petroleum reserves with Russian state-owned oil company Rosneft.

Tillerson stated that, in his opinion, the U.S. needs a Western, shareholder-owned company with transparent reporting in the exploration of petroleum reserves, and that Exxon is the only company that has managed in recent years to do that while working closely with Russia. The White House declined to comment.

The situation underscores how carefully the U.S. must proceed if it doesn't want its Russia sanctions to rapidly turn into a double-edged sword. "When you're working against a major adversary like Russia, it's a big thing," says Gary Clyde Hufbauer, a sanctions expert at the Peterson Institute for International Economics, a nonpartisan think tank in Washington. "And the most serious tools we could use against Russia could hurt us, too."

This story has been updated with new information about Stuart Levey, and has been been corrected to reflect a clarification from the Gunvor source on the company's contact with HSBC.