Russian Gas Shortage Could Have Deep Reverberations

Recent factors have had an enormous impact on the petrochemicals and chemical industries that has reverberations down the line. Rising energy prices drive higher prices, fuelling inflation and recessionary worries. To learn more about what is impacting the market and what it might mean, GLG’s Xavier Peluso hosted a teleconference with Paul Hodges, GLG Network Member and Chairman at New Normal Consulting. Below is an excerpt from their conversation.

Can you give us an update on the state of the petrochemicals market, including how trends have developed recently?

In terms of what’s impacting the industry (and the global economy), I’ve been using the analogy of the three horsemen of the apocalypse.

The first horseman is COVID as it continues in China. In the U.S. and Europe, COVID has abated somewhat because of the vaccines. But it hasn’t gone away in China. Their vaccines don’t seem to work as well, and they’ve been less successful in vaccinating their citizens over 60 years old. So, China continues to go into lockdowns, something that’s not likely to change before the Party meeting in the fourth quarter when President XI expects to be renominated for a third term.

The second horseman is the Russia/Ukraine war and its impact on energy and gas prices, as well as on the chemical industry — which is always a leading indicator for the global economy. Take the recent BASF story about the need to shut down Ludwigshafen — the biggest chemical complex in the world — because it’s fed by Russian gas.

The third horseman is recession and inflation. In the States, the GDP has shown its second quarter of negative growth, which for most people is the definition of recession. And clearly, we can see how higher gasoline and oil prices are feeding into inflation.

What’s more, the IMF, World Bank, and World Trade Organization are warning us that because of the rise in gas prices, we’ve seen ammonia prices rocket more than tenfold, which means that fertilizer has become unaffordable. Right now, we’re eating food that was planted in the last cycle. But everyone we talk to in the industry tells us that farmers can’t afford to buy fertilizer at the normal rates for the next crop, and that will impact food prices and further impact inflation.

Can you break down the impact of the Russian invasion of Ukraine thus far as that relates, of course, to petrochemicals?

In Europe it’s awful. Our colleagues in Germany tell us that the mood there is desperate. The German government said they anticipate that Russia will cut off gas supplies [ed. note: on August 31, Russia stopped the flow of gas via the Nord Stream 1 pipeline to Europe, citing the need to conduct repairs]. When you talk about the German petrochemical and chemical industries, you’re talking about the European chemical industry. The heartland of it is in the Ruhrgebiet, moving up the Rhine into Switzerland and down into Benelux. They’re already facing local difficulties; water levels on the Rhine are at unprecedentedly low levels. Normally, that would be a major issue, but it’s overshadowed by this.

And it follows that if energy prices go up, then all the costs related to the use of energy rise as well. Currently, oil prices are coming down, because hedge funds are bailing out, thinking that when the dollar goes up it’s time to sell oil. But this is geopolitics. If Mr. Putin decides that he’s going to cut off supplies, or Europe implements its proposed full embargo from 1 January, prices will likely go over $200/bbl because there will be a shortage. It has nothing to do with the dollar and nothing to do with the Fed.

One only has to look back at the ’70s and ’80s and the impact of the Arab oil boycott in ’73 and ’74 and the impact of the Iranian standoff from ’80 to ’85 to see that oil prices can stay high for a very long time whilst inflation is high and the economy is in recession.

Can you run us through some scenarios depicting greater supply volatility?

We think the German government, the IMF, and the World Bank are right and that this invasion will continue. That means Putin will continue his normal strategy, which is to move forward, gauge the reaction, and then move forward again. He likely thought Ukraine would be like Crimea: “Nobody’s going to make a fuss; I’ll just take it.”

Well, in this case he was surprised; Germany spoke up and imposed sanctions. So, Putin sent in the army. That didn’t work either. He abandoned direct hand-to-hand combat in favour of obliterating everything with long-range missiles.

So, then Putin goes to the next plan, cutting off gas supplies, forcing people to choose between heating their homes and feeding themselves because they won’t be able to do either easily. The price of energy will go up. The price of food will go up. There’s no fertilizer.

As we all know, Russia and Ukraine account for around a third of all wheat exports worldwide. Plus, there’s an Our World in Data estimate that without nitrogen fertilizer, you can feed only half the world population.

We are talking about tens of millions of people moving slowly but surely toward famine, and that is going to obviously cause a major refugee crisis and all sorts of social unrest which we can’t even imagine. Emerging economies will be hit the hardest. Plus, here in Europe and in the States, fertilizer costs have already gone up, making food more expensive and more difficult for people to get ahold of.

These are the scenarios I’m looking at today. I don’t think that they are extreme in any way. If you look at the detail on the ground, I think we’re dealing with a geopolitical disaster, and very different from anything we would’ve been talking about even six or nine months ago.

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About Paul Hodges:

Paul Hodges is Chairman of New Normal Consulting, an independent consultancy firm providing analysis of chemical and petrochemical markets for major companies and international investors. Paul is a Global Expert with the World Economic Forum and serves as a Senior Advisor to Recycling Technologies and as Nonexecutive Chairman of NiTech Solutions, as well as Chairman of the Advisory Board for Infinity Recycling. Before this, he spent 17 years as Commercial Director within Imperial Chemical Industries.

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This energy industry article was adapted from the GLG Teleconference “Petrochemicals Production — Impact of Energy Price Increases.” If you would like access to events like this or would like to speak with energy industry experts like Paul Hodges or any of our approximately 1 million industry experts, please contact us.

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Questions Asked During the Teleconference

• Could you give us an update on the state of the petrochemicals market?
• Can you break down the impact of the Russian invasion of Ukraine thus far?
• Could you run us through the chemical production plant footprint across Europe or DACH?
• What about the BASF situation regarding natural gas becoming too expensive and the supply distributors not being there for the Lupisafen plant?
• Can you run through the utilization of other energy sources in the production of petrochemicals, and the risk there as well?
• How is this reflected in the pricing of the major petrochemicals?
• Could you run through some scenarios depicting greater supply volatility?
• How important do Russian sources continue to be?
• What is your outlook for the petchem sector over the coming 12 to 18 months?