Markets Politicized - Perspective on Russia

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The situation with Russia should give investors and traders a reason to brush up on their history, as current events take root in things that happened 50, 100, and 200 years ago.  To understand this, can provide perspective, during an information war, where it's not easy for some to separate facts from beliefs and propoganda (on both sides).  The relationship between US and Russia has always been interesting, as we shall explore.

The cultural divide

The US and Russia have very similar cultures.  Both; superpowers, with a vast countryside, dominated mostly by white Christians.  Both have vast resources, difficult to invade, and both have been the victim of European and other external politics.  Of course Russian culture is much older, and has a different set of influences and experiences than the US, situated in North America.  

There's probably more misinformation in between the two cultures than any other, because for 60 years both have spent significant effort in propoganda.  So it's difficult for most Westerners to be objective on this topic.

One theory on the divide between the two similar cultures was the decision for Russia to accept Christian Orthodoxy, started by Peter the Great (thus creating a divide between their Catholic neighbors, such as Poland, Croatia, Latvia and others).  If you look the dividing lines of political and economic alliances in Europe, historically, there seems to be a correlation with the dominant religion.  Not that any of these countries are of significant importance, but if all examined through this eyeglass, it seems that differing ideologies happen to be divided along these lines.  Many of the anti-Russia US hawks for example, are either of jewish or catholic heritage.

The American Revolution

One interesting fact not reported much was Russian support for America during the American Revolution, both directly and by financing France, and through diplomatic and trade ties.  Not that Russia was doing the US any favors in that time, it simply supported their situation, and that they had an interest to not support the British.  But it should not be forgotten, that Russian support was crucial for the Americans in their struggle against the British.

Alaska

Ironically, considering the current US policy about Crimea, the Alaska purchase happened due to circumstances during the Crimean war:

After the Crimean War (1853-1856) Russia felt concern that the British would seize Russian America if a war broke out, strengthening the British in the north Pacific. To avoid this and to raise money, Russia offered in 1859 to sell the territory. In 1867 the United States purchased the whole of Russian America (Alaska) in the Alaska Purchase. All the Russian administrators and military left Alaska but some missionaries stayed on because they had converted many natives to the Russian Orthodox faith.[20]

US annexations

The larger territory of the current United States was largely purchased or annexed (skipping the original 13 colonies which is a whole different issue).  Since the Revolutionay War, the US has aquired most of its territory by this method.  In that time the US was a new country.  These new aquisitions were exploited by the US, and helped fuel the US industrial revolution, and finally, what enabled the US to build a war machine during the 1940's.

World War 2

World War 2 was the defining moment in American history when the US rose to superpower status, eventually creating the US Dollar as the dominant currency for trade in the world.  Before World War 2 (and more so before WW1) the US was largely isolationist, not seeing the relevance of foreign affairs.  But due to a number of circumstances, and the influence of the British (again, ironically) the US entered WW2 which changed world history.  It should be remembered however, that this was a new idea.  Before WW2 the US Army was largely comprised of Calvary soldiers on horseback.  There was no real Army capable of fighting in that time, the US was not prepared for war.  There was not a significant Navy, and certainly no advanced military technology, and no nukes.  While most of the world was at war, the US was able to convert its industry, organized by powerful US corporations, to build munitions instead of consumer goods and other products (guns vs. butter).  This gave the US the advantage, finally 'winning' the war, and leaving many nations indebted to the US.  This is important because this is the origin of American power, and many of these relationships, such as US-German relations, and US-Japan relations, exist to this day, because of WW2.

Since WW2, most countries choose to use the US "Petrodollar" - for a number of reasons.  But the system is very fragile; as we can see from its origins.  For example the deciding factor of 'winning' WW2 was the Manhatten Project, composed of many refugee German scientists.  Historians have explored that Germany was in fact working on a similar bomb, but due to their extensive obligations in their operations, were not able to complete it.  That, and other advanced technology being developed by Nazi scientists, certainly would have created a different world, economically speaking.

European influence

Both the US and Russia have been largely influenced by Europe, both in trade and politics.  But differently, Russia has been invaded many times by aggressive forces, which the US has not (aside from Canadians burning down the White House but this was not militarily significant).  Yes, Japan bombed Pearl Harbor, but only because Roosevelt threatened to cut of their oil supply.  And it certainly was not an 'invasion' - such as happened to Russia during WW2.  In many ways, Russia is more the victim; or at least to say has experienced more hardship as a nation, due to circumstances beyond their control, mostly created by outside influences.  

Origins of the Cold War

Henry Kissinger had recommended to Nixon that one of the most important strategic alliances for the US to pursue was with Russia.  His logic was that both countries were culturally similar (more so than for example China) and that a deal with Russia would have cemted both countries long term supremacy and boosted trade.  This was never pursued (and maybe never considered) in favor of a hostile policy thus creating the cold war, but it allowed huge spending into the military industrial complex.  Since then, the US instead chose to have a special relationship with China, which is now on the verge of a major financial bubble.

During this era, the CIA did and intensive analysis of the potential military risk of Russian aggression.  The CIA concluded that the Russians have no intention and no capability of posing any risk to the US.  But in a press conference, Rumsfeld eloquently said that "Just because we didn't find any threat or capability, doesn't mean they don't have one" and based on this reasoning, we entered the cold war.  

This information indicates, it was US hawks that initiated an aggressive policy against Russia first.  General Patton has pleaded with his commanders to fight the Russians in Germany.  Although the cultures are similar, there seems to be some genetic mistrust (or can be explained in a number of different ways, but its not rational).  In any case, billions have been spent on propoganda demonizing Russians that they are 'criminals' - according to one prominent propoganda film, Communism is an "International Criminal Conspiracy" (although it was Wall Street that financed the Bolshevik Revolution).

It would be extremely politically inappropriate to mention Israel in this context.

Nuclear Age

Since WW2, real war between two states has become impractical, between nuclear powers.  Even with other states, the alliance with a nuclear power then makes war just as impractical.  The new war can only involve minor tit for tat conflicts, or be economic.  Possibly for this reason, policy makers and scholars in Russia have started incorporating a policy of 'tanks not banks'.  This also may explain why the US has not annexed any territory since WW2, and many other policy shifts.

Markets Politicized

Supposedly, free markets operate based on free and open trade.  By imposing sanctions, limiting the use of the SWIFT system, and blocking Visa transactions, it changes the dynamics of the market, irrespective of the potential harm to targeted parties (although many analysts conclude sanctions will harm the West more than Russia).  Russian banks and oligarchs probably own at least a few shares of almost all US issues.  A certain majority of Russians are NFA members, RAs, etc.  Our economies are intertwined, all economies are intertwined, a policy forwarded by those such as Thomas Friedman.  

If sanctions include the asset freezes of any company owned by a Russian, does that include Bank of America, Caterpiller, McDonalds, etc.?  What about holdings of the oligarchs, Russian banks, citizens, inside the US?

Russian position

As one commentator said, the US is playing marbles, and the Russians are playing Chess.  The following video is a must watch, vivid analysis of the Russian position.  It's no indication that this will or will not happen, but in this case, they are holding all the economic cards:

The situation in Crimea, which has nothing to do with the west, is irrelevant for the West.  The relationship with Russia participating in the Western economic system is a net benefit to the West.  Russian businesses operate in the US, UK, Germany (not to mention supplying energy to the EU) and invest in the West.  They are great customers.  Obviously the current administration never worked in the real economy, learning the expression that "The customer is always right."  Since Crimea was previously part of Russia, and its mostly Russian speaking, Russians living there, this is really a non-event.  

West position

Not understanding all this, the West has created a situation where many will question the legitimacy of Western markets.  Making the economy political changes the dynamics of the market.  If we traders and investors spend our energy analyzing the markets to make decisions, and then to have our assets seized or a company we invest in, then it seems we are all in the wrong business.  Certainly that is not the idea of capitalism, or free markets.  Like during the 2008 credit crisis, when we explored the idea of losses are socialized and profits privatized, this is a very bad omen for not only the asset values, but also the proper functioning of the market.  

Don't forget 1991 and 1998

When the Soviet Union collapsed in 1991, trillions of dollars flowed into the West, creating and economic boom for a decade.  Oligarchs seized control of previously state owned assets and many of them invested in the West.  Trade opened, and the West did business in Russia.  One of the dominant Forex trading platforms is from Kazan, Russia (Meta Trader).  The economic effects of this event have only been slightly examined - however it can be said they were significant.

Then, in 1998, Russia devalued the Ruble and defaulted on some of its obligations, in a period of economic reorganization.  The 1998 event is significant because it almost collapsed the world financial system - not by intention, but because of volatility created, which the largest hedge fund in the world at that time, LTCM, was exposed to.  Specifically, LTCM was not exposed so much to Russia directly (they were) but it created a chain of events that created havoc in the derivatives market, opening but bond and option spreads to unseen levels, and destroying liquidity (similar to what happened in 2008 which was a US issue).

Conclusion

It would not be difficult for Russia to start pricing goods in non-USD.  Certainly, the US is not going to nuclear war to protect the Petrodollar, as was done in Iraq, Libya, and others.  Russia is a huge consumer of USD, not only for reserves, but for trade.  Russia has a very strong position, it likes the relationship with the USD, but if Russia feels that its becoming a net loser, it will not think twice about using Gold, Euros, Rubles, or some new Russian Bitcoin.  Also it will have a tremendous negative impact on US markets, as Russian money flows out, and trade encouters problems.

Any event such as this can create huge volatility in the USD and other US markets.  At that time, it's possible the US will react with further political moves to protect the USD (such as Nixon did, not honoring payments in Gold for USD creating modern Forex) including but not limited to, limiting the sale of USD.

Clearly, none of the suggested policies would be profitable.  There's more money to be made by trading, than through taxes and government restrictions, price controls, capital controls, and other regulations.  Dodd-Frank destroyed the retail Forex market in the US.  This situation can have far more damage.  But traders and investors should be vigilant, understand what's at stake, and understand the potential market impacts; either to profit, or to protect their portfolios.