Why Russian oil and gas price cap is easier said than done

Similar mechanism was established earlier by UN in 1995, but it led to widespread corruption and abuse

By Reuters

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Reuters
Reuters

Published: Fri 2 Sep 2022, 9:30 PM

Last updated: Fri 2 Sep 2022, 9:39 PM

G7 countries agreed on Friday to impose a price cap on Russian oil to try to limit Moscow's ability to fund its invasion of Ukraine.

The officials, including US Treasury Secretary Janet Yellen, say the measure will limit the price that Russia receives for oil while allowing Western consumers to continue getting supply. read more


Below are some of the most commonly asked questions about the price cap and challenges it faces.

Has it been done before?

A somewhat similar mechanism was established as part of the oil-for-food programme by the United Nations in 1995 to allow Iraq to sell oil in exchange for food and medicine. It did not use a price cap, though.


The programme introduced by US President Bill Clinton's administration was meant to meet the humanitarian needs of ordinary Iraqis while preventing Saddam Hussein's government from boosting military capabilities.

Oil buyers paid money into an escrow account run by BNP Paribas bank. The money was used to pay for war reparations to Kuwait and UN operations in Iraq and Iraq was allowed to purchase regulated items with any remaining funds.

The programme suffered from widespread corruption and abuse.

While the United Nations was united in opposing Hussein's government, the body is divided over Russia's attack on Ukraine, which Russia calls a "special military operation".

China and India have become the biggest buyers of heavily-discounted Russian oil as Europe cut imports.

What's the goal of buyer's cartel?

Western officials say they want to encourage sales of Russian oil at levels slightly above production costs to ensure Russia's earnings are reduced while it maintains production.

Today, Russia receives more revenue than before the Ukraine attack began on Feb. 24 as global price rises have offset the impact of sanctions.

G7 countries already buy very little oil from Russia and oil traders and brokers have said the price cap idea amounted to evidence that outright bans on Russian oil have been counterproductive as Russian revenues have increased.

They said that creating a buyers' cartel to starve Russia of petrodollars while alleviating inflationary pressure from oil prices was challenging not least because President Vladimir Putin could stop sales of oil all together.

On Friday, the Kremlin said Russia would suspend energy sales to those supporting the price cap.

The price cap could then backfire and lead to a further rise in global energy prices.

What level for the cap?

With benchmark Brent prices at $90 to $100 per barrel, Russian oil sells at discounts of $18 to $25 per barrel and Chinese and Indian buyers are snapping it up.

The appetite for the crude is such that discounts narrowed from $30 to $40 earlier in the year. read more

Some campaigners advocate for a very aggressive price cap, pointing to Russia's low production costs.

Russian production costs are $3 to $4 per barrel and Russian firms could probably profit even if oil prices were $25 to $30 per barrel.

Can the cap work via shipping insurance?

Imposing a price cap on Russian oil sales could be done via shipping insurance, analysts have said.

The International Group of Protection & Indemnity Clubs in London covers around 95% of the global oil shipping fleet.

However, traders points to an abundance of parallel fleet that can handle Russian oil using non-Western insurance.

The next obstacle would be China and India which have been accepting Russian insurance.

State-controlled Russian National Reinsurance Company (RNRC) has become the main reinsurer of Russian ships. read more

"Russia and some buyers are already finding alternatives to European insurance markets, using a combination of local insurers and sovereign guarantees. So this mechanism would not force full participation in a price cap," said Richard Bronze from Energy Aspects think-tank.

In addition, European insurers might not want to be responsible for monitoring the price cap and could decide to avoid covering such deals even if waivers are available, he said.

Germany said the G7 wanted to extend the price cap measure to the entire EU. But the EU would also need to amend the sanctions it passed at the end of May, which would require unanimous support.


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