Recent days have been abuzz with news of many countries across the globe discussing the new philosophy of ‘price cap’ for oil imports from Russia. The idea, perceived by the group of seven countries (G7), is primarily to cap the price of oil being sold by Russia. Today,, we delve into the details of what it is, why it is important and how it will impact the global economies.
The Russia-Ukraine war which started in early February this year has had a negative rub-off not just on the economies of these two countries, but on several countries across the globe, thanks to globalisation and their role in international trade. For instance, Russia is the world’s second largest producer of oil, next only to the United States. Similarly, it is the second largest producer of gas globally. The sanctions on Russia have impacted global oil and gas supplies, significantly impacting the global economy, particularly countries in the European Union, which were dependent on Russia for their demand. The supply disruptions have been the reason behind soaring energy prices. With Russia and Ukraine being dominant players in several agri commodities like wheat and sunflower seeds, the war has led to shortage of these commodities, fuelling their prices in the global market. Oil and agri-commodity price increases have led to a record increase in inflation, impacting several global economies, including India.
With the two warring countries showing no restraint, respite for inflation in the near term looks unlikely. The energy crisis created by the war will likely do more damage to end-users such as the EU, than for the economies of the two warring countries. However, for energy deficient countries, the impact of shortage in crude and gas availability can be structural and have a cascading effect on their overall economy. It is in this context that G7 countries are proposing to resume trade ties with Russia, albeit with restrictions on pricing, to keep a check on their profits, which can indirectly fuel the ongoing war situation. However, Russia has warned that the ongoing oil crisis and soaring energy costs will only aggravate with the proposed price cap. As soon as the G7 countries made their announcement last week, Russia stopped the supply of natural gas from its key pipeline to the EU.
G7 countries are proposing the resumption of energy trade with Russia, with a restriction on the maximum price that will be paid for energy imported from Russia. The US, which is spearheading the initiative, wants India also to join the G7 group, and agree to the trade terms. India, being a large importer of crude, meeting over 85 per cent of its oil demand through imports, wants to tread cautiously, given its current economic situation. For India, ensuring availability at competitive prices is paramount to ensure energy security. India spent a whopping $119 billion in FY22 on oil imports. This is almost 4 per cent of its GDP. And for India, Russia is now the second largest supplier of energy, next to Iran. The country shares a long-standing trade relationship with Russia.
Even as India has called for ceasefire in Ukraine and expressed its belief in peaceful co-existence, its stand with respect to price cap will be based purely on energy security and economic considerations. It has already made clear its commitment and priority to meet the country’s energy needs at a competitive price. For India to consider the G7 proposal, the latter will need to commit to the availability of uninterrupted energy to India from other sources such as Venezuela at competitive prices. Given that India will prioritise economy and people over other issues, we do not see any major impact on India, on account of the price cap move by G7 countries. Likewise, its impact on India’s oil and gas availability and pricing may be neutral and will hence not have any major impact on oil and gas stocks. If you were concerned about this move altering the prospects for companies using oil and gas, and crude derivatives as raw material (such as paint stocks), you can take it that nothing much is going to change for now.