The West is Struggling to Set an Oil Price Cap that Hurts Russia

by Wall Street Rebel - Michael London | 11/26/2022 12:05 PM
The West is Struggling to Set an Oil Price Cap that Hurts Russia

The West has agreed to restrict Russia's most lucrative export this year and has promised to iron out the specifics by early December. To lower President Vladimir Putin's war budget, the goal is to decrease the energy supply without negatively impacting the global economy.

 

The price of Russian oil might be capped at a certain level if allies of Ukraine's government were successful in their campaign. However, there is a problem: they cannot agree on a number that would effectively enhance the amount of pressure put on the Kremlin.

At the beginning of this year, the leading countries of the Western world agreed to set a price ceiling on the commodity that is Russia's most lucrative export, and they committed to hammering out the specifics by the beginning of December. This action is being taken to lower the amount of money sent into President Vladimir Putin's war chest without adding to the strain already being placed on the economy of the whole world by further limiting the amount of energy that is available.

However, while the deadline draws closer, governments are still debating where the limit should be.

The price of a barrel of Russian oil was discussed in a meeting of European officials, and it was suggested that the price might be limited between $65 and $70. This would result in a limited amount of interruption to supplies, but it would also imply that Russia would experience a limited amount of suffering. However, this range has been called into question because it is quite close to the current price of oil on the market in Russia.

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Helima Croft, director of commodities strategy at RBC Capital Markets, said, "at this price point, it's about inflation reduction more than Russian revenue reduction."

At the beginning of this month, the price of a barrel of crude oil from Russia's Urals region was just over $70, which was almost $24 less than the price of Brent, the worldwide benchmark.

Meanwhile, lowering the price might worsen the already dire situation for the world's energy supply, especially if Russia takes retaliatory action. If it were to reduce output by a greater amount than anticipated, it would lead to an increase in the cost of gasoline at a time when nations such as the United States, Germany, and Japan are working hard to bring inflation under control.

On Thursday, Putin warned that Western nations' intentions to limit the price of oil would have "severe implications" for the global energy system.

On Thursday, the President of the European Commission, Ursula Von der Leyen, expressed her confidence that a worldwide price restriction on Russian oil will be approved very soon by the G7 and other important partners. She stated, "I am optimistic that we will very soon impose a global price cap on Russian oil." President Joe Biden said that conversations about oil price caps are "in play."

However, discussion over the policy is dragging on, highlighting the task's difficulty.

The countries involved hope to establish a consensus before December 5, which is the day when Europe would begin enforcing its ban on Russian crude oil sent overseas. This is due to the fact that the EU sanctions package contains a prohibition against providing insurance and other services to ships transporting crude oil from Russia.

It would be very difficult for Russian consumers like China and India to continue importing millions of barrels of oil every day if this were to occur. The majority of insurance companies that cover crude oil transport are headquartered in either Europe or the United Kingdom, which works closely with Brussels.

The objective of the oil price limit is to bring about a change in that policy. As long as the oil is obtained at a price equal to or lower than the price limit imposed by Western countries, shipping services and insurance might be made available to tankers carrying oil from Russia.

According to the explanation provided by the European Commission, "this will assist in restricting Russia's income further while keeping global energy markets stable via sustained supply." "By doing so, it would also manage inflation and keep energy costs consistent at a time when high expenses — notably higher gasoline prices — are a big worry,"

However, the process of actually determining a price has been difficult. Poland and other eastern European nations seek a lower ceiling, citing that Russia's cost to pump a barrel of oil is far less than $65 to $70 per barrel. These countries demand a lower cap. As a result, a ceiling placed on such prices would make it possible for Moscow to continue to realize profits from the sale of Russian petroleum.

According to estimates provided by the Rystad Energy consultancy, the production cost in Russia ranges from $20 to $50 per barrel, depending on the methodology used to compile the data.

In addition, the budget for the year 2023 contains an estimate that the average price of a barrel of oil exported from Russia would be around $70. If it can secure that price in the market, it will be able to maintain spending mostly consistent with its plans.

On Friday, the President of Ukraine, Volodymyr Zelensky, suggested increasing the limit to $30 instead.

"We have heard that [proposals to establish the limit per barrel at] $60 or $70 would be considered. "Such phrases seem more like a surrender [to Russia]," he stated while participating in a conference in Lithuania through a video connection.

On the other hand, if the price drops too low, Russia may retaliate by cutting down on its output. Russia's exports are anticipated to be 9.7 million barrels per day in 2022 by the International Energy Agency, which might cause disruptions in the market. This is a better result than in 2021.

The level of prices is not the only concern at this time. Setting a static range for the price cap, as opposed to establishing a floating discount for Russian crude pegged to where Brent is trading, could pose logistical problems because it would need to be adjusted frequently. This contrasts with establishing a floating discount for Russian crude pegged to where Brent is trading.

According to Giovanni Staunovo, an analyst at UBS, there is pessimism among oil traders that the measure can be implemented, and this is one of the reasons why. He believes that the parties involved in the deals would only look for loopholes.

He said there is a tremendous willingness to take action in the situation. "However, the truth will be much different."

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Many experts believe that the price limit will eventually be less significant than the oil embargo imposed by Europe. The group has been purchasing around 2.4 million barrels per day of crude oil from Russia, and Moscow will soon be required to search for new consumers.

It is expected that production will be decreased to minimize the number of spare barrels. No matter what happens, this might result in increased oil prices.

 

                     U.S., allies look to agree on price cap for Russian oil

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