Save for later Print Download Share LinkedIn Twitter Russia's invasion of Ukraine has already driven oil prices above $100 per barrel. How high they ultimately climb will depend on many scenarios, including how far Russian troops move into Ukraine, whether stricter sanctions are inflicted by the West, how seriously energy flows get damaged in the conflict, and whether Russia halts oil and gas flows to Europe and the US. JPMorgan Chase reckons that an all-out war could prompt oil flows to drop by 2.3 million barrels per day, boosting prices to $150 per barrel, and reducing global GDP by 1.6%. Energy Intelligence reckons that a wider Russian invasion, coupled with harsh sanctions and Russian energy retaliation, could drive prices close to $120/bbl. More severe escalation from this base scenario, like a complete shutdown of Russian supply to Europe, could add an extra $20/bbl to that. Even if the Russian operation is limited, the possibility of lingering tensions and a nervous market could keep prices closer to $100 than $90 near term, especially if Opec-plus keeps struggling to meet its production quotas. Part of that reflects a higher convenience yield — that is, the marginal benefit from holding an additional prompt barrel in times of higher geopolitical uncertainty. Unless drastic oil sanctions are taken against Moscow, Russian President Vladimir Putin has a strong interest in a protracted attrition war with Ukraine. Russia is in a position of economic strength thanks to the surge in raw material prices. At $236 billion per year, or 13% of GDP, its trade surplus has never been higher since the end of the Soviet Union.Russia on a war footing pulls up crude oil prices at the front of the forward price curve, which further adds to an unsustainably steep backwardation that prevents the market from rebuilding stocks. The Brent futures contract front-month premium over the second month stands at a whopping $3.90/bbl, a level at which refiners prefer to reduce crude inventory and buy just in time, usually local, short-haul barrels wherever possible. Yet, this did not whet traders’ appetite for Urals crude, Russia’s flagship export blend, which has sunk to a historic discount of $11 to dated Brent. Urals is the promptest traded barrel in Europe and can therefore be purchased at the last minute if refiners change their mind. Given the uncertainty on Ukraine and the punitive backwardation, the wait-and-see mode is hence preferable to restocking. Buyers may also be reluctant to pick up Russian oil cargoes if payment complications arise from tougher Western sanctions. But any shortfall or disruption in Urals flows would still stretch the Brent spreads further apart, making the stockpiling exercise even more elusive. Traders said that the market is broken and “smacks of a desperate need for an Iran solution” — even if this won’t fix the short term need for lighter and sweeter oil. At the macroeconomic level, the biggest concern is that oil shocks have a long history of triggering cyclical downturns, and US recessions are often associated with sharp oil price spikes. Given the strong recovery and solid macro fundamentals, a recession risk remains marginal for now. But a Ukraine-induced shock would badly boost inflation and make central banks raise interest rates faster and higher, which depresses stock markets, makes lending harder and increases wage demands — all pressures felt harder in the West than in Russia.Even without Russia retaliating by halting oil and gas flows, the crisis has an impact on the European energy market. Italy is calling for more natural gas storage while rolling out renewable energy at a faster clip. Germany has put the Nord Stream 2 gas pipeline on hold, which will probably keep gas prices higher for longer in Europe and accelerate the transition away from hydrocarbons. Europe is dependent upon Russia for energy, but Russia is dependent on Europe for revenue — and trade of products. If Moscow wants to retain Europe as its natural market, it can ill-afford to retaliate on energy. A protracted conflict could encourage the EU to reduce its dependency on Russian oil and gas, something it has failed to achieve in the past. Russia continues to supply around 27% of EU oil consumption and 40% of its gas supply. But the energy transition may provide Europe with a better backdrop for loosening ties with Moscow. The world has lived with triple-digit oil prices before, but this time explosive geopolitics are dovetailing with an energy crisis where coal and gas prices are also flaring up to alarming levels. Rather than just replacing Russian oil and gas volumes with imports from another country, Europe may decide to make demand-side adjustments to reduce its exposure to higher hydrocarbon prices. This would eventually hurt Russia, even if displacing competitive Russian oil and gas volumes seems a long shot for now.