The 2020s appear to be a never-ending parade of global groupthink. The Russian Oil Price Cap is yet another stupid and self-destructive idea that should have been suffocated at birth. It cannot possibly achieve what its supporters claim, and it represents emotional value signalling from the Big Hug Club rather than any semblance of rational thought.

The belief is pure neoliberal hubris, based upon a category mistake and a complete misunderstanding of how national economies and their currencies work.

The Belief

The plan is to impose a price cap of $60 on Russian Federation oil and refuse insurance to any ship carrying Russian oil above that price cap, denying Russia the revenue it needs to prosecute its action in Ukraine. The US Treasury Secretary, Janet Yellen, said the oil price cap “will help us achieve our goal of restricting Putin’s primary source of revenue for his illegal war in Ukraine”.

She continued: “Today’s action will also help further constrain Putin’s finances and limit the revenues he’s using to fund his brutal invasion. With Russia’s economy already contracting and its budget increasingly stretched thin, the price cap will immediately cut into Putin’s most important source of revenue.”

This rhetoric is repeated across the West. However, a moment’s thought should tell you this is all a pack of lies. The price cap is in US dollars. Russia doesn’t use dollars. It uses Roubles. Russian Taxes are paid in Roubles. Putin settles payments for his war using Roubles. Oil and gas in Russia are pulled out of the ground by workers paid in Roubles.

Missiles are not made with dollars. They are made by people working in factories fabricating and assembling them.

The category mistake is the ongoing belief, instilled by neoliberal thinking, that governments require tax revenue to spend, even though Beardsley Ruml, a former chair of the Federal Reserve, explained back in the 1940s why that does not and cannot bind a nation. Taxes for Revenue is and remains an obsolete concept.

Why it Won’t Work

An individual company will want to export to make a monetary profit. However, the national economy only needs to export to the extent that it can obtain imports in exchange for them. Imports raise a nation’s standard of living. Exports are the cost of obtaining imports. Exporting in excess is, therefore, potentially a waste of national resources. Since Russia is barred from obtaining imports from the West, it has no national interest in exporting anything to the West.

In addition, Russia is banned from dealing in Western currencies, and the West has banned its populations from dealing in roubles. Paradoxically, that makes the exchange analysis very easy indeed: nobody in Russia needs Western currencies as there is nothing to buy them. However the energy sales to the West need to be exchanged, at least in part, for roubles as the Russian energy firms have bills and taxes to pay.

That imbalance should make it very difficult to get hold of roubles in exchange for Western currencies, and the exchange rate is only being prevented from ascending into the stratosphere by the intervention of the Russian banking system.

In effect, Western currencies are confetti from the Russian point of view - as useless as Reichsmarks. The exchange rate exists to prop up the energy firms in rouble terms, with the Russian Central Bank discounting FX settlement balances into roubles as required.

The Russian banking system ensures that the oil companies get enough Roubles to pay their staff, their suppliers and the government’s tax. This happens whatever the amount of Dollars/Euros/Pounds the energy firms get in the front door, whether that is one or one billion. The exchange rate will buffer the problem if the Russian banking system thinks it needs to.

Moreover, Putin’s government provisions its activities like all governments provision their activities - by commandeering the resources of the nation via votes in the legislature. The real tax point is when a government takes something for its use and deprives the private sector of access to it, not when money is handed over. Money is just a way of shifting the burden of that confiscation around the nation.

The government may give the people some roubles for the resources it commandeers so that they can transact with others. Those others then stand the loss instead when they settle their tax bill. This way of looking at things is not a new idea - Keynes laid it out in depth in How to Pay for the War in 1940.

All governments of sovereign nations settle payments in the same way - an interest-free overdraft at the central bank which is then partially eliminated as taxes are collected, leaving the balance as additional National Savings in the currency of issue. In all cases, the underlying asset the central bank discounts is the state’s power to tax. The ‘missing taxes’, that cause so much wailing and gnashing of teeth, will turn up, automatically, when the National Savings people hold are finally withdrawn and spent.

The ‘power to tax’ asset is disguised by the foreign and real assets the central bank chooses to take onto its books in exchange for issuing its liabilities, whether that is gold, foreign exchange, IMF claims, or anything else. An ‘anything else’ that could easily include barrels of oil.

These masking assets, detectable by not being denominated in the reporting currency, hide the ‘negative equity’, ‘government overdraft’, ‘ways and means provisions’ or other description of the balancing item that would otherwise show up on the balance sheet.1

Stripping away these distractions and looking at the underlying processes shows how things actually work. The Russian government can place orders for more missiles, pay for them in roubles, allow the tax system to place the burden of producing those missiles on the Russian people and, where people decide to save in roubles, mask some of those savings in the accounts via a notional tax on energy exports.

That process will continue whatever price the West tries to impose on oil exports and whether Russia decides to send any of its oil abroad or not.

The Blowback

The impact of the price cap will be felt in the West, not Russia. Increased uncertainty and risk will raise energy prices across the board. The oil cartels may not raise production to maintain oil prices in the usual range. With depleting wells they may not even be able to.

In the meantime, Asia will feast on an energy bounty and further reduce its cost of production. Is the West sure that Eastern appetite for consuming fancy logos, snappy advertising jingles and banal lowbrow entertainment will stay strong enough to allow the West to feed and power its populations?

Or is our time living high on the hog coming to an end?

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  1. You can make the balancing item show up by splitting the balance sheet into two departments: one containing all financial items actually denominated in the reporting currency, and one containing everything else. ↩︎