Russian diesel: How will EU ban and West's price cap work?

In another big step toward cutting energy ties with Russia, the European Union is banning Russian refined oil products and joining the United States and other allies in imposing a price cap on sales to non-Western countries.

Europe's ban, which includes products like diesel fuel, takes effect on Sunday following its embargo on coal and most oil from Russia as the anniversary of its military campaign in Ukraine nears.

The newest energy sanctions have risks: Diesel prices have already jumped since the war started on February 24, and the higher cost of diesel is built into the price of almost everything.

Most things people buy or eat are transported at some point by trucks, which mostly run on diesel. It also powers farm equipment, city buses and industrial equipment. Hiking diesel prices help push up inflation, which has made life harder for people worldwide.

There's also uncertainty about how the EU embargo and price cap by the Group of Seven major democracies will affect the market for a fuel crucial to the global economy.

Here are key facts about the sanctions on Russian oil products:

How will the embargo and price cap work?

European importers have had months since the ban was announced in June to line up new supplies. They already cut Russia's share of EU imports to 27 percent in December from more than half before the war began.

US suppliers have stepped up shipments to record levels, from 34,000 barrels a day at the start of 2022 to 237,000 barrels per day so far in January, according to S&P Global.

New refinery capacity coming online this year in Kuwait and Saudi Arabia and next year in Oman also could help. India is another potential source. 

Russia, on the other hand, would have to find new customers.

READ MORE: Russia eyes Central Asia as EU presses on with oil price cap and sanctions

The price cap plays a key role in the embargo: it's designed to keep Russian diesel from disappearing from the global market and causing a price spike for everyone, while still cutting into the income that supports Moscow’s military.

The cap is enforceable because it bars Western companies that largely control shipping and insurance from handling diesel priced above the limit as it heads to countries like China and India.

Evasion is possible but requires setting up alternative insurance or organising a fleet of off-the-books tankers.

The cap was set at $100 per barrel for diesel and other products made from crude, such as jet fuel, in an agreement by the G-7 countries — the US, UK, Japan, Canada, France, Germany and Italy — plus the EU and Australia.

The price ceiling is $45 per barrel for other products that are made from crude but trade below the price of oil, such as fuel oil used in power station boilers and industry.

What will happen to diesel prices?

If the cap works as advertised, global diesel flows should reshuffle, with Europe finding new suppliers and Russian diesel finding new customers, without a major loss of supply.

In practice, markets will have to adjust, and there could be a brief spike. For one, tankers would have a longer journey to Europe from the US, Middle East or India than from Russia's Baltic Sea ports, stressing shipping capacity.

“When Russian exports are constrained, for whatever reason, that would of course cause some trouble in this whole reshuffle process,” said Hedi Grati, head of fuels and refining research for Europe at S&P Global Commodity Insights.

“Europe would be competing with other big importers, and that would cause upward pressure on pricing.”

READ MORE: Pakistan could begin importing Russian oil after March

What does the price cap accomplish?

The hope is to reproduce the effect of the West's $60-a-barrel price cap on Russian crude oil.

Russia has said it won't sell oil to countries observing the limit, but the cap and falling demand from a slowing global economy has meant customers in China, India and elsewhere can buy Russian oil at steep discounts, cutting into the Kremlin’s revenue.

Price caps on Russian oil likely hit Moscow's revenues from oil and gas exports by nearly 30 percent in January, or about $8 billion, from a year ago period, International Energy Agency (IEA) chief Fatih Birol said on Sunday.

He said the growth in global oil demand this year will come from China and that may need the OPEC+ countries to look at their (output) policies.

"And now this year Chinese economy is rebounding. ..this is putting upward pressure on the demand," he said referring to "exploding" demand for jet fuel in China.

The goal is the same with the diesel cap: “It is likely that Russia will have a harder time finding new buyers of its diesel than it did for crude oil and will be forced to accept discounts when doing so,” said Simone Tagliapietra, an energy policy expert at the Bruegel think tank in Brussels.

Once they're in place, the caps could be tightened to increase pressure on Russia.

READ MORE: Cap on Russian oil: what happens next?