14 March 2014

Russia's Breach

It is the year 2014; the 21st Century.  You socioeconomically integrate into the rest of the world, or you die.  The world clearly has embraced, and functions most efficiently through integrated open market-based systems.  Those systems were built by the West.  And that doesn't really matter anymore.  The other experiments of central planning, authoritarian nationalism and relative economic isolation or mercantilism have been proven unworkable.  The world is much more interrelated now.  And nuclear.

The classical arts of war employed over the past several thousand years – where military conquest was simply another arm of diplomacy – no longer apply.  Unless of course you are trying to send the world a century or two backwards.  Back to a time gone by, where perhaps you were once mighty.

But until that happens, how you choose to run your ship will be judged by the world markets.  There is no moral issue at play.  It is simply, capital will move away from those nations that lose their credibility when doing things deemed by the markets to be foolish and/or irresponsible; toward those that have proven they are creditworthy in this 21st Century world.

Certain holdouts like China figured this out (finally).  They are Communist in single-party state name.  Its government controls the vast majority of the means of production and distribution of wealth.  But they very clearly have been opening up to free market ideals over the past couple decades plus.

As a result, they are suddenly the second largest economy in the world.  They have improved per capita GDP from maybe ~$1,200 to ~$5,500 in just maybe the past 15 years or so (still a far cry from the lifestyle of the average American or Western European, but nonetheless a dramatic transformance in that time).

North Korea for example still hasn’t.  By my measure, they are the 92nd largest economy in the world, with a per capita GDP that wallows maybe around ~$1,000 (possibly far less).  For comparison, those nations in that club include Burma, Cameroon, Laos, Yemen, Zambia… you get the point.

Its neighbor south of its border embraced Western open market systems (basically the exact same people subjected to the exact opposite ends of the continuum of what’s left of Stalin’s installed Marxist-Leninist model in the North v. Western capitalism in the South).  Unlike the North, South Korea having integrated with the Western ideals of the world, is now its 15th largest economy, with a ~$22,000 GDP per capita.

That all compares to established economies like the US, Japan, Canada, Australia and those of Western Europe which have GDP’s per capita of ~$35,000-50,000.  Russia's is about ~$12,000.*

Anyhoo… The world markets are speaking about this whole Ukraine thing.  If they thought it was ultimately in Russia’s best interests to be doing what they’ve been doing, Russian markets would be relatively unchanged.  If markets thought it was a bad idea, Russian markets would be down a lot.

Guess what?  Russian markets are down a lot.  Through this Ukraine crisis to date (benching off roughly mid-November 2013), Russian stocks are now down almost ~20%, the ruble is down ~13-14%, Russian government bonds are down ~9-10%.  They have had to dramatically raise their deposit rates to stop the exodus from the ruble. So it would be down a lot more had they not.  This can only be defended for so long, as one nation’s treasury or central bank is ultimately never bigger than the entire world market, if the world market votes you off the island.  As Russia discovered in 1998.

What of the markets of those of Russia’s recent frenemies turned opponents to its actions in Ukraine?  In the same time, Euro Zone stocks are flat to maybe down ~1.5% (so relatively unchanged), the euro is up ~2-3%, European corporate and government bonds are up ~2-2.5%.  The US stock market is up ~3-4%, the dollar is up ~1%, as are corporate and government bonds.  Neither the Fed nor the ECB has had to defend their respective currencies over this.

So the markets are telling us who the ultimate loser is here (other than Ukraine), all else equal.  It doesn’t really matter what President Obama, Secretary Kerry or President Putin have to say about this.  Their rhetoric will not define this situation ultimately for Russia.  The markets will, based on actions taken.

And the markets are saying loud and clear that this occupation by totally-not-Russia of a neighboring sovereign state, and effective annexation of a piece of its neighbor’s soil, is not the kind of behavior that is rewarded in the 21st Century.  In the 19th or 20th Centuries it might have been.  But not today.

Russia’s transition to capitalism in the 1990s was disastrous.  So there is no wonder that there is a lot of suspicion and push back there of anything Western values related.  The result is a failing economic state, run by a bunch of 20th Century Cold Warriors.  In recent years, there has been a grand debate over there about reform (e.g., having state enterprises run by actual business people rather than by former security and military apparatus operators), but it hasn't gained critical mass.  I guess, obviously.

And let’s be accommodative to the Russian perspective.  Since Napoleon, Moscow has held a national security policy of setting up puppet buffer states between it and Western Europe.  Their expansion goals are historically defensive (and so I believe often misunderstood by the West).

Since the dissolution of the Soviet Union, NATO – the organization basically formed to go to war with Russia – has expanded its membership eastward toward Moscow to include the Baltics, Poland, Czech Republic, Slovakia, Romania and Bulgaria.  That’s like having a massive Russian military presence pointed at Washington, D.C., stationed in Indiana and Georgia.  Now Sweden is thinking of joining NATO as a result of this move in Ukraine?  And if ultimately Ukraine were ever allowed to join, Moscow would be completely pincered (rather than just mostly pincered, as it is presently).

It doesn’t at all justify occupation of other states, whether it is to support local ethnic Russians or not (straight out of the Soviet Cold War play book, by the way).  But can you at least understand the defensive insecurity about the West fiddling around in places like Ukraine?

The reins of power are held by those that can deliver a strong Russia to its people.  In my view, that is what explains President Putin’s actions in Crimea, previously in Georgia (the nation of, not the state of), potentially in eastern Ukraine, maybe Moldova or Armenia.

President Putin is no dummy.  Nor do I believe he has lost it (despite all that shirtless crossbow hunting of tigers on horseback stuff).  His actions may be fueled by and feed into his personal and their national emotions, but right or wrong these are steps being taken for flat out existential reasons.  In its present condition of state capitalist atrophy, their economy will be a lot smaller comparatively one or two decades from now.  A declining economy fuels political dissent (please refer to: the Tea Parties).  If anything is to be done other than integrating with the world, it has to be done now.

He has run the numbers and concluded that, even if integrating with the rest of the world is ultimately the best course for Russia as it is for all nations, that will still not bring Russia to the fore like the US or China.  It would at best make it a mid-size actor, more like Britain or France – a small fraction the economic prowess of US or China-rising.  And that does not fit his ego, or reclaim that national pride that is so longed for in Russia.

It also doesn’t allow Putin to stay in power.  And so let the tanks roll westward, “once more unto the breach.”

(I am using actual production numbers at real currency conversion rates as of ~2012/13, not PPP.  Because although PPP is what college kids get taught, it’s completely useless basically, as it is a fictional representation of economies.  (No one pays the same prices for all goods and services in each compared nation, as assumed in PPP.)  I prefer to function in the actual world with this stuff.  Having said that, real currency conversion has its shortfalls also, as nations manipulate their currencies.  For example, China’s GDP is really larger than comparatively reported, as they artificially hold their currency low to manipulate trade balances with us.)

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