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Russia's economic gap with key OPEC+ allies widens, adding to policy debate

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Russia's economic gap with key OPEC+ allies widens, adding to policy debate

Highlights

Gap between Russian, Saudi Arabian fiscal breakeven oil prices widens

Spiraling cost of Ukraine war could make Russia reluctant to curtail future output

OPEC+ monitoring committee to meet Feb 1

  • Author
  • Rosemary Griffin    Herman Wang
  • Editor
  • Haripriya Banerjee
  • Commodity
  • Oil
  • Tags
  • United States
  • Topic
  • Europe Energy Price Crisis OPEC+ Oil Output Cuts War in Ukraine

A growing economic divide between Russia and its key Persian Gulf oil-producing partners in OPEC+ is adding to the challenge of aligning production policy between the 23-country bloc.

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Revenues Russia would normally earn from oil sales are being hit by price caps and sanctions, which are closing off access to its traditional markets in Europe. S&P Global Commodity Insights estimates Russia's fiscal breakeven oil price at $114/b in 2023, up from $64.47/b before its invasion of Ukraine, as the Kremlin's outgoings to fund the war add to its overall budget spending. By comparison, OPEC+ kingpin Saudi Arabia's fiscal breakeven has remained relatively steady at a forecast $78/b for 2023, compared with $80.38/b in 2021, according to S&P Global.

"Russia's dependence on oil revenue is only increasing as spending requirements grow due to the war and non-energy sanctions begin to bite," said Paul Sheldon, chief geopolitical advisor at S&P Global. "This will make it even more reluctant to voluntarily curtail supply."

For the moment, Russia and Saudi Arabia appear aligned on OPEC+ despite their economies heading in opposite directions, with Russian President Vladimir Putin discussing oil production strategy with Saudi Crown Prince Mohammed bin Salman in recent days, according to the Kremlin.

However, consensus may be harder to maintain should the economic gulf between both nations continue to widen and Saudi Arabia pivot in response to consumer nations' concern over high prices to raise output. Any increase in production by OPEC+ could be detrimental to Russia because sanctions would limit its ability to maximize its capacity and compete for market share.

A Saudi-Russian co-chaired OPEC+ monitoring committee is scheduled to meet Feb. 1 to review market conditions, with delegates signaling no likely change to production levels.

EU Embargo

Since the invasion began on Feb. 24, 2022, some OPEC+ decisions, such as the agreement to cut 2 million b/d beginning last November, have boosted oil prices and helped Russia to show surprising economic resilience.

However, analysts question Russia's ability to weather the growing economic headwinds. Some expect rising costs for the invasion and the cumulative impact of sanctions to further widen the fiscal gap between Moscow and its key OPEC+ counterparts this year.

An EU embargo on most Russian oil products and a G7 products price cap due to come into force on Feb. 5 are generating further uncertainty over Russia's economy in 2023. Beyond its borders the risk of a global recession could also hit Russia alongside all commodities producers.

Paris-based international financial crime analyst George Voloshin said that previous experience shows that sanctions have a cumulative effect.

"I expect the negative trend to gain progressive strength in 2023 and beyond," Voloshin said, adding that it will likely be most painful in the second and third quarter of 2023.

Changing dynamics

In the early years of the OPEC+ agreement on crude production, the Russian economy was in comparatively good health. The country had a lower fiscal breakeven oil price and a fiscal rule that allowed the country to direct excess revenues at times of high prices to the national welfare fund.

However, since the invasion Putin has been forced to draw down on the fund and direct more oil revenues to balancing the budget. The IMF estimates that Russia's economy contracted 2.2% in 2022, and expects modestly positive growth in 2023, it said in a report published Jan. 31.

Signs are that the heavy discounts on Russian oil are starting to take a toll.

Platts, a part of S&P Global Commodity Insights, assessed Russia's key crude grade Urals at $45.86/b on Jan. 30, $38.77/b below Dated Brent. Before the war, Urals was trading at a discount of around $10/b to Dated Brent.

The threat that the conflict could escalate also looms over the Russian economy and raises the risk of further sanctions going forward.

The US and Germany recently announced the provision of advanced tanks to Ukraine, and speculation continues about a possible second Russian mobilization.

Production risks

Russian output in 2023 is also likely to come under pressure. Officials have said that they will not supply crude oil to any customers observing price caps, even if that means cutting production.

"In December, [Deputy Prime Minister Alexander] Novak was saying that Russia might curb production by 5%-6%, but many analysts think the drop will be higher, at 10%-12% on an annual basis," Voloshin said.

Russian production was 9.86 million b/d in December, according to the latest Platts OPEC+ survey. This is below its OPEC+ quota and February 2022 output of 10.11 million b/d -- most of which was produced before the invasion was launched on Feb. 24. In contrast, Saudi Arabian production increased from 10.25 million b/d in February 2022 to 10.48 million b/d in December 2022.

OPEC+ officials have cited the uncertainty surrounding Russia's oil outlook -- along with China's efforts to emerge from the pandemic and global macroeconomic concerns -- as their primary reason for standing pat on production quotas.

"At this moment, we need to be very careful on every decision," Equatorial Guinean oil minister and OPEC President Gabriel Mbaga Obiang Lima said Jan. 26 at an energy reception in London.

As the war in Ukraine slogs on, Russia's economy may test its OPEC+ ties.

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