Moneybeat - The economic nuclear option

MARY REICHARD, HOST: Next up on The World and Everything in It: the Monday Moneybeat.

NICK EICHER, HOST: Time now for our regular conversation on business, markets, and the economy. Financial analyst and adviser David Bahnsen is here. Morning, David.

DAVID BAHNSEN, GUEST: Well, good morning, Nick, good to be with you.

EICHER: Given the situation in Ukraine and that the main weapon for the United States and the West is not primarily military but rather economic and that’s, of course, your specialty. Why don’t you start by setting up the state of play on the economic sanctions front, responding to Russia’s aggression?

BAHNSEN: Yeah, I do think that it really will eventually come down to the sanctions. And I think one way or the other there is going to be capitulation. The question is, whose will the West capitulate to Putin? Or will Putin be forced to capitulate and grab some form of an off ramp, a face saving off ramp along the way? Now, when I talk about capitulation coming out of sanctions, I do believe the capacity is there to to force an ending pretty quickly. Some of the sanction efforts that have not yet been implemented: there's a lot of focus on targeting Russia's allowance on the SWIFT system, a banking mechanism for transfer of funds electronically around the international financial system. But I also think that there's an even more nuclear option, pardon the figure of speech, than the SWIFT system, and that is targeting Russia’s central bank, and effectively blocking the transactions of their own central bank with other international central banks, I think that would more or less ruin Russia's capacity for capital markets.

All of this so far, I've been focusing on the financial system and ignoring the real elephant in the room, which is energy. A blocking of Russian imports of oil and gas would ruin Russia. Now inversely, when we're talking about sanctions, Vladimir Putin could decide I'm not going to export oil and gas, recognizing he's doing significant economic harm to himself. But I brought up last week and I'll reiterate $640 billion dollars of Forex reserves that Russia now has, that's roughly 400 billion more than they've had in past situations. And so they do have a bit more financial lifeline. But the question for sanctions and the reason why it's a question as to how this thing will go, is that I do not know what the will and resolve is of both the US and Western European countries to do this. And therefore the uncertainty around who capitulates is unknown. Will we be looking at a situation where a Russian flag is hanging over Kiev, in a matter of days, and certain Western countries just start to accept it? At that point, I think you get long-term damage to global economic stability as it sinks in that we have allowed the international order to essentially fail. So that's how I'm seeing the chessboard right now, Nick. I'm sorry for the long answer, but there's a lot of things going on here.

EICHER: I wonder about hitting the Russian central bank. Is it possible that’s the best option with the lowest cost to the west? When we think about energy, especially for the Europeans but also for Americans, targeting oil and gas especially given the issue of who’s going to capitulate first, who’s going to feel the most pain? Is the central bank the way to go or oil and gas the way to go?

BAHNSEN: Well, first of all, to the first part of the presumption that the pain of cutting off Russian imports of oil (and) gas, that pain is to Europeans, the argument would be that Americans would feel it too, because prices would go higher. But I think prices would actually find equilibrium very, very quickly. And the US has its own access to oil and gas supplies, that there is no reason we would have to feel a persistent inflationary impact from it. So I don't even really believe that cutting Russia off that way, especially as a means to an end of ending this imperialist conflict, would net net be a negative I don't I don't accept that.

However, to your question on (the) central bank side, look, plenty of Americans are doing business with Russia. There's sales of goods and services. And there's also a lot of financial transactions that are caught up in the supply chain. We provide tooling and uncompleted goods that go into a process that means to completed product that is sold into Russia and If you cut off the central bank, you're very likely going to disrupt some element of transactions that would prove disruptive to some form of American commerce. Again, there's no free lunch as someone has written a book on, and we have no sanction effort we could take with financials, energy, prohibition on products being sold or bought - there's nothing we can do that doesn't harm us to some degree. There's a cost. The question is where the price to be paid is worth it. And that's where I would argue hurting - going after their central bank - hurts them more than us, and probably amounts to the greater good here.

EICHER: All right, David Bahnsen, financial analyst and advisor, head of the financial planning firm The Bahnsen Group.

Quickly unfolding story, lots of moving pieces, you can catch David’s daily writing at DividendCafe.com. He has a daily email newsletter on markets and the economy and, of course, he’ll be following the economic sanctions as they take hold. David, see you next time. Thank you!

BAHNSEN: Thanks for having me, Nick.

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