Today I am risking being too glib, but my excuse is aspiring to meet the Einstein standard, “Make everything as simple as possible, but not simpler.” It’s not hard to see that as rough as economic conditions are now, they are set to get worse. And it’s not hard to see that despite the considerable blowback from the sanctions against Russia, the West is not going to relent.
Here’s a simple baseline forecast. Russia wins in Ukraine. The West may try to define it somehow as not a victory, but it’s hard to see how Russia does not take the entire Black Sea coast plus Ukraine east of the Dneiper by the end of the year, and I hazard to guess sooner, say October-November. What Russia decides to do with the western part is path dependent and so in play (consider how possible military coup/Zelensky flight, Democratic November wipeout, rising political strife in Europe, Poland deciding to get expansionist could all factor into Russian decisions). Some Russians are already getting cocky:
Many of you asked for the capitulation of Zelensky with subtitles,so here it is…
— AZ 🛰🌏🌍🌎 (@AZmilitary1) July 5, 2022
The West will remain fixated on making Russia pay for taking Ukraine. But the West lacks the ability to do so via conventional warfare (see this devastating analysis, The Return of Industrial Warfare, which shows that the West lacks the manufacturing capacity to match, let alone beat, Russia). So the only means left is economic war. Despite the fact that the West is losing decisively there too, it is determined to escalate, no matter how much harm it does to itself.
Russia has been measured in its responses. Perhaps the Russian leadership hoped that the West would recognize the balance of power and cool off after Russia force a Minsk-Accords-type solution plus a guarantee of neutrality upon Ukraine, which seemed a possible outcome as of the end-of-March negotiations in Istanbul, which the UK and US got Zelensky to undo. Russia knows there’s no point in negotiating with the West, or at least not the current actors.
Russia is nevertheless far from tit-for-tat-level retaliation; one assumes if nothing else Russia is now playing to China and India and the Global South to show that it is being pretty reasonable given the givens and trying to balance respecting contracts with not being ripped off. Merely requiring gas for roubles, and now “other commodities for roubles” as a way to prevent another $300 billion in foreign exchange reserves from being stolen was hardly a big ask,1 yet some buyers went ballistic. Poland and Bulgaria refused to comply with the new payment procedure and so Russia stopped shipping their contracted amounts.
Now the Western press is regularly complaining that Russia is not sending all the gas that is is “supposed” to. Austria complained in June (on the fourth day this happened) that was only getting 50% of the gas it expected. The article made no mention of the fact that this was in the period when Gazprom pointed, and it was confirmed, that Siemens had sent turbine used in St. Petersburg to Montreal and Canada would not send it back, and Gazprom had to cut deliveries on Nord Stream 1 by 40%. The other nation-level shortfalls could be due to Germany backfilling Poland and Bulgaria.
Recall also that Russia sanctioned 31 Gazprom European entities connected to Gazprom Germania because Germany stole Gazprom assets there, including storage facilities. At least one of those entities was Austrian.
In other words, it’s hard to unpack how much of the alleged shortfalls are the direct result of sanctions-related measures and specific counter-sanctions by Russia, as opposed to the Russia jerking the EU around because it can. So far, it looks to be mainly or entirely the former, but with more and more provocations like the Kaliningrad partial blockade, there’s a lot of room for Russia to get nasty. For instance, continuing on the economic front, Austria is about to seize a partly-Gazrprom owned facility in Austria, but you’d never know that from the press accounts unless you’d been paying attention. From Reuters:
Austria is following through on a “use it or lose it” threat to eject Russia’s Gazprom from its large Haidach gas storage facility for systematically failing to fill its portion of the capacity there, the government said on Wednesday.
Austria obtains around 80% of its gas from Russia but since the war in Ukraine it has accused Moscow of weaponising that supply and has been seeking alternatives. Fearing that Russia will cut it off, it is racing to fill its gas storage facilities, which are at just under half their capacity.
Since Gazprom has not been filling its portion of the Haidach facility near Salzburg, the conservative-led government told the Russian firm in May that if it did not use its storage there the capacity would be handed over to others. Legislation making that possible came into force on July 1.
“If customers do not store (gas) then the capacity must be handed over to others. It is critical infrastructure. We need it now in such a crisis. That is exactly what is happening now in the case of Gazprom and its storage at Haidach,” energy minister Leonore Gewessler told a news conference, adding that gas regulator E-Control had started the process of ejecting Gazprom.
First, it’s not clear if Russia was actually short on its contractual deliveries. Second, one wonders where Austria could possibly get the gas needed to fill its storage all the way up (as if the tanks were always full, something I doubt). Third, it is acting on “fears” Russia will cut it off, when it looks like Austria is in the process of triggering that outcome.
The key omission is who owns the facility. Per Bloomberg: “Haidach was built by Gazprom and Germany’s Wingas Gmbh.” As we wrote, Wingas was one of the entities sanctioned by Russia as a result of Germany seizing Gazprom Germania assets. So the cutback in deliveries may also be the result of those counter-sanctions.
So Austria’s response will be to copy Germany, steal the unsanctioned part of Gazprom asset… and they expect Russia to continue supplying gas? They posture as if they have an alternative when they don’t.
We’ve gone through this example long form to show that so far, Russia has been responding in targeted ways to Western actions, and so far in nothing even remotely approaching the magnitude of the central bank asset heist. But Austria shows that the West’s impulse when Russia respond is to engage in yet another round of escalation. And in parallel we also see the West trying to impose new punishments, like its oil price cap, which even if it kinda-sorta gets done, will result in lower to much lower oil deliveries to the unfriendly country participants, much higher oil prices, and Russia still fat and happy since at prices over say $200 a barrel, it can sell even less energy and prosper.
With enemies like this, who needs friends?
This is a long-winded way of making a point most readers already likely accept: no matter how bad things get in the US, Europe, Japan, and South Korea, absent the violent overthrow of governments, Russia’s opponents will not relent on their economic sanctions. We will hoist from India Punchline as to where this trajectory too obviously is going:
Germany is heading for a major economic crisis. The head of the German Federation of Trade Unions has been quoted as saying in the weekend, “Entire industries are in danger of collapsing forever because of the gas bottlenecks — especially, chemicals, glass-making, and aluminium industries, which are major suppliers to key automotive sector.” Massive unemployment is likely. When Germany sneezes, of course, Europe catches cold — not only the Eurozone but even post-Brexit Britain.
Welcome to the European Union’s “sanctions from hell.” The US literally hustled the Europeans into the Ukraine crisis. How many times did Secretary of State Antony Blinken travel to Europe in those critical months in the run-up to the Russian invasion of Ukraine to ensure that the door to any meaningful talks with the Kremlin remained shut! And American energy companies are today making windfall profits selling gas to Europeans. Won’t Europeans have the common intelligence to realise they have been had?
Now, Biden has washed his hands off the gas crisis. He brusquely stated at a press conference in Madrid on June 30 that such premium on oil prices will continue “as long as it takes, so Russia cannot, in fact, defeat Ukraine and move beyond Ukraine. This is a critical, critical position for the world. Here we are. Why do we have NATO?” …
But even if that’s the case [that Russia per Biden is suffering economically and will eventually crumble], how does all that help the Europeans? On the other hand, President Putin’s strategic calculations with respect to the war remain very much on track….Five months into the war, Ukrainians are staring at defeat and Russian army generals know it.
Russia didn’t wander into Ukraine unprepared, either. Evidently, it took precautionary steps both before and since the war to shield its economy. And this enables the Russian economy to settle down to a “new normal”. Washington’s options are quite limited under the circumstances. Fundamentally, western sanctions do not address the causes of the Russian behaviour, and therefore, they are doomed to fail to solve the problem at hand.
Remember, Germany just announced its first trade deficit in decades. Energy rationing will favor households over businesses. Businesses will fail. That means a loss of salaries and spending. And unless there’s a fast rebound, most of those losses will become permanent. Italy is also dependent on Russian gas, and it has a chronically sick economy and very weak banks. Eurozone fiscal rules provide for limited spending headroom when things fall apart. And fiscal operations can’t remedy a shortfall of energy and food (a separate stressor we’ve skipped over).
Japan’s severely weakened currency means even it if can play nice with Russia despite being an American military protectorate, some businesses may go wobbly due to high energy prices breaking their budgets. Remember both Japanese and German part (as well as inputs from other EU nations) are parts of some American just-in-time manufacturing. And if the EU has a full bore banking or sovereign debt crisis, the industry effects could extend beyond energy/oil product hungry businesses.
And we haven’t factored in Covid outbreaks making it even more difficult to keep businesses and essential services functioning.
So the image that keeps coming to mind is a tsunami. Remember that those on a beach first see a placid scene, with the ocean pulling back much further than a normal low tide. And then the water comes in and sweeps everything before it:
It would be better if I were wrong. But what is coming has the feeling of destiny, in a bad way.
1 The point of the mechanism is actually not the roubles; the roubles are the pretext for forcing paying to be made via a Russian bank, as in outside the Western sanctions regime. Recall the payments are still made in the original contracted currency, be it euros or dollars or sterling. The Russian bank makes the currency swap.