US-Russia War Underway Can Have No Winners, Only Losers

The piece below builds on a previous one by the same author.

This article originally appeared at Peak Prosperity

Russia, like Venezuela and other oil exporting nations is facing a very large set of financial and economic problems as a result of the low oil prices. 

Besides the loss of oil export revenues, there are associated hits to their local currencies and rising yields on their sovereign debt which raises the cost of borrowing money.  This is a triple whammy and if it goes on long enough can lead to the outright default of the country on its debt, which is a hugely destabilizing moment. 

Russia faces 'perfect storm' as reserves vanish and derivatives flash default warnings

Jan 6, 2015

Russia’s foreign reserves have dropped to the lowest level since the Lehman crisis and are vanishing at an unsustainable rate as the country struggles to defends the rouble against capital flight.

Central bank data show that a blitz of currency intervention depleted reserves by $26bn in the two weeks to December 26, the fastest pace of erosion since the crisis in Ukraine erupted early last year.

Credit defaults swaps (CDS) measuring bankruptcy risk for Russia spiked violently on Tuesday, surging by 100 basis points to 630, before falling back slightly.

Markit says this implies a 32pc expectation of a sovereign default over the next five years, the highest since Western sanctions and crumbling oil prices combined to cripple the Russian economy.

Total reserves have fallen from $511bn to $388bn in a year. The Kremlin has already committed a third of what remains to bolster the domestic economy in 2015, greatly reducing the amount that can be used to defend the rouble.

(Source)

It's clear that Russia is experiencing quite a bit of difficulty from all this, and as we saw above, they pin a lot of the troubles on a concerted effort by the west to bring about exactly the conditions that are troubling them.

However, left out of all the stories about Russia's relative difficulties is that fact that with oil's price slide there are winners and losers in every corner of the globe.  In terms of the local impact based on the local currency Russia is the least impacted of them all because even as oil has declined in price the ruble has declined in value.

So perhaps Russia can weather this storm a bit better than is commonly thought?  It is Saudi Arabia that is experiencing a 50%+ decline in terms of its domestic currency while Russia is only experiencing a 10%+ decline.

On the other side of the ledger, China, India, Asia, Europe and Japan are all happy as can be with this development.

The really odd part of this story which I have not yet decoded is why Russia has not itself entertained the idea of cutting its oil exports.  If oil is oversupplied by perhaps 1.5 million barrels per day, Russia could actually earn more by cutting that amount and then collecting a higher price on the remaining barrels sold.

There is literally no mention anywhere that I can find of Russia even complaining about the price of oil let alone suggesting anything ought to be done.

So I have the sense that there's a very big game of chicken being played here.  Saudi Arabia in one car, the US in another, Russia in a third all barreling towards each other, each being increasingly hurt as they approach one another, and nobody yet willing to swerve.

The longer this goes on, the greater the damage to the existing US shale operators, to oil companies, to oil producing nations, and most importantly to future oil supplies.

Russia's Possible Response(s)

The big question is what will Russia do in response to all the provocations?  So far my view is that they've been unusually reserved and very hard to provoke.  I cannot imagine China putting up with the sorts of falsities and accusations that have been leveled against Russia without taking huge offense and becoming quite hostile to the US.

I know Russia is not exactly warm, but they’ve not retaliated in any overt way yet of which I am aware.  In fact, everything they’ve done so far speaks of trying to outlast the US policies by hunkering down, absorbing the blows, and waiting for better times.

But they she may not wait forever, and her patience is surely being tested. 

The options that Russia has before it include the following.

Simply wait it all out. 

This is a continuation strategy and it involves simply playing every move very carefully, harboring every hard asset and foreign currency unit, and being careful not to get into any more situations that draw renewed ire from the US.

Drive a wedge, or set of wedges. 

Here Russia could decide to drive a wedge between the US and it's other allies, with Europe being at the top of the list.  There's already some evidence of this plan being put into action.  The soft version would be to talk and negotiate to get Europe to differ in its stance towards Russia from the US.  Already we've seen certain factions with Germany respond in this manner and the President of France has just recently said that he would support lifting the Russian sanctions. 

The hard version of this strategy would involve using the energy weapon to force the situation.  It could be as simple as telling Europe either you go with us in this conflict or you lose your gas. 

Further wedges could be driven by aligning more closely with China and other Asian partners and then making Russia a preferred partner over the US by negotiating more fairly, and being a more reliable and trustworthy trading partner.  Again, there's plenty of evidence to support the idea that this strategy is in play.

Use the energy card. 

In this version Russia could use its energy exports as a tool to force things its way.  By simply cutting of exports for even a very limited time it could roil world energy markets, create massive price spikes, and sow huge uncertainty in all the import-dependent countries out there.  I don't think Russia could play favorites easily by refusing to export to some but not other countries because all the world's energy markets are interconnected and fungible.  The only place this could be somewhat bluntly applied would be to cut of natural gas to Europe, but Russia could not easily pick and choose among the various European countries because all the pipelines are linked.

As much damage as is being caused inside of Russia currently is but a tiny fraction of the pain that would be caused by Russia's energy products being withdrawn from world markets.  While this would also cause a lot of pain in Russia over the short-term, the long-term strategic benefit of heavily weakening our main opponents is probably far larger.

Fight guerilla style. 

Just as some players in the west (or possibly Israel) unleashed a very destructive virus into the Iranian manufacturing system a while back causing a lot of damage to their nuclear enrichment program, Russia could do the same.

This form of asymmetrical warfare targets critical infrastructure and can cause a lot of damage without risking much.  It's a huge concern for those in the field of cyberwarfare, although as we saw in San Jose Ca on April 16, 2013 it could be small teams with rifles.

Assault on California Power Station Raises Alarm on Potential for Terrorism

Feb 5, 2014

SAN JOSE, Calif.—The attack began just before 1 a.m. on April 16 last year, when someone slipped into an underground vault not far from a busy freeway and cut telephone cables.

Within half an hour, snipers opened fire on a nearby electrical substation. Shooting for 19 minutes, they surgically knocked out 17 giant transformers that funnel power to Silicon Valley. A minute before a police car arrived, the shooters disappeared into the night.

It took utility workers 27 days to make repairs and bring the substation back to life.

Nobody has been arrested or charged in the attack at PG&E Corp.'s Metcalf transmission substation. It is an incident of which few Americans are aware. But one former federal regulator is calling it a terrorist act that, if it were widely replicated across the country, could take down the U.S. electric grid and black out much of the country.

(Source)

That incident was very professionally carried out and it showed just how vulnerable any nation really is.  Just a few small teams with simple rifles can damage critical substation components so badly they take a month to repair...assuming you have the replacement parts kicking around.

An even more concerning form of intrusion was identified last year:

BlackEnergy malware threat has some uneasy

Nov 11, 2014

A malicious software dubbed BlackEnergy has intrigued and frightened cybersecurity experts, in part because of its intent and in part because of its origin.

BlackEnergy is designed to target critical energy infrastructure and is believed to have originated with Russian government-sponsored hackers.

DHS announced Oct. 29 that several industrial control systems -- vendor-issued programs used by private companies to manage internal systems -- had been infected by a variant of a Trojan horse malware program called BlackEnergy.

Infected programs such as GE Cimplicity, Siemens WinCC and Advantech/Broadwin WebAccess have been used by companies responsible for portions of the country’s critical infrastructure, including “water, energy, property management and industrial control systems vendors” according to DHS.

BlackEnergy shows enough similarities to a malware called Sandworm -- which was used during a 2013 Russian cyber-espionage campaign against NATO, the European Union and overseas telecommunication and energy sectors — that DHS believes they could be “part of a broader campaign by the same threat actor.”

(Source)

There have been a variety of announced intrusions into the most critical of industrial and infrastructure systems in the US and Europe, and these are just the ones that have been announced.  You can be certain there are alos ones we have not been told about and other ones that have not yet been discovered.

Who knows how much damage could actually be caused by such malware?

Well, actually, one German firm just found out:

Hackers cause 'massive damage' at German factory

Dec 24, 2014

Hackers broke into sensitive computers at a German factory and sabotaged a blast furnace to cause “massive damage”.

The German government revealed details of the attack in a Federal Office for Information Security report this week.

It said that a sophisticated social engineering and phishing attack was staged, indicating that the unknown hackers were directly targeting the unnamed factory. They used fake emails which appeared to come from within the organisation to trick staff into installing malware.

Once this malicious code was within computers at the plant staff noticed that systems and components began frequently breaking.

In one instance workers were unable to turn off a blast furnace in a controlled way and the incident caused “massive damage to plant”, said the report.

"The attackers were knowledgeable in conventional IT security and had extensive knowledge of applied control and production processes," it said.

(Source)

These are all fairly sophisticated efforts and everybody is involved in them.  State actors, rival corporations, private firms, and 125 year-old kids in mom's basement are all active players in this world of hacking sensitive systems.

The next war will not be fought with bullets only, but will start with some form of assault on critical systems.  If it is, be prepared for the internet to 'go dark' as authorities decide to be safe rather than sorry.

Start shooting. 

Finally, it's always possible that Russia and NATO somehow become entangled militarily and open warfare erupts.  I think this has to be the very lowest of possible options that Russia would pursue but given how things sometime get away from your best laid plans during a hot conflict, it cannot be ruled out. 

Sometimes a hot headed boat captain just up and shoots at something he shouldn’t and then it's hard to get things back under control.  

It would be especially unfortunate if something like that happened which then spilled over into a wider regional or possibly east vs. west sort of a conflict.  As I have posted before, the new anti-ship missile technology is a real game changer and the US has never fought an adversary with proper capabilities.

When we do, the world will rapidly learn that blue water navies are not longer useful force projection tools and that will do much to prune the US's vaunted status as a feared superpower. 

Conclusion

The US has been carefully laying out a case for war with Russia and the feckless US congress and senate have jumped eyes-wide-shut into the fray with some very ill considered legislation blaming Russia with one hand and doing the very same things with the other. 

Under any other period of time, these pieces of legislation would be considered the equivalent of war resolutions.  Ron Paul rightly noted that such acts and resolutions have been the paving stones for wars in the past, only this time the US has decided to level the gun barrels at Russia.

But in some respects that legislation is rather late to the game.  War has already been initiated on other fronts.  There is already a currency war, a oil price war, a propaganda war, and an economic war running.  Those got kicked off nearly a year ago.

I am not in the least comforted by the fact that the US press has largely stopped focusing on Russia because the impacts of the sanctions and other actions are still being acutely felt by a Russia that is very much annoyed, if not angered, and anything but powerless.

That I cannot find any more compelling explanation for why the US is poking the bear than it's just a neocon power trip bothers me a lot.  Usually if I dig enough I can find a set of explanations that make more sense.

Right now it just seems to be a few hotheads in the US state Department, with the backing of the Obama administration, that have decided to risk much to make a point.  Or perhaps they are dead serious and will not stop until they have unseated Putin.  For what purpose, I again have no answer.

I am confident that Russia will not sit idly by forever, and that she's a tough and smart adversary accustomed to both privation and playing hardball when necessary.

Whatever she finally decides to do, you can be certain it will not be positive for the west.  I am equally sure that the people of Europe and the United States and Russia want no part of any of it, but that's what our leaders seem set to provide nonetheless.

In alignment with this idea, recently in Germany 60 prominent personalities from politics, economy, culture and media signed their names to a petition:

Another war in Europe? Not in our name!

Dec 5, 2014

Nobody wants war. But North America, the European Union, and Russia are inevitably driving towards war if they do not finally halt the disastrous spiral of threats and counter-threats. All Europeans, including Russia, are jointly responsible for peace and security. Only those who do not lose sight of this goal can avoid fatal actions.

(...)

We call upon the members of the German Bundestag, delegated by the people as their political representatives, to deal appropriately with the seriousness of the situation. . . . Whoever is constructing a bogeyman, putting the blame on only one side, is exacerbating tensions, when the signals should be for de-escalation.

We appeal to the media, to more scrupulously adhere to their obligation to provide unbiased reporting than they have hitherto done. Editorialists and leading commentators are demonizing entire nations, without fully taking their histories into account. Any journalist experienced in foreign affairs would understand the Russians’ fear, since members of NATO in 2008 invited Georgia and Ukraine to join the Alliance. It is not about Putin. Heads of state come and go. What is at stake is Europe.

(Source)

As always, the people want peace and nothing to do with war.  As ever, super ambitious people in power seem to think it's the answer for a lot of things.

I wish that the signs with Russia were pointing to de-escalation but they are not.  The bear is being poked and all we can do is speculate what will happen next.

As ever, the signs continue to point to the logical soundness of being prepared.  For what exactly?  We cannot know.  So it's best to be prepared for interruptions of various critical systems because, as we now know, such things can be knocked out with the click of a mouse.