Should we impose an energy embargo?

Mr Schularick, Germany is discussing an embargo on Russian energy. A good idea?
Moritz Schularick: We should impose an immediate halt to the supply of Russian gas, oil and coal. Such a measure would reduce German economic output by three percent this year, resulting in damage of around 120 billion euros. That might sound like a lot, but we could catch it. The end of the world doesn’t happen. Ultimately, politics must decide.

Achim Wambach: Your study is good, but it does not reflect the whole truth. In the more detailed version, there is even talk of a lower economic slump of 0.3 percent. I have the impression that you got nervous about the low value and preferred to do a second calculation with a simpler model. But even this neglects a lot.

What then?
Wambach: Your calculation is without unemployment and without inflation. The main problem, however, is the analysis of possible substitutes for gas. If we don’t want any more from Russia, we’ll need a replacement. But it’s not that easy. However, the study pretends that we could easily replace the gas.

schoolarick: No, she doesn’t. But politicians seem to underestimate the possibilities of making us independent of Russian gas. This is a misconception. This can work comparatively easily: put on a pair of thicker socks; properly insulate the cellar door, under which it has been moving for years; replace the gas heater; use the home office more often to avoid having to heat two buildings at the same time. The economic insights of the past show us that in such crises the search for a replacement is much easier.

Wambach: But such insights have nothing to do with the current reality. Such an energy embargo would be unique in history and would have significant effects on the economy. And there would be political-economic effects, just think of the yellow vests in France. Politicians must also take this into account when making their decisions. Of course, one study cannot cover everything. But then you can’t use that to call for an embargo to be imposed now.

schoolarick: The scientific findings are not just theoretical. A good example is the accident at the Fukushima nuclear power plant in Japan in 2011: In emergency situations, businesses and citizens always get creative and find solutions to replace the energy that is lost. That has to get into the heads of politicians.

Wambach: A gas stop is a very different case than Fukushima. Nuclear energy, which is used to generate electricity there, was much easier to replace with other energy sources. A gas stop would also affect the financial markets. Because the problems would run through the entire supply chain. We cannot immediately switch all households to gas heating. This is a mammoth task, for which we will need the next 20 years.

schoolarick: Of course, an energy embargo would lead to a moderate recession. But the corona shock was similar, and we survived that too – without any banking crisis. A lot of gut feeling economics is happening in Germany right now. But the burden of proof must be reversed: Economics Minister Robert Habeck must show why he is so firmly opposed to an embargo. We still haven’t heard from him on which numbers and assumptions he bases his horror scenarios. Economists have been providing evidence-based policy advice for decades. And when it comes down to it, we make politics based on gut feeling.

Do you share the accusation, Mr. Wambach? Does politics not listen enough to science?
Wambach: This accusation is not appropriate. We are in a crisis situation of a magnitude that cannot simply be read in studies. Then politicians have no choice but to consult experts. And I’m sure Robert Habeck spoke to all sorts of companies and associations to get an assessment of the situation. And these assessments are nowhere in the scientific literature.

schoolarick: Politicians are now asking exactly the same associations and companies that have told us over the past ten years that dependence on Russia for energy is not a problem at all. The same people are now saying: We cannot detach ourselves from Russia’s energy supplies so quickly.

Is politics too influenced by lobby interests? Or does economic policy advice reach its limits when it comes to a question like an energy embargo?
Wambach: Economists must of course point out the economic effects of such drastic measures. However, if you want to have a meaningful assessment of the short-term replacement options for energy, it is good to also hear the experts and those affected. I advise all economists to be aware of the limits of their analysis, especially in times like these.

schoolarick: No one says, here come a couple of economists with a fancy model and that all global political questions are clarified. But according to everything we know, the economic effects for the German economy are not in the range of doomsday scaremongering that one hears from some interested associations.

In the end, an energy embargo is a question of weighing up who the damage is greater for: for us or for Putin.
schoolarick: A third of the Russian budget consists of revenues from the mineral oil tax. If this income disappears, Russia will have a big financial problem.

Wambach: You are assuming that Gazprom would not change anything in its contracts in the event of a western embargo. If I tell a supplier on whom I depend that I will now buy a third less goods from you, then there is a good chance that he will increase the price by a third.

schoolarick: That’s why a complete embargo is needed.

Wambach: But you are neglecting whether that is strategically wise at all: I would have understood this sanction before the war broke out in order to prevent war, but now it is more difficult for me. The federal government emphasizes from morning to evening to make itself less dependent on Russian energy. The EU wants to reduce Russian gas imports by two thirds within a year. So if Putin knows that he won’t be able to sell energy to us in half a year, no matter how he behaves, why should he change his behavior if he can’t do it now?

schoolarick: But the question is: will it become more difficult for Putin to continue the war if the economic pressure increases and the money tap is shut off? The later we get through to an embargo, the greater the damage to the German economy. Waiting half a year now makes the bill explode. If we stand there in the fall and haven’t done anything, we really need Putin’s gas.

However, the question remains whether the citizens of this country are not going on the barricades because of high energy prices…
schoolarick: I don’t see any yellow vest movement coming up. European peace is at stake. We should think carefully about whether petrol prices should determine the political discourse in Germany. And we saw in the corona crisis that we can cushion the effects with instruments such as short-time work benefits. We have to do this again.

What would be the best instruments to cushion the citizens’ rising energy costs?
Wambach: The most sensible thing would be to tax Russian gas, oil and coal in order to become less dependent on them. But that would drive prices even higher. The federal government can absorb some of the price increases, but no more.

Schoolarick: Certainly not such things as a fuel discount. It would be smarter to lower income tax rates, make direct transfer payments or extend short-time work. Even if the citizens have to accept noticeable cuts, I think an embargo is feasible. Against these costs are the costs of doing nothing, above all the prolongation of our dependency and the war.

Do you fear that the war in Ukraine will split the world economy in two, because China could also decouple more from the West?
Wambach: The question of decoupling will be the subject of discussion for the next few years. On the one hand as a consequence of the delivery bottlenecks that we had to experience during the pandemic. And then, of course, for reasons of national security. The debate about how to deal with China is already in full swing, for example about the investment review procedures that we carry out with regard to the People’s Republic.

schoolarick: There have always been these two poles in globalization: the resulting gains in prosperity on the one hand and vulnerability through interdependence on the other. If big players have completely different values ​​and goals, we have to recalibrate our business model.

What does that mean specifically?
Wambach: The economic answer to supply bottlenecks and strategic dependencies is not necessarily renationalization, but rather diversification, i.e. the development of alternative suppliers. This suggests that we are making more trade deals overall, and with allies like the US in particular, rather than watching them be torpedoed until doomed, as we have in the past.

schoolarick: For Germany, the answer is clearly Europe. Europe is the trading area where we can best preserve the benefits of the division of labour. But that also means that the German Michel can no longer depend on every billion in the next EU financial framework. At this turning point in time, we must also rethink the political returns of the European project – and also what financial risks we are willing to take for it.

Wambach: Europe is very important, but the challenges go beyond that. One consequence is certainly to work more with the Americans.

schoolarick: Yes, but let’s wait for the 2024 US election.

Wambach: Maybe we can agree on one thing: More diversification means more trade agreements…

schoolarick: …and out of fossil fuels. The faster we can free ourselves from it, the freer we are. It is all the more astonishing that Habeck does not dare to take the quantum leap.

Wambach: Regardless of the question of an embargo, I see major problems in the energy transition as a result of the war. But that’s a discussion in itself that we’d better clear up next time.

More: The federal government is working on a shutdown plan for industry in the event of a gas supply stop