- The Washington Times - Monday, March 31, 2014

Although the United States has ruled out open military conflict in response to Russia’s annexation of Ukraine’s Crimean Peninsula, some see growing risks that the two former superpower rivals could sink into a kind of economic Cold War.

The U.S. and its European allies have taken small steps by sanctioning individuals close to Russian President Vladimir Putin and by freezing or postponing trade talks and other measures intended to strengthen economic ties with Moscow.

Both sides are threatening larger measures if the Ukraine crisis worsens, and Congress and the financial markets are on alert for a number of extreme scenarios.

Russia owns about $200 billion of U.S. Treasury bonds as a result of hoarding and reinvesting U.S. dollars it has earned on the sale of oil exports in the past decade or two. The amount is far smaller than China’s $1.5 trillion war chest, but still a massive stockpile that it could deploy to try to hurt the U.S. economy.

Analysts think Russia has moved more than $100 billion of the bonds outside U.S. borders to havens where they could be sold off to the detriment of U.S. financial markets without interference from U.S. authorities.

The U.S., meanwhile, has weapons it could deploy if the economic standoff heats up. Most notable are increasingly plentiful oil and natural gas resources that some analysts say could drive down prices of the oil and gas exports that provide a lifeline for Russia’s economy.

Though the White House has stayed mum, rumors have surfaced in crude oil markets in recent days that the U.S. might flood global markets with releases from its 727-million-barrel Strategic Petroleum Reserve to try to drive down prices on Russian oil exports, perhaps the toughest retaliatory move at President Obama’s disposal.

“A new economic war is already in full swing,” said Herve van Caloen, a managing partner at Belpointe Asset Management.

He added, however, that the West is not as prepared as Russia to take drastic measures to win the confrontation.

Putin is likely to win the first round” by putting Ukraine in an economic vise, the analyst said. “He is already adjusting the subsidized gas prices sold to Ukraine to market levels.”

Since the cash-strapped new government in Kiev can’t pay, Mr. van Caloen noted, the West has stepped in with a $38 billion emergency aid package. Thus, “our help to Ukraine will thus go straight into Putin’s coffers,” he said.

The West has reacted with light-handed sanctions that “punish the kleptocrats [surrounding Mr. Putin], not the Russians,” he said.

“This may work, but it is difficult to believe such a response will not escalate into an economic war. Tit for tat is going to continue until someone throws in the towel.”

Russian bond weapon

Russia already is moving toward what could be a second, more serious escalation in the war. It withdrew as much as $118 billion in Treasury bonds from custodial accounts at the Federal Reserve during a two-week period in March, Mr. van Caloen said. Even if Russia does not outright sell the bonds en masse in an effort to roil financial markets and drive up U.S. interest rates, “Russians are unlikely to buy our Treasurys for a while,” forcing the Treasury and the Fed to scramble for other buyers, he said.

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