The Showdown With Russia

Acting like a 20th century nationalist leader determined to restore Russia’s relevance on the world’s geopolitical stage and reestablish a sphere of influence in Eastern Europe, Vladimir Putin annexed Crimea and threatened Ukraine. His provocative military adventures triggered a swift reaction from the Western world. Over the last several months, the West has waged a war against Russia using crude oil prices and the international credit and currency markets as its theatres of conflict.

Since Ukraine erupted earlier this year, the price of oil dropped 40%. The decline in crude prices coupled with meaningful sanctions by the West precipitated a flight of some $125 billion of capital from Russia while its currency, the ruble, plummeted 40%, forcing the government to maintain its value against international speculators. Russian companies owe Western banks $650 billion and remain unable to refinance their debt because they do not have access to international credit, compelling the treasury to consider using currency reserves to pay $120 billion due next year. Putin severely underestimated the sophisticated arsenal of economic and financial weapons that could be employed against the Russian economy, now forecast to shrink next year because of the crisis.

Putin noted in his recent annual press conference that Russia failed to diversify its economy over the last 20 years. Oil revenues still account for nearly 60% of Russia’s total exports and 40% of its national budget. This remains a source of frustration and humiliation for Russia’s leadership. As the blood of the Russian bear runs the color of crude oil, can there be a more effective response to its aggressive behavior than a precipitous and dramatic decline in oil prices?

Some analysts contend the sudden and remarkable decline in oil prices simply reflects market forces, the result of a steady supply coupled with diminished global demand. But slackening demand and falling prices should entice leading producers to cut production, as OPEC did in the past. A number of countries, notably Venezuela, Iran and Russia, recently lobbied for this. But they were rebuffed by Saudi Arabia, whose oil minister flatly rejected any cuts. The ostensible reason for Saudi resistance has been to undercut the price and erode the market share of American shale producers. Yes, American oil imports have declined since peaking in 2005 because of domestic production, but the US still remains the world’s second largest importer and the biggest consumer of oil on a per capita basis. Moreover, the reduced cost of producing shale, at least one major deposit remains profitable even if oil declines to $50, renders the apparent Saudi rationale a rather speculative gamble. And while the major driver of increased oil prices over the last decade, insatiable Chinese demand, has eased with softer economic growth, the Chinese continue to purchase and stockpile cheaper oil to bolster their national reserves. So we find it difficult to believe the massive 40% reduction in oil price over the last several months can be attributed to reduced demand.

The bottom line is this: because Russia remains so dependent on oil revenues, it must sell as much oil as possible, leaving it stuck between a rock and a hard place. The more Russia sells at greatly reduced prices, the more it stands to lose. If prices remain below $80 a barrel, Russia will lose more than $100 billion this year.

In the short-term, the economic war being waged by the West will have a drastic impact on irksome nations such as Russia, Venezuela and Iran, effectively killing three birds with one stone. Each of these governments confronts an intricate global web of economic relationships that ensnare virtually all nations in the 21st Century. With respect to Russia, Putin appears cornered and recently made encouraging conciliatory remarks on Ukraine. Now is the time to signal Western readiness to offer an olive branch pending a lasting political settlement. The goal should be to entice Russia to act responsibly in the European and world community, not to demand capitulation and inflame further nationalist sentiment.

 

Neal Aponte, Ph.D.
Editor of Delano

2 thoughts on “The Showdown With Russia”

  1. It is nice to know that Francois Hollande agrees with our position on Russia:
    “Western nations should stop threatening Russia with new sanctions and instead offer to ease off on existing restrictions in exchange for progress in the peace process in Ukraine”, President François Hollande of France said in an interview on Monday.

    “Backing President Vladimir V. Putin into a corner will not work”, he said, giving a high-level voice to what is seen as mounting sanctions fatigue among European politicians, as the Ukraine crisis lurches into a second year.

  2. Interesting point, but quite common this days. Russia might capitulate to an Economic war, and that would be ironic, indeed. But if Saudi Arabia is really against fracking (the $50/barrel minimum), putting down prices (they can go as low as $5 ) might also be a move to discourage the Green Energy sector. In the past, it worked. However this time it will not be so easy, because: 1) governments of countries with little or no petroleum need to invest in alternatives. And the green ones also offer more jobs,
    2) the prices of solar panels and batteries are declining,
    3) cars and other machines are getting more efficiency
    4) there are new green taxes and CO2 emission taxes on lots of countries, and that tends to weaken the importance of the price of crude.

    However, the decline of petroleum prices might postpone the inevitable crash of petroleum consuming economies, or even avoid the crash if we manage to reformulate the banking system, and how money works in the meantime.

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