China

Energy Crisis From Ukraine War: Impacts on China and India

The Diplomat author Mercy Kuo regularly engages subject-matter experts, policy practitioners, and strategic thinkers across the globe for their diverse insights into U.S. Asia policy. This conversation with Dr. Craig Kennedy — historian and energy commentator at the Davis Center of Russian and Eurasian Studies at Harvard University, former international finance executive at Morgan Stanley and Bank of America Merrill Lynch, and author of the Substack “Navigating Russia” — is the 331st in “The Trans-Pacific View Insight Series.”

Examine the effectiveness of U.S. efforts to cap Russian crude export prices and the EU’s plan to prevent ships loading Russian crude.

EU oil sanctions, agreed in June, will only come into effect this December, and the price cap initiative is still being negotiated, so their potential effectiveness can’t be judged by Russia’s current oil exports. Once in place, the EU sanctions will ban the import of most Russian oil to Europe and prohibit EU tanker fleets and marine insurance services from helping Russia ship oil to other markets.

These maritime sanctions could pose a major challenge to Moscow. Some 80 percent of Russia’s oil exports travel by sea — mostly in Western-owned tankers. And virtually all those vessels carry critical spill liability insurance provided by a complex consortium known as the International Group or “IG.” European companies play an outsized role in IG, which insures 95 percent of the world’s tankers.

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Come December, Russia could lose access not just to Western fleets, but to any vessel whose owner wants to retain IG insurance. This could lead to a collapse in available tanker capacity leaving up to 4 million barrels a day of Moscow’s oil (half its total exports) stranded on Russian shores.

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The U.S. price cap initiative is a complement to EU sanctions and aims to sharply cut Moscow’s oil revenues, while also reducing the risk of an oil supply shock. It would allow vessels to keep carrying Russian oil after December and still retain their IG insurance, provided the oil is sold at deeply discounted prices. To work, however, it needs buy-in from both Moscow and large Asian oil importers, like India and China.

What would the impact of both plans be on China and India?

Sanctions will affect China and India differently. Both are major importers of Russian oil, surpassed only by the EU. But China’s supply routes are much less vulnerable to sanctions than India’s. Nearly all China’s Russian imports flow through the East Siberian pipeline ̶ now at capacity ̶ some directly, others by ship from Russia’s Pacific ports. Because these ports are nearby, this short-haul Pacific shuttle trade requires modest tanker capacity. Under sanctions, China may find it worthwhile to provide that capacity by spinning off a portion of its fleet and self-insuring it.

If China wanted to increase imports from Russia, however, it would have to bring those additional barrels from Russia’s western ports on the Baltic and Black Sea ̶ a three month return voyage. Distance, complexity, and sanctions risk would probably discourage China from dedicating a large number of its tankers to this long-haul western route. Besides, even dispatching China’s entire fleet would meet only a fraction of Russia’s tanker capacity needs.

India may find it harder to maintain Russian imports under sanctions. Since March, Russia has diverted a large portion of its Western exports to India ̶ all by sea. Come December, however, this trend could quickly reverse. Constrained tanker capacity may lead Russia to prioritize customers in less distant markets, like Turkey or the trading hub at Fujairah. And India itself, which relies on foreign vessels for 90 percent of its imports, doesn’t have enough tankers to maintain current Russian imports.

Analyze the calculus of Beijing and New Delhi in deciding whether to cooperate with Western measures against Russian crude exports and shipments.

To keep current Russian imports flowing, Beijing won’t need to cooperate. And with a glut of stranded oil in Russia, China will be in a strong position to negotiate deep discounts from Moscow. But if China wants to increase cheap Russian imports (at OPEC’s expense), it might consider cooperating to husband its own tanker capacity.

For New Delhi, by contrast, cooperation may be the only way it can safeguard existing Russian imports. And cooperating would keep more Russian barrels in the market, reducing the risk of a price shock that could hurt all importers.

What are the consequences to European countries if China and India do not cooperate with the cap?

Russian oil exports could fall significantly. Europe will be able to source the oil it needs from elsewhere, like the Middle East, but the resulting supply squeeze could put upward pressure on prices worldwide ̶ at least for a while.

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Assess how Moscow might retaliate against a Western cap on Russian crude and how China and India would benefit.

Indications are that Moscow is trying to assemble an Iran-style shadow fleet composed of Russia’s own tankers and a grey-market network of aging vessels, with opaque ownership and dubious documentation. If successful, it could keep Russian oil flowing to India and allow China to increase Russian imports.

But securing that much tonnage will be a very heavy lift. To maintain current export levels, Russia will need many times more tankers than Iran uses. But lead times on new builds are long, and the markets for used tanker sales and grey-market hires are limited.

The Kremlin appears now to recognize the challenges of the shadow-fleet strategy. In parallel, expect it to pursue two others. First, notwithstanding public statements to the contrary, they will want to have an option to sell under a price cap.

Second, expect Moscow to step up efforts at breaking Western resolve on oil sanctions. This could include unilaterally reducing exports prior to December to precipitate a supply crisis, much as Moscow is doing today with gas.

But if the West holds firm, markets will eventually adjust, and the Kremlin will end up the real loser. Russia’s hydrocarbon sales to Europe date back 140 years. Today, they constitute the world’s largest, single-product bilateral trade. They are essential to the vitality of the Putin regime and involve not only access to EU customers and capital, but a heavy reliance on advanced Western energy technologies and services not available anywhere else. Through aggression, brutality and miscalculation, Putin has single-handedly dismantled this critical relationship. His hubris will cost Russia dearly.

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