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It is extremely hard to understand the mass psychosis at work among European leadership. A massive energy crisis, driven by the great reduction in Russia gas supplies (set to become 100% if the EU proceeds with its idea of a gas price cap) and set to be compounded by the G7 bright idea, which they are refusing to drop, of a cap on the price of Russian oil. To the extent that idea works, it will work in reverse. For instance:
The planned enforcement mechanism is for UK and EU insurers to be barred from insuring Russia oil. Recall that the UK currently dominates maritime insurance. That won’t last with respect to oil. Aside from the fact that the incumbents do not want to be enforcers/inspectors, Russia, China, and other countries are perfectly able to step up. Bye bye London market share.
As we and other have mentioned, and now the mainstream media is confirming, Russian oil was already being laundered either by going through various ports and ship before getting to the EU, and also by going to places like India to be refined and then sold on. Everybody gets fat and happy at Europe’s and to a lesser degree, the US’s expense
OPEC will not let the G7 break its cartel. OPEC just announced a modest reduction of output in light of softening prices. Mr. Market took it worse than it should have given that OPEC signaled it would likely tighten and the output cut was modest. But OPEC is quite capable of turning the pain dial up if it needs to to make a point
As much as I am not a fan of trying to put officials on the couch, one way to think about the problem facing Europe is the speed of propagation of the energy crisis versus not one but three constraints. Again, as we stressed in the global financial crisis, the timelines are badly mismatched
European leaders are refusing and/or unable to recognize the severity and speed of decay There is simply no fix that will meaningfully alleviate the loss of access to so much cheap energy so quickly. It doesn’t matter what combination of subsidies and prohibitions the EU tries to implement. The economy can’t absorb electricity and gas prices at their expected levels. Yes, the shock is made worse by an EU spot pricing regime, which likely facilitates some Enron-esque gaming.
But charitably assume this picture is distorted a full 3x by bad market structure. You still have a 10X increase. By contrast, the US oil shock was only a 4x increase:
With EDF’s announcement today, French power prices for 2023 are trading €900/MWH with winter prices above €1.500/MWH (or an eye-popping 30X the 5-yr average price). I’m surprised this isn’t front-page news all over the west. #France @SullyCNBC @SquawkCNBC pic.twitter.com/hwSyOSRcDB
— 🇺🇸Kyle Bass🇺🇦 (@Jkylebass) August 25, 2022
Let us again be clear. First, this is a massive inflationary shock in economies already suffering high rates of inflation. It doesn’t matter what experts do. The actions they can take will only somewhat effect whose ox gets gored most badly.
Second, the currencies will get weaker….which will also only make the energy and import terms of trade worse.
Third, ultimately the end for higher energy prices is that they do kill demand. But to kill demand enough to lower energy use to available supply will kill most of these economies stone cold dead.
Again, the only way to prevent devastation is to make up with Russia, which the pols, press and pundits have made impossible soon enough to prevent terrible outcomes. If we are to stoop to psychological models, the most apt might be Elizabeth Kubler-Ross’ five stages of grief. Western officials are in either the denial or anger phase, which is a long way from acceptance of loss, which here is loss of US/European dominance as well as their personal reputations.
And mind you, it is already become too late to stop damage. Most of you
It seems likely that they are grasping at straws like one widely circulated but analytically rotten analysis claiming the Russian economy is on the verge of collapse1.The only solution would be to make some sort of peace with Russia, and the current crop of officials are simply too deeply invested, emotionally and politically, in Russia/Putin demonization to do that. The UK and EU economies will be bleeding out before voters can turf out this self-serving bunch.
1 Yes, I should name and shred it but my going after it won’t change the belief in it of anyone who counts and the effort might get me on more of the sort of list that we really don’t want to be on these days. Suffice it to say that plenty of economists aren’t buying it either. I mentioned the paper to someone who is the head of economic research at a major institution and he snorted as soon as I mentioned the name.