Russia Oil Prices
Brent has settled into the low $80s, closing on Wednesday at $82 / barrel. Urals tracked Brent with a few days' lag, closing at $65 mid-week. Urals is $9 / barrel above the 2015-2021 average and $5 above the Price Cap. This is good for Ukraine, as last week.
Oil demand depends upon the state of the global economy. The US economy is unwinding pandemic fiscal and monetary policy, and prices of a number of goods are falling, yet remain well above their pre-pandemic level. The question is therefore whether the US sees a 'soft landing' with the economy returning to pre-covid levels, or whether it overshoots into a recession. The price of oil will depend heavily on which version proves out. Moreover, China's economic prospects remain uncertain, and we might expect a financial crash there as the country transitions from a high growth to a lower growth regime. But when?
US shale production set the price of oil from mid-2014 until December 2021, and still remains a key constraint on oil price increases. The EIA has called peak US oil production for this past August, but statistical analysis suggests production growth may be higher than thought. The EIA has revised US production up by about 1 mbpd since the summer, and another material revision would come as no surprise. If US production is growing faster than believed, then oil prices could be quite a bit softer, at least for a few more months.
Thus, we have a fair amount of uncertainty on both the oil demand and supply side, none of which should influence appropriate policy regarding the Price Cap -- although reforming the Cap would be easier in a lower oil price environment.
As we forecast last week, the Urals Discount, the difference between the Urals and Brent oil prices, widened again this week, on Wednesday reaching $14.69 / barrel for the week as a whole. The ESPO discount also widened, but is now under $4 / barrel. China has agreed to work with the US on certain matters, and opening the ESPO discount wider should be on the table, as a discount of a measly $4 is less than the difference between Brent and WTI.
Ruble
The ruble continues to appreciate against the dollar, closing at 88.4 ruble / USD on Wednesday, likely buoyed by high oil prices during the last month or two. If Brent stays weak for any period of time, expect the ruble to slip back into the 90s.
The US Treasury sanctions UAE Mischief
The US Treasury sanctioned three UAE-based companies for shipping oil above the $60 / barrel cap. The Treasury details the penalties:
[All] property and interests in property of the [sanctioned] persons above that are in the United States ... are blocked, [as are] any entities that are owned ... by one or more blocked persons. These prohibitions include the making of any contribution or provision of funds, goods, or services by, to, or for the benefit of any blocked person and the receipt of any contribution or provision of funds, goods, or services from any such person.
The respective shipping companies are short-lived, special purpose vehicles chartering the tankers in question. It is fair to assume that these shell companies have no assets in the US and that the owners, if they can be identified at all, are either strawmen or have no interests in the US. The Treasury precludes these companies from using US suppliers. This principally matters for insurance, and that is primarily British. If British insurance is unavailable, these shipping companies can use Russian insurance. Thus, Treasury sanctions look largely toothless and symbolic. This is typical of prohibition enforcement.
The UAE is more broadly a hub for Price Cap evasion and serves as a case study of the black markets, corruption, and the antagonistic behavior which arises as a result of prohibitions. More on this in a separate post.
Danes show some Grit
The Financial Times reports that "Denmark would target tankers transiting the Danish straits without western insurance, under laws permitting states to check vessels they fear pose environmental threats." This must have come from the Danes themselves, and it is a welcome display of initiative and determination. Of course, the proposal was torpedoed as soon as it was launched, as black market theory predicts. Prohibitions attempt to prevent willing buyers from transacting with willing sellers, and the Danish initiative would prevent those willing buyers, indirectly the G7 countries, from acquiring needed oil. Therefore, the proposed interdiction never saw the light of day, as we would expect.
Nevertheless, this is very much the right idea. It cannot. however, be enforced in the form of a prohibition. Black market theory makes that plain enough. But there are better alternatives.