How sanctions and oil modulations are playing out for energy trade

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Israel’s retaliation to Hamas’s surprise attack continues to bring suffering to Gazans. Venezuelan politicians meet in Barbados. Ukrainian forces resist a Russian offensive in Donetsk. After one grey eminence celebrated his 100th birthday in May, sages gather in Houston and New York to discuss the first great Middle East oil shock, 50 years ago this month.

There is a common theme to these apparently disparate events.

Ever since the oil embargo by some Arab states, in response to American support for Israel against Egypt and Syria’s surprise attack of October 1973, the US has felt uncomfortably aware of a rare vulnerability for a superpower – its lack of control over the petroleum market.

Henry Kissinger, who brought up his century earlier this year, was secretary of state at the time. He catalysed the formation of the International Energy Agency to co-ordinate the then-industrialised countries’ response to the energy shock.

In 1975, President Gerald Ford signed into law the Strategic Petroleum Reserve (SPR), which eventually filled to 727 million barrels, in caverns along the Gulf of Mexico coast, to give a cushion against embargoes.

Presidents could not add oil production, other than by trying to jawbone Opec. They could, however, take oil off the market – and did. President Jimmy Carter banned imports of Iranian oil into the US at the time of the revolution and hostage crisis. UN sanctions on Iraq followed Saddam Hussein’s decision to invade Kuwait in 1990; progressively stricter American measures against Libya over allegations of terrorism and seeking weapons of mass destruction came in 1986 and 1996.

The advent of shale oil, and the turn from the US being the world’s largest oil importer to, eventually, a significant exporter, gave it a much freer hand. Presidents Obama and Trump pursued stringent secondary sanctions on Iran, preventing third countries from buying its oil, and going aggressively after companies that tried to.

Its exports slowed to a trickle, from 2.5 million barrels per day in 2011 to barely 1 million bpd in 2013-2015, recovered during the negotiated nuclear deal, before plummeting to less than 500,000 bpd at times in 2019 as Donald Trump tried to impose “maximum pressure”.

China is essentially Tehran’s only paying customer, disguising its imports in a variety of ways. Its own vast commercial and government stockpiles are used intelligently, to fill up when prices seem low or discounts are available from countries others have to shun, providing a hidden form of market stabilisation.

In 2018 and 2019, the US introduced various sanctions on Venezuela’s already dilapidated oil industry following its disputed presidential elections.

But when Russia invaded Ukraine last February, having already begun strangling Europe’s gas supplies, the combined sanctions response of the US, EU and the rest of the G7 was quite different. Targeting some eight million bpd of combined crude and refined product exports is an entirely greater magnitude of problem than the 2018 amounts of 2.5 million bpd from Iran and one million bpd from Venezuela.

The US sought extra Opec output, notably from Saudi Arabia, but the exporters’ organisation instead chose to make further cuts. Instead, the Biden Administration released oil from the SPR, which now holds 350 million barrels, its lowest since 1983 and not even half-full. It has been far more proactive than any previous administration, trying to use the SPR as a price management tool rather than in reaction to clear supply disruptions.

Washington, with Brussels, wanted to keep Russian oil on the market, to avoid sending prices rocketing, but cut the revenues flowing to the Kremlin. So while they banned nearly all imports of Russian oil by the G7 and EU, taking effect from December last year, they allowed it to continue to other destinations. But any use of G7 services – tankers, insurance, trade finance – has to comply with a price cap, set at $60 per barrel for crude oil.

That appeared to work. But it was really a smoke-and-mirrors act. The combination of relatively low world oil prices, and a discount for Russian crude created by the European ban, meant Moscow mostly had to sell below the cap anyway. There was hardly any practical enforcement.

But as benchmark crude prices have risen strongly since June, backed by Opec+ cuts, and traders and refiners have got savvier about dealing with Russian oil, the discounts have narrowed to just $4 to $5 a barrel. Shipments of Russian crude have traded at $80 a barrel, well above the cap.

This is not necessarily against the letter of the G7 sanctions, but it does undo their effect. On October 12, the US Treasury Department imposed its first penalties on tanker owners it accused of breaching the rules on the cap by using US-based services.

The White House also chose quietly to ease enforcement of sanctions on Iran, whose oil exports rebounded strongly, reaching an estimated 1.5 million bpd last month. This was done to ease petrol prices and inflation, to allow the targeting of Russia instead, and possibly to try to restart a stalled diplomatic process with Iran.

But the attack by Hamas, a group which draws support if not necessarily instructions from Tehran, has put pressure on the White House to crack down again.

The US now finds itself juggling three major sets of oil sanctions, plus the use of the SPR. This brings us to the final piece of the puzzle. Venezuela is the smallest oil producer and least politically-sensitive of the three.

The South American nation’s opposition and President Nicolas Maduro’s government agreed in Bridgetown on elections next year. In response, the US has temporarily lifted a broad range of sanctions. Optimistically, 200,000 barrels per day of oil output might return, only a modest contribution if exports from Iran are squeezed again.

The SPR also can’t be drained indefinitely, with the ever-present risk of a real supply disruption. On Thursday, the US Department of Energy announced it would buy some oil to refill the reserve, despite a $5 barrel gain in prices since the start of the month.

The White House is not the mastermind behind the curtain pulling the levers to manipulate the oil market in its desired direction. It is instead riding on an out-of-control machine it built piecemeal since 1973, but does not properly understand, and steering away from one, then the next, political emergency. Oil exporters and importers alike can only hope not to be run over.

Robin M. Mills is chief executive of Qamar Energy and author of 'The Myth of the Oil Crisis'