Russia-Ukraine: Effects of New Sanctions on American Energy Security

When the United States announced its first sanctions on Russia in response to the uproar over the downing of Malaysian Airlines flight MH17, many began to wonder what effects the new restrictions would have on multinational oil companies like ExxonMobil and BP. The first round of sanctions was designed to target Russian oil giant Rosneft, making it much more difficult for the state-run company to secure long-term financing from U.S. markets. Now, a new set of restrictions from both the United States and Europe have cracked down further on Russia’s ability to finance, find and produce oil. Oil exploration requires enormous amounts of capital and technical expertise, and it is common for companies to create joint ventures in order to share the financial burden and necessary technologies. In a Financial Times article from July 17, Exxon showed little concern about the Russian firm’s access to U.S. loans, despite a joint venture with Rosneft to explore in the Arctic Sea. The narrow nature of the sanctions meant such arrangements were more-or-less immune to Rosneft’s new restrictions. Now, as the European Union joins the United States in instituting its own sanctions, multinational oil companies are beginning to worry their businesses could become collateral damage in the effort to bring Russia under control. BP owns nearly 20 percent of Rosneft and the two firms cooperate on shale oil exploration. This week, the British oil giant expressed concern that its own finances could be negatively impacted by this recent round of sanctions. For Exxon, it is still unclear whether or not the U.S.-based firm will have to comply with European sanctions as well. The restrictions coming out of the European Union include constraints on a variety of technologies used in both the oil and defense industries, as well as prevent Russian banks from accessing European capital markets. The sanctions will not target natural gas exports, as Europe still depends heavily on Russian production. However, companies are reevaluating plans to conduct business in the country. As a precaution following the MH17 crash, French oil giant Total reports it has stopped adding to its stake in the Russian gas producer, Novatek. President Obama acted similarly to his European counterparts, imposing sanctions that target Russian defense, energy, and finance industries. He criticized the Russian government for refusing to engage diplomatically, instead arming Ukraine-based pro-Russia militia groups. It is unknown what effects this latest round of sanctions will have on global supply. IEA’s Oil Market Report data predicts near-flat growth year-over-year for July 2014-2015, and the yet-unseen impact of sanctions could exacerbate that production shortfall. In addition, long-term prospects for Russian production are at risk, as sanctions will limit Russian access to horizontal drilling and hydraulic fracturing technologies, both critical to boosting productivity at oil and gas wells. Restrictions on the world’s second-largest oil exporter are certain to add to the nervousness already present in the market—brought on by continued violence in Ukraine and numerous flashpoints in other oil-producing countries and regions. Any increase in energy prices could further embolden Russia in its foreign policy, according to a recent SAFE Intelligence Report, as well as the organization’s “Oil Security 2025: U.S. National Security Policy in an Era of Domestic Oil Abundance,” the inaugural publication by SAFE’s Commission on Energy and Geopolitics. The country’s heavy dependence on oil exports to power its economy means it benefits from high prices on the global market. Russia’s recent moves to destabilize parts of Ukraine have contributed to some of the oil market volatility seen in recent months, and this geopolitical premium has helped to maintain elevated prices. For Russia, oil and gas exports constitute 42 percent and 6.3 percent, respectively, of the country's federal budget revenues. The targeted sanctions imposed by the United States and Europe reflect the complex nature of the current dispute with Russia. While efforts have been made to restrict access to finance and the technologies required for new development of shale and Arctic resources, the oil market will continue to rely on Russian production, and Europe undoubtedly must maintain its access to Russian natural gas, at least in the short and medium term. Russian oil will continue to play a major role in the West’s foreign policy strategy with the unruly state. In the long term, the United States and Europe should work to lessen their dependence on Russian oil and limit exposure to the whims of the global market. By investing in a diverse array of energy sources, particularly in the transportation sector where oil consumption is concentrated, the U.S. can better protect itself from high prices. Furthermore, by decoupling itself from a resource mired in conflict and unpredictability, the West can enhance its negotiating position when dealing with Russia and other potentially hostile governments.