Photo by Waldemar Brandt
This past week the European Commission, the umbrella political organization for the European Union nations, issued its latest set of sanctions on Russia.
The most important of the measures was the announcement that the EU was establishing a price cap for purchases of Russian crude oil in global markets. In so doing, the EU in effect plans to become a cartel controlling the price of global oil.
Saudi Arabia and even OPEC in the past failed as a cartel to control the price of global crude by controlling its supply. Yet the EU believes it can become a cartel and control the price of oil even globally even without influence over global supply.
Under the plan, which still requires the approval of all EU economies, the EU will not buy Russian oil at global prices set by market supply and demand. Instead, it will buy Russian oil only at a price that is capped below that of the global market. Reportedly the participants in the Commission discussed a price per barrel of crude capped around $55-$60 a barrel. EU economies will purchase Russian crude only if it is sold to them at or below their ‘cap’.
The plan, if approved, will go into effect only this December 2022.
The idea of the west setting a price cap on Russian oil as a form of sanction originated with Janet Yellen, Secretary of the US Treasury, some months ago. It was an economically absurd proposition then, and remains no less so today. The price cap may not prove effective, but it does illustrate the ineffectiveness of sanctions to date on Russian oil and energy products (i.e. natural gas, uranium ore for Europe commercial nuclear facilities, etc.).
Global oil is traded (bought and sold) in the global market solely in US dollars. So too are other critical industrial commodities and many agricultural commodities. The main focus of US sanctions, including the price cap idea, is to deny the target country—in this case Russia—access to revenue in dollars from the sale of its oil. Theoretically, the loss of dollars from lower priced oil sales means Russia won’t be able to purchase as much needed imports critical for its economy in general and its war effort in particular. The lack of dollars in turn further means, again theoretically, Russia would have to print more of its own currency, the Ruble, to make up for lack of dollars in its own economy. That might lead to inflation as excess money supply is created for the domestic Russian economy. In turn excess money supply creation in Russia might lead to devaluation to domestic inflation and devaluation of the Ruble.
US initial sanctions on Russian oil and energy to date have largely failed. Russia’s export revenue from sale of oil has actually risen since sanctions and war began last February. Russia has sold more oil to China, India, and at least half of the world economies that have been ignoring US/EU announced sanctions altogether.
The EU ‘price cap’ idea is supposedly going to what oil sanctions up to now, which have been full of loopholes and exemptions, have failed to do—i.e. reduce Russian revenue from oil sales and its accumulation of dollars from those sales.
It is important to note that the EU itself has all but ignored sanctions on Russian oil to date. Russia has continued to ship oil to Europe. And the EU hasn’t even bothered to enforce sanctions on Russian natural gas imports or uranium ore shipments. What reduction in oil and natural gas shipments to Europe that has occurred, has been mostly due to political actions not sanctions. Last spring the Nordstream2 pipeline was quickly closed and more recently sabotaged. So too was the Nordstream1 pipeline. Prior to sabotage, Nord1 gas flow to Europe was reduced in stages by Russia to about only 30% of capacity. It wasn’t sanctions but decision by Russia that reduced the gas exports. There are two remaining large gas pipelines from Russia to Europe still functioning. One crosses the Ukraine and another transverses Turkey and the Aegean Sea into the Balkans. Europe has not tried to reduce gas flow from these with sanctions, although it is likely politics will result in their reduction and shutdown as well eventually.
But to the extent Russian natural gas flow to Europe has been reduced, the causes have been political and have had nothing to do with sanctions. So sanctions on Russian energy exports to Europe have hardly been implemented, let alone been effective. The EU price cap idea is supposed to finally result in sanctions on Russian oil sales and revenue.
Sanctions on exports to Europe and US of Russian industrial commodities have also been rife with exemptions, loopholes and work arounds. In the US, for example, Russian nickel and palladium exports needed for catalytic converters in US autos and in steel production have been significantly exempted. The US some time ago implemented sanctions on Russian oil imports to the US. The amounts of Russian oil imports were quite small. In any event, the US—unlike Europe—has a glut of excess oil and natural gas.
Russia has been earning significant export revenues therefore from the sale of its oil, natural gas, as well as many industrial commodities, ever since the US/EU sanctions regime was first imposed last January 2022. The ‘price cap’ is but the latest desperate attempt by the US and EU to make the sanctions on Russian oil to Europe ‘work’. But it won’t work. Here’s why:
First, the price cap is not going to take effect until December (if at all even then since all the EU nations must agree). So why should Russia even bother selling any oil to Europe in the interim. In business contract matters, if one party notifies the other it is breaking its contract and is no longer going to buy from the seller, that seller can simply cancel its contracts early and not wait until December. Russia will likely therefore cut off its oil exports to Europe sooner rather than later, and just redirect the oil elsewhere to China, India or rest of the world. No need for sanctions of any kind in other words.
But the price cap sanctions idea involves not just the EU buying Russian oil. The price cap is really the US/EU foray into what’s called ‘secondary sanctions’. That is, sanctions on other economies around the world. Up to now, the US has been careful about enforcing sanctions or penalties on other countries that refuse to go along with sanctions to date—and there are many such examples of economies that have been refusing to participate in sanctions. After all, if the Europeans themselves have allowed various exemptions to oil, gas, and commodities exports from Russia, why should other countries abide by the sanctions?
And there’s another even better reason why China, India and so many other countries globally have continued to buy Russian oil: Russia reportedly is selling its oil at around a 30% discount from the global market price.
The global market price today is around $80-$85 a barrel, depending if it’s west Texas crude or Brent (Northsea) oil. So Russia’s 30% discount means it’s selling at around $50-$60 a barrel now. If the EU is talking about setting a price cap at $55, what’s the point? It would have to set a cap even lower than it’s been discussing. But EU won’t be getting any Russian oil after December if Russia decides to turn off what little is still flowing there, as it responds to the price cap threat. And if the EU is not getting any Russian oil but it’s demanding the rest of the world economies adhere to the price cap, who believes the rest of the world is going to take that seriously. EU has nothing to lose from a price cap; but the rest of the world does.
Regardless of any EU artificially set price cap on global oil, should China, India and other countries support the idea just because the US and EU say so. Should they cancel their long term oil contracts with Russia at 30% discount from global market prices because US and EU say so? Buyers of oil and energy in global markets want price stability and reliable delivery. Russian oil provides that stability. The idea of a price cap means potential instability. And who would trust an arbitrary price cap set by Europe and the US as a bureaucratic political directive?
The whole idea of a price cap as a form of sanction set by EU/US by directive is absurd. Few if any will follow. But such is the arrogance of western imperialism to think they still have the power to enact and enforce such a measure. Perhaps in decades past. But no longer.
But the EU and US think they have an ‘ace card’ up their sleeve that will enable them to impose a price cap on the rest of the world: most of the shipping insurance companies are based almost exclusively in the west. What the price cap may have in mind is if other countries don’t follow the cap, then the shipping insurers won’t insure the ships that carry the Russian oil. That would stop the shipment of Russian oil to those countries not following the price cap. The price cap thus is designed to function as a form of indirect ‘secondary sanction’ on countries that don’t go along with the oil sanctions.
Europe is not the real target of the price cap proposal. It will get its oil from the US which will provide much of what Europe needs, albeit at a higher price than the alternative Russian oil. There’s no price cap on US oil; just Russian in the EU proposal.
Stopping the flow of Russian oil to other countries by means of a price cap combined with shipping insurance denial will likely result in a shift toward alternative shipping not located in the west. That means a loss of profits for western oil shipping companies. This has not been lost on Greek, Cyprus and Malta shipping companies who spoke out at the recent EU meeting discussing price caps. They are opposed to the price cap idea for good reason.
To sum up: the idea that the EU can become a global price setting cartel in the world oil market is absurd. What OPEC couldn’t do on the supply side, Europe cannot do on the demand side. Cartels only work if all parties go along, and China, India and the rest of the world simply will ignore and not go along with Europe thinking they can set an arbitrary price of global crude below its market price
The EU’s recent announcement of new sanctions went beyond just the ‘price cap’ idea. It also announced new sanctions on Russian imports to EU of steel, paper, machinery, appliances, chemicals, plastics and other items. But wait! Weren’t these already sanctioned? If there’s now need for further sanctions on imports of these Russian products, that means sanctions on industrial commodities to date were also full of exemptions and loopholes all along.
China, India, Brazil and other emerging market economies are distrustful of US/EU sanctions to date and justifiably so. That will be especially true of the arbitrary price cap on Russian oil idea. It will be viewed as not imposing much of a cost on Europe, but likely destabilizing world oil markets’ supply and price.
But perhaps they shouldn’t worry that much. The price cap idea is unworkable, probably won’t be supported by all the EU, and carries with it the smell of secondary sanctions by another name, as well as the stink of arrogant western imperialism.