Russian Oil Price Will Have Unintended Consequences, Say Experts
With the price cap on Russian oil products set to take effect in December, trade and commodity experts expressed concern during a Sept. 9 panel at Brookings Institution. In his announcement of the measures, Deputy Treasury Secretary Wally Adeyemo said the aim of the price cap is to limit profits from Russian oil sales and cut into revenue generated for Russia but in a way that won't cut into the overall availability of oil products. The cap will work by targeting services supporting ocean shipping, such as insurance and brokers.
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Each participating nation will enforce the cap within its own jurisdiction using its own domestic laws, said Adeyemo. Participating countries can continue to buy Russian petroleum products and provide services to ships moving those products but must ensure the products are sold under the capped price. The G7 is working on a documentation system to coordinate compliance through various jurisdictions while keeping that compliance simple for companies involved in petroleum transport.
Adeyemo said the price would be calculated to incentivize Russia to continue oil production but at severely reduced profits. He said that, due to Russia's limited storage capacity and oil production facilities that are "hard to start and stop," it's unlikely Russia will withhold oil production or export in retaliation. He noted Russia was already offering long-term oil contracts at rates up to 30% lower than market price as evidence the cap will be effective.
However, several experts were less enthusiastic about the effectiveness and short-term consequences of a potential cap. Edward Morse, Citigroup's head of commodities research, called the move a "poor judgment call" in light of the EU ban on Russian gas starting Dec. 5. All we will do, he said, is bid up the price of oil in the Atlantic basin. Countries with significant storage capacity, such as Saudi Arabia and the United Arab Emirates, have already started buying Russian oil to resell, Morse said. That could undermine the effectiveness of Treasury's calculations.
Assistant Secretary for Economic Policy Ben Harris said those indicators are not necessarily a bad thing. As long as the price point of Russian oil is down, it doesn't matter where it's selling or how much, he said. Only about 30% of Russian oil sales are guaranteed at fixed prices past December, Harris said. Any additional exports are going to be negotiated later, with the price cap in effect. He emphasized that not every country needs to buy below the price cap for the strategy to work. "As long as the price on Russian oil is depressed, we take that as a win," he said.
Morse fears that by targeting Russian oil, the ruble with lose value, decreasing the production cost and subsequently eroding the policy's effectiveness. He said many of the services would find Russian seaborne oil "one way or another" and called the cap a "made-up number." Craig Kennedy, an associate at Harvard's Davis Center, echoed some concerns but said Russia doesn't have the capacity to move oil on its own and that export capacity will take time and investment that Russia may not have. He predicted regional buyers like Turkey and China will use pipelines and their own fleets to move purchased oil but said they are also negotiating with an advantage.
Helima Cross, RBC Capital Markets' managing director and global head of commodity strategy, was skeptical of the effectiveness of enforcement and continued cooperation. The Treasury Department has done a good job with its messaging and, in theory, the cap will "seamlessly allow barrels previously bound for Europe to go to third parties instead," she said. The cap should work without total participation, but she noted the market for oil futures isn't responding to the proposed measure yet, meaning that many think the coordination required by the cap will fall apart as participants drop out. Many in the market see the "watering down" of the EU oil sanctions over the summer as proof that a price cap won't last long, she said. Cross also predicted Russia is unlikely to sit back while its oil revenues are eroded. A key wildcard will be OPEC. The cartel "is not looking for a major breach with Russia at this point," Cross said, noting some "micro" production drawbacks in recent months. The Russians may implement a "price floor" in response, which other oil exporters might welcome.
The big question, according to both Cross and Morse, is will the coalition stay united? If Russia suspends oil exports in retaliation and Europe has a long, cold winter, many think resolve will not last. Upcoming elections in Italy and elsewhere will unpredictable, said Morse. People might just elect leaders who promise to turn the heat on, and that might not be good for the future of the coalition, said Cross. Until we see an actual price posted somewhere, it's hard to anticipate what the effect will be, she said.