Putin Just Pushed the World Into an Even Bigger Energy Crisis

As we approach the 50th anniversary of the 1973 global oil crisis, international energy markets and the global economy are about to receive a similar jolt. Since Russia attacked Ukraine on Feb. 24, the price for crude oil has twice soared as high as $105 a barrel—a level last seen in 2014. And things could get a lot worse from here. Even if the current sanctions imposed on Russia do not explicitly target the energy trade, sanctions on banks and other entities will impede Russia’s oil, natural gas, and coal exports, wreaking havoc on global energy markets. In addition, the dangers for oil tankers traveling in the Black Sea will reduce oil reaching global markets, including seaborne supplies from non-Russian producers such as Kazakhstan. The cut in Russian oil and natural gas supplies to markets will have spillover effects and further jack up the prices of coal and liquefied natural gas (LNG), adding another burst to inflation.

The crisis underlines that it’s time for Western governments to be honest with their publics about the basic facts of energy security, restore their own energy production, and enhance the reliability of European energy imports. Even if the crisis with Russia is resolved soon—a very big if—Western governments need to make fundamental changes in their approaches to energy policy. The question of energy security was never gone, but Russia’s war has put it back at the top of the agenda.

In coming days, Russian energy exports—oil, natural gas, and coal—will be significantly curtailed, even without sanctions. Traders buying energy cargoes, banks issuing letters of credit, shippers needing to insure their cargoes, and many other participants in the global energy trade will be cautious with all transactions and thus likely pass even on nonsanctioned ones involving Russia. This was the case with the recent round of sanctions on Iran. Companies tended to overcomply to avoid U.S. retribution. In the current case, companies will be even more averse to trading with Russia or processing Russian payments for fear of reputational damage and pressure from investors.

As we approach the 50th anniversary of the 1973 global oil crisis, international energy markets and the global economy are about to receive a similar jolt. Since Russia attacked Ukraine on Feb. 24, the price for crude oil has twice soared as high as $105 a barrel—a level last seen in 2014. And things could get a lot worse from here. Even if the current sanctions imposed on Russia do not explicitly target the energy trade, sanctions on banks and other entities will impede Russia’s oil, natural gas, and coal exports, wreaking havoc on global energy markets. In addition, the dangers for oil tankers traveling in the Black Sea will reduce oil reaching global markets, including seaborne supplies from non-Russian producers such as Kazakhstan. The cut in Russian oil and natural gas supplies to markets will have spillover effects and further jack up the prices of coal and liquefied natural gas (LNG), adding another burst to inflation.

The crisis underlines that it’s time for Western governments to be honest with their publics about the basic facts of energy security, restore their own energy production, and enhance the reliability of European energy imports. Even if the crisis with Russia is resolved soon—a very big if—Western governments need to make fundamental changes in their approaches to energy policy. The question of energy security was never gone, but Russia’s war has put it back at the top of the agenda.

In coming days, Russian energy exports—oil, natural gas, and coal—will be significantly curtailed, even without sanctions. Traders buying energy cargoes, banks issuing letters of credit, shippers needing to insure their cargoes, and many other participants in the global energy trade will be cautious with all transactions and thus likely pass even on nonsanctioned ones involving Russia. This was the case with the recent round of sanctions on Iran. Companies tended to overcomply to avoid U.S. retribution. In the current case, companies will be even more averse to trading with Russia or processing Russian payments for fear of reputational damage and pressure from investors.

Just like the 1973 oil crisis, the current energy crisis is taking place while energy markets are already stretched. The tight market will amplify the impact of the lost Russian supplies. And unfortunately, all the signs are pointing to higher prices—perhaps much higher prices—that will be stay us even if the war comes to a quick conclusion one way or another.

Prior to the current crisis, oil prices were high and on an upward trend. This was mainly because U.S. oil production plummeted at the start of the COVID-19 pandemic and has returned nowhere near pre-pandemic levels. All other major producers have been pumping at pre-pandemic rates, and there is very little spare capacity left in the global oil markets that could quickly come online to replace the shortfall in U.S. production or Russian exports. Global inventories of stored oil are also being rapidly drawn down, and there hasn’t been enough investment in new production. Even OPEC has fallen substantially short of its output targets, suggesting capacity is limited as existing wells decline and aren’t replaced with new discoveries.

On the demand side, global oil consumption has returned to pre-pandemic rates—and is likely to continue to rise, especially once international travel snaps back. The pandemic led to higher base demand for oil: There has been increased use of plastics (which are made from petroleum) because of the rising use of masks, disposable goods, and various consumer wares as spending shifted online; at the same time, use of public transportation is sharply down as many people switched to cars.

Meeting this new oil demand without a further jump in price requires producing additional oil, something few Western governments have been willing to openly admit. And one of the only countries that has major underutilized oil production capacity is the United States. U.S. President Joe Biden’s policies and his political base’s sentiments against fossil fuels are major factors that have prevented fresh investment in U.S. oil production. Canada is another major global producer with substantial additional capacity, but it is constrained by transport, especially since Washington has been squeamish about the pipeline projects that would bring more Canadian oil to market.

This past weekend’s new sanctions, though they were carefully constructed to exempt Russian natural gas exports to Europe, will inadvertently reduce them. Like the global oil market, the European gas market was already in crisis before Russia’s invasion of Ukraine because of the European Union’s own actions. In the hope of fostering greater use of renewable energy, the EU and individual European governments in recent years undertook policies that greatly hurt Europe’s energy security, not least by putting the brakes on efforts to diversify energy supplies. While Europe has secured some new gas supplies, for instance by building LNG terminals and the completion in 2020 of the Southern Gas Corridor, which supplies Southeastern Europe and Italy from Azerbaijan, these projects have been nowhere near enough.

Brussels went further in hurting its ability to tap new gas supplies by ending most long-term natural gas contracts; one of the reasons was to force utilities to use more renewables. The long-term gas contracts had provided European consumers with secure supply at a stable price. Markets in Europe that have access to gas via long-term contracts, such as Italy and Greece, are faring much better in the current energy crisis than those that chose to rely on the spot market for gas. Ending long-term contracts and increasing gas trade at spot hubs strengthened Russia’s ability to influence prices as the main swing producer with the ability to rev up and reduce supplies at the hubs. In recent years, European governments have also thoughtlessly reduced the scale of required gas storage, further hurting the continent’s energy security. All this has been obvious to energy experts for some time.

Some politicians have been shocked by Russia’s war into rediscovering the concept of energy security. On Sunday, German Chancellor Olaf Scholz announced that Germany would begin to diversify its gas imports with the construction of two LNG import terminals, the country’s first. Gas storage requirements will also be increased, and the Ministry for Economic Affairs and Climate Action is considering slowing down Germany’s nuclear phaseout.

But the country with the largest potential for mitigating the energy crisis with new oil and gas supplies shows no sign of learning from the crisis. When White House spokesperson Jen Psaki was asked about the impact of the Ukraine crisis on the oil price on Saturday, she reiterated that the Biden administration will continue to concentrate on renewable energy. There was no sign of a shift to encouraging U.S. oil and gas production, let alone an increase in pipeline capacity to access Canadian supplies.

As it seeks to reduce energy inflation in advance of the U.S. midterm elections, the Biden administration appears to believe it has an ace up its sleeve: a renewed nuclear deal with Iran. Some believe that a deal will quickly bring additional Iranian barrels to market, leading prices to plummet again. This is unlikely to be much more than a temporary blip. Energy traders have largely factored in the expectation of increased Iranian supplies. And there may not be as much Iranian oil ready to ship as the administration believes. It’s an open secret that a lot of Iranian oil is already traded. China already buys Iranian oil uninhibited. Iranian oil has many ways to circumvent U.S. sanctions—some is exported via Iraq and Kuwait, and there is a vast fleet of off-the-books oil tankers specializing in shipping Iranian crude and other liquid fuels. Similarly, reports that the International Energy Agency is coordinating a release of strategic petroleum reserves by member countries, including the United States, don’t signal much relief. Any price drop would likely be short-lived given the growing gap between production capacity and demand.

All this means that the United States and Europe won’t be able to reduce prices unless they fundamentally reassess their energy security policies. Both U.S. and EU policymakers need to be frank with their publics and communicate that renewable energy sources—even if their buildout is accelerated—can’t substitute for fossil fuels at anywhere near the speed required to make up for the shortage in oil and gas supply. What’s more, weather-dependent wind and solar power require other energy sources—natural gas and nuclear power—to deliver a steady supply of electricity to homes and businesses. By promulgating the fiction that fossil fuels can be easily phased out and investments in maintaining production aren’t needed, the United States and Europe have handed Russian President Vladimir Putin significant leverage over their energy prices. High energy prices can easily trigger a global recession, significant inflation, and massive popular discontent, as the world saw in 1973 and at other times since. It bears repeating: Like it or not, fossil fuels are in just about everything we do, including food that needs energy-intensive fertilizer to grow, tractors and combines to harvest, and trucks to bring to stores. Already, some factories have shut down or reduced production in Europe and China due to high natural gas prices, potentially sparking a recession.

Moreover, Europe should commission new pipelines for natural gas imports, including from the Caspian Sea region, the Eastern Mediterranean, and North Africa. The EU should end its opposition to European gas providers signing long-term supply contracts and mandate much higher gas storage to reduce the chance of shortages and maintain stable prices.

Energy security has always been a key pillar of national security. It’s time for U.S. and European policymakers to recognize this basic fact and act accordingly—or they and their publics will face a very rough time in a worsening energy crisis.