The Evil Empire That Never Was

Old enemies are the best enemies, because they’re always out there as a reference point. They’re bad and we’re good, or if we’re not good about many things, at least we’re better than them. That was the Cold War. We had defeated the totally evil Nazis and the totally evil Japanese, and had slowly made them our close allies, and the new reference point would be the Russians, in the form of the Soviet Union, and communism everywhere, godless communism. We were better and our system was better. Those communists were atheists. “In God we trust” was adopted as our official motto in 1956, and on Flag Day, 1954, the words “under God” had been added to the Pledge of Allegiance, which every kid in America dutifully recited each morning at school. This was about which way of life was better, and we had something to prove, and this came to a head on July 24, 1959, at the famous Kitchen Debate in Moscow – Vice President Richard Nixon and Soviet Premier Nikita Khrushchev at the opening of the American National Exhibition there, in the nifty model kitchen of a nifty entire model house that we said anyone in America could afford. It was a cultural-exchange thing, and this amazingly American kitchen was filled with all the latest labor-saving gizmos and amusements, showing what a capitalist consumer market could do for everyone. Khrushchev wasn’t buying it. It was all toys. Nixon told him it was all great stuff, and the very reason communism was doomed. They argued back and forth, but of course nothing was resolved. We were enemies, and enemies need each other, as a foil. That debate wasn’t supposed to be resolved. Khrushchev was fond of saying he’d bury us, which was a little over the top. He only meant that communism was such an overwhelmingly better system for ordering human affairs that all nations would someday see the light and reject capitalism and each become another subsidiary part of the grand Union of Soviet Socialist States, which would be everywhere.

Things didn’t work out that way. Communism just wasn’t the overwhelmingly better system for ordering human affairs – it was pretty crappy, actually – and it has mostly disappeared. Russia itself became a merely socialist country, but with a private sector, with a small number of very rich guys who kept their profits to themselves, and bought villas in Italy and glass penthouses high above Manhattan and massive yachts they moor in Monaco. Russia had abandoned communism for highly-selective capitalism, for those who knew the right people. Russia became a rather corrupt oligarchy, where now no one cares about who’s a proper atheist or not, as that’s hardly relevant now – but they were still our enemies. Ronald Reagan had called the Soviet Union the Evil Empire and had stood at the Berlin Wall and shouted out “Tear Down this Wall!” That was cool, but it was coming down anyway.

That should have been obvious. Their satellite-states had long wanted out – Hungary in 1956, Czechoslovakia a decade later, and there was that Solidarity Movement in Poland – and the Soviet economy was collapsing. There were many reasons the Soviet Union lost control of its satellite states behind the Iron Curtain in 1989, and those included a disastrous war in Afghanistan and plummeting oil prices, creating a severe economic crisis. Even the absurdly conservative American Enterprise Institute, where Reagan is God, because he ended the Cold War with no more than his steely gaze, recognizes this. That’s explained by their Yegor Gaidar:

The timeline of the collapse of the Soviet Union can be traced to September 13, 1985. On this date, Sheikh Ahmed Zaki Yamani, the minister of oil of Saudi Arabia, declared that the monarchy had decided to alter its oil policy radically. The Saudis stopped protecting oil prices, and Saudi Arabia quickly regained its share in the world market. During the next six months, oil production in Saudi Arabia increased fourfold, while oil prices collapsed by approximately the same amount in real terms. As a result, the Soviet Union lost approximately $20 billion per year, money without which the country simply could not survive.

That was the problem:

The Soviet leadership was confronted with a difficult decision on how to adjust… Instead of implementing actual reforms, the Soviet Union started to borrow money from abroad while its international credit rating was still strong. It borrowed heavily from 1985 to 1988, but in 1989 the Soviet economy stalled completely. The money was suddenly gone. The Soviet Union tried to create a consortium of 300 banks to provide a large loan for the Soviet Union in 1989, but was informed that only five of them would participate and, as a result, the loan would be twenty times smaller than needed.

The Soviet Union then received a final warning from the Deutsche Bank and from its international partners that the funds would never come from commercial sources. Instead, if the Soviet Union urgently needed the money, it would have to start negotiations directly with Western governments about so-called politically motivated credits. In 1985 the idea that the Soviet Union would begin bargaining for money in exchange for political concessions would have sounded absolutely preposterous to the Soviet leadership. In 1989 it became a reality, and Gorbachev understood the need for at least $100 billion from the West to prop up the oil-dependent Soviet economy.

That was the end of the Empire:

Government-to-government loans were bound to come with a number of rigid conditions. For instance, if the Soviet military crushed Solidarity Party demonstrations in Warsaw, the Soviet Union would not have received the desperately needed $100 billion from the West… The only option left for the Soviet elites was to begin immediate negotiations about the conditions of surrender. Gorbachev did not have to inform President George H. W. Bush at the Malta Summit in 1989 that the threat of force to support the communist regimes in Eastern Europe would not be employed. This was already evident at the time. Six weeks after the talks, no communist regime in Eastern Europe remained.

Hey, Reagan didn’t end the Cold War and put an end to the Evil Empire. The Saudis did, even if they didn’t mean to – they were just protecting their market share. But one thing leads to another, and Kevin Drum adds this:

This sounds awfully familiar, doesn’t it? War, sanctions, an oil crash, and finally bankruptcy – and while history may not repeat itself, it sure does rhyme sometimes. Twenty-five years later Vladimir Putin has managed to back himself into a situation surprisingly similar to the one that led to the end of the Soviet Union and the final victory of the West – the very event that’s motivated almost everything he’s done over the past few years. This is either ironic or chilling, depending on your perspective.

History does repeat itself, and the New York Times provides the details of this collapse:

Despite the Russian central bank’s extraordinary move to defend the currency, the ruble’s value continued to slide on Tuesday, presenting President Vladimir V. Putin with an acute set of political and economic challenges.

Scenes that Russians hoped had receded into the past reappeared on the streets. Currency exchange signs blinked ever-changing digits. Russians rushed to appliance stores to buy washing machines or televisions to unload rubles. Unsure of prices, car dealerships like Volvo in Russia halted business, while Apple stopped online sales in the country.

After a middle-of-the night interest rate hike, a sense of economic chaos settled over the Russian capital. The ruble was in free fall, dropping under 80 rubles to the dollar, after opening the day at 64 to the dollar.

“We are seeing an economic crisis,” Natalia V. Akindinova, a professor at the Higher School of Economics, said in a telephone interview. “We are seeing a sharp devaluation of the ruble at a time when the central bank doesn’t have the reserves to influence the market, as it did in the past crises.”

Western sanctions and low oil prices will do that. Russia is expected to fall into a severe recession now, and they’re not alone:

Global investors are increasingly concerned that tumult in Russia might not be isolated. Many emerging markets like Venezuela and Nigeria are dependent on their energy exports, which are being hurt by the deep and sustained decline in oil prices. Oil is now trading at around $55 a barrel, compared to more than $100 a barrel this summer.

Half their income is now gone, but this hit Russia the hardest:

In Russia, investors are growing increasingly worried that the Kremlin has in effect decided to print money to address a growing debt problem. Traders are also raising concern that the cronyism and opaque insider dealings that have plagued business here have now spread to monetary policy.

According to analysts, the ruble’s fall on Monday was sparked by word of an opaque deal involving the central bank and the state-controlled oil company, Rosneft. The well-connected business executive running the company, Igor I. Sechin, a longtime associate of Mr. Putin, had apparently persuaded the central bank to effectively issue billions of new rubles to his company to help cover debts.

Corrupt oligarchies are, of course, unstable. Saving one or two of the well-connected billionaires, at the cost of the economy as a whole, solves nothing – except for the rich guy – and everyone knows it:

The governor of the central bank, Elvira Nabiullina, speaking on Russian television, said the interest rate decision had been made to stanch the fall of the ruble. In its moves, the Russian central bank also increased allotments of dollars to the Russian banking system to finance the purchase of rubles as part of the effort to stabilize the currency.

“We have to learn to live in a different zone, to orient ourselves more toward our own sources of financing,” she said. In her televised remarks, Ms. Nabiullina said Russia would not resort to capital controls to stem the ruble’s fall.

But traders have long fretted that Ms. Nabiullina, a former economy minister, lacked the political spine to stand up to Mr. Putin or his longtime allies like Mr. Sechin. And yet, though the absence of any credible independence by the central bank is at the heart of the ruble crisis today, it is unclear any figure in Russia could provide it given the ever more authoritarian nature of Mr. Putin’s rule.

This is his mess:

In the oil boom years, the government of Mr. Putin assumed an ever-larger role in the economy. Longtime associates of Mr. Putin’s from his hometown, St. Petersburg, or from his years in the Soviet KGB intelligence agency took the helms of huge new state-owned enterprises. All the while, the central bank and a liberal wing of economic policy advisers kept aloof from this politically driven divvying up of assets.

Now, market sentiment is shifting. A continued fall in the value of the ruble could present Mr. Putin with difficult choices and could make it more difficult to sustain the political support he has enjoyed at home even as his relations with the West have frayed.

He faces a particularly delicate dance with Russian companies, which are under significant financing strains. Russian corporations and banks are scheduled to repay $30 billion in foreign loans this month.

And next year, about $130 billion will be due. There is no obvious source for these hard currency payments other than the central bank, whose credibility is now being called into question.

It doesn’t get worse than that, and Boris Y. Nemtsov, a former deputy prime minister, now in the political opposition, piled on – “This is a result of aggression and insanity in foreign policy, which led to sanctions.” And then oil prices collapsed of course. Putin – the man who grabbed Crimea and caused all the trouble in Ukraine, where things are still a mess – is finally getting what he deserves – so we should be happy.

Kevin Drum isn’t so sure of that:

A Russian economic crash could just be a crash. That would be bad for Russia, bad for Europe, and bad for the world. But it would hardly be the first time a midsize economy crashed. It would be bad but manageable.

Except that Russia has Vladimir Putin, Russia has a pretty sizeable and fairly competent military, and Russia has nukes. Putin has spent his entire career building his domestic popularity partly by blaming the West for every setback suffered by the Russian people, and that anti-Western campaign has reached virulent proportions over the past year or two. If the Russian economy does crash, and Putin decides that the best way to ride it out is to demagogue Europe and the West, as a way of deflecting popular anger away from his own ruinous policies, it’s hard to say what the consequences would be. When Argentina pursues a game plan like that, you end up with a messy court case and lots of diplomatic grandstanding. When Russia does it, things could go a lot further.

Drum thinks we should be careful:

I have precious little sympathy for Putin, whose success – such as it is – is based on a toxic stew of insecurities and quixotic appetites that have expressed themselves in a destructive brand of crude nativism; reactionary bigotry; disdain for the rule of law, both domestic and international; narrow and myopic economic vision; and dependence on an outdated and illiberal oligarchy to retain power. Nonetheless, there are kernels of legitimate grievance buried in many of these impulses, as well as kernels of necessity given both Russia’s culture and the post-Cold War collapse of its economy that has left it perilously dependent on extractive industries.

I don’t know if it’s too late to use the kernels as building blocks to improve, if not actually repair, Western relations with Putin’s Russia. But it’s still worth trying. A Russian crash may or may not come, but it’s hardly out of the realm of possibility. And if it happens, even a modest rapprochement between East and West could help avoid a disastrous outcome.

Damn, we’ll have to be nice to our old enemy, even if he is both evil and a jerk, just to keep him from doing something really stupid this time, something even more stupid than he’s already done. That hardly seems fair, but he’s in a tight spot, as Neil Irwin explains:

It may go without saying, but a 6.5 percentage point emergency interest rate increase announced in the middle of the night is not a sign of strength.

Drum comments on that too:

Russian central bankers hope that this will be an incentive for people to keep their money in Russia, earning high interest, instead of shipping rubles out of the country at warp speed and squirreling them away in any safe haven that comes to hand. And maybe it will work. Alternatively, as Irwin suggests, it may be viewed as a sign of desperation, causing Russia’s oligarchs to pile on the dilithium crystals and ship out their money even faster. You never know what’s going to work when a currency crisis goes into panic mode.

In any case, even if it works, the price is going to be high. Here in America, we argue about whether the Fed will choke off recovery if it raises interest rates to 2 percent. Russia is now at 17 percent. Even if this puts a halt to currency flight, it’s going to kill their economy. In Russia tonight, there are no good options left.

In the Washington Post, Matt O’Brien adds this:

Russia’s central bank raised interest rates from 10.5 to 17 percent at an emergency 1 a.m. meeting in an attempt to stop the ruble, which is down 50 percent on the year against the dollar, from falling any further. It’s a desperate move to save Russia’s currency that comes at the cost of sacrificing Russia’s economy.

But even that wasn’t enough. After a brief rally, the ruble resumed its cliff-diving ways on Tuesday, falling another 14 percent to a low of 80 rubles per dollar. It was 60 rubles per dollar just the day before. The problem is simple. Oil is still falling, and ordinary Russians don’t want to hold their money in rubles even if they get paid 17 percent interest to do so. In other words, there’s a well-justified panic. So now Russia is left with the double whammy of a collapsing currency and exorbitant interest rates. Checkmate.

O’Brien sees the problem here:

It’s a classic kind of emerging markets crisis. It’s only a small simplification, you see, to say that Russia doesn’t so much have an economy as it has an oil exporting business that subsidizes everything else. That’s why the combination of more supply from the United States, and less demand from Europe, China, and Japan has hit them particularly hard. Cheaper oil means Russian companies have fewer dollars to turn into rubles, which is just another way of saying that there’s less demand for rubles – so its price is falling. It hasn’t helped, of course, that sanctions over Russia’s incursion into Ukraine have already left Russia short on dollars.

Add it all up, and the ruble has fallen something like 22 percent against the dollar the past month, with 11 percent of that coming on Monday alone.

And this is only going to get worse. Russia, you see, is stuck in an economic Catch-22. Its economy needs lower interest rates to push up growth, but its companies need higher interest rates to push up the ruble and make all the dollars they borrowed not worth so much. So, to use a technical term, they’re screwed no matter what they do. If they had kept interest rates low, then the ruble would have continued to disintegrate, inflation would have spiked, and big corporations would have defaulted – but at least growth wouldn’t have fallen quite so much.

Instead, Russia has opted for the financial shock-and-awe of raising rates from 10.5 to 17 percent in one fell swoop. Rates that high will send Russia’s moribund economy into a deep recession.

And what do you know, history repeats itself:

Putin’s Russia, like the USSR before it, is only as strong as the price of oil. In the 1970s, we made the mistake of thinking that the USSR’s invasion of Afghanistan meant we were losing the Cold War, when the reality was that they had stumbled into their own Vietnam and could only afford to feed their people as long as oil stayed sky-high. The USSR’s economic mirage, though, became apparent to everybody – none less than their own people, who had to scrounge in empty supermarkets – after oil prices bottomed out in the 1980s. That history is repeating itself now, just without the Marxism-Leninism. Putin could afford to invade Georgia and Ukraine when oil prices were comfortably in the triple digits, but not when they’re half that. Russia can’t afford anything then.

The empire ends, and Noah Millman suggests this could be the end for Putin:

If an economic meltdown leads to widespread popular discontent, the regime will have to respond in some way. The most appealing way – because it would be the least risky for the regime – would be to stage-manage a change in leadership that promises change while changing very little. But who is Putin’s Putin? Once upon a time, the obvious answer would have been Dmitri Medvedev. But in the wake of his administration, and his agreement to hand the Presidency back to Putin after one term, I’d argue Medvedev is too closely-identified with Putin to be a plausible replacement for the regime in the event of any real discontent. …

If the regime cannot stage a satisfactory bit of theater, then the remaining options are uglier. Putin could deliberately try to provoke the West in the hopes of blaming Russia’s economic troubles on foreigners. Or he could turn force inward against internal “enemies” of Russia. Or the regime could hand Putin’s head to the mob without a clear plan for succession, leading to a period without clear leadership at the top until someone emerges from the internal struggle for power. Least likely of all would be a genuinely revolutionary situation such as obtained in 1991. None of Russia’s organs of power are willing to take that kind of risk again.

Joshua Keating also sees nothing but trouble:

Putin can’t do much of anything about oil prices and any steps to cooperate with NATO to secure sanctions relief will make him look weak. There’s a fair chance, then, that he may actually escalate tensions to get back the rally-round-the-flag effect that has sustained his popularity through the Ukraine crisis. Russian jets continue to buzz the airspace of NATO countries, and the military recently carried out snap drills in Russia’s westernmost region, Kaliningrad. This doesn’t look like a leader on the verge of de-escalating.

This isn’t 1989 – Putin isn’t the sort of fellow who is going to say screw it, and then dismantle the loose empire he now has and take the cash to keep the lights on. It never was much of an empire, but it’s all he has. Old enemies may be the best enemies, always there when you need them, but we may not need this.

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About Alan

The editor is a former systems manager for a large California-based HMO, and a former senior systems manager for Northrop, Hughes-Raytheon, Computer Sciences Corporation, Perot Systems and other such organizations. One position was managing the financial and payroll systems for a large hospital chain. And somewhere in there was a two-year stint in Canada running the systems shop at a General Motors locomotive factory - in London, Ontario. That explains Canadian matters scattered through these pages. Otherwise, think large-scale HR, payroll, financial and manufacturing systems. A résumé is available if you wish. The editor has a graduate degree in Eighteenth-Century British Literature from Duke University where he was a National Woodrow Wilson Fellow, and taught English and music in upstate New York in the seventies, and then in the early eighties moved to California and left teaching. The editor currently resides in Hollywood California, a block north of the Sunset Strip.
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One Response to The Evil Empire That Never Was

  1. Rick says:

    I think that Saudi-oil explanation of what brought down the Soviet Union makes much more real sense than what we’ve been hearing all these years — that Ronald Reagan bluffed them into thinking we would be building space-lasers that could shoot down their missiles, and so, faced with the prospect of having to fight back with crippling military overspending, the Russkies just laid down and died.

    (In fact, I always suspected that increasing their military spending could only have boosted their economy, since manufacturing and selling planes and weapons was one of the few successful export industries other than oil that was keeping them above water.)

    But Noah Millman, in the American Conservative, contemplates the ways Russian leaders can respond to this latest crisis:

    “The most appealing way – because it would be the least risky for the regime – would be to stage-manage a change in leadership that promises change while changing very little.”

    And while he’s probably right that they might need to resort to some sort of temporary political slight-of-hand, which may be all they can hope for right now, a real solution to their problem, you’d think, would have to do with changing their economy, not their power structure, and would be more long-range and permanent. In short, if world demand for oil is dropping, they need to find something else to rely on, and maybe now is as good a time as any to get started. In fact, to get themselves out of their third-world economic model, they might consider getting into wind and solar and alternatives to fuel you have to dig out of the ground. In fact, borrowing for economic diversification seems more likely to convince lenders that you’re serious about your future, rather than just borrowing to shore up your dying economy.

    And, by the way, so might we take alternative fuels more seriously. This is part of what is really behind that Keystone XL business: The world needs to stop digging stuff out of the planet that then finds its way onto the surface and into the atmosphere where it can hurt and even kill us — and stuff that, by the way, the earth is running out of anyway. It’s not just the Russians who keep putting off doing what eventually needs to be done.

    But it’s a bit surprising that there isn’t that much talk this time around about what lower prices by the barrel and at the pump do to our domestic oil companies.

    Think about it: In middle eastern countries, where wages are low, lower world oil prices just mean more production and more money, while here in the states, where wages are higher, this has traditionally meant some companies having to suspend operations, and maybe even going out of business. Our companies just can’t afford to work that hard for so little return, since our breakeven points are higher. This New Republic article by David Dayen talks about that:

    “While it’s difficult to pinpoint the breakeven, with estimates varying wildly, there are indications that we’re getting close. One Morgan Stanley analysis shows that, under current prices, 80 percent of U.S. shale projects would lose money. This week, Goldman Sachs predicted a loss of $930 billion in future oil production, particularly in areas like south Texas and the Gulf of Mexico. Some reports show that production has already slowed in the lucrative Bakken oil field in North Dakota. Permits for new wells fell by 36 percent in both west Texas and North Dakota in November.”

    Which may be exactly what the Saudis, who apparently have been hurt by U.S. fracking, were thinking by doing this now. With their deep-pocket underground reserves, they can afford to “dump” lots of their product on the world market, something that North Dakota may not be able to survive.

    And okay, yes, low fuel prices obviously help our ailing economy, at least in the short term, by putting more money into the hands of consumers, but there are apparently a set of special risks this time, according to that article:

    “The real unknown is how much domestic oil and gas production has been driven by debt, which could change this from a local to a national problem. Oil producers who financed their investments with borrowed money may not be able to pay back the loans, and default rates are expected to double over the next year. … Debt-laden producers have to keep pumping crude to pay off creditors, and that could create a fire sale where prices fall even further, putting more companies in rough spots as they reach their breakeven point.

    Moreover, borrowed money used to finance energy products often made its way into junk bonds made up of packages of corporate debt, known as ‘leveraged loans.’ These loans have been enormously popular for investors seeking high returns. But the collapse of oil prices has sent investors running to withdraw from funds that purchase these securities. …

    One interesting theory argues that big banks needed to eliminate derivatives rules in the year-end budget bill to ensure bailout protection for their credit default swaps, and hedge their bets against an oil-related financial crash. …

    This is all separate from how instability in Russia and several emerging markets could impact the U.S. economy. American mega-banks are exposed to global debt and will almost certainly have to write off loans from abroad. And trade will suffer from a prolonged, energy-related slump that ripples across the world. … [T]he potential for financial crisis exists in a way that it hasn’t since 2008. And the country is far less prepared for recession than it was then — we still have near-zero interest rates and a Congress opposed to fiscal stimulus. Maybe it will turn out for the best, but we should brace ourselves for the worst.”

    One point here being, after we’re done feeling deliciously good about Russia falling on its face, we may find that falling-on-one’s-face is something that’s going around, and at some point may come over here to hit us where we live.

    But another lesson we should be learning from all this:

    It’s sort of like the grasshopper and the ant. The next time we find ourselves flush with energy riches, we might want to take that opportunity to invest in our future — by climbing out of the fossil fuel trap and getting even more serious about getting into alternative energy, something for which world demand is not dropping.

    Rick

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