Russia’s war on Ukraine is not limited to energy. Both sides have experienced their hopes of a quick victory in Ukraine thwarted by attritional trench warfare.
Moscow was sure its gas would not be replaced and Europe would experience a winter of industrial shutdowns without it. Moscow believed that the EU would abandon support for Ukraine due to the ensuing political and social instability.
Europe was hit hard by the gas war, which resulted in gas prices rising hundreds of billions of dollars. Some European industries such as fertiliser manufacturing were unable to continue and had to close down. However, a mild winter and a suppressed Chinese demand helped restore the balance of the global gas market. The European economy was resilient.
There was also the belief that Russia relied heavily on western technologies to keep its oil flowing, west markets to generate its revenues, and western financial systems for energy exports. Russia’s ability to wage war would be severely limited if it was cut off from western technologies.
Despite boycotts from western buyers and Moscow’s efforts to keep payments flowing through and supply chains open, Russian oil production fell by 10% between February and April after the invasion. However, it later recovered. Russian oil production has returned to prewar levels a year ago, one year after the war started.
While the European oil and products embargo and price caps resulted in higher prices for Russian operators, they did not seem to have adversely affected Russia’s oil trade. Russia’s oil industry tax levies had declined significantly by 2022. This was not due to oil companies making less money but because of tax system modifications currently being made by the government.
Both sides seem to have exhausted all their offensive capabilities and are now focusing on a war against attrition in the hope that time will be on their side. Russia hopes for a hot summer, and a cold winter. This will lead to increased gas demand from China. Russia still has pipeline gas that goes to Europe and Turkey. Although it may be willing to cut off all European gas, the price would be prohibitive. Moscow would lose its most important trade channel via Turkey, as well as its remaining allies in Serbia and Hungary.
The energy war has yet to include liquefied natural gas. Russia is the fourth-largest LNG exporter in the world, with 8 percent of total volumes. However, most of Russia’s LNG capacity is owned partially by Japanese and Chinese companies. It would be difficult to reclaim it for Russia’s geopolitical purposes.
Moscow could also attempt to recreate 1973’s energy crisis by pulling its oil from the market. It has been pragmatic so far and prefers to avoid embargoes and price caps.
The arsenal of the west is small and many of its tools have been used against Venezuela and Iran. Europe will diversify its energy resources, but it cannot add gigawatts to its existing solar and wind power portfolio overnight. Major new LNG production volumes won’t be available until 2024, when they will start to ramp up.
The monitoring of price caps and re-exports through third countries of Russian crude oil and diesel seems to have been quite relaxed so far. US and EU wanted to maintain Russian volumes on the market. Market players were told not to be too compliant or cause unnecessary friction. However, the noose is starting to tighten with some facilitators being placed on sanctions lists and shadow fleet tanksers impounded.
The Kremlin might also see price caps being lowered to reduce its revenue. However, this would result in a huge value transfer to both the Indian and Chinese economies, as well as to intermediaries involved with the Russian oil trade, and selected by Russian sellers. The Kremlin could lose some of its wealth, but it could be shared with its friends. However, west-based manufacturers may be subject to greater competition from Asia.
This is a new conflict on an unprecedented scale, that has never been fought before. It may also signal a new era in economic warfare, just like the first world conflict.