After Russia launched its military offensive against Ukraine in February 2022, the United States and Europe came up with sanctions to discipline Moscow. In May, the European Union (EU) went for a partial ban on Russian oil imports, except those obtained through pipelines via Hungary, Slovakia, and the Czech Republic until 2022 end. As a result, crude oil prices shot up. Along with Hungary, Italy protested against the move, as its Sicily refinery gets the raw materials from Russia. Now, the EU is planning to escalate the situation by capping the Russian energy supply. Moscow, in response, has diverted its energy exports to Asian countries such as China and India at discounted rates, while reducing the natural gas deliveries to Germany and other EU nations through the strategic Nord Stream 1 pipeline.
Once the proposed EU oil sanctions come into effect in December, it will ban European tankers and insurance mechanisms from helping Russia to ship oil to other markets (mostly Asia). It will be backed up by another price cap from the US. As per the measures announced by the Joe Biden government, tankers carrying Russian oil post-December can retain their IG insurance (Spill liability insurance provided by a consortium named International Group or ‘IG’), in return for selling the product with discounts. This will ensure an uninterrupted oil supply while Moscow continues to face repercussions for its Ukraine invasion.
The aftermath
The effects have been adverse, especially in Europe. EU restrictions and counter-sanctions from Russia have sent energy prices soaring, resulting in upshooting of agricultural costs and food prices. The ongoing energy crisis has also resulted in increasing coal usage globally. Taking the EU as a case study, its coal usage rate increased by 14% in 2021 and will reach 21% by 2022-end. Many countries in the region will likely go for coal as the substitute for natural gas as winter nears. Global coal consumption is expected to rise by 0.7% this year which amounts to 8 billion tonnes in total, thereby putting the plans of transitioning to greener, sustainable energy sources on the back burner.
How Europe is coping with energy crisis
Germany, Europe’s largest economy is showing signs of recession, with its IFO survey of business confidence maintaining a downward spiral amid unprecedented inflation. The index dropped to 84.3 percentage points in September from 88.5 percentage points in August which is the lowest since the 2008 global financial crisis. Sectors such as bakeries, which need uninterrupted energy supplies, are facing a bleak future. German Chancellor Olaf Scholz visited Saudi Arabia, UAE and Qatar and signed energy deals as a compensatory measure.
The United Kingdom has already entered a recession, thanks to the energy crisis and a falling pound. The Bank of England (BoE) has already raised the key base rates by 0.5 percentage points to 2.25% and more such hikes are expected in coming months. Media reports have dubbed the ongoing crisis as the worst one post 1980s, with the country heading for a second consecutive quarter of falling output. Its GDP has already slumped by 0.1%, and BoE has predicted another 0.1% decline in the upcoming third quarter. While the government has introduced a new mini-budget with salient features such as a cut in household taxes and energy bills, the most vulnerable of the British society are expected to face soaring energy bills in the coming winter, with food prices going up as well. In August, natural gas prices reached the mark of $3100 per 1000 cubic meters. If it continues at this rate, European power stations will be staring at a shutdown-kind of the situation ahead of the winter. The average electricity bills have increased by 300% this year, shattering the records of the past five years.
Who is to blame: Russia or EU?
The EU governance has its own share of contributions to the problem. For example, despite the announcement from the Liz Truss government regarding the energy bill, UK’s National Energy Action charity projects about 8.5 million households facing energy poverty in the upcoming winter. Kosovo and some European regions are already suffering bouts of power blackouts. Russia has already threatened about gas prices hitting $5000/1000m3 by 2022 end. In Europe, the demand for oil and natural gas increases only during the winter season, as the existing room heating devices are petroleum-fuelled.
Europe’s dependence on Russian-supplied energy can be summed up in the following stats: It imports 40% of its natural gas from Moscow, while for coal and oil, the figures touch 46% and 27% respectively. Russia is using this dependence against the West, as its state-owned Gazprom has restricted its gas exports through the Nord Stream pipeline, thereby forcing the EU bloc to stare at energy starvation. While some experts believe that Russian President Vladimir Putin may not order a complete halting of gas supply to the crisis-hit continent, as Russia has made over $120 billion in the last ten years through the energy trade. But, the International Monetary Fund (IMF) thinks otherwise, given Moscow’s ferocious stance against the EU bloc on the Ukraine issue. Post-2021, Russia slowed down its energy production activities in the EU region. This year, Gazprom initially demanded payment in rubles after sanctions kicked in, then cut off buyers in Finland, Denmark, Germany, Netherlands, Poland, and Bulgaria, as those companies refused to entertain the condition.
In June, it reduced gas flows below 40% through the Nord Stream 1 pipeline and blamed Siemens-made gas compressor turbines behind the move. Russia arm twisted Canada and got an exemption from sanctions so the turbines could be returned to the strategically important pipeline. Even after all these things, the pipeline was shut down for ten days for ‘maintenance purposes’. On July 21, supplies resumed but in six days, news emerged about the pipeline working at about 20% of its capacity. Again, there was a shutdown between August 31 and September 2. Meanwhile, Russia’s daily energy supply to China rose by more than 300%. For Ukraine, Moscow has maintained its contractual obligation, till the terms and conditions end in 2024. Talking about erstwhile Soviet states, between July to August, Gazprom reportedly stopped gas supplies to Latvia, citing a violation of gas withdrawal conditions. While the company didn’t offer any proper explanation, experts saw a connection between this and the Baltic country passing a resolution to ban Russian gas imports from January 2023. The company is now burning off Europe’s share of natural gas in its facilities, with one such incident being reported in the Portovaya compressor station.
What if Russia cuts off gas supplies?
If it happens, then, as per the IMF predictions, the GDP of Hungary, Slovakia, and the Czech Republic could go down up to 6%. Global economic growth will see a 2.6% slump by the 2022 end, followed by another 2% in 2023. European countries have already gone for new renewable energy projects, including the construction of the new Liquefied Natural Gas (LNG) terminal for more imports from the US and Azerbaijan. They are even mulling new nuclear power plants. As per the experts, these initiatives will take some six to ten years to get completed. Still, the road looks long. Despite its anti-Russian stance, Europe has increased Russian diesel import by 22% since 2022 July and paid €85 billion for this, an increase of €6.6 billion since 2021. The European Commission has started implementing measures to cut short Russian gas imports by 100 bcm by the 2022 end and further aiming for a 15% reduction by March 2023.
Experts and stakeholders take on the issue
In a research paper titled ‘How higher oil prices could affect euro area potential output’, backed by the European Central Bank, the increase in energy prices has been termed as a ‘significant supply shock’ which will affect the region’s economy. It also said that the oil prices (from 2022 to 2024) in US dollars would remain around 40% higher than the 2017-19 range. The study also cited the Ukraine war and the subsequent supply chain bottleneck behind the oil price rise.
The Organization of the Petroleum Exporting Countries (OPEC) in May cut its forecast for growth in world oil demand in 2022 for a second straight month, citing the Ukraine war, inflation, and COVID. Its monthly report said that the world demand would rise by 3.36 million barrels per day (BPD) in 2022, down 310,000 BPD from its previous forecast. In the initial days of the Ukraine crisis, oil prices reached above $139 per barrel, the highest since the year 2008. It batted for global consumption to surpass the 100 million BPD mark by 2022-end. If the forecast comes true, then this year’s annual average will just exceed the 2019 price tag as well. The report also lowered 2022’s economic growth forecast to 3.5% from 3.9%, giving a hint about another recession.
OPEC+ (OPEC plus Russia) has also seen a dip in its oil output due to western sanctions on Russia. Its April output rose by 153,000 BPD to 28.65 million BPD, lagging behind the 254,000 BPD rise mandated under the OPEC+ deal. It cut its growth forecast for 2022’s non-OPEC supply by 300,000 BPD. The forecast for Russian output has been reduced by 360,000 BPD, whereas US supply rose by 880,000 BPD. The whole chain of events suggests another 2008-09 like crisis situation for the oil and energy sector.
2008 energy crisis: A look back
In 2008 June, oil prices came down from $133.88 to $39.09 in February 2009, while natural gas prices tanked from $12.69 to $4.52. While from the mid-1980s to 2003, the crude oil price was under $25, as per the New York Mercantile Exchange (NYMEX), it rose above $30 by the 2003 end, touched the $60 mark by 2005, and peaked at $147.30 in early months of 2008. While geopolitical tensions such as Israel-Lebanon 2006 conflicts, North Korean missile tests, row around the Iranian nuclear program, along with the falling dollar, were cited behind the rise, reports pointed towards petroleum reserves decline and subsequent financial speculations. When the global recession arrived in 2008, energy demand shrunk and oil prices collapsed to a record low of $32. It got steady by August 2009 and remained in a broad trading range between $70 and $120 till 2014 and reached the 2003 levels by 2016. In 2018, with a record increase in oil production, the US became the leader in the field as 2018 arrived.
How countries dealt with the crisis
In the US, gasoline consumption saw a declining trend. From 0.4% in 2007, it tanked by 0.5% in 2008. The oil prices reached a record-setting high and then crashed down, all in the same year of 2008, resulting in a 1.2 Mbbl (190,000 m3)/day contraction. It was the largest annual decline since 1980 in US history. Countries such as China and India used the fuel subsidy option to protect their domestic population from higher market prices. However, Beijing removed the measure in 2008 as its governmental cost rose. In June of that year, the country hiked its retail fuel prices by as much as 18%. Most Asian countries, including Malaysia, Indonesia, Taiwan, and India followed the suit. A Reuters report on the 2008 crisis, stated that other than Japan, Hong Kong, Singapore, and South Korea, other Asian countries opted for the subsidy route. However, it also pointed out a drawback of the measure by saying that subsidies are not enough to battle the oil price hike and countries with weaker financial set-ups won’t gain from this. It cited the examples of Indonesia, Taiwan, Sri Lanka, Bangladesh, India, and Malaysia either raising fuel prices in their domestic markets or working towards it.
Key takeaways
After 2000, volatility in global prices became a new phenomenon and it emerged as one of the key factors during the 2008 crisis. An increase in oil prices as per currencies’ fluctuations became a driving force in the global economy. A classic case study was the dollar. From 2002 to 2008, in the US, the oil price reached from $20.37 to nearly $100 and became expensive by 4.91 times. In the same period, the Taiwanese dollar gained value over its US counterparts and the fuel there became costly by 4.53 times. The same price tag rose by 4.10 and 2.94 times respectively in Japan and Eurozone as Yen and Euro gained their values as well. The message was clear, ‘if the dollar index rises, so will the price tag of crude oil ‘. The US also saw high oil prices contributing to inflation averaging 3.3% during the 2005–2006 calendar, which was way above the 2.5% mark since 1995.
For the developing and less-affluent economies, crude oil price rise witnessed a fall in GDP and employment rates, affecting the poor. For example, reports back in 2007-08 suggested that in South Africa, with a 125% hike in the crude oil price, employment and GDP rates went down by 2%. Household consumption was also reduced by 7%. The country had to reduce its gold production as well.
The larger impact was felt globally in the form of a recession and pressure on the banking system amid sliding oil prices. November and December of the year 2008 saw a falling global demand growth. Talking about the unstable crude oil price, in 2009, it fell below $35 in February, then rose back to the November 2008 mark of $55 by May. In 2011, it rebounded above the $100 per barrel mark due to the political protests and civil wars in the Middle East and North Africa, along with the Iran sanctions. Till 2014, the rate fluctuated around $100. During 2014-15, the global oil sector saw the oversupply phenomena again, as the US registered a significant increase in oil production from its 2008 levels. In 2016, OPEC Reference Basket fell to $22.48 per barrel.
The European Commission is determined to go ahead with the energy price cap on Russian supplies to the continent. The US is also pressuring the EU to get the cap in place by December 5, in an effort to choke the oceanic trade paths for Moscow. But a lack of consensus among the EU members on the price cap move, with Hungary and Cyprus expressing their reservations.
But implementing the price cap and shipping ban moves, also backed by the G7, looks difficult to implement. Greece owns the majority of the oil tankers in the region and the UK contributes to the oil trade with its insurance industry. Also, India and China haven’t joined the ‘price cap’ bandwagon either, indicating that Russia has an alternative market still open, after the measures kick in December. The biggest sufferer of this whole economic warfare will be Europe again.
Global Business Outlook caught up with eminent geologist Grant Wach, who shared his insights about the ongoing energy crisis in Europe, soaring energy bills, the 2008 oil crisis, and much more.
Professor Grant Wach began his career advising worldwide for multinational companies in the energy sector and is now Professor of Geoscience at Dalhousie University. His research includes energy sustainability, geothermal energy, and carbon storage; his research goal is to understand the reservoir component of petroleum, CCUS and geothermal systems; part of the path to carbon neutrality, and the steps towards the energy transition/diversification the world is now undergoing.
He is an expert advisor to the Energy Sustainability Committee of the UNECE and the team released their technology brief on CCUS. He has advised the Nova Scotia government on Carbon Storage and Sequestration. Professor Grant Wach co-led the EAGE Workshop on Geothermal in Latin America, with follow-on courses to the EAGE worldwide on Geothermal and CCS in 2022.
Having completed his D.Phil. (Geology) from the University of Oxford, he was the first recipient of the AAPG Foundation Professor of the Year Award, awarded the prestigious Darcy McGee Beacon Fellowship, and was the recipient of the CSPG Stanley Slipper Gold Medal for outstanding contributions to exploration and development, teaching, and mentorship.
Excerpts from the interview:
Q) Despite its huge dependence on Russian natural gas, Europe decided to cut down its supply. Europe is now scrambling for alternative sources to fill the energy void. What is your take on it?
A) A year ago, I lectured on the “Energy Transition and Our Winter of Discontent”. This year it will be another winter of discontent, and even more extreme. Hopefully not with the escalation of Russia’s invasion of Ukraine. The winter of discontent will cross the borders of Eastern Europe and continue not only in Western Europe but throughout Africa and the Middle East where energy security and allied foodstuffs will continue to put pressure on the populace and likely lead to civil unrest.
We will see rising prices for energy at all levels for industry and particularly for the people of all nations in Europe and this will cause real hardships and increase costs beyond energy for example food supplies. As an example, Germany decommissioned their nuclear plants and are now scrambling to bring in coal and reactivate its thermal electric plants and are scrambling to replace the gas supplies that were coming from Russia with alternative energy sources and LNG products from other nations including the United States. The war in Ukraine by Russia is forcing Europe to move far more rapidly to develop alternative energy sources but this does take time and there are complexities in supply. For example, Poland is part of the EEC and as such are bound by the agreements which include the reduction of CO2 emissions. Whereas Russia is not bound by limits on coal production.
Q) When the EU announced the partial oil import ban from Russia, we saw Hungary and Italy protesting the move. Now reports are emerging on the lack of unity among European energy Ministers on imposing a price cap on the gas supply. What do you think about these developments?
A) Hungary and Italy are responding to the price cap based on their understanding and projections of what will happen this winter. They want to ensure that they have energy supplies for their populations and industries. As we have seen with OPEC it’s always difficult to put in place energy pricing standards. We see embargoes being circumvented and sometimes broken. I believe we will see some standardization of pricing but I do not think it will solve the issue of high energy costs for Europe. My understanding is the price gap is to help penalize Russia for the war in Ukraine but I expect there will still be some increasing markets for example Asia and India for gas resources from Russia.
Q) Reports of commoners suffering due to the living cost crisis, and high energy bills capture the front page of news dailies. Do you believe that the EU bloc unintentionally ended up troubling its domestic population, while maintaining the ‘Anti-Russia’ stance?
A) It was a risk the European Union took. They decided to rightly take an anti-Russian stance for the invasion of Ukraine. Yes, the ramifications are taking hold and there is a scramble to find alternative energy sources including natural gas supplies, particularly LNG. We are a long way from a hydrogen economy so it’s not practical to think about hydrogen now. Wind and other renewables are not going to replace the flexibility that natural gas supplies and thermal coal generation and of course Nuclear which is promoted as carbon neutral. Of course, these large-scale plants take several years to be designed, built and commissioned. So yes there will be backlash from the people of the European Union nations.
Q) Russia has diverted a majority of its energy supplies to the Asian markets, whereas Gazprom has cut down Europe’s share of natural gas. With the Nord Stream pipeline not even working on its 30% capacity due to ‘maintenance issues’, is Russia benefitting from the whole episode as they have backup markets to compensate for the revenue loss in the EU region?
A) Yes, Russia has been scrambling to develop alternative markets, particularly in Asia but remember unless gas is LNG (liquid natural gas) it is going to be difficult to transport unless there are pipelines in place. I am not sure of the LNG capacity and tanker availability in Russia, to transport to these alternative markets. Remember how long it took to put the Nordstream pipelines in place and now they will not be used. It is also very perplexing how the pipeline was damaged by subsea explosions.
Q) If we have to draw the parallels between the oil crisis in 2008 and the one unfolding right now, how would you analyse the present energy shortage in Europe?
A) It is understood that the energy shortages in 2008 really came at the end of a long energy crisis with developing economies increasing demand and financial speculation that led to the crash. Also with tension in the Middle East, we saw very high oil prices but I don’t think we can draw a clear parallel to what we see now in Europe with the invasion of Ukraine by Russia.
Q) During the 2008 crisis, some Asian countries offered oil subsidies on a short-term basis to their domestic populations to protect them from the global price hike. Do you believe a crisis-ridden economy like the UK can afford a similar option this winter?
A) Yes, there have been talks in the UK about offering energy subsidies to the population and I see other nations in Europe also taking this approach. Of course, there needs to be some sort of help with home heating costs and some relief to businesses and industry, and we could see closures of businesses and unemployment that can lead to further unrest.
Keep in mind that there are often significant taxes associated with petrol prices. We have all seen the little stickers at the gas pumps when you fill your vehicle with petrol. This is one of the things that the government could do very quickly, is reduce the amount of taxes that are taken at the pumps. Alberta, in Canada, took this initiative and the reduced price of the pump in Canada.
Q) Vladimir Putin has the option of completely stopping the energy supplies to the European bloc this winter. But doing this will cost the Russian economy as the pipelines toward the West have fetched some $120 billion to Moscow since 2012. Will Russia opt for this move that might put a dent in its economy?
A) Vladimir Putin may wish to continue to penalize the European bloc for their support of Ukraine, and may wish to continue to interrupt energy supplies to Europe, but I believe this will increase the domestic pressure on him to resolve the Ukrainian crisis, once people see that there will be a further impact to the Russian economy, by not having these sales to Europe.
Q) Although European countries have announced new energy projects, including nuclear plants, to cut down dependence on Russia, those look like long-term plans. What do they need to do to solve the immediate power shortage crisis?
A) Yes, these are long-term solutions including for example developing thermal power generation from coal, with reduced emissions of sulfur and nitrous oxide. But we have to find alternatives, and develop new alternative energy sources, as example, one thing that would work relatively quickly would be installing more geothermal energy that could be done on a smaller scale. SedHeat is what we call it, allowing buildings to be heated and cooled by heat pumps in the ground. All that is required is a temperature differential. Geostorage is also very important to smooth out the fluctuations from renewable energy sources. Also, we need to have much more development of central heating and cooling in a large city block and building energy efficiency in our building constructions. We need to improve the electric power grid distribution, and ensure that pipeline networks can be more interchangeable between nations for the distribution of petroleum products, and eventual conversion to hydrogen. And of course more emphasis on public transport.