Shrewd oil politics played out in Europe with ramifications for all

By Dr Swasti Rao| Published: 14th December 2022 12:07 AM
Image used for representational purpose only. (Photo | AP)

The EU-wide ban on Russian oil came into effect a few days ago when the Group of Seven (G7) advanced economies and Australia agreed on a $60-per-barrel price cap on Russian seaborne oil and petroleum products. The cap and the EU sanctions both came into effect on December 5. The price cap has been introduced as a safety valve against the harsh impacts of the oil ban on the global economy and oil flows.

The price cap has three broad objectives—control volatility in energy prices, impede the revenues Russia earns from energy sales, and for countries outside of Europe, ensure a reliable supply of Russian petroleum products in the global market so that developing markets are not cut off from Russian oil supplies.

While the West, sans the EU, had already imposed oil sanctions in March 2022, the EU took a six-month window to discuss the conflicting issues entangled in banning Russian oil. The December 5 ban is the first part of banning Russian oil. The second part will take effect on February 5, when Russian petroleum products will also be banned.

EU’s repeated failures at coming to a universally agreed price cap have gripped the attention of economists worldwide. If the EU had failed to form a consensus, then the oil ban would have taken effect without the safety valve, which may have spelt doom for the energy sector and in its wake, for the global economy reeling under massive strains already.

The delay in deciding on the price cap was less to do with countries like Germany’s and France’s respective stands on Russia, but from other states within the EU. Maritime nations like Greece, Cyprus and Malta were softer on the price cap because of the vested interests of their shipping industries. The other group of the three Baltic States and Poland argued for capping the price low enough so that Russian revenues could be severely damaged.

Several rounds of agreements were held before a compromise was struck.

It would be counter-intuitive to imagine President Putin had not already factored in the ban. Anticipating the oil sanctions, Russia had already started diverting its seaborne oil exports at a 30% discount to China, India, and Turkey. This shift was done to substitute for the volumes sent to Europe.

Does it mean that the oil sanctions would not have any role to play in lessening Russia’s oil revenues?

Russia was shipping about 1.7 million barrels of oil to Europe daily, already a million barrels less than in January 2022. Russia will not be able to shift all that oil to alternate markets. Even in the best-case scenario, Moscow will lose a million and a half barrels of oil per day to logistics. It does not have enough ships or pipelines to divert all of its erstwhile exports to Europe. Therefore, Russia will lose volumes, regardless of the price.

The geo-economic entanglement gets denser: Whether it will impact global pricing would also depend on the Saudi-led OPEC oil cartel. Whether OPEC will ramp up production to replace the lost 1.5 million barrels of Russian oil from global supply or not—is something on which OPEC has not issued a statement yet.

If OPEC doesn’t, then the price of Brent might go up to $100 per barrel or more. Even after discounts, Russia will still earn more money than the current cap of $60. But on the other hand, the net loss will still be in terms of export volumes that Russia will lose.

It is precisely for this reason that the price cap has been introduced as a safety valve, which will ensure that, one, prices don’t skyrocket as significant parts of Russian oil disappear from the global market, and two, that Russia keeps flowing its oil to alternate markets. Sensing their indispensability, markets like China, India and Turkey would be better positioned to seek more discounts. That is what Janet Yellen, US Treasury Secretary, emphasised on during her recent trip to India.

If, however, OPEC does ramp up production, it would ease the prices of oil globally but would affect the net profits of the OPEC countries. Russia, on its part, would still lose volumes, as stated earlier.

A critical part of the sanctions package (Article 3n of the EU Regulation) concerns shipping insurance. Shipping insurance from the European Union and the United Kingdom lies at the core of the maritime insurance industry. This factor will hinder Russia’s ability to redirect crude oil and petroleum products to other regions. Ship owners will be reluctant towards uninsured Russian cargoes.

Alternative insurance providers in Russia, China, India or other countries are likely to step in, but if they have any European connection or component, they would be allowed to carry oil sold only at $60 per barrel or below, no matter what the global prices are.

Reports show that Russia has recently bought about 100 tankers to maintain exports after the ban.

The bottom line is that the ban and the price cap will not deter Russia from the war or stop Russia from selling oil but will impact the export volumes significantly.

In the short run, a rising trade surplus ensures enough money to sustain Russia and fund key military industries. But in the longer term, the Russian economic model might weaken considerably alongside technological shortfalls.

Global crude flows are changing their tracks along the world map. Europe has started to import more oil from the United States, West Africa, and West Asia. European refiners looking for substitutes for the Urals blend could turn to crude oil from Norway, Iraq, and the United States.

That said, replacing all lost volumes from Russia will be an equally humongous task for energy-starved Europe. And before Europe finds a way out, there will be a painful period of economic hardships cutting down its industrial output.

Therefore, the chessboard of geopolitics and geo-economics is being played out at its shrewdest best in Europe with ramifications for all.

Dr Swasti Rao

Associate Fellow, Europe and Eurasia Center, Manohar Parrikar Institute for Defence Studies and Analyses

(swastiraojnu@gmail.com)

(Tweets @swasrao)

Tags : Russian Oil G7 OPEC

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