The latest from Dmitry Orlov - on Russoan nэtural gas shipments to frozen America

Sanctions, Shmanctions!

Dmitry Orlov

Club Orlov,

16 January, 2018

Whatever pagan deity happens to be in charge of weather this winter seems to be playing a joke on the Americans. You don’t believe in global warming? Fine, why don’t we have Muscovites enjoy the rare sight of pussy willows in bloom in January while letting you freeze? The result has been brutal. Not only have the very low temperatures, in a region where some people seem to believe that a baseball cap qualifies as winter headgear, exacerbated an already very bad flu season (the standard flu vaccine is only 10% effective against this year’s strain) but they have caused natural gas prices to spike up to $6.4 per cubic meter, testing a four-year-old record and breaking above the price in Asia.

The Russians do believe in global warming. It has opened up Arctic sea lanes to year-round navigation, supported by Russia’s new icebreaker fleet. They provide shortcuts to world’s sea freight while getting around strategic chokepoints such as the Straits of Malacca, the Suez Canal and the Straits of Gibraltar. The Russians have also taken advantage of the warming Arctic to open the region to oil and gas exploration and production. Late last year the ambitious new Yamal liquefied natural gas project opened to great fanfare. An entire new city was built above the Arctic circle. Putin himself flew in and gave the order to start pumping. A new fleet of ice-capable LNG tankers is being readied to take the gas to customers anywhere in the world.

Back in 2012 I wrote that there really isn’t a global natural gas market. Well, now there is! (But everything else I wrote then pretty much still stands.) In the meantime, the US went all-in on fracking—an expensive and environmentally damaging technique for exploiting the marginal hydrocarbons present in shale. This scheme has resulted in temporarily increased oil and gas volumes and in astronomical levels of indebtedness for the companies involved, which are now locked into a Ponzi scheme scenario, fighting for their lives while continuing to produce at a loss. But the temporarily increased volumes have allowed the Americans to dream that they will be able to become purveyors of natural gas to Europe and beyond, squeezing out Russia’s Gazprom. To this end, in the middle of last year the Trump administration imposed a set of sanctions designed to stop Russia from growing its share of the European gas market (which currently stands at 40%) to great consternation from Germany, Austria and others, which see no benefit to being forced to buy expensive, unreliable American gas.

At the time, I didn’t think that this scheme would work, and now it turns out that I was right. Not only are US gas deliveries to Europe turning out to be something of a joke, but the very first tanker load of LNG from Russia’s Yamal project is going to… Boston, due to arrive at the gasification plant in Everett on January 22. Apparently, the Trump administration is happy to let the Europeans shiver in the dark, deprived of access to Russian gas, but as far as the US itself is concerned—sanctions, shmanctions! The embarrassing fact that this episode pretty much puts paid to the idea that US LNG exports could compete with the world’s largest gas producer Gazprom can easily be dealt with by… refusing to talk about Russian gas imports and instead talking about importing people from “sh*thole countries.”

But is this a singular event, caused by record-breaking cold temperatures, or a sign of things to come? I believe that it is the way of the future. For one thing, the sanctions regime isn’t holding. The US is not the only “exceptional nation” as far as breaking its own sanctions: the British, when faced with gas shortages, have also chosen to ignore them, eager to become Yamal’s new customers. After such a ludicrous performance, why should anyone, anywhere in the world, take the US administration’s pronouncements seriously? At this point, the Americans themselves will probably prefer to keep quiet about anyone violating their sanctions, for fear of being laughed out of court. After all, there are far easier ways to dominate the news cycle; for instance, simply by saying something that gives people the excuse to act offended.

But while the Americans are keeping busy by acting offended, there is another, much bigger issue looming on the horizon. Do you think that Peak Oil is dead? Oh, then how about Global Warming?… The fact is, 2017 was nothing short of disastrous as far as oil and gas exploration. Geologists were only able to find replacement for 11% of the hydrocarbons that were produced over the course of the year. This is the worst result ever! Nothing of this sort has happened since the 1940s, when the world was too busy fighting a world war to engage in oil and gas exploration. What this means for energy prices is anyone’s guess: as I explained in this article, the conflict between prices higher than consumers can afford but lower than production costs will bankrupt both consumers and producers, but not all of them and not at the same time. But what is certain is that if this long-term trend continues (and why wouldn’t it?) serious oil and gas production shortfalls will start to occur within a decade.

What is particularly notable about this dismal result is that it is not in the least upsetting to the Russians. This is because most of the newly discovered oil and gas is in Russia. Over the course of last year, Russia was able to grow its oil reserves by a billion tonnes, 350 million of which can be produced without investing in new technology. In comparison, last year Russia produced 560 million tonnes. Thus, depending on its level of technology investment, Russia has either broken even or gotten ahead in terms of its ability to maintain and increase its oil production. A similar situation obtains with regard to natural gas: over last year, Russia was able to grow its reserves by 1.5 trillion cubic meters. This positive trend is likely to continue, because when it comes to exploring its vast reserves in the rapidly warming Arctic, Russia is just getting started.

Ever since the 2014 coup in the Ukraine, which was followed by the imposition of anti-Russian sanctions, there has been a great deal of thought given to what it would take for these various sanctions to be lifted. And now it seems that we have the answer: all it takes is a cold spell. The UK and the US are good examples, but here is an even better one: cold weather has caused the Ukrainian government to lift its sanctions against Russia’s Yuzhtrans and to resume importing Russian anthracite. The Ukraine is a sort of mini-me to America’s Dr. Evil, who tells it that its job is to hate Russia, and so it does its best with its own anti-Russian sanctions, all the “alternative facts” you can eat and ridiculous hate speech. But freezing to death in the dark would be more than it bargained for, and so it buys Russian nuclear fuel, and now Russian coal too.

But that is now; in the coming years, as hydrocarbon reserves outside of Russia are draw down, production shortfalls will become common and markets will break. Then governments throughout much of the world, perhaps even including the US, will come to the realization that they simply can’t get by without Russian energy. Eager to keep the lights on and the pipes from bursting, they will recognize that it is in their own interests to curb their Russophobia, go light on the anti-Russian rhetoric, either lift or simply ignore the sanctions, and simply try to make the best deal with Russia that they can.