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Crude oil futures fell hard Monday despite a major military engagement in Europe that could have large repercussions on the global oil market.

For energy traders, the U.S. economy was clearly the top news issue Monday. However, the effect that the slower U.S. economy will have on the global supply/demand equilibrium for oil pales in comparison to the potential consequences of Russia's military engagement with Georgia.

Today at the New York Mercantile Exchange, futures for September West Texas crude fell 75 cents to $114.45 a barrel, and Brent settled flat at $113.33 a barrel. Heating oil shed a penny to $3.12 a gallon, reformulated gasoline lost a penny to $2.87 a gallon, and near-term natural gas edged 7 cents higher to $8.35 per million British thermal units.

Russia's new full-scale war -- its largest military engagement since the dissolution of the Soviet Union -- was generally overlooked by most energy traders today. However, the long-term ramifications of the conflict could alter global oil supplies in a major way and will likely have a much larger impact on oil prices in the long run than will minor adjustments to U.S. GDP growth.

Russia has now effectively split Georgia in half, according to corporate intelligence group Stratfor. Russia has taken the Abkahzia and Ossetia regions of Georgia, which make up most of the country's coastline on the Black Sea. According to reports, Russian troops have almost reached the city of Gori, which lies in middle of the country in the Shida Kartli region. Russia is also reportedly bombing the airport in Tblilisi, Georgia's capital.

If the reports are correct, Russia is within 100 miles of assuming control of the Baku-Tbilisi-Ceyhan (BTC) oil pipeline. The second longest oil pipeline in the world, the BTC pipeline carries oil from Azerbaijan 1,099 miles through Georgia and Turkey to the Ceyhan Marine Terminal on the Mediterranean Sea. The pipeline first began transporting oil in October 2005. Scheduled to become fully operative in 2009, the BTC pipeline has a throughput capacity of 1 million barrels of oil a day. The pipeline is owned by Azerbaijani, U.S., European and Asian oil companies -- Russia has no ownership stake. Some media have reported that Russia's air force has bombed the pipeline in the last 48 hours.

The pipeline was expressly built to circumvent Russia and carry large quantities of oil from Asia to Europe. Long the dominant supplier of both oil and natural gas to Europe, Russia frequently threatens to plug Europe's energy spigot during the course of normal foreign policy. Lately, Europe has been working hard to squelch its reliance on Russian energy by building new pipelines that are out of Russia's reach.

Europe is building four massive new natural gas pipelines and a wealth of liquefied natural gas terminals that will displace two-thirds of the 150 billion cubic meters of natural gas that Russia sells to Europe annually by 2010. The BTC pipeline was supposed to do the same for European oil.

According to Jim Williams, energy analyst at WTRG Economics, Russia will control all oil and gas exports from the Caspian Sea if it takes Georgia.

"For Russia, control of Georgia and the BTC pipeline would restore much of its influence over many of the former satellites of the USSR," Williams wrote in a research note. "It would have the clear benefit of increasing Russia's energy chokehold on Europe."

A major lesson that oil traders hopefully learned from the recent slide in oil prices is that major and provable changes to supply and demand will ultimately beat out rumors, media chatter and speculation when setting prices for crude oil futures. Russia's attack on Georgia is of greater relevance to oil markets than are Nigerian rebels, and is easily of equal importance as Iran's nuclear program and its threats on crude supplies in the Persian Gulf. Energy investors are well advised to pay very close attention to further developments in the Georgian conflict.

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