Davit Shatakishvili, MPA, Tbilisi State University and German University of Administrative Sciences Speyer
The sanctions imposed by the West on Moscow have had far-reaching economic consequences for Russia, but these restrictions have not yet been able to stop the war. From the very first day of the unprovoked aggression, there was a broad discussion that the only way to stop Russia would be to impose an embargo on its energy assets. The export of these natural resources is the main source of war funding for Moscow. With the military aggression ongoing, the debate over aiming a blow to Russia’s main financial source has intensified. During the past month, there has been active discussion among EU member states about how energy restrictions could be imposed, taking national interests into consideration.
Hungary was opposed to the oil embargo, but an agreement was finally reached, and on 31st of May this year, EU countries announced a sixth package of sanctions to the public. These restrictions include a partial embargo on Russian oil; the removal of Sber Bank, the largest banking institution with a 37% market share, from SWIFT’s global financial system; the removal of three Russian state broadcasters from EU television space; and individual sanctions directed at Russian military personnel responsible for war crimes in Ukraine. Undoubtedly, the most significant part of this package of sanctions is the partial embargo on Russian crude oil, which is considered by EU leaders to be the biggest step forward. It is interesting to know more specifically what the energy component of this package envisages and what effect it might have on the course of Russian aggression.
Embargo on Russian Oil
The European Union buys 25% of its internal comsumption oil from Russia. 2/3 of the imported crude oil is transported by maritime means, by tankers, and 1/3 is supplied through the pipeline “Druzhba” to Europe. Its northern segment supplies Germany and Poland, while its southern branch supplies Hungary, the Czech Republic and Slovakia.
The sixth package of sanctions envisages a ban on 2/3 of Russian oil which is transported by sea, while the Druzhba pipeline will temporarily continue operating. The agreement was delayed due to resistance from Hungary, which is a landlocked country with the Czech Republic and Slovakia, and whose dependence on Russian oil is relatively high compared to other countries. In Hungary, this indicator is 86%, in the Czech Republic 97%, and in Slovakia 100%. According to European leaders, the EU will ban 90% of Russian oil by the end of the year, after Germany and Poland completely cut off the use of the northern segment of the pipeline and the purchase of Russian oil.
Druzhba’s southern branch oil accounts for 10% of total Russian oil imports to the EU, which continues to work due to the interests of those countries using it. However, it was outlined that when the EU finds a technical solution to how the oil supply to these countries can be diversified, they will cut off Russian oil imports there as well. Figure 1 shows the EU’s oil imports by countries where Russia has a leading position, and holds almost a 25% share. Faced with the actual results, Europe will have to actively work to diversify its markets, the resources for which do exist, in order to replenish its shortfall.
The EU’s decision to impose a Russian oil embargo had an immediate impact on the global price of oil. The price of Brent crude oil on the London Stock Exchange exceeded 121 dollars, while about a week ago it was trading at around 112. American WTI oil reached 119 dollars per barrel, while just a few days ago its price was fluctuating at around 110 dollars.
Restricting Russian oil in the EU obviously means reducing significant funds for Moscow. According to Bloomberg, a ban on crude oil transportation by sea will cost Russia 10 billion US dollars a year, and if Germany and Poland cut off Russian oil through the Druzhba pipeline, the loss would be another 12 billion US dollars annually.
Russian Natural Gas – An Insurmountable Barrier for Europe
In the previous, 5th package of sanctions, Europe banned the import of coal from Russia, which accounts for 19% of its total coal imports and amounts to more than 8 billion US dollars. The 6th round of restrictions includes a ban on crude oil, but so far Europe has not been able to give up Russian natural gas. About 40% of EU gas is imported from Russia. Moscow’s main source of energy income is still natural gas, since it receives 18-20 billion US dollars monthly revenue from its export to Europe. Due to the ongoing processes, the price of natural gas has increased by 60% globally, which means additional budget revenues for Russia: up to 350 billion US dollars annually. With this, Moscow manages to maintain the idea that the country’s economy is operating normally and at the same time it can continue the aggressive war in neighboring Ukraine.
The fact is that Russia continues its manipulative actions through sales of this natural resource and by cutting off supplies to those who do not pay the fee demanded by it in rubles. After Finland, Poland and Bulgaria, The Netherlands came under fire, having its gas supply cut off on May 30 this year. Yet there is no active discussion on a natural gas ban in the European Union. It seems that several European countries have a heavy historical memory associated with a gas shortage, which put them in dire consequences. However, while we should keep in mind the current difficult circumstances and the formation of a new geopolitical reality, considering that the decision on an oil embargo took a month following the start of negotiations, it is unlikely we can expect anything new in this regard in the near future.
Pending the Political Outcome of the Sanctions
Undoubtedly, the most important component of the 6th package of sanctions is the partial ban on Russian oil, aimed at depleting Moscow’s military vehicle. Typically, the effective duration of sanctions is a medium to long period, and this case is no exception. First of all, it should be noted that Europe is not the only market for Russian oil, and Moscow will inevitably try to find other consumers to sell its own crude oil to. It may even be ready to sell its resources at a price lower than the real market value. It has also agreed to receive partial remuneration in exchange for products produced in the consumer country or region, a strategy which has so far been actively practiced in both African and Southeast Asian countries. At the same time, Russia still has an untouched natural gas resource, the financial revenues from which are significantly higher than the total revenues from oil and coal exports.
Although this decision from Europe comes relatively late, there are still benefits to it in the longer term. In the short- and medium-term period, until Russia finds alternative markets for its crude oil sales, the EU cut will be quite a hit to its income. However, as soon as consumers show up, the country will be able to quickly fill the financial gap.
It is also unlikely that this decision will have any tangible consequences in terms of a complete cessation of hostilities, and the lack of financial resources will most likely be reflected in the reduction of the intensity of Russian aggressive actions and the attempt to maintain its own military equipment, though not in complete capitulation.
One of the most effective ways to completely end the war is to cut off Russian gas, along with oil, at least in part. In this case, Russia will be deprived of colossal sums, which will increase the chances of its ending its aggression, a step which will likely see faster results. It will also hit Russia’s domestic economic parameters, such as national currency and inflation. Moscow will thus no longer have the resources to stabilize macroeconomic indicators and maintain its war, something which it is doing quite successfully at this stage. As such, given that each day means additional human and financial losses for Ukraine, Europe is more likely to make proactive and quick-resulting decisions, including those which affect its own vulnerabilities.