December 02, 2022
What Success or Failure Would Look like for the Price Cap on Russian Oil
For the policy to be judged a success, it will need to significantly cut Russia’s oil revenues. Since the beginning of the war in Ukraine, Russia has been selling its oil at big discounts—around $20 or $30 below the Brent benchmark price. At the very least, the price cap should lock in these discounts. The G7 will set the cap at a fixed price as opposed to a moving discount to Brent, but it reserves the right to alter its level at any time.
This initial price cap is just one arrow the G7 has in its quiver when it comes to depriving the Kremlin of its oil riches.
Ideally, the price cap should require Russia to sell its oil with even steeper discounts than already exist on the marketplace. The United States has said that it plans to keep the price cap above Russia’s marginal cost of production, which the Russian government assesses at roughly $40 per barrel. (Independent analysts believe Russia’s marginal cost of production may be much lower.) The closer the cap pushes the price of Russian oil to $40 per barrel or even below that threshold, the more successful it will be, as it will signal that Putin is generating minimal profits from oil sales.
At the same time, to be judged a success, the price cap must not inadvertently cause a spike in global oil prices. How might that happen? With US sanctions, overcompliance is the norm. Instead of abiding by American sanctions regulations precisely, companies often stay well clear of the line. In the case of the price cap, overcompliance would look like traders, insurers, or shipping firms refusing to deal with Russian oil even if it’s sold for a price below the cap. The result could be a major drop in the supply of Russian oil available on the global market, which could increase prices for everyone. (Of course, if the supply of Russian oil is squeezed but global energy prices do not increase, that would not be a problem from the perspective of the G7.) Fears of overcompliance explain why senior US officials have made compliance expectations relatively simple and have repeatedly downplayed the threat of American penalties when companies accidentally violate the policy.
Read the full article and more from Columbia SPIA.
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