Lauerman: President Putin’s Massive Ukrainian Blunder
Russian President Vladimir Putin is widely viewed as a geopolitical grandmaster. As my son often says, it’s like Putin is playing three-dimensional chess and everyone else is playing checkers.
On that note, I originally thought Russia’s invasion of Ukraine on Feb. 24 to be every bit as calculated, callous and cunning as Putin’s military adventures in the predominantly Russian-speaking parts of Georgia in 2008 and Ukraine in 2014.
On paper, Russia’s victory over Ukraine should again have been swift. The Russian bear has massive military superiority over its Slav neighbour, while the Western powers have made clear they will not put boots on the ground to support the Ukrainians to avoid possibly escalating the invasion into a nuclear conflict between East and West — based on a recent implicit threat by Putin.
And with oil and gas markets again stretched thin and prices high, as they were in 2008 and 2014, it appeared highly unlikely the West would impose significant economic and/or financial sanctions that would negatively impact Russia’s oil and gas exports — accounting for the bulk of the country’s export revenue — as a means to encourage Putin to end the invasion.
The fact the Kremlin had ring-fenced Russia’s economy to a large degree from such sanctions apparently made them all the more unlikely. The Russian government has done so by: building substantial foreign exchange reserves over the past two decades; slashing oil and gas breakeven prices to balance the country’s budget; redirecting some oil and gas exports to its authoritarian ally China; and expanding production from domestic industries, including some high technology ones and agriculture.
Last week’s Western economic sanctions against Russia appeared to validate my and Putin’s thinking, with U.S. President Joe Biden explicitly stating they had been crafted in such a way as to avoid a reduction in Russian oil and gas exports — to avoid a further surge in the price of both.
However, as of now, the Ukrainian invasion may prove Putin’s Waterloo, not in terms of a military defeat, although Russian forces may suffer far greater losses than initially anticipated by the country’s high command, but economically in both the short and longer term.
The West is so incensed by the invasion of democratic Ukraine that it announced on the weekend that Russia will be partially frozen out from the SWIFT messaging system, the basis of most international financial transactions around the world. The partial freeze, or SWIFT sanctions-Lite, should allow Russian companies to continue to receive payment for their oil and gas exports based on press reports. But the speed at which the West agreed to these sanctions, along with accompanying comments and the seismic shift by the new German government away from accommodating Russia economically and politically, appears to suggest a reasonable possibility of a total freeze out — the so-called ‘nuclear option’; previously used against Iran in 2012 — in the near future, damn the consequences to the European and global economies.
In this case, Russia would not benefit economically from the big jump in oil and gas prices caused by the invasion, and even bigger one should the West adopt the more draconian financial sanctions. At the same time, it would rip the ‘oil weapon’ from Putin’s hands. This would allow the West to provide Ukraine with massive military assistance — numerous Western countries already have promised assistance, including Germany for the first time to a conflict zone since its pacification following the Second World War —without fear of Russia withholding oil and gas exports, making it more difficult and costly for Russia to subjugate its neighbour.
And Russia’s invasion of Ukraine should make it crystal clear to all that the world has entered a New Cold War — and like the original one, with the potential for lots of little hot wars — between an authoritarian bloc led by Russia and China and the democratic West. This will push energy security right back to the top of the energy agenda as shown by German moves to decrease their reliance on Russian oil and gas, supercharging the global energy transition as a means to achieve this security.
A SWIFT kick in Putin’s butt
“Russia’s war represents an assault on fundamental international rules and norms that have prevailed since the Second World War, which we are committed to defending,” the European Commission, France, Germany, Italy, the United Kingdom, Canada and the United States said in a joint statement on Saturday evening. The primary purpose of the joint statement was to announce plans to block a number of Russian banks from accessing SWIFT and restrictions on the country’s central bank to keep it from using its US$630 billion in foreign currency reserves to buffer the impact of these financial sanctions. “We will hold Russia to account and collectively ensure that this war is a strategic failure for Putin,” the statement warned.
The latter, along with Germany’s seismic shift, appears to suggest the West would be willing to up these financial sanctions in such a way as to stop Russian oil and gas exports, if need be. In this case, world oil prices and European natural gas prices would skyrocket, at least in the short term, and plateau at higher than present levels given the importance of Russian exports to each market —over a tenth of internationally traded oil and almost a third of E.U. gas imports.
Fortunately, the loss of about 7.4 million bbls/d of Russian oil — crude oil and petroleum product — exports and around 185 billion cubic meters per year of gas exports to the E.U. could be mitigated to a large degree. Saudi Arabia and the United Arab Emirates presently hold up to about 3.5 million bbls/d of spare production capacity, while as much as two million bbls/d could be made available by Iran from inventories and currently sanctioned production if the U.S. and the Islamic Republic can revive the 2015 nuclear deal. The West also has large amounts of crude oil and petroleum products that could be released from strategic reserves to help counter the shortfall.
In terms of mitigating a shortfall in E.U. gas supplies, options are much more limited in the shorter term, and the ones that exist less desirable. The global gas market is tight and it is much more difficult to redirect gas supplies around the world than oil because of infrastructure constraints. As a result, European countries would need to restart recently mothballed nuclear and coal-fired power plants to make up for lost volumes of Russian gas. Despite European countries tending to avoid this option as Russia squeezed gas exports to the region in recent months, it appears they may be much more willing to do so now, especially considering Germany’s seismic shift.
To conclude, we should expect much higher oil and gas prices in the shorter term if the West decides to totally freeze Russia out of the SWIFT messaging system due to shortage of supply, and much lower prices sooner than generally anticipated down the road due to a more rapid reduction in global oil and gas consumption.
Russia’s invasion of Ukraine has pushed energy security to the top of the energy policy agenda, joining climate change, and the combination of the two should supercharge the global energy transition in general, and Europe’s shift away from Russian oil and gas imports in particular. And potentially the biggest economic loser in both the short and longer term, Russia, presently the world’s largest exporter of oil and gas.