Using the Payments System to Enforce an Russian Oil Price Cap Likely to Cause Supply Shock

Using the Payments System to Enforce an Russian Oil Price Cap Likely to Cause Supply Shock 1

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Yves here. It’s hardly news that just about anyone with an operating brain cell thinks that the pending G7 price cap on Russian oil is a disastrously bad idea. First, experts anticipate that Russia will stick to its guns and not sell Russian crude at discounted prices to the G7 just because they say so. The IEA forecasts that Russia will cut supply by 2.4 million barrels a day, causing oil prices to spike.

Moreover, the G7 plans to use its bank sanctions weapon to force other countries to comply. From Maritime Executive:

Marine insurers, bankers and tanker owners may not be liable if their customers violate the new G7 price cap on Russian oil sales, according to the U.S. Treasury – so long as they rely on their customers’ word for shipment price compliance. The ruling addresses some of the shipping industry’s main concerns about the potential effects of the ban.

On Sept. 2, the G7 finance ministers proposed “a comprehensive prohibition of services which enable maritime transportation of Russian-origin crude oil and petroleum products globally” – except for oil purchased below a certain price. The idea is a form of a “buyer’s OPEC”: unless the oil is sold below an artificial price threshold, it can’t be insured or moved without risking sanctions.

The Treasury’s guidance, issued Friday, sets up three tiers of service providers for seaborne Russian oil transport: refiners and oil brokers with direct access to price data (Tier I); bankers and shipowners with occasional access to price data (Tier II); and those who have no access to price data in the normal course of business, like insurers and P&I clubs (Tier III).

All have to keep records of compliance, and all are required to do due diligence on their customers, but shipowners, bankers and insurers have an important exemption: they are allowed to rely on their customers for price data. If that data is fraudulent, they are not liable for accidentally participating in a sanctions violation.

“This recordkeeping and attestation process is designed to create a ‘safe harbor’ for service providers from liability for breach of sanctions in cases where service providers inadvertently deal in the purchase of seaborne Russian oil above the price cap due to falsified records,” advised Treasury’s Office of Foreign Asset Conrol.

OFAC does expect to see attempts at sanctions evasion, and it cautioned involved parties to watch for signs of deceptive practices, such as AIS manipulation or reluctance to provide pricing data.

The office said that it intends to harmonize its regulatory approach with the other members of the G7, indicating that the same guidance will be applied broadly.

So the short version of this is the G7 will require buyers to keep price records, as in price per unit volume, of oil and oil products, and presumably also indicate country of origin. The ones who are not financial institutions (as in subject to having regulators go full proctology on them and having their banking licenses revoked1) would be subject to fines or even having their access to dollar payment systems suspended or revoked if they were found to be cheating. This would apply to traders in non G7 countries too.

Reader Clive believes the banks can implement this system:

It has been worked on for a while, I think most in the industry presumed it was coming (or some version of it).

The process design is, as currently drafted, everything operates as it currently does but there’s an additional step inserted into the Suspicious Activity Reporting (SAR) reviews.

Whether these are system-generated or human-generated, at the first sift (they’re never merely just auctioned on first filing, they’re always reviewed and cross-referenced against other data to water-proof them against malicious reporting or people acting on grudges etc.), if the commodity pricing can be legitimately said to be within the competency of the customer making it — and this is verified against the SIC Code for the customer concerned and other corroborating data, it’s no use Mr. Patel’s corner shop making out they’re oil traders or something — then that particular SAR will be discounted, assuming no other evidence is provided for sanctions evasion.

I suspect the IEA 2.4 million barrel a day estimate is low if the G7 mechanism succeeds in deterring traders outside the G7. Experts have estimate the price could rise to $180 a barrel or even over $300.

Second, OPEC will not help, or will at most pretend to help. The price cap amounts to an effort to break OPEC. OPEC will make out like a bandit from the high prices. They have no reason to help the G7 out of this mess.

Third, the G7 really seems to believe either that Russia is bluffing when it says it won’t sell oil in a capped price regime, or Russia will quickly fold. Russia has had massive budget surpluses due to making even more money at higher prices. By contrast, even if we assume oil goes only to $150 a barrel, the world can’t take more inflationary pressure when inflation is already high. And if the price increases are into unprecedented territory, like the aforementioned $180 a barrel or higher, the psychological and income shock to businesses and consumers will be profound, particularly in countries where their currency is weak versus the dollar.

I would bet yet again that Russia can hold its line longer than the West does. But like the European self-destruction over its refusal to open up Nord Stream 2, I don’t see how the G7 backs down after committing itself to this insane idea.

Yes, the G7 countries can and are storing oil. But oil is messy to store and it’s usually stored by not pumping it. When I last looked at it, oil storage capacity was in the 51 to 55 day range. Anyone with more current data, please speak up in comments. And remember, the US has depleted its Strategic Petroleum Reserve.

Fourth, this would further alienate the Global South and big countries outside the G7 like China and India. They will also suffer from oil price increases and supply disruptions. Russia and China are working on rouble-yuan payment procedures for gas. If these are up and running, they could be deployed on oil. The G7 will be accused of inflicting even more poverty and potentially debt crises on developing countries who have no dog in the Ukraine fight.

Note that the this article is behind the state of play. Russia has said it would insure tanker and the City of London pushed back against using maritime insurance as a means of enforcing the price cap. So tanker insurance is not a choke point. It also uses language like “countries that sign up for the price cap” when as currently outlined, the scheme is intended to force any buyer that uses dollar payment systems to comply.

By Tsvetana Paraskova, a writer for with over a decade of experience writing for news outlets such as iNVEZZ and SeeNews. Originally published at OilPrice

  • The G7 appears to be intent on implementing its price cap plan designed to reduce oil prices, reduce Russian revenues, and maintain a steady supply of Russian oil.
  • In reality, there is a strong chance that the price cap would send oil prices soaring, with the risk that Russia retaliates by halting energy exports altogether.
  • Russian oil will have to sail on non-Western tankers if it is to avoid the price cap, and there simply aren’t enough tankers available.

The G7-led idea of putting a price cap on Russian oil may look brilliant in theory, but it would likely be very messy in practice, potentially sending oil prices soaring. Surging oil prices are exactly what the price cap is meant to avoid, as it aims to keep Russian oil flowing but at a lower price.

For weeks now, the G7 has been discussing exempting Russian oil from the maritime insurance and financing ban only if that oil is sold at or below a certain price that the group has yet to agree to.

This would require a lot of coordination with EU, UK, and U.S.-based providers of maritime insurance and financing. But it would be the easiest part of implementing the price cap. Russia could intensify its already ongoing efforts to have non-Western tankers and insurers agree to ship Russian oil and products. Or Putin can simply make good on hispromise to halt all energy supply – including crude, fuels, natural gas, and coal – to the countries that sign up to cap the price of Russian oil.

In any case, oil prices will likely go much higher as the EU embargo on Russian oil – which excludes oil sold at or below the price cap – enters into force at the end of this year.

Russia will continue selling its oil to Asian buyers such as India and China using non-Western fleets of tankers and maritime services while choking supply to the West. Russia is also expected to increase its covert oil exports, taking a leaf out of Iran’s playbook of below-the-radar exports by switching off transponders and/or hiding the origin of the oil, analysts say.

Still, the non-Western fleet of tankers that Russia can rely on is not enough, Energy Intelligence’s John van Schaik and Emily Meredith write.

If Russia refuses to use any maritime services associated with G7 countries, “Russian oil will have to sail on non-Western tankers – and there aren’t enough vessels to handle Russia’s millions of barrels,” they argue.

“The result: less oil, higher prices, and less pain for Russia.”

According to Energy Intelligence, Russian oil going to Asia from Russia’s Far East is already shipped there on Russian or Asian tankers. But Russia is estimated to be exporting 4.45 million barrels per day (bpd) from its ports in the Arctic, the Baltic Sea, and the Black Sea – and this is done mostly on EU-linked vessels. Finding tankers and insurance coverage not linked to the EU, the G7, or other countries that may join the price cap mechanism for that amount of oil could be next to impossible.

The G7 reiterated in early September that they would finalize and implement “a comprehensive prohibition of services which enable maritime transportation of Russian-origin crude oil and petroleum products globally – the provision of such services would only be allowed if the oil and petroleum products are purchased at or below a price (‘the price cap’) determined by the broad coalition of countries adhering to and implementing the price cap.”

In guidance on the upcoming price cap, the U.S. Department of the Treasury said last week that the price cap policy has three objectives: “maintain a reliable supply of seaborne Russian oil to the global market; reduce upward pressure on energy prices; and reduce the revenues the Russian Federation earns from oil after its own war of choice in Ukraine has inflated global energy prices.”

While clever in theory, the price cap plan could actually lead to much higher oil prices because trade flows will be upended again, tankers are in short supply, and Russian oil exports – still remarkably resilient – would plunge, analysts say.

The global oil market will have to prepare itself for a loss of 2.4 million bpd supply when the EU embargo kicks in, the International Energy Agency (IEA) said in its Oil Market Report this week. An additional 1 million bpd of products and 1.4 million bpd of crude will have to find new homes, which could result in deeper declines in Russian oil exports and production. The IEA expects oil production in Russia to fall to 9.5 million bpd by February 2023, which would be a plunge of 1.9 million bpd compared to February 2022.

Then there is the very real threat from Putin to simply stop selling oil – and all other energy products – to countries that join the price cap on Russian oil.

“We fully believe that Putin/Russia will follow through on this statement and curb exports rather than to accept any price cap regime. This will leave Russia with a severely reduced set of oil-clients and with a big problem of shipping it out,” Bjarne Schieldrop, chief analyst commodities at bank SEB, said earlier this week.

“The price cap-regime which now seems close to a certainty will highly likely end up having a very, very bullish impact on oil prices,” Schieldrop added.

Despite concerns on the demand side, due to China’s Covid lockdowns and a global economic slowdown, the price cap mechanism “could turn out to be catastrophic to supply and totally overshadow any demand weaknesses for oil,” the analyst noted.


1 Recall that New York Department of Financial Services Superintendent Benjamin Lawsky did threaten to revoke Standard Chartered’s New York branch license over money laundering abuses involving oil trade with Iran and other verboten countries. He literally issued an order saying in pretty much these words, “Appear before me next Tuesday and explain why I should not revoke your license”. This caused outrage in the UK and even freakout in DC. But Lawsky had asked the Fed if he could go ahead with his investigation, and the Fed didn’t realize where Lawsky would go with it.

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