The Race To The Bottom

Date: 7/26/2022
Author: Mr. X

The last thing the global economy needs is a race to the bottom, but that’s what it’s getting, and it’s almost certain to sink Europe.

The war between Ukraine and Russia has been portrayed as a clash of civilizations on the borderlands of “the West” and Orthodox Russia. Russia’s “civilizational” identity is something that President Vladimir Putin has repeatedly cited in justifying his invasion.

Some commentators express puzzlement at the seemingly idiosyncratic and contradictory symbols Russians and pro-Russian forces are using for the “Special Military Operation.” These include pictures of the Tsar, Orthodox icons, World War II imagery (including the famous “Victory Banner”), and the hammer-and-sickle of the Soviet Union. In reality, these symbols speak to a larger shared experience and identity that transcends any particular ideology. Ukrainians are being asked to choose (at gunpoint) between these symbols and what the modern West supposedly represents.

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What “the West” itself represents isn’t clear, beyond some vague notions of freedom and democracy. This isn’t to mock the West’s lack of a center. Imagine trying to come up with a coherent ideology that combines Stalinism and Orthodoxy beyond “this is some stuff we all went through together.”

It’s better to make the choice tangible. What’s at stake is European identity of Ukraine. This means, in real terms, Ukraine’s participation in European institutions including the European Union and NATO. This is fundamentally what the Maidan, or the “Revolution of Dignity,” was all about.

It’s also what many in eastern Ukraine, especially in the self-declared Donetsk and Luhansk People’s Republics, reject. For many in those regions, the war has been raging since 2014, with supposed ceasefires doing little to discourage continued attempts by Kyiv to reclaim its sovereign territory.

It’s tempting to call those in the eastern part of the country backward-looking, at least from an economic perspective. After all, as the Baltics and formerly captive nations like Poland and Hungary have shown, membership in Europe proper leads to prosperity. Accept the connection to the global economy and the American-led rules-based international order and you prosper.

However, that bargain no longer seems to hold up. Membership in Europe doesn’t look like much of a prize if you have to outsource your foreign policy to Washington.

While the United States may be entering a recession, Europe faces far more serious challenges.

The Italian government has collapsed and nationalists who may favor a softer line on Russia are leading in the polls.

Boris Johnson may have been more responsible for Brexit than anyone other than Nigel Farage, but he essentially reintegrated the United Kingdom into the European diplomatic structure by leading the effort to supply Ukraine with weapons. However, he too will soon be out of power, and his Conservative party is fading in the polls as the British people face higher electricity bills.

Germany has restarted coal plants and the Ifo business sentiment survey announced that corporate confidence had collapsed in July. The possibility of a Russian cutoff from natural gas has put the country on the brink of recession. Given that Germany powers the entire Continental economy, few other nations can expect an escape.

Over the weekend, Hungarian president Viktor Orban gave a deeply pessimistic speech essentially announcing the end of the “End of History.” “This ability that the Americans used to have of getting everyone on the right side of the world and of history, and then the world obeying them, is something which has now disappeared,” he said. He warned of a “decade of dangers” and “the general feeling… that the world is steadily deteriorating.” Orban also said a “multipolar world order is now knocking on our door.”

This invocation of a “multipolar world order” may shock many, as it sounds familiar to the rhetoric of Russian president Vladimir Putin. However, the reality is that the United States has largely failed to isolate Russia from the rest of the world. Russia may have been expelled from “the West,” but few others seem to care. While Russia’s claims to be developing a new currency in alliance with other members of BRICS (Brazil, Russia, India, China, and South Africa) may be a bit overstated, the fact that India and Brazil are even doing business with Russia is shocking. If the United States can’t even compel its own hemisphere to follow its lead, it raises real questions about the future of American hegemony.

Russian Foreign Minister Sergey Lavrov recently told the world that the war will continue essentially indefinitely. He has returned to rhetoric about regime change in Ukraine. “We will certainly help the Ukrainian people to get rid of the [Volodymyr Zelenskyy] regime, which is absolutely anti-people and anti-historical,” he said. It’s worth noting he gave these remarks at an Arab League summit. Arab leaders have not obeyed American wishes to increase production to lower oil costs. Polls in the developing world also show a surprising number of people blame the West for starting the war in Ukraine. For example, South African president Cyril Ramaphosa blamed NATO for the war in March. Minister Lavrov will be visiting Africa this week to rally diplomatic support for Moscow.

President Putin is also framing himself as a kind of leader of the developing world and a champion of anti-colonialism against the “golden billion” who populate the West. “Why should this golden billion of all the population on the globe dominate over everyone and impose its own rules of behavior?” he recently asked. He further claimed the West essentially “divides the world into first-and-second-class people and is therefore essentially racist and neocolonial.”

In contrast, President Volodymyr Zelenskyy of Ukraine enjoys massive support and pop icon status in the United States. He has cannily framed the defense of his country as the defense of a united Europe, blaming Russia for increasing energy and food costs. Such rhetoric is welcome in the United States, but in Europe, it is increasingly looking desperate, an exercise in shaming. Those in Germany, France, Italy, the United Kingdom and other countries may support Ukraine rhetorically, but may be unwilling to sacrifice the longer the war goes on. Russia, which has yet to even declare war and which is relying heavily on private military companies and “volunteers” taken from rural areas outside the more Westernized urban areas, seems quite willing to wage a long war of attrition. It’s doubtful whether Western populations have the attention span for a war that will cost them more heavily as time goes on.

One of the key elements of President Orban’s recent speech was his complaint that Europe had lost the opportunity to influence events. This is perhaps the hardest pill for the Continent to swallow. French President Emmanuel Macron, who was recently re-elected, used to speak about the possibility of Europe’s “strategic autonomy” and the power of the Continent to set an independent course from the United States. Instead, Europe has helplessly followed the American policy on sanctions, thus making it very difficult for Berlin to complain about Russian moves to cut them off from gas. After all, Moscow could easily respond that if European sanctions were lifted, the cheap energy would return to Europe.

For investors, this is gradually descending into a nightmare.

Russia’s strategy at this point is to hold on to Kherson in the south and the landbridge to Crimea. Meanwhile, the main effort is to “liberate” the Luhansk and Donetsk protectorates. Luhansk is already fully occupied by Russia. If Russia can push Ukraine out of Donetsk, it would not be surprising for President Putin to simply declare victory, or at least signal a willingness to negotiate. President Zelenskyy has already rejected any land-for-peace deal, but a war of reconquest seems absurd unless the West provides even more military help or even air support.

The gamble that Moscow is making is that hardliners within Ukraine will prevent President Zelenskyy from even considering such a deal. Moscow may be right; Ukraine is currently rounding up hundreds of officials accused of being traitors and spies for Russia. If President Zelenskyy shifts position and suggests a willingness to formally cede Crimea, he may face similar charges from hardliners at home.

The key to all of this is China, which has not backed Russia as fully as many feared. Yet that could change at any time. Speaker of the House Nancy Pelosi recently said she was going to visit Taiwan. The military pushed back against this move, but now that the spat is public, she can no longer back down without it looking like weakness. Republicans including Senator Ben Sasse and former Secretary of State Mike Pompeo (who is probably going to run for president) are already saying she should go, with the latter even offering to accompany her. China has vowed “forceful measures” in response. China wouldn’t need to do anything forceful, but simply provide a bit more economic aid to Russia.

As this is written, it is breaking that Gazprom, Russia’s state-owned energy company, will be cutting gas deliveries starting Wednesday. The company claims it is a technical problem involving a turbine. I suppose anything is possible, but that’s an amazing coincidence.

The truth is that Russia is responding with the same kind of hardline economic measures that the United States imposed on it. Europe will be pay the costs in this Russian-American proxy war. Look for some Western European nations to start trying to find wiggle room when it comes to sanctions on Russia. While I doubt we’ll see a major break with NATO and the United States, European governments can’t take the support of their populations for granted. Look for more pressure from Western Europe for a negotiated peace.

Mr. X is an investment analyst working in the Washington DC area who specializes in the intersection of business and public policy. After fifteen years working in politics, he writes on a classified basis for to bring you news on what those with power are debating, planning, and doing.

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