"Denying a producer access to markets, as in the case of Nord Stream 2 or prevailing U.S. sanctions against Iranian and Venezuelan oil exports, is as much a weaponization of energy as a producer deliberately holding back supplies."
Ukraine crisis exposes West's abysmal understanding of energy markets. Time to put an end to the weaponization of global energy supplies
Vandana Hari, February 10, 2022
Vandana Hari is founder of Singapore-based Vanda Insights, which tracks energy markets.
In their escalating conflict with Russia over Ukraine, political leaders in the U.S. and Europe have demonstrated an abysmal lack of understanding of the basic principles of oil and gas markets, as well as energy security.
Safeguarding Europe's energy supply, which hinges on critical oil and gas flows from Russia, should have been front-and-center of any strategic maneuvering by the Western alliance, be it a diplomatic overture to Moscow or the threat of retribution if Russia invades Ukraine.
Instead, energy security has seemed like an afterthought, left in a mess of confusion and contradictions. Sanguine assurances from Washington of alternative energy supplies in the event that Russia's exports to Europe are disrupted do not hold water.
Markets are not swayed by political chicanery and any risk of supply shortages is priced in on an anticipatory basis as a fear premium. European gas and power prices, as well as spot liquefied natural gas prices paid by major importers in Asia, rebounded through January amid the escalating Ukraine tensions and cold weather.
Though rising gas prices have abated somewhat, crude oil has continued a relentless rally, hitting seven-year highs in early February, forcing industrial and retail consumers already battling red-hot inflation and the omicron surge to shell out more for their fuel needs.
One would have thought that Europe's leaders, having learned the harsh lessons of energy policy shortsightedness late last year, would not want to play Russian roulette with their own energy needs.
The Biden administration has threatened financial sanctions against Russia if it invades Ukraine. While Washington has no plans to sanction Russia's oil and gas exports so far, some analysts have argued it might be the most effective deterrent. A deliberate halt or reduction in supplies by Moscow as a retaliatory measure is another risk.
The European Union depends on Russia for 26% of its oil and 48% of its gas. Viewed from Moscow, that translates to nearly half of Russia's total oil exports and over 70% of its gas exports.
When Germany, the biggest consumer of Russian gas, wisely urged caution on Russian sanctions, it drew criticism from the U.S. and elsewhere for being a weak link in the Western alliance against Moscow.
The Biden administration upped the ante by threatening to "put an end" to the beleaguered Nord Stream 2 gas pipeline from Russia to Germany, which has been awaiting regulatory clearance from Berlin to begin commercial deliveries since construction finished at the end of last year.
While the furor surrounding Nord Stream 2 may ease if the Ukraine crisis may be defused diplomatically, it is a miscarriage of governance when the energy needs of an entire continent can be readily used as pawns in a political dispute.
Then there are the half-baked U.S.-led efforts to replace any potential loss of Russian gas to Europe.
It is true that the U.S. can ship more of its LNG to Europe -- it has already begun doing so -- while other major LNG producers are being leaned upon to go full tilt, and LNG importers in Asia have been persuaded to redirect cargoes to Europe.
Liquefied natural gas storage tanks in Futtsu, east of Tokyo: LNG importers in Asia have been persuaded to redirect cargoes to Europe. © Reuters
However, all those efforts put together are not enough to replace Russian supplies to Europe in the event of a major supply shock. Any boost in LNG output is constrained by existing gas production and liquefaction capacities. A major increase in LNG imports into Europe would also run into infrastructure bottlenecks in distribution.
And because the majority of Russia's gas to Europe travels through pipelines, it cannot simply find its way to other markets, which means the danger of a global supply deficit and price spike.
NATO and its allies are hoping that Russia will not invade Ukraine or trigger the imposition of sanctions against it that would threaten European energy security. It is not in Moscow's interest either to jeopardize relations with its most important market and tarnish its image as a reliable long-term energy supplier.
But hope is not a policy. Even if the current standoff ends peacefully, one should assume that long-running political tensions with Russia over the expansion of NATO and territorial influence in Europe will continue to simmer.
Europe is moving toward cleaner sources of energy, but it would be dangerous to view an accelerated transition as a way to reduce dependency on Russia. Natural gas has a critical role to play in ensuring that the transition is both smooth and secure.
The only way forward for Europe's leaders is to recognize that the region's interdependence with Russia will coexist with conflicting political agendas but the two must not be allowed to collide.
The EU also needs to implement a watertight plan for the continent's energy security, including the diversification of sources and resources, and the beefing up of storage capacities, all while on a war footing.
Critically, the EU must spearhead new international norms making energy weaponization off-limits in any political conflict.
Denying a producer access to markets, as in the case of Nord Stream 2 or prevailing U.S. sanctions against Iranian and Venezuelan oil exports, is as much a weaponization of energy as a producer deliberately holding back supplies.
This kind of behavior should be taken off the table.