One of the war aims of the Western alliance – in close coordination with the cabinet of Ukrainian President Volodymyr Zelensky – was to weaken Russia militarily by making it poorer.
In view of the enormous riches amassed by Russia’s extractive industry since February, this strategy, while comprehensible, has not gotten anywhere. Gasprom, for instance, having throttled its European deliveries to a trickle, managed to double its income regardless. What little it is piping to Europe is just that much more expensive, making gas flaring a profitable proposition.
The US, the UK and Canada have banned Russian oil altogether, and the EU will ban sea-borne Russian oil in December, and Russian refinery products from spring 2023 onwards. Moreover, the EU has decided, in rare concordance with the UK, to ban the reinsurance of Russian oil shipping later this year, thereby affecting also exports to countries that have not signed up to any of the sanctions imposed by the west.
Such a ban would have a sizable impact, as Europe has a quasi-monopoly in maritime insurance, covering more than 95 per cent of all insurance written.
This latest proposition did not go down well with the US, which feared its potentially crippling impact on oil markets and hence inflation. It is one thing to buy someone else’s oil instead of Russia’s as long as overall market volumes are not diminished. As China, India, Turkey and others gobble up Russian oil at steep discounts, non-Russian suppliers are happy to sell their own oil at no discount to the sanctimonious.
Yet the proposed insurance ban would be more damaging for the market as all oil shipments would be hit, including those heading for China. It makes ship owners certainly think twice if not only their cargo and vessels remain shoddily insured (by Russian or Chinese insurers) but their third party liabilities too, covering maritime accidents or oil spills which come with ruinous cleanup costs of billions of dollars.
This is why US Treasury Secretary Janet Yellen is travelling the world since last year to promote her most ambitious proposal, a price cap on Russian fossil exports. It has gained traction. All G7 leaders and most European countries have come around. The concept goes like this:
Russian cargo can remain fully EU or UK insured, as long as the price for its cargo would not exceed an imposed maximum price. As the US and the UK and Canada are refusing to buy any Russian oil at all, and China and India have already driven a hard bargain with Russia demanding discounts for Urals-grade oil of more than 30 dollars per barrel, this price cap would be only effective for those countries still buying Russian crude and having signed up to the grand plan.
It would further demand that the EU back-steps on its unanimous decision on insurance sanctions, essentially hoping that another agreement can be reached. Hungary, for instance, which remains a close partner of Putin, did not object to a maritime insurance embargo, as it receives all its Russian oil by pipeline. But it might object in a second round out of principle, or to make it a bargaining chip with the EU.
The ban on Russian oil was never quite clear-cut. Russian cargo shipped to the Middle East or other large oil terminal operating countries was ‘blended’ and re-sold as non-Russian oil, a ruse legally possible. It stands to fear that the very academic concept of a buyer’s strike by “capping” prices would follow the same practice.
Russia could, for instance, sell a cargo and some other stuff in one contract, making it impossible to single out the price for crude. That is, if Russia as the seller is willing to stomach a cap at all. As Putin generally, and in his war efforts particularly, cannot be bothered with the economic cost imposed on his people, he may refuse.
More likely he will retaliate with export bans to ‘unfriendly countries’ as he already does with money transfers; the more so as Russia has lined up a full array of willing buyers.
Maximum prices are impossible to calibrate and difficult to police- Andreas Weitzer
Expecting such adverse reactions, Brussels was, for instance, at pains to impose a gas price cap on Russia lately. Too timid and too legalistic to single Putin out, it suggested a price cap for all gas suppliers, which would include Norway and Algeria too, for instance, both badly needed to alleviate shortages. As much as we’d wish for a world where oil and gas cost less: why would any producer on earth decide to ship any cargo to Europe for less than market prices? Supplies will fall, not prices.
The difficulty to impose a price ceiling is obvious. As long as there are other buyers and as long as Putin weaponises his energy exports to Europe, a price cap remains wishful thinking. But such a cap presents also a calculatory hurdle. The suggested Russian price cap “at or slightly above production costs” – mooted is a price between 40 and 60 US dollars – is even in theory difficult to compute.
HIS Markit assumes Russian production costs to be between 30 and 40 US dollars per barrel. Reuters reported in an earlier study costs as low as three to four dollars. Who is right? Such math always depends on the rouble exchange rate too, which fluctuates.
Not even state-owned Russian oil companies can be motivated to sell at a loss. Any company activity has to remain profitable to proceed. A price cap, no matter how academic, would have to cater for that.
Excluding for a moment Russian federal taxes, which at times can be as high as 95 per cent and may explain wildly differing views on Russia’s upstream costs, some fields can produce at negligible marginal cost, while others, like deep-water wells in the Arctic, are very expensive. How to strike a balance? It is safe to assume that a nominated price cap will be arbitrary.
This will be, as I have outlined above, without consequence, as the price cap mechanism will remain a paper tiger, and a highly embarrassing one for that matter. At the end of the day, as recessions are threatening Europe and the world, demand destruction may break the oil price and bring us back to a world with collapsing crude oil prices, falling well below all those cleverly designed price caps.
A much better way to reduce Russia’s income streams would be to impose import tariffs on Russian oil. They are, like all duties, easy to administer, clear cut, and leave the bargaining to buyer and seller. Such tariffs would boost tax revenue and disadvantage Russian supply more broadly.
I would even suggest dropping all import bans and replacing them by simple tariffs and let the markets take care of the rest without dictating maximum prices which are impossible to calibrate and difficult to police.
Andreas Weitzer is an independent journalist based in Malta.
The purpose of this column is to broaden readers’ general financial knowledge and it should not be interpreted as presenting investment advice, or advice on the buying and selling of financial products.
andreas.weitzer@timesofmalta.com