Inflation Winning,Isolation Failing

"It is my way or the highway “, Under free market is a consumer's say. In oil market as the prices sway, Producers can show the exit way.

A price cap on Russian oil has almost been set.It is widely anticipated that such move would prevent Putin from raising war money.There is a hurry to fix the cap before winter, when the demand will be high and the war in Ukraine will enter a critical phase¹.

Russia is world’s second largest oil producing country. It is no marginalized oil producing country. In the oil market, there are few producers and many buyers. Unlike free market, consumers/buyers have less leverage on price of oil. In a free market, consumer of a good whose demand is price elastic and which has many substitutes can easily say, “It’s my way or the highway. “But when the good is oil whose demand is price inelastic ,consumer/buyer cannot set the price.

Just elaborating it a little bit.Oil is like rice,the main staple of the Bangladeshis. No matter how high the price is or low our income is,our adjustment to rice consumption is less compared to our consumption adjustment to snacks or cold drinks.When prices of snacks or cold drinks rise so high,we can survive without them. But we have to take rice(coarse rice) everyday in spite of a price hike.We may consume less but simply cannot discard them from our menu when the price is too high.Oil falls into the same category and Russia holds an important market share.There is no sanction on Russian oil. Yet Russia is profiting from the high oil price by supplying oil at a discounted price.

Under any price cap,Russia may simply stop selling oil. In that case,oil price may hike further.While the price hike continues, Russia may wait for the just capped price that will induce it to sell oil.

Even if there is a set price for Russian oil,Russia is a far more convenient position to exploit the situation. For instance, if the market price of Russian oil is $90/barrel and the capped price is $60/barrel,then the $60 may fetch the amount priced at $90/barrel.Just think the over invoicing and under invoicing mechanism in our export sector.The recipient country may quote a much higher quantity but may receive the quantity the Russians are willing to supply. In official papers,you may quote $60000 for 1000 barrel but actually you will get 666.66 barrel, the amount Russia is willing to sell at that price.And the whole process is done under a legal way.No one is there to inspect the price/quantity.Because the recipient country may remain mum and at the same time boast that it holds the high moral ground by buying the Russian oil at a capped price. Clearly, Russia here has a position to say,”It’s my way or the highway.”

Another scenario that is highly likely to emerge is the proliferation of black marketing activity. Since the start of the Ukraine war, there are several alternative payment systems available apart from virtual currency. In the legal market, Russia may sell 0.67 barrel at $60/barrel, the capped price. But it will sell oil at higher than the capped price but below market price in the black market. And the price may incorporate the cost of black marketing activity. Alternate payment system, deferred payment, barter trade could be used to make payment.

Russia is no Iran or Venezuela that other countries may prevent it from doing what it intends to do.Russia has firm control in the Arctic sea and Black Sea.It has significant presence in the Pacific Ocean and the Indian Ocean. It can carry out policing role in other countries. So it is not easy to comply Russia to others' rules.

Of course,the G7 countries who are devising the policy know it well. It is naïve to assume that they do not know this.They are trying to sell the argument:”Hey,look! We are doing this ,so we have high moral ground and we are not buying blood oil from Russia; in fact, we are punishing it by buying oil at a settled price below the market price.” But the truth is winter is coming and only Russia, which is closer to Europe, can supply oil and gas to Europe at a much lower price. Alternative sources are still costly and not ready. There is no one to inspect what is going through the Nordstream or the Bering Strait and what is the true amount.It is a mechanism to save faces of both the Russians and the West.

Many Russians,children of Russian bureaucrats,businessmen live in European countries. Russia does not want them to freeze in the cold.

Inflationary pressure may be making a dent in to ordinary people’s pockets. But it is also thwarting war by raising the operational expenditures.

War between Azerbaijan and Armenia and border clashes between China and India broke out when oil price was much lower. Cost of military mobilization was cheaper to engage in military adventurism.Now high oil price is holding back the Chinese economy. Its growth is shrinking.High inflation in Türkeye is holding it back from starting campaign in Syria.Many govts that are responsive to people’s reaction to rising price level are avoiding skirmishes and conflicts with neighbors in the midst of high inflation.

Now a price cap on Russian oil may alter the scenario. As military operational expenditures may become low, many countries may engage in military adventurism as the world may be busy in somewhere else. This is disastrous for the West because another front may give Russia the vantage position in the war in Ukraine.

Clearly,high oil price is doing great to western and Russian oil companies and inflation is thwarting war in other parts of the world by raising the operational expenditures of the military.

I think this whole oil price cap is a smokescreen to hide the dubious motive of making profit and prolonging the war. Best way to check inflation is to increase oil production in the OPEC countries in the Gulf where the US has strong presence. But such step is not to the best interest of the wider population.

The isolationist policy of the West is failing. Russia has more leverages in many countries in the post COVID 19 period than it had in pre-pandemic era. Right now Russia has more ability in shaping relations between Myanmar and Bangladesh. Further isolation will make it seek strategic partnership in other continents,offering critical technologies at affordable price. So this isolation and price cap are turning into a damp squib.

Notes And References:

1. "EU Rushes To Agree On An Oil Price Cap After Putin’s Threat”,Natalia Drozdiak,Jorge Valero and Ewa Krukowska,Blomberg,September 23,2022. For more read at https://www.bloomberg.com/news/articles/2022-09-22/eu-rushes-to-agree-on-an-oil-price-cap-after-putin-s-threats