Putin is raiding his piggy bank as his cash woes grow

Russia’s latest budget update shows the price caps on its oil are starting to bite even before the more recent caps on its diesel and other refined products take effect.

Official data released by Russia’s Ministry of Finance on Monday show that the budget deficit in January was 1.76 trillion roubles (about $36 billion), with revenue from oil and gas nearly halving from their level a year earlier and expenditures swelling 59 per cent, presumably largely because of the cost of the war in Ukraine.

Vladimir Putin’s oil and gas revenue is shrinking. Credit:AP

The ministry blamed the decline in revenue largely on the falls in the price of its flagship crude product, Urals, as well as lower gas exports.

Sales of gas into Europe, which was its key market, have dwindled to a trickle since the invasion.

Russian crude has been capped at $US60 a barrel by the G7 countries (plus Australia) since December 5, although it averaged just under $US50 a barrel in January (and at one point traded below $US40 a barrel) even as the global price (Brent crude) averaged more than $US78 a barrel.

The caps are backed by the withholding of insurance and finance from anyone transporting Russia oil that has been sold at prices above the cap.

Even though Russia has assembled a fleet of its own tankers and is using some sanctions-busting techniques to ship much of its oil, the buyers in Asia are using their leverage as the only large-scale buyers of Russian oil to extract prices well below the cap.

The impact of the sanctions on Russian oil is being felt in the price, rather than the volume, with China, India, Turkey and others buying the oil that would otherwise have been sold to Europe and the US.

Not only are the very limited pool of potential buyers extracting substantial discounts but there are higher shipping and insurance costs in shipping the oil to those markets.

That says the West’s strategy of trying to maintain flows of Russian oil with price caps above Russia’s costs of production, while reducing the amount of revenue those sales generate, is working as planned.

To blunt the impact of the slump in its revenue base Russia is raiding its sovereign wealth fund, which had assets of about $US148 billion.Credit:Bloomberg

Vladimir Putin threatened last year that he would cut off Russian supply and send international oil prices soaring. Russia’s export volumes, however, actually grew two per cent last year.

International oil prices, which spiked above $US120 a barrel in the aftermath of the invasion, have actually fallen back significantly since the invasion and have been trading around $US80 a barrel in recent months.

Russia’s budget for this year of a two per cent deficit was predicated on an average Urals price of $US70 a barrel, which now appears far-fetched. Typically, oil and gas generates more than 40 per cent of the government’s income so the loss of its gas revenues and the prices it is actually receiving for its oil is destined to render that forecast meaningless.

Also, the price caps on Russian diesel ($US100 a barrel) and lower-valued-added refined products ($US45 a barrel) only came into effect this week so are yet to impact Russia’s revenues, although they are less central to its budget than oil and gas revenue.

The other aspect of the budget update that will concern Russian officials and further undermine their budget forecasts for this year is that consumption and tax revenue also fell, by nearly 30 per cent. That says the invasion and the sanctions it triggered from the West are hurting domestic economic activity.

The discounts to international prices are also lower (the international price for diesel is between about $US110 and $US120 a barrel at present), probably because it is more difficult for the Europeans to source diesel elsewhere.

Against that, Russia will find it more difficult to sell diesel and other refined products to China and India because they have their own large refinery complexes.

If the experience of the cap on oil is a guide, the caps on refined products will provide buyers with leverage to demand big discounts.

The other aspect of the budget update that will concern Russian officials and further undermine their budget forecasts for this year is that consumption and tax revenue also fell, by nearly 30 per cent. That says the invasion and the sanctions it triggered from the West are hurting domestic economic activity.

To add to the pressure on Russia’s finances, the US is reported to be preparing to impose a 200 per cent tariff on Russia’s aluminium exports. Russia’s is the world’s second-largest aluminium producer, behind only China.

Buyers in Asia are using their leverage as the only large-scale buyers of Russian oil to extract prices well below the cap.Credit:Andrey Rudakov

US imports of Russian aluminium have been falling steadily in the past year – less than five per cent of the primary aluminium imported into the US comes from Russia – but the threat of a wider ban would be unsettling given its rapidly deteriorating fiscal position.

Also unsettling would be a review of the price cap on oil (and planned regular review of the new caps on refined products), which could see the cap lowered, giving even more leverage to potential buyers.

To blunt the impact of the slump in its revenue base Russia is raiding its sovereign wealth fund, which had assets of about $US148 billion ($215 billion).

The finance ministry said it would sell about 160 billion roubles over the next month. It sold 38.5 billion roubles worth of Chinese yuan and gold from the fund last month. It also plans to issue about 800 billion roubles of domestic bonds in the March quarter, increasing its planned full-year domestic debt issuance by that amount.

Even though it has been denied access to international debt markets by the West’s sanctions, and lost access to central bank reserves held in the West, Russia can draw on its sovereign wealth fund and the domestic market to maintain the funding for the war in Ukraine for quite some time.

That is, however, now coming at a significant and increasing cost and the likely long-term outcome – the loss of the largest and closest pre-war market for its energy exports, the depletion of its reserves and the damage done to its economy by Western sanctions and the withdrawal of Western companies – will weigh heavily on its future.

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