Refined Contradictions: The Limits of Geopolitical Signalling

Introduction

Following the Russian invasion of Ukraine in February, 2022, the European Union implemented a range of sanctions which aimed to limit Russia’s ability to continue military operations. One of the most significant measures undertaken was the decision to ban the import of seaborne Russian crude oil, which came into full effect in December, 2022. As the export of crude oil had traditionally been one of the main drivers behind Russian economic growth, the aim of the sanctions was to deprive the Russian government of an important stream of revenue which would have been used for increasing military production, while maintaining economic stability (European Council).

However, despite this prohibition, Russian crude oil products have continued to enter European markets. Refined products derived from Russian crude oil in particular, such as diesel, jet fuel and naphtha, have stably been re-exported by third party oil refining countries, which have continued to purchase Russian oil and maintained close trade relations with the EU. One of the most notable examples of this tendency has been India, which has become a leading global oil refiner within the last few years (International Energy Agency). This success has been widely attributed to their purchase of discounted Russian crude oil which is later processed and re-exported to other countries. India’s practice raises an important question for EU policymakers: should the EU look to extend the current sanctions regime on the Russian energy sector to maximize its efficiency, or rather are the sanctions primarily intended as a form of geopolitical signalling.

Currently, this question remains difficult to answer, as European Union member-states must balance geopolitical intent with economic reality, and the demand of both European citizens and firms for cost effective energy products.

India as a Global Oil Refiner

India’s position in the global energy market underwent a cardinal change in 2022. Prior to 2022 India was a relatively modest producer of refined oil products, who played a significant but ultimately limited role as a purchaser of Russian crude oil. After the Russian invasion of Ukraine, however, India has become the largest buyer of Russian seaborne crude oil, absorbing up to 1.75 million barrels per day, which represents roughly 40% of Russia’s total seaborne crude export (Koperska and Myllyvirta).

The economic rationale behind the increased Indian purchase of Russian crude oil is clear. Since the imposition of severe sanctions on Russian oil producers after the Russian invasion of Ukraine, as well as the attempted implementation of the G7 price cap mechanism, Russian oil has been sold at a discount relative to Brent (Blas). In fact, during peak sanctions effect, Russian crude oil was sold for $15 to $20 a barrel, creating significant cost advantages. Indian state refiners, such as Indian Oil Corporation, Bharat Petroleum, and Hindustan Petroleum, as well as private refiners like Reliance Industries, took advantage of this arbitrage opportunity and purchased significant volumes of Russian crude oil. To further take advantage of new market realities, India’s refining capacity was expanded to 250 million metric tonnes per year, enabling for the steady re-export of refined oil products produced with discounted Russian crude (Ministry of Petroleum and Natural Gas).

The transformation process provided by refinement has enabled India to continue to be a major exporter to EU markets. Russian crude, after being refined in India, is no longer classified as a Russian oil product under the current EU sanctions framework. The refined products, including diesel, jet fuel and lubricants, are instead classified based on their last country of significant transformation, that being India. This legal distinction provides the necessary framework for the continued trade between Indian oil refiners and European importers, who are technically purchasing Indian-origin products, instead of Russian crude oil.

India’s current policy reflects its long-term geopolitical posture, and broader strategy of engagement with other global powers. Ever since the Cold War, New Delhi has consistently maintained a posture of “strategic autonomy”, based on maintaining political non-alignment and economic cooperation (Hall and Chaco). This has been expressed in their stance toward the Russian invasion of Ukraine, where they have refused to support sanctions on Russia while maintaining close trade relations with the EU and US. India’s position has led it to be described as a “swing player” in global energy markets, due to the country’s ability to absorb and re-distribute energy flows in ways which serve its own interests while preserving their political non-alignment in the current geopolitical context.

The EU Sanctions Framework and its Limitations

The EU sanctions policy toward Russia has seen consistent expansions in scope ever since the invasion of Ukraine, particularly aimed at the Russian energy sector. The 6th sanctions package, passed in June, 2022, introduced a ban on all Russian seaborne crude oil imports. The sanctions package allowed for a phase out period in nations most heavily dependent on Russian crude oil, such as Hungary and Slovakia. In October 2022, the 8th sanctions package expanded the restriction on the import of Russian oil products by prohibiting the entrance of Russian refined petroleum onto European markets.

Concurrently, the G7 and the EU introduced a price cap mechanism, which prohibited Western shipping companies, insurers and financial service providers from facilitating the transport of Russian crude oil sold over $60 per barrel. The intention of the policy was to leverage the dominant position of Western maritime and financial infrastructure, while ensuring that disruptions to global supply did not take place (US Department of Treasury).

As previously mentioned, however, the sanctions regime contained structural limitations which were easily exploited. The prohibition on the import of Russian petroleum referred only to products of Russian origin which were imported directly into the EU, enabling third countries to essentially re-export products created with the use of Russian oil. This practice was justified through the concept of substantial transformation, meaning that if Russian oil underwent sufficient processing while in another country, the product is classified as being produced in the country in which it had been refined (European Commission). Therefore, a barrel of Russian oil refined into diesel in Jamnagar or Vadinar is treated under EU law as being Indian, rather than Russian.

In practice, this legal distinction has led to the continued entrance of products containing Russian crude oil into EU markets. Importers across Belgium, the Netherlands and the Baltic states have continued to import large volumes of refined products from Indian refineries, which themselves are highly dependent on Russian oil. While it is impossible to know the precise percentage of Indian exported refined products created with the use of Russian crude oil entering EU markets, aggregate data is indicative of continued indirect exposure to Russian-origin energy. Russian revenues from the sale of crude oil, although lower compared to pre-2022 levels, continue to contribute substantially to the Russian economy, albeit coming from Indian intermediaries rather than directly from European importers (Boffey).

Thus far, the EU response has remained largely muted. A number of member states, along with European Commission officials, have acknowledged the problem; meanwhile the majority of member states have left the issue without comment. Overall, there have been no substantial proposals for regulatory changes in order to prevent the currently existing practice. This lack of action can be understood in light of the current conditions in the European energy market: refined oil products from India assist in moderating the price impact of geo-political volatility on EU markets, thus making them difficult to decouple from.

EU Energy Policy Contradictions

The tension surrounding the future of importing refined oil products in India reflects broader questions surrounding EU energy policy. Sanctions imposed by the European Union in the aftermath of the Russian invasion of Ukraine were framed as a measure meant to constrain Russia’s revenues, in order to support a geo-political principle even if it contributed to adverse economic consequences. The continued import of products created with the use of Russian crude oil generated through Indian intermediaries complicates this narrative.

Fundamentally, the continued import of Indian energy products undermines the primary goal of the existing sanctions regime to undermine the revenues of Russian oil producers, as even despite the need for intermediaries they continue to benefit from trade with oil refining intermediaries (Agarwash). Although these revenues are undermined by the need to discount prices, these discounts have remained relatively moderate and continue to ensure the functioning of the Russian energy sector. Therefore, the refining margin captured by Indian firms represents a portion of value extracted from the supply chain, rather than the elimination of the fundamental transfer of resources from European consumers to the Russian energy sector.

It should be noted that the nature of oil as a product makes the application of strict origin-based sanctions inherently difficult to enforce. Oil refining countries typically rely on multiple flows of crude oil, blending and swapping imported crude often without regard for its nation of origin. Consequently, a sanctions regime which attempts to exclude all Russian-origin crude oil would either require comprehensive secondary sanctions mechanisms targeting exporting refiners, or an acceptance of significantly higher costs due to greater supply constraints.

Both policy approaches are likely to provoke significant economic consequences for the EU. Secondary sanctions, similar to those imposed historically by the US against Iranian oil exports, create significant foreign policy risks and may lead to retaliatory economic measures. In light of the recently signed free trade agreement with India, undertaking such measures would risk both recent trade progress and the EU’s standing in the broader region. Meanwhile, domestic economic pressure makes the acceptance of higher prices by both firms and consumers unlikely, therefore limiting the political feasibility of implementing supply-side controls.

Overall, the current European energy policy toward Russia can not be considered either fully effective or fully transparent as an economic arrangement. While European governments may technically comply with sanctions, the lack of further regulatory mechanisms allows them to accommodate market realities without imposing prohibitively expensive measures.

Toward an Effective EU Sanctions Regime

The analysis presented in this article suggests that the current European sanctions architecture, although symbolic, has lacked either geo-political coherence or economical transparency. In looking forward, a recalibration of European energy policy is necessary to maximize the effectiveness of its actions.

A first step in this direction would be greater transparency in energy sourcing. Currently, the EU lacks any comprehensive public reporting mechanism that would provide a detailed breakdown for the origin of crude oil used by non-EU oil refiners. To mitigate this, the EU can implement regulations requiring mandatory disclosure by refined oil product importers about the origin of the oil used during the refinement process. While this is unlikely to change trade flows in the short-term, it will allow for a more informed policymaking environment and public debate. Additionally, it would further signal strong EU engagement with ongoing dynamics in oil refining countries.

Beyond mandatory disclosure requirements, the EU could consider fundamentally altering the design of future sanctions. Despite the importance that rules surrounding substantial transformation have had in ensuring a continued flow of refined oil products into the EU, they have further been exploited by Russia and intermediary nations in order to extract revenues from European markets. A potential remedy to this structural gap is the embedding of origin-tracking requirements for refined oil products entering the EU market, modelled after similar approaches which have been used to prevent the entrance of deforestation-linked commodities, which create incentives for suppliers to divest from Russian oil (European Commission).

Both proposed measures, if properly implemented, will support the EU’s aim of constraining Russia’s ability to sustain its invasion of Ukraine, while not imposing severe supply constraints upon the EU. Specifically, they will demonstrate EU commitment and resolve toward expanding the scopes of sanction mechanisms, while meaningfully constraining Russia’s ability to continue its export of crude oil. Additionally, if communicated clearly to European importers of refined oil products, the new regulations will decrease the opportunity for sanctions arbitrage by third party intermediaries like India.

Ultimately, the European Union must adopt an approach that balances geo-political signalling, with the extent to which the enforcement of sanctions is politically and legally feasible. By embedding mechanisms within future sanctions packages for the tracking of Russian-origin crude, and creating a regulatory framework for public disclosure, the EU can bridge this gap and improve sanctions efficiency.

References

• Agarwal, Manish. “Sanctions Hypocrisy and the Limits of Economic Coercion.” Economic and Political Weekly 59, no. 12 (2024).

• Blas, Javier. “Russia’s Oil Revenue Remains Resilient Despite Western Sanctions.” Bloomberg, 2023.

• Boffey, Daniel. “EU Struggles to Close Loophole Allowing Russian Oil in via India.” The Guardian, 2024.

• European Council. “EU Sanctions against Russia Explained.” Council of the EU, 2023, www.consilium.europa.eu/en/policies/sanctions/restrictive-measures-against-russia-over-ukraine/eu-restrictive-measures-against-russia-explained/.

• European Commission. “Rules of Origin in EU Trade Policy.” Directorate-General for Trade, 2022, policy.trade.ec.europa.eu.

• European Commission. “Regulation (EU) 2023/1115 on Deforestation-Free Products.” Official Journal of the European Union, 2023.

• Hall, Ian, and Priya Chacko. “India’s Strategic Autonomy and the Ukraine War.” Australian Journal of International Affairs 77, no. 3 (2023): 241–258.

• International Energy Agency. “Oil Market Report.” IEA, March 2024, www.iea.org/reports/oil-market-report-march-2024.

• Koperska, Katarzyna, and Lauri Myllyvirta. “India’s Import of Russian Fossil Fuels — Undermining EU Sanctions?” Centre for Research on Energy and Clean Air, 2024, energyandcleanair.org/india-russia-fossil-fuels/.

• Ministry of Petroleum and Natural Gas, Government of India. “Annual Report 2023–24.” New Delhi, 2024.

• U.S. Department of the Treasury. “Treasury Releases Frequently Asked Questions on the Price Cap Policy.” December 2022, home.treasury.gov.