Embargo

By: Dr. M. Ray Perryman
Published in syndication June 01, 2022

The European Union (EU) has announced a partial embargo on Russian oil in response to the invasion of Ukraine. By yearend, about 90% of Russian oil import volumes could be affected. It's a major blow to Moscow, which relies on oil and natural gas sales for economic sustainability.

Another piece of the latest sanctions calls for European companies to cease insuring and shipping Russian oil. Even as some countries independently stopped purchasing Russian oil recently, much of it simply shifted from one destination to another (a common occurrence in markets). However, few buyers will risk an uninsured shipment in turbulent times, and with European shippers no longer providing service, it will be much harder to successfully export.

Reducing European reliance on Russian natural gas, which is the real source of its economic strength and leverage, will take much longer. While the liquified natural gas (LNG) market is developing, it will take time to reach levels sufficient to supply Europe. In addition to facilities to liquify the gas where it is plentiful (such as the Texas Gulf Coast, with pipeline connections to major production areas), regasification facilities are needed at the other end before the gas can be used. The infrastructure is extremely expensive and takes years to build (our firm has worked extensively in permitting these projects). The invasion has created both geopolitical urgency and greater opportunities for profit, two key ingredients which will likely accelerate development.

The immediate price effect of the sanctions is apparent, with West Texas Intermediate crude in the $115 per barrel range as I am writing. As a result, a rapid increase in energy activity is underway. In early 2022, rig counts stood at 274 in Texas and 588 nationally; the latest count is 358 in Texas and 727 nationally. The US oil industry is stepping up to meet global energy needs. Even with challenges such as shortages of workers and supplies and unfavorable federal policy directions, the surge has been impressive. The Permian Basin will set a production record topping 5.2 million barrels per day in June, even with operating rigs still running well below pre-pandemic levels.

The Russian economy is smaller than that of Texas and is dominated by oil and natural gas. Imports by the EU traditionally bring massive inflows to Moscow. It can't happen overnight, but an effective and concerted effort to neutralize Russia's ability to wage war can succeed over time. The EU embargo, although it will bring higher prices temporarily, is a major step on this long journey. The complete trek will require other notable actors and actions, many of which can be facilitated by the vast energy production, processing, and transportation resources found in Texas. Stay safe!