The International Group is right. The Russia oil price cap is unenforceable
The perverse incentives of Western policy have simply boosted freight rates for many, while creating a substantial dark fleet that undermines safety at sea
The onus to sort this mess out rests with the politicians, not marine insurers. Given the inordinate amount of time the US Congress took just to agree Kyiv’s request for more shells, hopes can sadly not be high
US POLITICS in the year to date has been dominated by prolonged headbanging over just how much financial support should be provided to Ukraine, a country rapidly running desperately short of the ammunition it needs in its justified efforts to counter the Russian incursion.
Resolution was only reached late last month, when the Biden administration managed to steamroller through a $61bn aid package in the face of determined recalcitrance from many Republican congressmen and women.
Contrast this unedifying bust-up with the orderly manner in which marine insurers complied with the request from Washington and other G7 governments to play an unasked-for major role in ongoing sanctions against the Kremlin.
De facto subcontracting on the sly
Recent decades have seen states subcontract everything from major infrastructure projects to IT support and hospital cleaning services. But this kind of outsourced foreign policy enforcement is a more recent development.
There are tenable philosophical objections to this trend, which has had an increasing impact on marine insurance over the past decade.
Hull and machinery underwriters are there to write marine business for profit, and although P&I clubs are mutuals, they must still break even. The sector’s collective job is to provide cover for ships engaged in seaborne trade.
It has no responsibility to restore democracy across the Sahel, topple the military junta in Myanmar, end the civil war in Sudan, broker a durable peace between Israel and Iran, exert moral suasion on the Taliban to let girls go to school or achieve any of a hundred and one other desirable ends in international politics.
Even so, the Ukrainian cause is a just one. Marine insurers have used their best endeavours to meet the demand to police a $60 a barrel price cap on Russian crude exports, even without compensation for the lost revenue and the onerous cost of administration.
Discreet grumbling has sometimes been heard in private. But there has been little public demur, at least until this week, when the International Group of P&I Clubs submission to a UK Department for International Trade inquiry was published online.
The IG’s central contention is that the Russia price cap is unenforceable. And it is right. The measures — which also apply to petroleum products — were from the get-go built on contradiction by design.
The twin policy goals of maintaining the flow of oil to world markets while inflicting maximum economic pressure on Putin’s war machine were always going to constitute conflicting imperatives.
Birth of a breakaway fleet
More than a year after the restrictions came into force, we can see how things are panning out. The Russian oil market has become decoupled from the global one, creating a wedge between prevailing spot prices and what the Kremlin can get from the numerous willing takers for its crude.
The mechanism was intended to give buyers the bargaining power to drive prices down, and Urals has traded at a discount to Brent ever since the cap kicked in. That is a success in as far as it goes. But even this has been a windfall to China, India and Türkiye, who have benefited from heavy discounting.
On top of being forced to sell on the cheap, Russia has had to spend something like $2.25bn building up the dark fleet*, which now makes up more than 12% of world tanker tonnage. All of this is money has not been spent on its incursion into its neighbour.
Another unintended flipside has been to boost freight rates for those willing to take the bookings. As Lloyd’s List reported this week, the ‘sanctions premium’ — if you want to call it that — represents about 60% of freight costs, adding as much as $9.7m in extra profits to tankers owners prepared to accept such fixtures.
This is a prime example of what economics textbooks refer to as regulatory arbitrage. Or to put the same thing in non-academic terms, the lure of easy money is always irresistible to some.
Many loads are clearly changing hands at well over $60 a barrel, providing a perverse incentive for tankers — especially older tonnage — to seek alternatives to IG cover.
The fear is that much of this alternative ‘insurance’ would not pay out in the event of a spill. Such a development works to the detriment of wider safety at sea.
Moreover, as Enrico Vergani, a lawyer with Italian firm BonelliErede, pointed out this week, much of the wording of the 13 European Union sanctions packages to date is poor, and could have done with more input from legal experts.
Soft power delusion
But in any event, the lazy assumption from Western policy makers that marine insurance was a soft option for controlling trades has been shot through as thoroughly as the many carcasses of Russian tanks that now litter the Ukrainian countryside.
The bid to stop Putin profiting from and manipulating markets in commodities such as oil is not working any more than minimally, if at all, and shows scant sign of ever securing a substantial effect.
There is, of course, an argument that the price cap was, at heart, intended to allow the EU to ban Russian crude and product imports without causing consumer prices in the US and elsewhere to spike. In that regard at least, it can be said to have worked.
But in the meantime, the P&I clubs are tasked with upholding what is essentially a flawed sanctions regime, based on information they have no way of verifying, and trying their best to answer unanswerable questions about the nature of the dark fleet this policy has unintentionally brought into being.
They are doing what is asked of them, and most of them have added substantial muscle to their compliance departments. They still get off lightly compared with banks, of course.
But they remain not-for-profit entities, and there is simply no way they can look too hard at what lies beneath the bonnet of the attestation documents.
The onus to sort this mess out rests with the politicians, not marine insurers. Given the inordinate amount of time the US Congress took just to agree Kyiv’s request for more shells, hopes can sadly not be high.
* Lloyd’s List defines a tanker as part of the dark fleet if it is aged 15 years or over, anonymously owned and/or has a corporate structure designed to obfuscate beneficial ownership discovery, solely deployed in sanctioned oil trades, and engaged in one or more of the deceptive shipping practices outlined in US State Department guidance issued in May 2020. The figures exclude tankers tracked to government-controlled shipping entities such as Russia’s Sovcomflot, or Iran’s National Iranian Tanker Co, and those already sanctioned.
Download our explainer on the different risk profiles of the dark fleet here