Can the west slaughter Putin’s sacred cash cow?March 14, 2022
Ukraine believes the only way the Russian president will back down is if his economic power base in fossil fuels is seriously threatened. Putin thinks Europe and the US are too weak to do it – but some believe there is a way
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Allies of the Ukrainian president Voldymyr Zelenskiy say Vladimir Putin will only accept a compromise on Ukraine’s future neutrality if he is facing a credible threat to his economic power base by a rapid and permanent exclusion of Russia’s oil and gas exports from its lucrative European markets. The Russian government receives 40% of its budget revenues from energy exports.
But Ukraine is meeting stubborn resistance from Germany, which insists its economy would be plunged into recession if it suddenly lost access to Russian gas and oil.
In an interview reflecting the moral pressure Germany is under to do more, Germany’s Green economics minister, Robert Habeck, admitted Europe in the past had fed Ukraine false promises, but said Germany could not afford “the loss of hundreds of thousands of jobs” that a full energy embargo would require. He said Germany at best could be freed of Russian coal by the autumn, of its oil by the end of the year, but could set no date for ending German reliance on gas.
The impasse is leaving senior allies of Zelenskiy feeling frustrated, and appealing to the UK and the US to use the G7 to try to persuade the Germany chancellor Olaf Scholz to sign up to a western timetable to end dependence on Russian energy.
Scholz and Emmanuel Macron, the French president, spoke with Putin again at the weekend. Zelenskiy’s chief negotiator, Mykhailo Podolyak, has said the talks between Ukraine and Russia are now virtually continuous, and have got past the stage of trading ultimatums. But the French sound less optimistic. Jean-Yves Le Drian the French foreign minister said “We are in front of a wall. The worst is ahead of us. This war will be long.”
The frustration with the German position is such that Zelenskiy is willing to turn to one of Scholz’s predecessors, Gerhard Schröder, to act as a mediator with Putin. The former chancellor has accepted the role, possibly to salvage something from the ruins of his reputation, and reportedly had talks with Putin last week.
Some of Zelenskiy’s team are also uneasy at the intermediary role of the Israeli prime minister Naftali Bennett, questioning the depth of Israel’s support.
Zelenskiy has repeatedly stressed he is willing to meet Putin to discuss new security guarantees for Ukraine in return for his country’s future neutrality, either as an alternative to membership of Nato, or as an interim measure prior to joining the defence pact.
‘The hostile bacchanalia’
Speaking last week after his largely inconclusive talks with Sergei Lavrov in Turkey, Ukraine’s foreign minister Dymtro Kubela said “the real issue for Ukraine is security guarantees and hard security guarantees, similar to the ones that members of Nato have. We need these guarantees primarily from Russia since it is the country that committed an act of aggression against us, but also from other countries including permanent members of the UN Security Council. The idea is that we have a Treaty, an agreement where countries would oblige themselves not to commit aggression or put economic, or any other, pressure on us”.
He confirmed the president had cooled down on Ukraine’s Nato application “because, despite our best efforts, Nato is not ready to integrate us. The reaction to the aggression by Nato has been to delegate to member states to deal with us on a bilateral basis”. But he added that until Ukraine knew the strength and reliability of the guarantees it was not yet ready to say the guarantees could be a substitute for Nato membership. “We are not yet in a position to abandon Nato membership”, he said.
The idea is for a legally binding treaty signed by numerous countries that guarantees the security of Ukraine in a way that the Budapest Memorandum signed in 1994 failed to do. The memorandum was supposed to guarantee Ukraine’s independence in return for the country abandoning its nuclear stockpile. Britain, in the form of John Major, was one of the co-signatories. The memorandum in effect became a dead letter. Zelenskiy insists the talks are serious and no longer merely an exchange of ultimatums.
The US, reflecting what it has been briefed to them by Israeli, French and Turkish intermediaries, all whom have spoken to Putin, say they have not heard any willingness by the Russian leader to compromise.
“It’s hard to offer an overture when the Kremlin’s position continues to be that ‘we’ll continue to pummel Ukraine until’ it bows to maximalist demands,” a senior US official said last week. Putin’s public position is still to demand the “demilitarisation and de-nazification” of Ukraine, in effect regime change, as well as Ukrainian recognition of Crimea and of the Donbas. He thinks he is winning, the White House judges.
That leads the US and UK to argue the economic endurance test between the west and Russia must continue, and be intensified, until what Putin’s spokesman Dmitry Peksov oddly describes as “the hostile bacchanalia” becomes so intense that Putin finds his inner circle desert him, or even assassinate him.
But Zelenskiy’s allies feel Scholz, a fortnight after Germany’s great “turning point” on defence spending, has reverted to cautious type. A delegation has been in Europe this week arguing the EU, now on its fourth sanction package, has still not taken the decisive step – a total embargo on Russian energy.
Andriy Kobolyev, the former boss of Ukraine’s energy firm Naftogaz, and now spearheading an international push for comprehensive western energy sanctions on behalf of Zelenskiy, finds the German caution frustrating.
He said: “Until European leaders understand Putin sees them as a weak and easy victims in his geopolitical strategy, he will continue doing what he is doing. That is why the only way to prove Putin wrong is to put on a full-scale energy embargo. Europe has to play a different game and say ‘we know we can cope without Russia’. It has to say ‘we are large economies, and with a different energy mix we can cope because for us it is a matter of principle’. It has to say ‘we are putting an end to this right now and you Russians will lose our market forever’. That poses an existential threat for Russia.”
Putin’s ‘sacred cash cow’
Kobolyev has negotiated with Putin and his energy barons, and insists he knows their mindset. He believes the Russian president will face their wrath, and that of the FSB security service if they feel Putin totally miscalculated not only Ukrainian resistance, but the west’s willingness to make the sacrifices to wean themselves off Russian energy, and so blow a massive long-term hole in the Russian budget.
It would also upend all the assumptions of the Russian energy elite around Putin, such as Igor Sechin, the boss of Rosneft. Sechin like Putin is highly conservative on issues such as climate change. He remains convinced absolute oil consumption will increase by 10% by 2040 and by 20% in Asia. Kobolyev says it would be a complete shock to Sechin if his most profitable market just disappeared overnight. “Their sacred cash cow would have been killed.”
So far only the US has said it will end oil imports, but since the US imported an average of only 209,000 barrels per day (bpd) of crude oil and 500,000 bpd of other petroleum products from Russia in 2021, it is hardly a great sacrifice. The UK has said it will join the embargo by the end of the year.
But Scholz has set his face against the move. He said last week. “At the moment, Europe’s supply of energy for heat generation, mobility, power supply and industry cannot be secured in any other way. It is therefore of essential importance for the provision of public services and the daily lives of our citizens,” he added.
Annalena Baerbock, the Green foreign minister has said much the same. “If we end up in a situation where nurses and teachers are not coming to work, where we have no electricity for several days. Putin will have won part of the battle, because he will have plunged other countries into chaos”. Scholz was one of a group of leaders insisted on the removal in an EU council statement of any reference to the proposed target date of 2027 for the EU to end its dependence on Russian gas.
A game of geopolitical chess
His concern is understandable. Oil accounts for 32% of German energy input, and one third of that comes from Russia.
Yet oil is central to Putin’s war machine. Thane Gustafson, the chronicler of Russia’s energy sector, points out in his latest book Klimat that in 2019, the last pre-pandemic year, income from oil – worth $188bn – accounted for 44% of Russian exports in value, and gas only 12%. Hydrocarbons generates 56% of Russia’s export income and 39% of the federal budget.
Kobolyev is convinced that if the EU banned Russian oil, other sources could be found. “There is a Russian proverb: a sacred place is never empty for long”, he explains.
In a game of geopolitical chess with Russia, Biden is already working to find alternative oil supplies. For now he is trying to fill the shortfall through drawing on the US reserves, oil from Venezuela, the world largest oil producer, Iran and Saudi Arabia.
White House officials were in Caracas for the first such talks in 20 years. Venezuela’s Nicolás Maduro government has signalled its willingness to cooperate with the White House by releasing two political prisoners in a good will gesture. Venezuela’s oil output could rise by at least 400,000 bpd, the country’s petroleum chamber said on Friday. But Biden has to tread carefully since the idea of reconciliation with Maduro is leading to a reaction in Congress.
Difficult talks about Saudi Arabia boosting output are continuing, according to Kobolyev. But Saudi’s weekend execution of 81 “criminals and terrorists” hardly suggests the kingdom is desperately seeking the west’s approval. The executions hardly makes a mooted visit by Boris Johnson the UK prime minister to Riyadh more likely.
In the case of Iran, Russia has stepped in at the last minute to try to block Iran’s nuclear deal, fearing that an agreement, and lifting of oil sanctions on Iran, would see Tehran able to unleash as much as 2m barrels of oil per day onto the global market.
To turn to the autocrats of Venezuela, Iran and to Saudi Arabia or the indeed the UAE to save the west from Putin has its ironies, but some say needs must. If Paris was worth a mass, oil, it seems, is seen as worth some diplomatic humble pie.
The more complex issue is gas. As a compromise between those that favour a ban such as Poland and the Baltic States, the EU has produced a plan that sees the EU cut consumption of Russian gas by two-thirds before the end of 2022. The EU would then become independent from all Russian fossil fuels by 2027 or “well before 2030”. “By the end of this year, we can replace 100 billion cubic metres [bcm] of gas imports from Russia. That is two-thirds of what we import from them”, the EU commission said in a statement.
The EU argued it can receive around 10bcm more gas from alternative pipeline suppliers such as Norway and Azerbaijan. The main bulk of this replacement would, however, come from imported liquid natural gas, which officials estimate would need to reach 50bcm of additional imports by the end of 2022, possibly via a joint, strategic EU contract, although legal details remain to be resolved. Federico Santi, a gas specialist at the consultancy Eurasia Group, said: “That is a huge figure, equivalent to around 10% of global LNG consumption in 2021.”
Even so, Kobolyev is unimpressed by the lack of ambition and the lack of specific measures.
He insists the EU should at least cut off sales of Russian LNG, which hits the Yamal project, with ties to the Kremlin’s siloviki mafia. He has also proposed that the revenues from Gazprom’s pipelines go into an Iran-style escrow account that will be released only once Russia calls off the invasion. Sums might be deducted to pay for the reconstruction of Ukraine. He claims Russia could not physically turn off the gas taps immediately taking Europe through to next winter.
Kobolyev is no longer a lonely voice, but is finding influential support in Germany in a way that is starting to discomfort the “traffic light-coalition” government. Norbert Rottgen the CDU former chair of the Bundestag foreign affairs committee, is calling for a full ban, and says he is not sure what happened to Germany’s turning point. He says polls show voters are ahead of their leaders in being prepared to make economic sacrifices to stop funding Putin’s war machine.
On 8 March, the Leopoldina National Academy of Science, and separately a group of nine international economists, mapped out how Germany could absorb an embargo, with the worst scenario a 3% fall in GDP – less than 4% impact of Covid – or probably something like a cost of €1,200 per German citizen.
This figure is contested, including by Habeck, who says the impact is more likely to be 5%. Various economists, lobbyists and gas intensive industries, such as chemicals, are staking out their ground in a heated debate that blends morality, politics and economic modelling.
Scholz has moved under pressure in this war once, over arms sales, Nord Stream 2 and defence spending, and there is no guarantee he will not again.
But if frozen out of European markets, would Putin simply turn to China? Kobolyev says no. “The option of shifting gas sales to Chinese markets is not possible,” he says. “In the case of China it might take 10 to 15 years to build the infrastructure. The existing pipeline to China is small and is not connected to the areas currently supplying Europe.
“Although exporting LNG and oil will be easier, China will know they are his last market, meaning he will lose 80% of his revenues and that is a devastating blow.”
“This is about more than cents and dollars. Putin is paranoid and he would hate to become dependent on China because he is afraid China will eat them alive. Russians perceive China as their smaller brother. Russians brought communism to China, but this will be a humiliation.
“So when Putin goes back to his crony friends – and this is the close KGB circle – and he tells them ‘Look guys, we have been thrown out of Europe completely, but I am trying to negotiate with China’, they are not going to appreciate that. To lose your biggest most lucrative market, to lose 80% of your revenues and become fully dependent on China, that does not look like a very smart or strategic move. That does not look like a victory.
“The Russians and Putin”, he explains, “have always believed Europe can never survive without Russian oil. He thinks if he wins in Ukraine, the Kremlin will be forgiven because there is no alternative and the West is weak. That is how he thinks, it’s how Gazprom thinks and it’s how Rosneft thinks. That is how they see the world. That is why Putin personally controls the energy trade. It is his sacred cash cow.”
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