Lasting effects of Putin's war may be 'demand destruction' and fractured global trade
As buyers shy away from Russian oil, security concerns are reshaping global economy
Shortly after Canada and other Western democracies announced sanctions on Russia, the world heard a frightening warning about the impact they would have — not just on Russia, but on the global economy.
The warning came from Russia's deputy prime minister, Alexander Novak, and its focus was the world price of oil.
"It is absolutely clear that a rejection of Russian oil would lead to catastrophic consequences for the global market," Novak said in a televised statement.
"The surge in prices would be unpredictable," he warned. "It would be $300 per barrel, if not more."
Oil above $300 a barrel?
As the North American price of oil fell back to about $100 this week, it was easy to scoff at the Russian official's alarmist warning.
But while there are good reasons that oil prices above $300 US are not in the cards, the invasion of Ukraine has set in motion a series of events that will lead to a serious disruption of the global economy — likely to affect Russia and Western democracies long after the bombs have stopped falling in Ukraine.
There are two key parts of that disruption. One is something called "demand destruction" — the move to use less of the high-priced commodities produced by Russia. The other is a new global quest for greater security in supply chains in a world that has proven itself more volatile than most of us had thought just a few months ago.
As representatives of the oil cartel OPEC gather in Vienna on Thursday, and peace talks in Turkey offer glimmers of hope that the killing of Ukrainian civilians in Vladimir Putin's reckless war might end, the volatile price of oil has retreated again.
But even as Brent crude — the world oil price used outside North America — reached toward $130 US a barrel, experienced oil market watchers like longtime petroleum geologist and energy analyst Art Berman said Novak's prediction was laughable.
"A Russian official's opinion about oil price is worth as much as Donald Trump's opinion about results of the 2020 U.S. election," quipped the Texas-based Berman in a recent email conversation.
Industry caught with pants down
Despite the trillions of dollars at stake, the oil market is complex and difficult to predict. In 2014, for example, despite a fortune spent on research, the global industry was caught with its pants down as the North American price for oil tumbled abruptly from about $100 US a barrel to less than $30 in a year and a half.
That kind of uncertainty leaves an opening for people like Rory Johnston, the founder of Toronto-based Commodity Context who writes about the global energy industry. His latest report, out Tuesday, is titled "Oil's Russia-Sized Hole," about a world market buffeted by a new oil shock.
Despite the recent decline, Johnston sees oil prices remaining strong as large Western companies shun Russian oil and continue to wind down shipping from Russian ports once existing contracts run out.
As United Arab Emirates Minister of Energy Suhail al-Mazrouei said in advance of the OPEC meeting, there is no easy way to replace the 10 million barrels a day Russia contributes to world supply. Of course, all of that supply is not disappearing. There are still many buyers of Russian crude, including China and India — and there are now reports that some of that Russian oil is being laundered and resold as if it came from someplace else.
Canada is increasing production, but Johnston said progress is slow, and any increases fly in the face of Tuesday's federal government plan to cut greenhouse gases from the oil and gas sector. Johnston says that while U.S. shale oil could be brought on more quickly, investors have had their fingers burned in the past when oil prices fell. They fear the same thing will happen again and have been reluctant to risk their cash.
"All us analysts trying to think about where global supply and demand model balances, that is where you get really, really high prices that prompt some kind of demand destruction," Johnston said in a telephone interview. "Prices need to rise high enough in order to get people to drive less and fly less and consume less fuel overall."
For Russia, which in 2019 depended on fossil fuels for 60 per cent of its exports and 40 per cent of government revenue, demand destruction will have a tremendous long-term effect on that country's economy.
Seeking secure living standards
The search for alternatives to Russian oil and gas may be part of a much bigger economic and political split into trading blocks, triggered by the invasion of Ukraine, said economist Dane Rowlands of Carleton University's Norman Paterson School of International Affairs in Ottawa.
Clearly European countries — shocked into action when they realized how much clout Russian energy exports had on their economies — are looking for ways to transition away from fossil fuels altogether as a matter of regional security, even if it is more expensive. Inevitably that may lead to a shrinking of the entire global economy, at least in the short term.
"The shift that people are looking at now is the tradeoff between standard of living itself and the security of that standard of living," Rowlands said. "I don't think the Europeans are going to want to be in a position where Russia dictates to them by the threat of withholding oil and gas."
When supply chains broke down in the wake of the global pandemic, some experts woke up to the security implications of losing access to goods essential for the North American economy. Russia's invasion of Ukraine brought that home with a vengeance, and Western governments, including Canada, are looking for ways to shorten supply lines and find sources of supply from countries with trustworthy democracies, Rowlands said. That includes energy but also green technology.
Replacing Russia's energy will be the hardest part for the West, he said but, but on the other side of that divide, there are already indications that Russia, hit by economic sanctions, is running out of key Western imports that it must now try to produce for itself, which, Rowlands said, will be a much harder task.
"Obviously the amount of restructuring that has to occur in Russia will be huge compared to what it's going to be in the West," Rowlands said.