China’s Small Banks Face Scrutiny Over Russian War Support at G7

• The G7 summit will address how small Chinese banks are helping Russia evade Western sanctions and support its war economy.
• U.S. officials emphasize the priority of curbing Chinese-Russian trade in dual-use products that bolster Russia’s military capabilities.
• Despite large Chinese banks reducing transactions with Russia, smaller banks continue to facilitate trade, prompting G7 leaders to consider new sanctions.

With Western officials looking to hamper Beijing's support for a Russian economy reoriented around the war in Ukraine, China’s smaller banks have emerged as a new target.

How to deal with the small Chinese financial institutions that are helping Moscow evade Western sanctions will be a top agenda item at the Group of Seven (G7) summit in Italy on June 13-15. U.S. officials have said that going after booming Chinese-Russian trade -- particularly the supply of nonlethal but militarily applicable dual-use products -- is a priority.

“We will address [China’s] support for the Russian defense industrial base,” White House National Security Communications Adviser John Kirby told reporters on June 11. “We’re going to continue to drive up costs for the Russian war machine. And this week we will announce an impactful set of new sanctions and export control actions.”

Western officials have not commented publicly about plans to target smaller Chinese banks, but Reuters reported that the United States and other members of the G7 bloc of wealthy democracies -- Britain, Canada, France, Germany, Italy, and Japan -- are set to focus on how to respond to the issue during their private meetings but are not expected to issue any immediate sanctions against the banks.

China has emerged as a top partner for Russia since its full-scale invasion of Ukraine with analyses of Chinese customs data showing that in 2023, 90 percent of dual-use goods deemed “high priority” and used to make Russian weapons came from China.

Worried about being targeted by U.S. secondary sanctions, China’s big banks have begun to limit their cross-border transactions involving Russia and Russian firms, with Chinese companies that trade with Russia instead moving to smaller banks or underground financing channels that are difficult to track and have less exposure to the international financial system.

“This is what I call the ‘burner bank’ strategy,” Tom Keatinge, director of the Center for Financial Crime and Security Studies at the Royal United Services Institute, told RFE/RL. “If the United States or other G7 countries sanction these banks, there is likely to be very limited contagion and the impact on the bank will likewise be limited as the bank has no need for access to the international banking system.”

What Kind Of Response?

Growing concern over how to handle Russia and China dominated meetings in April and in May when G7 ministers met in Italy to try and forge a united front on critical matters and leverage their combined economic power.

That will carry over to the upcoming G7 leaders’ summit, where they are expected to tackle a range of issues, from leveraging profits from Russian assets frozen in the West for Ukraine to the Israel-Hamas war and growing tensions in the Indo-Pacific.

On the eve of the summit, the United States issued new sanctions targeting hundreds of individuals and companies for helping Moscow circumvent Western blocks on obtaining key technology, including seven Chinese-based companies.

The Chinese Foreign Ministry had already preemptively hit back over Western pressure, saying on June 11 that it will take all necessary measures to “firmly safeguard the legitimate rights and interests of Chinese enterprises,” in response to warnings from Washington and its partners about the links between smaller Chinese banks and Russia.

The United States and its partners have so far been reluctant to go after Chinese financial institutions over their Russian links, particularly the major banks because sanctions could have ripple effects across the global economy and increase tensions between Beijing and Washington.

Senior U.S. officials have said Beijing is providing Moscow with drone and missile technology, satellite imagery, machine tools, and other dual-use goods, and stepped up their criticism of Beijing in recent months.

U.S. Treasury officials have repeatedly warned financial institutions in Europe, China, and elsewhere that they face sanctions for helping Russia skirt Western sanctions. In December, Washington said it is prepared to use sanctions and tighter export controls to reduce Russia's ability to navigate sanctions, including imposing secondary sanctions that could be used against banks and other financial institutions.

Those warnings appear to have yielded some results, with large Chinese banks stepping up scrutiny of their transactions with Russian entities and other institutions, even halting processing deals with some companies. Trade flows between China and Russia have also slowed amid renewed warnings from the West, with Chinese data for March and April showing that exports to Russia are declining, reportedly due to concerns by Chinese banks of being hit by secondary sanctions from Washington.

But the renewed discussion set for the G7 indicates that Western officials are concerned that some Chinese financial institutions are still facilitating trade in civilian goods with military applications at significant levels.

Keatinge says the United States and its G7 partners risk making empty threats without taking action against Chinese banks or other entities helping fuel Russia’s war effort against Ukraine.

“The risk is rising given the lack of overt action since December 2023,” he said. “Put simply, without action, there is no reason for foreign financial institutions to genuinely fear consequences.”

Sanctions Proofing

Calls for a tougher approach on China over its support for Ukraine have also exposed divisions within the West and even among G7 members.

While the grouping has managed to stay largely united in support of Kyiv and has taken other measures against Chinese overcapacity in trade, including the European Union recently unveiling new tariffs against Chinese electric vehicles, targeting Chinese banks is less straightforward.

Some members have stronger trade relationships with China and are cautious to jeopardize their bilateral ties -- and curbing Beijing’s support for Russia may be difficult to do with sanctions.

The United States has hit smaller Chinese banks in the past, such as when it sanctioned the Bank of Kunlun in 2012 over various issues -- including working with Iranian institutions -- but many of China’s smaller banks involved in dual-use trade also have limited or no exposure to the Western financial system.

Added to that, China and Russia have worked to generate more trade using China’s yuan instead of the dollar in the wake of the Ukraine war, potentially shielding their economies from any U.S. sanctions.

Agathe Demarais, a senior policy fellow at the European Council on Foreign Relations, says it’s unclear how G7 countries intend to tackle China’s growing support for Russia and that any action would be “ineffective if Chinese banks handling sensitive transactions between Beijing and Moscow had no ties to Western financial instruments.”

“Imposing ineffective sanctions would likely backfire by boosting Chinese and Russian false claims that such measures are useless,” she said. “This conundrum illustrates how China is gradually sanctions-proofing its economy, which is becoming increasingly immune to Western economic statecraft.”

By RFE/RL

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