Would a cap on Russian oil prices help reduce its revenues?
The United States is discussing with its European allies a cap on Russian oil prices. The aim is to keep Russian oil flowing to international markets, but to limit the resulting budgetary revenues to discourage Russia from continuing the war in Ukraine. Theoretically.
The situation is no different from wanting to eat your cake and having it too. On the one hand, the United States and Europe, which have suffered the most severe consequences of the sanctions so far, are aware that banning Russian oil from international markets would hurt them even more.
On the other hand, paying for Russian oil at market prices is not an acceptable option because oil and gas export revenues represent a large part of Russia’s budget, and this budget includes the expenditure of defence, and a lot of that defense spending goes into what Russia calls its special military operation in Ukraine, which the West calls an unprovoked war.
US Treasury Secretary Janet Yellen put it quite bluntly earlier this week: “I think what we want to do is keep Russian oil flowing into the market to keep world prices at a low level and try to avoid a peak that would cause a global recession and push up oil prices. “, she said in cited by the Wall Street Journal. “But the goal is absolutely to limit the revenue going to Russia.”
One might wonder where the concept of a free market has gone, but in truth, the concept of a free market has been dead for quite some time now. The question is whether the idea that the US and EU have of an oil price cap could work. In other words, would Russia accept such a move?
According to common sense, he would not welcome the idea of having a ceiling price imposed on his exported oil shipments. According to the former chief economist of the European Bank for Reconstruction and Development, Sergei Guriev, “Yes, Putin could refuse to sell oil at this price. But, given that it’s already desperate enough to sell to China and India at deep discounts, and that current energy prices far exceed production costs, that seems unlikely.
Indeed, Russian oil is trading at a discount of around $30 or more to Brent crude. It’s hard to say if there is desperation in the Russian oil equation, if we put emotions and wishes aside. Clearly Russia knew it would have to redirect flows to Asia from Europe if the latter tried to punish it for its actions in Ukraine – and it was prepared to do so.
It is also clear, or at least it should be, that Russia cannot simply redirect all the oil and fuel flows currently entering Europe to India and China, at least not quickly. What this suggests is that Russia may well be poised to suffer revenue losses as the redirection continues.
Also, Russia tends to budget based on fairly low oil prices. For last year, for example, he budgeted $45 per barrel of Brent Crude. Last year, its actual oil revenues exceeded initial expectations by more than 51%. For 2022, Moscow has budgeted Brent at $44.20 per barrel.
So, as Guriev notes, even with a price cap of $70 a barrel, Russia would get a lot more from the sale of its oil than expected. China and India would be only too happy to pay even less for Russian oil. Still, the question remains whether Russia would be okay with its adversaries in this war telling it what price to sell its crude for.
Until the ball is in Russia’s court, however, the US and EU should figure out how to apply a price cap if they agree on it. One way, according to the WSJ report, is to use the insurance industry and have it insure only Russian oil shipments below the price cap. Another is to impose secondary sanctions on Russian oil buyers, but that would have potentially unpleasant diplomatic consequences.
The idea of a crude price cap, not just Russian, was first floated in Europe earlier this year by Italian Prime Minister Mario Draghi. In May, following a meeting with the US president, Draghi said he and Biden were “dissatisfied” with the structure of global oil markets and had talked about setting a price cap for oil and gas.
“The idea is to create a cartel of buyers, or to persuade the big producers, and Opec in particular, to increase production, which is perhaps the preferred route,” Draghi told AFP. time, while cited by the Financial Times. “On both paths, there is a lot of work to be done.”
Maybe now that OPEC+ has agreed to pump more oil, theoretically that plan would be shelved. A buying cartel is definitely not something you want to put in front of OPEC when you urgently need more oil.
By Irina Slav for Oilprice.com
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