One of the most important messages that I, as a game theorist and negotiation expert, repeatedly give to decision-makers and managers is that the ability to say “no” in a negotiation determines one’s own bargaining power. Or to be more precise: the side that can do without an agreement and thus without the conclusion of a deal has the greater negotiating power.
Very few managers give their negotiation teams an unrestricted negotiating mandate. Rather, they usually only allow their negotiators to close deals when certain minimum goals have been met. In game theorist parlance, this is called a reservation price.
A “correct” reservation price is a fantastic negotiation tool. Not only must the other party offer a better deal than anyone else, but they must also defeat another artificial competitor – the reservation price.
Using a reservation price optimally in negotiations is not trivial, however. First, it must be set correctly, i.e. it must be accessible to the negotiating partner. Otherwise you just signal to the other person that there is no chance of an agreement because you are too far apart.
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Second, there must be a clear consequence of what happens if the reservation price is not met. In sales, this can be doing without a deal or in purchasing, the willingness to change the specification or approve new suppliers. And it is precisely the necessary consequence for not reaching the reservation price that is usually lacking.
The proposal to introduce a price cap for Russian oil, promoted in particular by US President Joe Biden at the G7 summit, reminds me, as a game theorist, of this problem.
Since the beginning of the war, Europe has tried to substitute Russian oil from other sources, triggering a price rally for non-Russian oil. In this wake, the prices for Russian oil also went up. With fewer exports to Europe, Putin is now making higher sales and profits than before the war.
A broad Russian oil buying cartel, which also includes India and China, could actually break this mechanism. Russia may still export oil, but only at a price that is just about attractive to sell. Russia’s sales, and even more so profits from exports to cartel members, fell dramatically.
Almost as important: additional demand on non-Russian markets would fall. This necessary relaxation on the global oil markets is also the reason why Joe Biden is promoting this price cap. Although the US does not buy oil from Russia, it suffers from the evasive measures taken by the Europeans.
We must be willing to say “no”.
That’s the theory, but how does it work in practice? How can it be ensured that oil that flows through pipelines to Europe and leaves Russia by sea is only bought at the cap price?
95 percent of the world’s oil tanker insurance policies are written in London. With Great Britain on board, it could be enforced that only cargoes that were bought in Russia below the cover price can also be insured.
Of course, this only works as long as shipping companies cannot find alternatives or otherwise be penalized by the cartel members. For oil pipelines, Poland and Lithuania could act as gatekeepers of antitrust rules. And why would it be in India’s and China’s interest to buy oil at prices above the cap? So far everything is still conceivable.
Marcus Schreiber is a founding partner and chief executive officer at TWS Partners. He has many years of experience in strategic purchasing and broad industry know-how. His focus is on strategic purchasing, applied industrial economics and market design. He also supports companies in applying game theory knowledge in complex procurement decisions.
Much more critical, however, is the question of how to set the price cap. If it were a purely commercial question, it would be relatively easy. Data on the variable subsidy costs are known. Even with an oil price of USD 35 instead of USD 100 now, Russia would still have an attractive contribution margin. If Russia were a profit-oriented company, it would probably buckle even if the cap price was set aggressively. For Russia, however, it is about much more than money.
An oil price cap would be nothing more than a take-it-or-leave-it offer by cartel members to Russia. And its functioning not only depends on the right setting, but also on the willingness to let a deal burst if necessary.
>> Also read here: The fact that the USA now even wants to cap the price of oil shows above all how great the need is
For his war, Putin has accepted an economic crisis, Russia’s isolation and loss of reputation, and the deaths of around 35,000 Russian soldiers so far. He throttled the gas flow to Europe himself. I trust him, at least temporarily, to forgo all oil exports rather than bow to price dictates.
What about our own resilience and perseverance? I fear that we would be the first to give in and that is exactly what Putin assumes. If we really want to put a cap on Russian oil, I can only strongly recommend setting a maximum price that is not too aggressive, at least initially, and then slowly lowering it on a monthly basis.
Thinking further: Putin would find it harder to say “no” to gas
However, the price cap idea has a wonderful punchline. We are debating an oil buying cartel because the price of oil affects the US more, and because it is easier for Putin to find other customers for oil than for gas sales, for which Russia relies on its pipelines to Europe.
>> Also read here: Sudden Abundance: What Russia is doing with the unexported gas
The nice thing about pipelines for us is that you can throttle the flow of gas, but you can’t stop it. If we didn’t buy any gas at all, the Russians would have to flare off the gas at the source and cannot load it onto ships at short notice like oil. So it would be much harder for Putin to say “no” to gas than to oil.
The moment we can convince Putin that we are prepared to take the last step if necessary, the gas price cap has a much better chance of being implemented. Since we depend on Russia’s gas much more than on its oil and Russia’s economy depends on gas exports to Europe in the long run, this question could literally be decisive for the war.
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