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By: Harry Altham, Energy Analyst, Market Analysis EMEA & Asia
WTI hit its lowest level since January (before the Russian invasion of Ukraine) before strengthening again as Vladimir Putin threatens to cut all oil exports to Europe should a price cap be put into place. The initial fall in oil has been matched by a wider selloff in equities globally; the MSCI Asia Pacific Index has dropped to its lowest since May 2020, while the S&P also dropped yesterday. Though the market is well-versed in the hawkish tones coming from the Federal Reserve (75bp expectation for September), the dollar continues to strengthen – with the dollar spot index breaching 110 for the first time since 2002. In part, this can be attributed to the evaporating confidence in the eurozone (although E.U. Q2 GDP growth came in at 0.8% this morning, 0.2% above expectations). As the dollar strengthens, the value of other global currencies weakens towards recent records (the euro is below parity with the dollar [also for the first time since 2002]), stoking further inflation that revolves back into fears of oil demand destruction. The fear among many economists is the prolonged impact the war in Ukraine (and associated sanctions) could have, and the potentially diminished effectiveness of monetary policy. For example, Goldman Sachs is predicting that inflation could hit 20% in the United Kingdom should gas prices continue to remain elevated or even move higher.
Russian President Vladimir Putin has suggested that Russia will not export oil, oil products or gas to any countries that impose a price cap on Russian oil, which plunges the price cap plan into significant doubt. Within the G7 itself, Germany and Italy in particular are large-scale purchasers of Russian gas, and to lose that supply entirely would cause considerable economic heartache. Italy has the LNG infrastructure to obtain alternatives, but this would come at greater cost. In part, this comes from processing and transport costs, but LNG cargo rates have shot up and still contain substantial upside risk, not least because of the outward shift in the global LNG demand curve (particularly if China re-enters the LNG market). Germany, meanwhile, has limited LNG gasification capacity, and will be increasingly dependent on imports from Norway. There is an additional political risk here, best summarised by populist former Italian Prime Minister Matteo Salvini who said yesterday that sanctions are merely helping Russia build a current account surplus and are hurting the pockets of ordinary Italians. As the outlook blackens, the resolve of European billpayers will be increasingly tested – particularly if political blame is attached to those who ‘enabled’ the dependency.
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