By Chris Cook

Russia and a Gas Standard

April 11, 2022 - 21:6

The key question addressed by the COP26 conference in Glasgow, Scotland in November 2021 as with previous COP conferences was how to finance and deliver transition to a sustainable zero carbon economy. So it was fitting that three years after my last visit to Tehran I should meet one of my Iranian friends in Glasgow during a brief academic visit.

From our long shared strategic geo-energy perspective there was much to discuss during our all too brief time together. We focused in particular on the extraordinary geo-economic and geopolitical events since we last met, culminating in Russia’s “special operation” in Ukraine and the rigorous financial sanctions in response by the US and Western nations.

Energy Dominance and Dollar Weaponisation

The US has ‘weaponised’ the dollar by cutting off Russia from the dollar payments system so that not only can Russia no longer access dollar reserves but they are also unable to make dollar payments in respect of $ denominated debt, leading to potential loan defaults and inability to access global investment.

My Iranian friend observed that Russia had been struck in a matter of weeks by a financial sanctions regime developed, refined and applied by the US to Iran over decades. But by way of contrast, I reminded him concerning physical sanctions that the scale of Russia’s energy production is such that the sanctions applied to Iran’s oil exports are difficult to apply to Russian oil exports and impossible to apply to natural gas without crippling Europe’s economy (which my Iranian friend joked might not trouble the US greatly).

I pointed out that the US “Energy Dominance” strategy which commenced on 1st July 2017 when after 16 years Saudi Arabia abandoned the North Sea Brent crude oil ‘BWAVE’ benchmark is now approaching fruition.

In my analysis, the primary strategic US objective is to integrate the US WTI Cushing and North Sea Brent benchmark crudes into the recently launched WTI Midland (i.e. shale oil) benchmark crude oil deliverable into the Atlantic Gulf Coast (AGC) with a planned link to physical North Sea deliveries.

But while the WTI Midland AGC contract aims to enable US dominance of global crude oil pricing, it also enables US to fund development of US shale oil in a new way. The proposed long term prepay funding structure uses a production sharing “capital partnership” between well operators and major banks as well owners. Development finance, on the other hand, may be sourced from investment via tripartite prepay contracts similar to those used by Enron until 2001 to defraud investors and lenders.

If I am correct in my analysis, the planned outcome this year is that the US dollar and the currency of WTI Midland AGC physical buyers (initially China) will be pegged to US shale oil reserves. In this way, the common aim of the two greatest global oil consumer nations is to stabilise the financialised and dysfunctional global oil benchmark prices within an agreed affordable range.

It will be seen that the outcome is essentially for US and China to peg their currencies to an “Oil Standard” based on US shale oil reserves. While in principle China could be comfortable with a global oil market reset to a US Dollar Oil Standard, in practice, after US weaponised the dollar against Russia, China would have second thoughts in respect of keeping US dollar assets. 

My Iranian friend summarised the issue by pointing out that the clue to the 2017 US Energy Dominance energy strategy is that it means exactly what the name implies: simply put, Energy and Dollar Dominance are two sides of the same coin.

But for China, Iran and most other nations the overarching geopolitical aim is the opposite: it is freedom from domination by the US or any other nation state – the principle of Non-Dominance.

Transition Through Gas

The Transition Through Gas (TTG) energy strategy aims to transform high carbon economies fuelled by coal and crude oil to a sustainable economy via natural gas as a relatively low carbon “bridge fuel”.

Crude oil is found in many different grades: heavy/light; sweet (low sulphur) and sour (high sulphur) and it is typically measured in barrels or tonnes. But natural gas (methane/CH4) once processed, is the same everywhere and is measured by volume and thermal energy content (Million British Thermal Unit - MMBTU).

My Iranian friend and I agreed that by far the most important geopolitical event was Russia’s decision to mandate payment in “Rubles” on “unfriendly” buyers of Russian natural gas. I observed that Russia’s imposition of mandatory payment for natural gas in Rubles effectively backed the Ruble with Russia’s immense gas reserves thereby fixing the Ruble to a “Gas Standard” denominated in MMBTU of thermal energy.

I remarked that the dramatically successful outcome of monetising Russian gas flows was that the Gas Standard dramatically reversed the collapse of Russia’s currency from 80 Rubles/Dollar to 120 Rubles/Dollar caused by US & EU conventional financial sanctions.

My Iranian friend reminded me that the ‘unitisation’ of global flows of natural gas was first proposed in Tehran in October 2008. The proposed global gas clearing union agreement enabled producers (GECF members) to issue, mutually assure acceptance, clear and settle prepaid gas credits (“Petros”) to consumer nations such as China, EU and Japan.

Such a clearing union agreement would not use a centralised clearing house legal design but would rather be a mutual risk and cost sharing agreement – Nondominium – which provides that no single stakeholder: whether gas producer, gas consumer, gas prepay investor or gas market service provider, can dominate any other stakeholder.

Clearly, no single nation state, no matter how great their gas reserves, will be trusted to issue a global reserve currency. My Iranian friend pointed out that since Russia, Iran and Qatar between them hold two thirds of global gas reserves then for political reasons no proposal for such a gas reserve currency would be generally acceptable from any or all of them.

I agreed that such a proposal could only be originated by a gas producer perceived both as neutral and market-friendly. By way of example, I reminded my Iranian friend of the 2008 oil market proposal – the Wade Formula. My friend agreed that this intelligent surplus sharing proposal by the former President of Senegal never received the consideration it deserved from greedy oil producers. Having heard Trinidad and Tobago’s energy minister speak at a recent GECF online event it struck me that this island nation would be well-placed to propose the proposed new financial gas market architecture. 

As we parted company, my Iranian friend mused that it would be fitting that instead of pricing US shale oil in dollars and indexing gas to oil, a smart market approach would see Crude Oil, US dollars, Euros, Yuan all priced in the thermal energy of the universal commodity of natural gas.

I agreed that in this way, Transition Through Gas (TTG) to a sustainable economy may be financed and funded. But the roadmap to such an economy through smart markets in energy services is another story.

Chris Cook is a Senior Research Fellow at the Institute for Strategy, Resilience and Security, University College London

Leave a Comment

5 + 0 =