How Europe will deal with Russian oil and gas – and what Russia has done to protect them

(ORDO NEWS) — European countries are urgently building terminals for American liquefied gas and plan to move away from “eastern raw material dependence.”

In the medium term, the EU can succeed in this. However, it is possible that Russia will lose little in this: it seems that Moscow has been preparing for this move by the West for a long time.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 1While the Western media are raving about how Russia will turn off their gas and freeze them in the winter, the real problems of the current economic war lie on a completely different plane. Will Europe disconnect Russian gas from its networks, and what will our country do then?

At the end of February, Western countries “froze” a third of a trillion dollars and euros from the reserves of the Central Bank. It may happen that no one will ever return them, just as no one has ever returned, for example, the “frozen” $ 1.9 billion of the Iranian Central Bank to Tehran.

This expropriation has led to the fact that now the Central Bank cannot (most likely) carry out full-fledged foreign exchange interventions to maintain the ruble exchange rate. This means that on a long-term basis, the rate now depends only on the ratio of exports and imports.

Western countries believe that without control over the exchange rate of the ruble, it will collapse at times and this will destroy the Russian economy. For example, Washington halved the rate of the Iranian rial in 2021, although Iran’s GDP did not fall.

And still, the White House confidently declares : we have completely crushed the Russian economy. The “economic war” with Moscow has been won, Francis Fukuyama (and many other Western observers) believe in particular.

It seems they are wrong. But it is important to understand what will actually happen to the ruble exchange rate and to the Russian economy in general? Is what has happened recently really enough for the ruble to collapse completely? The question is not idle: the inflation rate is directly related to the exchange rate.

In 2021, 54.3% of Russian exports are fuel and energy products. That is, it is difficult to understand the fate of the current economic war without finding out the fate of Russian oil and gas exports. What will they be?

Western measures: oil without exchange

The US has already completely banned oil exports from Russia: it provided 8% of US imports. Washington cannot quickly replace Russian imports: refineries are usually “sharpened” for the chemical characteristics of specific raw materials.

Russian oil and fuel oil have gone overseas since 2019, after the Americans staged a blockade of Venezuela with its heavy, saturated gray oil (similar to Russian). Now the State Department has approached the Venezuelans with a proposal to temporarily ease the blockade, but has not yet met with enthusiasm.

Both Iran and Venezuela in recent years have so many times faced with the failure of the States to fulfill their promises that they do not want to meet halfway.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 1If you look only at oil production, Russia’s share is not so large. But do not forget that, unlike the United States, it consumes little itself, therefore, in terms of exports, it is at the level of Saudi Arabia and radically overtakes any Western country

For example, Washington stole seven billion dollars from Venezuela’s bank accounts, and two billion from Iran only in the United States itself and about a hundred billion around the world. Tehran and Caracas are highly likely to supply Washington with oil only in the event of a preliminary return of the stolen goods.

It is clear that under this condition, the chances of resuming supplies to the States from these two countries are small.

And yet, 8% is only 8%, Americans will somehow endure without them. Yes, gasoline at gas stations will become more expensive, but against the background of the already existing inflationary surge in the United States, this does not really matter.

The European Union is in a more difficult situation: 60% of Russian oil and 45% of oil products went there. Europeans can refuse them, then Moscow will have to sell hydrocarbons to China and India.

Given that their refineries are not specialized in Russian oil, unlike European refineries, they may demand large discounts. It seems that this can seriously hit the ruble exchange rate.

However, what will happen if European refineries are left without the oil they are targeting? They will either stand up or buy oil they are not adapted to.

Refinery owners will suffer losses, but the overall consumption of oil in the world will not change from this. Its market is a system of communicating vessels: it is impossible to curtail the import of Russian oil to Europe without creating a shortage of this same oil in the world.

80% of the world’s population lives in countries that have not imposed any sanctions against Moscow. Almost half of earthlings are citizens of states that even refused to condemn Russia for sending troops to Ukraine in the well-known UN vote. They will not stop buying Russian oil just because Washington decided so.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 2Green color shows the countries that joined the sanctions. It is easy to see that there are no states of Continental Asia, Latin America or Africa among them. Considering that the main factory of the world has not been located in the West for a long time, it is rather doubtful that the current sanctions will be able to reduce Russia’s foreign trade by more than one and a half times even this year. In the future, its rapid recovery is likely

There are still “private sanctions”. The current reluctance of Western traders to buy Russian oil has already cut its exports by almost half, from five million barrels a day to three or less. If this trend continues, the outcome could be of two kinds.

First, the price of oil will rise and will not be able to fall below $100 per barrel for a long time. This is more than twice as high as in 2020. Consequently, even a twofold drop in the physical export of oil from Russia will not lead to a drop in its oil revenues below the level of 2020.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 3

In 2020, Russia sold $ 117 billion worth of oil and oil products . In 2021, by $180 billion. That is, even if the price of black gold in 2022 does not exceed the level of 2021, a drop in exports will simply return Russia’s oil revenues around 2020.

However (most likely) in 2022 oil will be more expensive than last year, which means that even a two-fold drop in physical exports will not drop Russia’s oil dollar revenues.

Secondly, third world countries will begin to experience a physical shortage of oil. Under such conditions, they will be inclined to switch their refineries to Russian oil – after all, all other suppliers, in the absence of Russia, will switch to the Western market.

Refusal of Russian gas in Europe?

Germany has already announced the hasty construction of two terminals for receiving liquefied natural gas (LNG). They plan to replace Russian pipeline gas. This seems to be a serious threat: Western Europe is buying over 100 billion cubic meters of gas. And pays for them – for example, in 2021 – about three tens of billions of dollars.

Let’s calculate again: in 2021, Russia’s gas export revenues were $55 billion, and in 2020, $25 billion . It turns out that the option “how would Russia live without gas purchases by Western Europe” was already tested in practice just a couple of years ago. Did it lead to an economic shock? It doesn’t look like the Kremlin has set aside $40 billion in reserves from oil and gas revenues in 2020 .

How Europe will deal with Russian oil and gas and what Russia has done to protect them 4In Europe, concerns about exemptions from Russian gas imports have gone so far that many are debating the revival of nuclear power. Orange on the map shows countries with operating nuclear reactors, dark green – countries with a nuclear-free status. In practice, Germany is actually withdrawing from nuclear energy, and it will be very difficult to abandon this purely politically. More importantly, the EU countries, with the exception of Hungary, now only build reactors from Western manufacturers. As we already wrote, such reactors are not competitive in terms of price either with TPPs, or even with WPPs and SPPs. Western contractors in the 21st century have not yet been able to build reactors for reasonable money

In other words, if the EU closed the gas pipelines right tomorrow, gas thermal power plants, heating in houses and the like would stop on the other side, and the Russian budget revenues would still remain higher than expenses.

As remained much higher than them in 2020. The reasons are that in normal years, Moscow allowed only part of its oil and gas revenues into the economy, completely sterilizing the rest in the reserves of the Central Bank.

But now the West has destroyed the meaning of these reserves with one blow. The Central Bank can no longer accumulate euros and dollars. It also makes no sense to increase its gold reserves: firstly, they are already huge, and secondly, they are of little use: the Central Bank cannot turn them into dollars or euros, which means that foreign exchange interventions at the expense of this gold are unrealistic.

That is, a situation arises when Russia is forced to spend foreign exchange earnings from abroad on current expenses. It does not even make sense to accumulate them on the accounts of the conditional Gazprombank (or any other). After all, tomorrow Washington and Brussels may ban dollar or euro operations to any bank in the world.

It follows from all this that, in fact, the share of oil and gas spending that Moscow can put into the economy should not fall, even if the EU now, without waiting for the construction of gas terminals, completely refuses gas from the east.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 2 1Installing a gas pipeline in Eastern Siberia was neither easy nor cheap. But the ideas of the critics of the project that the Chinese would not have demand for gas clearly did not materialize. In total, under the signed contracts, China will pay $500 billion for 1.14 trillion cubic meters of gas. Although this is more expensive than Russian gas until recently cost Europe, it is much cheaper than China pays for LNG today

Moreover: in 2020, the average price per cubic meter of Russian gas was $ 143 , and in 2021 it was already $273. And in December of the same year, it was $517. It is clear that gas prices during the period of a possible gas blockade of Russia cannot fall: then there will be too much shortage in the market.

Even if Moscow exports three times less gas than usual, then even then it will receive more money for it than in 2020. Any variant of the gas blockade breaks down against these figures.

The blockade of the Western world from a scarce energy source can cause a lot of problems for the blocker itself – as it was in 1973 with the OPEC embargo. But the exporter of such a scarce resource cannot suffer seriously: a sharp rise in prices compensates him for the fall in the physical volume of exports.

And will there be a complete failure? In practice, only shale companies from the United States can quickly increase natural gas production in the modern world. However, even for them 100 billion cubic meters per year is a lot. and this year they will definitely not be able to give such a rise in production.

What about the distant future?

A smart reader may reasonably object that the above considerations only work in the perspective of 5-10 years. But the current economic war between the West and Russia will obviously last longer.

Washington will not agree to the lifting of sanctions – on the contrary, after the signing of a peace treaty with Ukraine, they should be expected to tighten. Why shouldn’t the US invest in solutions that will undermine demand for Russian oil and gas around the world?

We have already noted : purely technically it is possible. It is quite realistic, for example, to convert Western thermal power plants to biomass – wood pellets and the like.

Moreover, the high bioproductivity of European and American forests makes it possible to provide them with local raw materials. Yes, such energy will come out a little more expensive than from gas or coal, but it is quite affordable for Western countries.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 3In 2021, Russia exported a record amount of coal: 227 million tons, well over half of its production. China and India, among the top three consumers of this fuel, are unlikely to stop buying it

There are other ways to replace Russian energy sources, though more expensive and less practical : for example, obtaining the bulk of electricity in Western countries from windmills. With this electricity , hydrogen can be obtained from water and used to heat houses in winter.

But now the conditions have changed fundamentally: Western states are openly talking about an economic war with Russia.

And in a war, expenses are not taken into account. Windmills plus green hydrogen will raise the cost of electricity and heating in the West by three or four times, but in a war this is theoretically quite acceptable.

But how does this threaten Moscow and its economic situation?

Oddly enough, nothing in particular. Four-fifths of the world’s population live in countries that do not support sanctions. They will continue to buy oil for decades to come. Those 0.2 billion+ tons of coal that Russia exports annually will, again, be willing to buy there.

Coal power has grown faster than any other industry in the past year and will remain popular outside the Western world for the next 20 to 30 years. This is unfortunate, since coal energy indirectly leads to the death of a huge number of people – but it is a fact.

Gas seems to be the only weak point here. Moscow sells it mainly through pipelines, so the Russian methane that is now going to Europe seems to have nowhere to go.

However, if we carefully analyze the actions of the Kremlin since 2014, we will notice several important points. In May-December 2014, Russia signed contracts with China for the supply of gas through the Power of Siberia and Power of Siberia-2.

The first one was completed not so long ago and is already pumping methane to China. In total, it will supply up to 38 billion cubic meters per year. The second one is being built, and 50 billion cubic meters per year will be pumped through it.

In total, this gives up to 88 billion cubic meters – comparable to the volumes that are now going to Western Europe. And back in 2014, Moscow agreed with Turkey on the construction of the Turkish Stream.

Due to well-known incidents with the Turkish Air Force before the 2016 coup, the project was frozen, but then resumed and completed again – with a capacity of 63 billion cubic meters per year.

It is now becoming quite obvious that since 2014 the Kremlin has been preparing for severe Western restrictions and has not just pulled expensive gas pipelines to China for thousands of kilometers. It just didn’t make much sense to build them for diversification.

It is worth recalling: the projects of the “pipe” in that direction were drawn up on paper since 1997, by Yeltsin. But until 2014, they never put it into implementation, for the simple reason that it was extremely complex. Export of gas to China is rational only from the East Siberian fields, which no one even developed before the Maidan.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 5Gas consumption per capita in China is growing, but still half a dozen times less than in Germany. The main reason for this is that Beijing buys a lot of liquefied gas, which is much more expensive than Russian pipeline gas. However, two new lines can completely change this situation and increase gas imports to China by many tens of percent

And not only because the development of a new gas province is always difficult: the very composition of the gas in the East Siberian fields, from where it is pumped to China, is not very common. Closer to China, we had to build a special plant to purify this gas from helium and other impurities.

All these factors have been criticized for years by experts who have noted that there is no need to overcome these most serious (and expensive) difficulties. Many of them directly asked the question : “Why does Russia need expensive pipelines to the east in the face of falling gas prices, even with existing production volumes”?

By 2020, the assessments of the main part of the expert community were as follows: “Increasingly, there is a common opinion that it [Gazprom] is building “pipes to nowhere that no one needs.”

And the logic in their assessments was: the entry of cheap pipeline gas into China threatened to reduce its consumption of liquefied natural gas (LNG). Unable to find sales in China, LNG could flood into the European market, preventing Gazprom from making money there.

Why create such difficulties for yourself, and even for 55 billion dollars (the project cost so much)? Only today it is clear that the need was and was determined by factors of a military-political, and not an economic nature.

China already imports nearly 140 billion cubic meters of gas a year. Subsequently, this figure will clearly increase, as the future Chinese market is not inferior to Europe.

Another move by the Kremlin now looks more understandable: namely, supporting Erdogan in 2016 (when there was a conspiracy against him). Immediately after that, Moscow received a contract from Ankara for the Turkish Stream.

All this was almost certainly part of the same grand strategy to diversify Russian energy exports, and not at all random decisions that surprised analysts until February 24, 2022.

However, as well as similar measures of the Russian authorities, which they have taken in other areas of the economy since the same 2014. For example, the creation of the SPFS system after May 2014, which allows Russian banks to work quietly within the country even after disconnections from SWIFT.

It turns out that even if Europe completely refuses Russian gas, its export volumes will remain the same in the future. China, Turkey and perhaps other buyers will hold on to it with an iron grip. After all, LNG on the spot market is many times more expensive than the one that Moscow supplies under long-term contracts.

Unfortunately, these are rather sad conclusions for our country. Ideally, it should move away from the export of oil and gas towards the export of manufactured products. Median wages in Russian cities are twice as low as in China.

The resource base of industry is much better: energy resources are cheaper, metals are cheaper, and so on. There is nothing unrealistic in the development of industrial exports in such conditions.

China, after Tiananmen, was also under rather severe Western sanctions on the supply of specific components and equipment, but this did not prevent it from showing growth rates that had already made China the world’s first economy.

However, any attempts to go in this direction in Russia are seriously undermined by large exports of oil and gas. As long as they exist, big capital will not be interested in the active development of other serious industrial projects.

Russian corporations already know how to extract oil and gas, there is no need to learn anything new. But Russian businessmen still do not know how to produce good cars at reasonable prices – and much, much more.

It is much easier for them to buy the missing abroad – if not in Europe, then in China. People tend to choose the path of least resistance. Therefore, the inability of Western sanctions to undermine the oil and gas positions of our country in the long term for Russia is more a minus than a plus.

How Europe will deal with Russian oil and gas and what Russia has done to protect them 4The Chayandinskoye field in Eastern Siberia, from where gas is transported to China via the Power of Siberia

That is why one should not expect (as Expert magazine does , for example) that the current crisis in Russia will lead to a rapid onset of rapid economic growth, as was the case immediately after the 1998 crisis. That crisis proceeded at multiple lower prices for oil and gas.

This made possible a very low exchange rate of the national currency: in 1998-1999, the ruble fell five times, which is why the competitiveness of Russian goods has increased dramatically. And here Expert is right: without the crash of 1998, there would have been no record growth rates of the Russian economy in 1999-2003.

But now oil and gas are too expensive to provide Russia with a really deep – like 24 years ago – depreciation of the ruble. Not the fact that it will turn out to drop it at least one and a half to two times. Therefore, we will not expect a fall in GDP by 5-6%, as in 1998, followed by a rapid growth of 7-10% per year.

Yes, economic growth will resume next year, but it will not return to the pace of late 1999-2003. Western sanctions were simply not tough enough to provide us with this scenario.

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