After Iran shut down the Strait of Hormuz, everyone thought prices would hit historic highs. But they didn’t. Why?
The answer is less about market resiliency, and more about two major government interventions. The U.S. intervened using a central banking model, and China intervened with a top-down government approach.
James Gutman, head of research at Abaxx Technologies, joins us this week to discuss how these two interventions influenced global oil flows, and why China emerged as a clear winner. Gutman wrote about the Chinese and American strategies on his substack, Arcs and Angles.
We look at how China cut crude oil imports and leaned on a decade of investment in electric vehicles, high-speed rail, and coal-to-liquids to defer demand. As China starts to come back into the market, the country is now operating at a position of strength.
We also discuss the U.S. model, which leaned on strategic oil reserves to moderate prices in a way that mirrors central banking. Gutman argues that this “central bank of molecules” model worked, but only for so long. And he worries about how it will get used in the future.
Finally, we ask how both of these approaches could get used again in other industries like critical minerals or equipment manufacturing.
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Credits: Co-hosted by Stephen Lacey, Jigar Shah, and special guest Nate Adams. Produced and edited by Stephen Lacey, Sean Marquand, and Anne Bailey.
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Transcript:
Stephen Lacey: From Latitude Media, this is Open Circuit. After Iran shut down the Strait of Hormuz, the world lost more oil faster than at any point in history. Everyone thought prices would go through the roof, but they didn’t. Today we’re asking why.
And the answer is less about market resiliency and more about two major government interventions. The US intervened one way, China did it a very different way, and our guest thinks the tools they used are going to get used again with major geopolitical consequences. So this week, the real lesson from the oil shock with China and the US proving their new power in oil markets, what comes next? A look at the new rules of global energy is coming right up.
Welcome to the show. I’m Stephen Lacey. I’m the executive editor of Latitude Media. Jigar Shah is my co-host and he is also the host of the Energy Empire Podcast. Jigar, how are you?
Jigar Shah: I am fantastic. I am enjoying the dog days of summer.
Stephen Lacey: Yeah, you are days away from your vacation. You’ve already got the vacation shirt on.
Jigar Shah: I’ve already got it on. I’m ready to go.
Stephen Lacey: Please tell me you’re not going to be tapping out any Twitter threads or LinkedIn think pieces while you’re on vacation. Do you actually take a break?
Jigar Shah: I do take a break, but some of those things are in the can and so they may publish while I’m gone. That’s how we do.
Stephen Lacey: And joining us is James Gutman. He is the head of research at Abaxx Technologies. James is an expert on the economics of global energy markets. He was recently a strategist at the Carlyle Group, and he also writes the Substack newsletter, Arcs and Angles. James, good to see you. Welcome to the show.
James Gutman: Thank you very much. I’m deeply honored to be on the show and to be back with my dear friend Jigar as he gets ready to decamp for places where that shirt is acceptable.
Stephen Lacey: What is it like being a commodities expert at this year as everyone tries to figure out this upheaval?
James Gutman: Yeah. Suddenly I’m popular. Everybody’s wanting to take me out for a beer or something.
Stephen Lacey: People are listening to you at dinner parties?
James Gutman: Yeah. Usually I get sent to the back table with the kids. So it’s obviously commodities, there’s something that become very exciting when things go wrong and then suddenly people kind of stop paying attention. But they’re always there and it’s very fundamental to the plumbing for the global economy. I think that right now we’ve got a couple things that have sort of happened.
One is with the AI story and the clean energy transition, there have been just like these pressures that have been building on the energy space, which are fascinating, like really, really interesting. But at the same time, there has been this sort of once every couple generations shift in the global geostrategic order. And these have been sort of accelerated and advanced by particular personalities and administrations, but they are part of a longer term historical process. When you bring these three things together, there’s no dearth of things to talk about and to look at and to try and unpack.
I would say that the one thing that I think people still sort of struggle with and they kind of struggle to wrap their hands around is just how fundamentally the commodities markets tie back to a physical reality. Something that you have to be able to touch, you have to be able to stick your hands into. And we’ve gotten used to this idea that everything is virtual, that everything is a derivative, that everything can be manufactured on a screen based on some secrets of credit-based transactions.
But ultimately commodities, unlike most of these other things that we look at, come back to a physical. So if you understand the physical aspect, I think you’ve got a leg up on trying to understand the geopolitical, which then helps you say something a bit more interesting and maybe useful about what we’re doing with an AI rollout or with a clean energy transition. That’s where I find my conversations leading at these dinner parties I now get invited to.
Stephen Lacey: Well, I want to focus a lot of this conversation on the macro story of America and China, something that you have been writing a lot about on your substack, how they’ve exercised power over the last six months and how this newfound leverage could be exercised in the future. Before we get there though, I do want to just start with a story that is in the news and get your comments on it from both of you. Iranian hackers have reportedly infiltrated water systems in at least a dozen states. It’s opening up a new front in the war. It’s part of this bigger story of water energy infrastructure as a key target in this war. Iran has of course attacked energy and water infrastructure in Gulf States with drones. Of course, it helped energy markets hostage by closing the Strait of Hormuz. Iran hasn’t done anything with this water system hack, but it’s a new point of leverage.
And Jigar, I want to get your thoughts on this. This is a story that has been playing out in the power sector for some time. What does this say about the vulnerabilities of water and power infrastructure in this country?
Jigar Shah: I mean, the good thing about where we are today is that we’ve been studying this for the better part of 20 years. And so we know where our vulnerabilities are. And we’ve had blue ribbon commissions. Our good friend Tom Fanning, who used to be the chairman of Southern Company now runs a nonprofit that does a lot of this work. And what you find is that this is really a prioritization problem. It’s not a what should we do problem anymore. So we actually know how to protect our water and power infrastructure. There are certain gateways that you can put in place that actually put in security layers that protect you. And Minnesota did a great job of implementing one of those layers for this particular hack. But I think that in general, this has always been a prioritization problem where people study how vulnerable they are and then they don’t allocate the money to actually get the fix in place.
And when these kinds of things happen, now it’s as good a time as any to actually implement the fixes. And so I think people are going to start doing that at scale. But I don’t think people should be worried about how vulnerable we are as much as be pushing their infrastructure owners to actually implement the solutions that we all have written about.
Stephen Lacey: James, what’s the story to you?
James Gutman: Yeah. So I mean, I agree with everything that Jigar just said. And it’s unfortunate that we play catch up with these sort of things. I guess what I’d add to what Jigar’s saying is that it’s a pretty. And not knowing any detail about who did what, when, where, what. I’m not going to opine on that, but let’s just assume that it is who we think it is and they’re doing what we think they’re doing. It’s just an illustration of how this clear delineation between war and peace has just sort of dissolved. And we live in this period where it’s not just gray, but there’s no border between the gray and the white on the one hand or the black on the other. Are we at war? Yes and no. Both and neither. All at the same time. So we have critical infrastructure. Iran targets this critical infrastructure in ways that fall short of a kinetic attack, but are clearly aggressive in exactly the same way that we’ve been seeing with North Korea and with other state agents over the course of the past, I don’t know, 10 years or so.
And so this is just an illustration of how it just gets hotter and hotter and hotter and hotter. And they know what they’re doing. Water. We’re getting really, really basic here guys. This is as core as it gets and not just for AI data centers, but for life on earth. Jigar says we shouldn’t get too worried about it because we’ve got the means to protect ourselves and I trust Jigar’s right. But take this as evidence for what our world looks like over the course of the next five years or 10 years as we’re sort of working through this geopolitical moment.
Stephen Lacey: I mean, look, none of us are cybersecurity experts, but I think what freaks me out is thinking about where the Chinese have infiltrated. They’ve deeply embedded in our government contracting systems. It makes you wonder if we really got to a truly intense conflict where they could surface. The attack surface is all over US infrastructure. And so I think that’s what makes me nervous is that yes, we caught these, but who knows where else the Chinese or the Iranians for that matter are embedded in our infrastructure systems.
James Gutman: But just consider the possibility that we’re already in the conflict. There are going to be episodes of very sharp kinetic frictions in between major and middle powers and maybe even the major powers. But if you look around the world today and you look at how many countries are at war and what these wars look like, and if you look at these kind of hybrid war actions that we’re seeing right now, we’re already in that conflict with China. It’s just, we keep delaying the definition or sort of admitting the reality of it until something grand and horrific happens. But this is war. We are in an undefinable state that in many ways is war.
Stephen Lacey: Does this feel like a new development where water and power infrastructure are emerging as really important targets in conflict? Drones are much more sophisticated now. As we saw in the Ukrainian conflict, drones have become central to warfare. Iran has targeted water and energy infrastructure throughout Gulf States using drones. Does this feel like an important new development to you?
James Gutman: It doesn’t feel new. It feels like a very natural evolution of sort of the way we fight wars. I mean, think about the idea of total war. Go back to World War II. Horrific. The victors in World War II won because they were better at targeting the civilian population and destroying the enemy’s capacity to survive much less fight. We are way, way down from anything remotely like that kind of a total war scenario. But the targets are in fact the same. So look at the war in the Ukraine. The drone strikes on both sides are very clearly targeting physical infrastructure, the enemy’s willingness to persist in a conflict in a very asymmetric way. Iran’s doing exactly the same thing. They’re demonstrating that they have this capacity to target water and power resources throughout the Gulf States. Letting them know that if it comes down to a contest to who can endure more pain, the regime in Iran thinks they can endure more.
Maybe they’re right. I don’t know. This cyber attack in the US that you’re talking about, it sounds like a signaling exercise to me. The concerns we have about the Chinese infiltrating our systems. And for all I know, we’ve infiltrated the Chinese. I would assume tit for tat, right?
Stephen Lacey: We’ve been working on it. Yeah.
James Gutman: I would assume, but this is an indication of what war looks like in the 21st century, just like it did in the 20th century, but at a steady background hum kind of noise as opposed to a definable, it started here and it ended there.
Stephen Lacey: Let’s shift gears a little bit and talk about the extraordinary government interventions you referred to. So look, over the last six months, we’ve collectively learned what people like James already knew. The Strait of Hormuz is a waterway that carries about a fifth of the world’s oil. When it closed, we lost more supply than any disruption on record. And at the start of the conflict, at the start of the war, many analysts predicted possible panic in the market, but it didn’t happen exactly as though. Prices certainly moved, but not anywhere close to what was expected. And I want to talk about what did happen. And your argument, James, is that this was not the market moving normally. It was two governments, the US and China intervening in very different ways. And I want to talk about what those interventions are. So China, the world’s largest oil importer, the country you’d expect to be the most exposed.
So China, the world’s largest oil importer, the country you’d expect to be highly exposed, maybe the most panicked, the most desperate for barrels was the opposite. It quietly bought less oil than usual right when the world lost all this supply. So I guess a big question is, how did it reduce imports so steeply and what was the impact on the market? What the heck was going on in China?
James Gutman: Yeah. So first off, hats off. The Chinese have played this brilliantly. And it’s part of a longer term strategy and it has worked out fantastically for the Chinese. The Chinese cut their crude oil imports by something between five and six million barrels a day. And every time I give a number, I’m like rounding aggressively because nobody really knows the details about what goes on in China. It’s very carefully kept. Roughly a third of that dramatic curtailment in their imports was the Chinese deferring or perhaps destroying demand. Roughly a third was destocking in some way. And then roughly a third was just not adding to the already incredibly large SPR for oil that they’d already built up. And that was really effective. So all in all, again, very rough estimates, I reckon that’s about half of the gift that the oil market got, which helped to keep commercial inventories, OECD commercial inventories within a range that would forced all panic.
How did the Chinese get there? They invested very heavily in real optionality in their economy. So in the ability to exercise the option to pivot from one use of energy to another or one source of energy to another. And they paid a premium for it. War hits, a supply out of Hormuz gets curtailed. Prices go through the roof. And so there is a policy lever that the Chinese push. It’s not explicitly price driven. It’s more mandate driven. And it says, you have EVs in your forecourt, use them more. You want to go see grandma over the holidays, use the train. Find these ways to exercise that optionality that they built into their electrostate by investing so heavily in a renewable stack that feeds into EVs. They also have invested very heavily into a coal stack, which we don’t like from a carbon perspective. But from the Chinese angle, this means that they leverage technology on coal to liquids and coal to pet chems.
Jigar Shah: And a lot of this was the same type of technology, just more modern that the Germans used during World War II, the South Africans during apartheid. Yeah. So this is not like a brand new type of technology, although they probably modernized it.
James Gutman: So I think China’s done a great job in updating that and scaling it. I think it’s still a really nasty business. You don’t want anybody to do this, but it worked. So I think that was a great exercise of their investment in this real optionality in order to defer, if not destroy, mostly defer, I think. But we can get into that demand. I think another piece here was a destocking, but throughout the petrochemical supply chain. So I think there was a — who knows? I don’t think they took much out of their strategic reserves. I think they took a bit. I don’t think they took much. There’s no way of knowing this for sure. I think there was some destocking throughout the refinery complex and of finished products in the petrochemicals and the plastics complex. And that makes sense. They cut their refinery runs.
They ran down their inventories. That helped to reduce their demand pull. And then I think going back to what I said before, part of it was just they had been building up a massive inventory for their SPR, so they hit pause. One of the things that I think is sort of worth paying attention to is that we’re getting some pretty good early indicators that the Chinese are coming back. So refinery runs are picking up. They’ve actually started to rebuild their product inventories and their pet chem stocks, and they’re starting to export again. At the same time that they’re starting to take more crude cargoes from the Gulf and from elsewhere.
Stephen Lacey: So that’s what I was going to ask. Oh, so if the Chinese did this, are we out of the woods? Are we good?
James Gutman: So no. I mean, I think the Chinese, they did what they did. They dampened the impact on the global market and they made a bunch of money by the way. So all of those cargoes, which they had booked, they were like, “Oh wow, price accrue just skyrocketed. There you go. You can have it.” They destocked. Now they’re back, which tells me that it was never a permanent demand destruction kind of shift. It tells me that it was in some way sort of a demand deferral sort of shift. And I would also want to just sort of add as a final point on this one.
I spent a good chunk of my career trading on the other side of people who were trading industrial metals and energy out of Shanghai. And boy, oh boy, they know what they’re doing and they work as a team. And they’re very, very good at staying out of the market when it’s peaking and stepping back in when it’s low. So from a high level, this is Team China Incorporated buying low, selling high. Buying low, selling high. And they’re doing a pretty good job with it. That is about half, roughly half of the insulating effect I think that we saw in the market, which has kept crude oil prices relatively restrained.
Stephen Lacey: Jigar, what are you most interested in when we look at the Chinese story? Early on in the conflict, we teased this a little bit that China would have advantages because of electrification of transportation, because of coal switching. So as you saw this play out, and I know as James said, it’s not entirely clear what all the dynamics were, but what’s most interesting to you from the Chinese experience thus far?
Jigar Shah: Well, I think it’s important to note that the Chinese don’t operate in a vacuum. So when they made the decisions that they did, remember at the moment at which the conflict occurred, Omani and Dubai oil hit $166 a barrel, right? Physical. That’s real money. Now the Chinese could say, “Well, we’re not going to pay that. We’re going to let Indonesia or Pakistan or somebody else take it.” Fine. But then those people paid it. And so whoever did take those last shipments paid it. And so what you’re finding is that when the Chinese did this, they doubled immediately the sale of heavy trucks. There were EVs. So they moved their existing supply chain faster to destroy demand. But they also eliminated the ability for the country to supply Southeast Asia with finished products. So they said no more sale of gasoline or diesel or jet fuel or whatever else to Southeast Asia.
And so now all of those people were suffering. And so now you see that those folks, whether it’s Indonesia or the Philippines or others, have been ramping up their deployment of clean technologies. Most of them knew that they could have saved a lot of money using solar or wind or battery storage or electric vehicles, et cetera. But they were just going slow on the deployment of those technologies. But now that they were faced not with higher prices, although they did have higher prices, but actually physical rationing, right? Shortages. They were like, “Well, we don’t have a choice. Even though we’re culturally against the energy transition, we kind of need to do it because we’re being denied access to the molecules that we need to run our economy. And so we’re going to have to do these things,” which of course also benefited China because they were exporting that equipment.
So I think part of this is also just waking up the rest of Southeast Asia to the fact that the Asian Development Bank had paid for study after study after study after study about how these folks could transition from coal in all these other areas. And they were just taking their sweet ass time to do that transition. And now for instance, you see very large projects in sustainable aviation fields going into Southeast Asia. You see very large projects in alternative feedstocks to chemical production and plastics production because not all these folks have access to all of this feedstock. And so my sense is that the Chinese played both sides of this. They created a fortress China on this side, but it also created more pain for their neighbors in Southeast Asia.
James Gutman: Yeah. I just would add one thing there, because I agree with what you’re saying. And I just would add that is as they’re trading partners around the world, so not just in Southeast Asia and South Asia, but also in Europe, have sort of resigned themselves to the fact that they need to develop more capacity with electrification and renewables and that’s going to have to come from China. They get more comfortable with the idea of getting into bed with a Chinese supply chain. I don’t think people like it, especially not some of Chinese neighbors. But once you get into that habit, I think it gets a bit easier. So like the China narrative or sort of the China vision of sort of reclaiming a place as the middle kingdom, it’s been advanced by this.
Jigar Shah: Kind of. I think that is, that’s half the story. The other half of the story I think is that all of these countries are forcing the Chinese to do technology transfer. You’ve seen that with Brazil. Now you see it with Indonesia. And the Chinese are fighting back, but at the end of the day, they’re going to lose this battle. I mean, every one of these continents is saying, “We’ll buy your stuff, but we’re going to demand domestic content. We’re going to need to make sure that there’s some manufacturing in our country. We’re not going to do this transition where we’re addicted to you.”
James Gutman: But think about what the Chinese have already accomplished, because even if they do hand over technology, which is a debate, it’s a conversation, it’s a give and take. Now they’re in there. They’re on the ground. They’re building factories. They’re transferring technologies. They’re taking market share. They’re in. They’re in.
Jigar Shah: But that is okay for me. Remember, what I care about the most is diversification of supply. I don’t know that I care that it’s using Chinese technology. What I care about is that once that capacity is put in place, then it cannot be controlled by Beijing. And so my sense is that the Brazilians, once they have that technology, can manufacture using those plants. And if Beijing says, “Sorry, we’re going to stop supplying you with feedstock,” well, then they can get their feedstock from the US or they can get their feedstock from other places. For me, what I care about deeply is that we remove the over-reliance on Chinese exports and we diversify manufacturing around the world.
James Gutman: So I agree with you about the diversification of manufacturing. I hope you’re right about the ability to treat China as equals once they have these facilities on the ground, but that does require the ability to continue to play sort of hard knuckles ball with them. I’d much prefer to see European or Brazilian or Indian manufacturers developing domestically derived supply chains. I don’t think it’s going to happen anytime soon. And that means it’s going to be Chinese and we’re going to work towards the Jigar scenario where we get necessarily —
Jigar Shah: The Jigar Scenario.
James Gutman: The Jigar scenario. And just so you know, there it is. The Jigar scenario, capital J, capital S.
Stephen Lacey: So pull some of these threads together. I know a lot of this is a mystery still, but do we have any grand theories about what China is doing here?
James Gutman: Jigar’s not going to be a surprise when I say this. I think China has been extremely clear about its vision for the 21st century. It is one where China recovers territorial control of what China thinks it should have territorial control over, where China has restored itself as the preeminent power in East Asia, restored itself as a middle kingdom, and where China sees its influence globally as on par with the respect that it thinks it deserves. And I think what China is doing is preparing itself for a war at a more kinetic level or at a higher level than what we’ve seen in order to not have to fight that war. So when China establishes its energy independence, which is an extraordinary feat for a country that is net short energy across the board, when China can establish a degree of energy independence, it has a capacity to wage war.
That capacity to wage war played appropriately becomes a deterrent to war. That means it doesn’t have to go to war because the other side is going to recognize that it’s better to cut a deal. I think that’s what the Chinese are doing. And the elephant in the room, yeah, it’s Taiwan. I think the Chinese, their goal, medium term, is Taiwan. And this is part of it.
Jigar Shah: I mean, the only counterpoint I’d make is I just think that the Biden Administration did such a good job of standing up battery manufacturing facilities, solar manufacturing facilities, et cetera. And now you’ve got the Trump Administration that’s actually making it harder to import a lot of this equipment from China. And so we are by definition standing up alternative supply chains around the world, whether it’s Indian manufacturers, Brazilian manufacturers, Turkish manufacturers. We don’t have a choice and domestic manufacturing. And so while I think that the Chinese have relative strong positioning today, my sense is that that position will get weakened quickly because. I mean, look at their solar industry. They will deploy less solar this year than they did last year because they had a run up of demand because they had a subsidy that was expiring last year. And that extra solar is not going to get absorbed by the rest of the world this year.
So the Chinese solar firms are going to lose even more money this year. And the electric vehicle firms are having record exports and they will also lose money this year. And so will the critical minerals companies and so will the battery companies. And so at some point, all of these people who claim to be capitalists in China are basically state-owned enterprises. And my sense is that that deteriorates very quickly. And so I think that they look strong now, but my sense is that unless you have strong companies that are profitable underneath this, then they will end up getting in a place where they will get out competed by others around the world.
James Gutman: I think you’re right.
Stephen Lacey: Well, let’s turn to the US now. So the US took the opposite approach. It opened the tap. It started releasing oil from its own emergency reserve into the market. The US is unique because it has huge reserve capacity and the ability to drill more. So as you argue, James, you think the US was using these barrels in a more activist way, as a sort of monetary policy. Walk us through that argument.
James Gutman: Yeah. So I think in China, there’s a muscle memory which says an order comes from the highest point in the bureaucracy and it filters its way down and at lower levels it gets executed. In the US, we have a very different kind of way of operating. And I think here, the model that people are very comfortable with is like central banking. So you have a central bank, you have a Fed chair, and you change a short-term policy rate, which in and of itself doesn’t have that much of a direct influence on the economy, but it works its way through the rest of the credit system and it can become very influential on the economy. So you have this financial market which amplifies the government’s ability to turn a knob essentially and to create some sort of an economic outcome. And these are two very, very different ways of looking at the economy.
I think that what’s happened in the US is something like this. So in the mid 20 teens or so, depending on how you want to measure it, the US became sort of titrally nominally energy independent and petroleum. So that means that even though we were still dependent on a global supply chain for specific products in specific places, we were exporting more than we were importing if you just look at the total amount of crude and products. And I think that that introduced a degree of sort of comfort. So the IEA was an institution that was created back when we were establishing the rule of law and a global order in order to help manage a complex global system. But the IEA was an institution that functioned in many ways analogously to NATO as sort of a buyer’s club, a defensive organization established in the wake of the oil shock in 1973 to coordinate things like SPRs and SPR releases.
And it was used as such over the course of the ensuing decades when an energy producing country was involved in a conflict or attacked Kuwait, the Libyan Civil War, then there would be this coordinated IEA release. I think what we saw starting with the Biden administration was a willingness by the US now to deploy its own SPR and to operate through the IEA and through its network of allies who had their SPRs as a way of deploying this influence into the oil market in order to support a geopolitical goal. So with the Biden administration, you had Russia invading Ukraine and you had this pressing need to try and cut off the flow of funds into Russia. Okay, fine. So if you’re not buying Russian barrels, then what’s going to make up the difference? Well, it’s going to be a couple hundred million barrels out of IEA SPR organized by the Biden administration and it was pretty effective.
It did the job. So this was like the first instance of this use of the SPR in this kind of way. And we should note that this is an order of magnitude larger than any previous IEA release. So it was a big, big deal. So the Trump administration, I think, probably looks at this and says, “Yeah, that worked out pretty well.” And it turns out we don’t need these resources in order to protect ourselves as an insurance policy. So when it launches a war of choice in Iran, with Iran, it says what could go wrong? Well, what could go wrong is the price of oil could spike and we could get nailed at the gas pump by the consumer. Okay, what can we do? What we can do is we can release more barrels of oil from the SPR. And there’s this mindset, which is very used to this kind of central banking kind of model, which says, yeah, we add liquidity, price comes down, outcome we like happens, so on and so forth. I think at a certain level, that’s effective. At a certain level, that does work. But I think there’s a lot of devilry in the details.
Jigar Shah: There’s a lot of devilry everywhere.
James Gutman: So yeah. So I think this is where I start to get very. I get nervous because oil is not the same as treasuries. Scotty Bessent can print treasuries whenever he wants to. It’s literally the flick of a pen. You got to pull the barrels out of the ground. You can’t borrow the barrels from the future. You can’t print them. They got to be in inventory. And right now the US is careening, although the pace is slowing, towards some unknown number at which we can no longer support SPR releases. There has to be a certain amount of pressure in these salt domes. You just can’t take it down to the last bit of sludge at the bottom of your inventory. You’re done. So we’re getting to the point where your central bank of molecules, your central bank of oil is looking into the vault and it’s looking kind of bare, which means you’re not going to be able to do this for much longer or you’re not going to be able to do this again or indefinitely.
Something to that effect. The second place where I think it gets a little bit squishy here is that you may be able to control the number of barrels of crude oil that enter into the Atlantic Basin that affect OECD commercial inventories, which is really what the machines and the traders focus on, that keeps the price of brent oil in sort of this historically normal range, irrespective of what’s happened around the world or with global inventories writ large. You can do this. That doesn’t affect the pump because it doesn’t affect product prices. Going back to something that Jigar was sort of, I think alluding to before, if you look at refinery gate prices, so the barrel of crude, and then the refining margins that are attached on top of it, we are at blisteringly high levels still. This is why American consumers haven’t seen prices at the pump collapse
with the price of oil. This is why diesel is still at extremely painful levels and is having an inflationary impact. So you can control the barrels that come out of the SPR because it’s crude oil, and you can manage the price of crude oil in the North Atlantic brand, but you can’t control refining capacity and you can’t control product inventories. And therefore you can’t control the prices that people actually care about most when it’s time to pay a bill or to vote. And this is where I think that the current policy is at some risk of having unintended consequences.
Jigar Shah: Well, I think there’s two points to be made here. One is that both China and the United States seems to be getting to the end of this policy working. And so they better get a deal done in Iran next week. And then the second piece of it, which I think is what James is saying, is this is now a playbook that both countries can use in the future for more minor disruptions in the oil industry. And so when you have more minor disruptions, my sense is that both countries are going to actively manage oil prices. And so I worry a little bit around figuring out if you’re an oil CEO, how much agency do you think you have left in terms of how you make money? If you’ve got two of the world superpowers who are basically testing out ways of figuring out how to control oil prices globally, I’m trying to figure out how much longer this is really a capitalist enterprise.
James Gutman: Not only should you be worried about this if you’re the oil guy, but you should be worried about this if you’re in an industry that produces something that these people who are in charge think is of national security importance. So right now we’re talking about oil CEOs. What about the people who harvest jewels? It’s not hard to see all of the people in these industry as coming under this kind of pressure. And it is a new playbook. We have state capitalism, varieties of state capitalism here to coin a phrase. And we have a China model and we have what’s appearing to be a US model. And I think you absolutely should expect this to be played again and again and again, regardless of which administration is in office.
Stephen Lacey: Yeah. That was the question that came to my mind as you were explaining this. Is it repeatable for other industries? Where is it most repeatable? So critical minerals, equipment production? Where are the other areas where this could be used?
James Gutman: That’s a really good question. And I think it’s a fantastic question. And I think what you would probably look for is movements by the state to try and create this capacity in other areas. So critical mineral stockpiles, for example, which we already know they’re building and for good reason. If conflict comes, you want to have this, but it also creates sort of a policy capacity. Holding pieces of a supply chain so that you can try and turn the knob to the right or to the left. AI, for example, being able to manage the availability of AI engines. All of these are sort of indicative of an approach to a new kind of state capitalist model. To the extent that they can rely upon stockpiles, it’s going to look more like the central banking approach. To the extent that they can’t, maybe it looks more like the mandate from heaven approach that the Chinese have. But this is our world. This is our world, I think.
Stephen Lacey: The other big question that comes to mind is if the US has established this framework, then does it embolden a future administration to go start another conflict?
James Gutman: I hope not. I really hope not. But I think the sad truth is that it can. And I’m going to go away from the US administration here and I just want to talk very briefly about Israel as sort of a possible indication of what the future looks like. So Israel has a national narrative, which justifiably says it’s sort of in a permanent state of existential threat. And it views Iran as an existential threat. And this is not new. But one thing that is new is that over the course of the past 15 years, Israel’s gone from importing something like 90%, 98% of its final energy consumption, primarily oil and gas, but also some coal, to about half. And the reason why Israel was able to do that is because it achieved this degree of energy independence with Tamara and Leviathan and the natural gas fields in the Eastern Med.
And you got to think that as the Israelis are working through the playbook of what could go wrong with this war in Iran, they’re thinking, well, we have vulnerability on energy, but not like we did back in the 1980s. Not like we did back in the 1990s. So that’s an example. You could probably make the same argument with a number of places around the world. Does the next administration come in and say, “I got a central bank of molecules. Maybe the first time around it worked really well. Maybe it didn’t. Maybe we’re getting better. Maybe this gives me more cover in order to justify or pursue the next sort of conflict I might want to get into.” Maybe. I mean, a shield, if you think of this central bank of molecules as a defensive weapon. A shield is a weapon exactly as much as a spear is. And it can embolden, I think, adventurism. So I think we need to be very, very cognizant of what that might look like.
Stephen Lacey: Are there any lessons here for how clean energy statecraft might play out?
James Gutman: I love that phrase, by the way. I’m going to steal that.
Stephen Lacey: Go for it.
James Gutman: I think that the group that’s really in the bullseye and the target board are obviously the Europeans, the Japanese, the Koreans, a sort of like-minded group of liberal democracies that were organized around the US. And I think it’s fairly clear that they view cooperation and coordination amongst themselves as kind of the only way to balance their competing interest of maintaining national sovereignty, but also being able to assert themselves on a global stage where you’ve got a very aggressive China on the one hand and a very aggressive US on the other and a very unpredictable Russia to take a third example. And so I think statecraft for these countries looks a lot more like negotiating partnerships, technology sharing deals, capital investments into each other’s production chains. A much more bilaterally driven or plurilaterally driven trade approach to trade in the clean energy space where there’s a strong governmental involvement.
I think you should be very much expecting that clean energy producers or the people who are in the clean energy supply chain and stack are asked to participate more in political conversations with trade partners of like-minded companies. So you should expect more of a clean energy statecraft going forward. That would be my take. I’d be curious as to what Jigar has to say on this actually.
Jigar Shah: So I think if you think about what is happening in Cuba where after the Venezuela conflict, Cuba didn’t really have the molecules necessary to keep its grid going. The Chinese have come in with a gigawatt worth of solar panels and they just commissioned a 50 megawatt battery storage facility, et cetera. But the Chinese actually don’t have the orchestration software or other mechanisms by which to operate a virtual power plant. And the US is probably not going to supply those services to Cuba. And so this is where Europe could step up, but it’s not clear to me that Europe is going to step up. And I think one of the things that I find fascinating about this moment is that the Chinese know how to supply goods, right? Electric buses or electric cars or solar panels or batteries, but they don’t actually know how to do skills transfer or orchestration services.
When you look at Pakistan, they deployed a whole bunch of solar panels quickly and then that led to the basically bankrupting of its electric utility because the Chinese don’t know how to help the electric utility of Pakistan to prevent it from going bankrupt. And so there is this notion that right now, now that the technologies that we talk about on the clean energy side are fully mature and are the cheapest way of supporting the seven billion people around the world who have some sort of energy poverty, that I don’t think the Chinese by themselves actually know how to solve the problems in those countries. But the US is no longer partnering with the Chinese like we did during the Obama administration to help bring joint solutions. And I don’t know whether the Europeans are going to step up and provide that service.
James Gutman: But it’s an opportunity for Europe.
Jigar Shah: There’s lots of opportunities for Europe. As I’ve been discussing for 18 months, I just haven’t seen them seize them.
Stephen Lacey: James, how does the national security driver of energy decisions now reframe clean energy as a tool?
James Gutman: I think it’s pretty critical. And I think there’s sort of two reasons to kind of turn to this. So the first is that energy vulnerability, the national security implications of energy imports fall squarely on fossil fuels. So with the exception of a country like the US, which is, as we have said, nominally energy independent with fossil fuels, the way you have an energy dependence, the way you import energy is rock liquid gas, fossil fuels. So if you want to be less dependent on energy imports, then you are going to increase nuclear, geothermal, hydro, solar with storage, wind, whatever. But you’re going to increase your domestic production. Now, yeah, you are kicking the can down the road a little bit if that means that you’re importing Chinese manufacturing and tech. As Jigar suggests, if you can also get production sharing and technology transfer out of it, that is not only better because it kicks the can down the road, but it also gives you a piece of the can that you’re kicking.
Yeah. That sort of works. So from the clean tech space, I think you now have this motivation and this impetus and this imperative that’s no longer simply dependent on climate change as the reason. It still may be the most important reason, but it may not be the one that gets us out of bed to actually take action today. I think the second national security sort of framing that you really want to take is when we’re developing a clean energy supply chain in Europe, for example, we are being watched very carefully by a military leadership and by a civilian political leadership and by a bureaucracy, which sees us as an asset should the unnecessary and unfortunate conflict occur. The job of the soldier is to prepare to win a war so that he doesn’t have to fight the war. Clean energy is what enables you to fight the war.
Therefore, they care deeply about what we’re producing and how we’re producing it and where we’re producing it with whose technology and all of these sorts of things. You talk about SAF, right? Sustainable aviation fuel.
For sure, there are generals in European countries who want to make sure that there’s something that they can rely on. Even though there’s not a universe in which it’s going to replace jet kero as a supply source for military aviation, but you want that diversification. That’s something that we need to be very aware of as we seek out funding or we start to push for a change in a regulatory structure and incentive program so that we can help to advance the adoption of a technology throughout a system. The allies you find might be wearing great big shiny stuff on their shoulders. They might be the ones that you want to turn to and say, “Can you help me get this down the road?”
Jigar Shah: Well, the thing that you are not saying, but I think is important to say explicitly, is that when the Europeans decided to sign long-term contracts with the United States on liquified natural gas during the Ukraine conflict, they thought they were signing a long-term contract with a partner. Today, I would say every European capital is now trying to figure out how to decrease its reliance on America and LNG. And so like one of the other national security energy security issues, which I don’t think Europe thought it needed to do, but they do, is to reduce their reliance on the American energy supply chain. And that’s getting them to turn to green solutions as well.
James Gutman: Yeah. I mean, I think that’s right. I mean, I think another thing that you might be thinking about from the perspective of Europe is when they were signing long-term supply contracts for LNG with the United States, they were also signing contracts with Gulf producers or it was in a context in which Gulf producers were adding to the global LNG mix and helping to keep the balance. I think Europeans generally feel very, very insecure about their relationship with the United States as well as with other powers around. And they want to be able to have a conversation with the US which isn’t as dependent. They don’t want to appear like a vessel because then they’ll be treated like a vessel. LNG contracts with the United States may have been a good idea at the time and may be the only option at the time. But right now I think there’s a little bit of perhaps caution. And it’s the exact same kind of caution as when an F-35 purchase program comes under review. Same thing.
Stephen Lacey: So I want to tie this all together to wrap up here. We have two governments, two very different tools. The US working through markets, China working through direct control. Do you see these as two fundamentally different approaches or are they two versions of the same instinct?
James Gutman: I think there’s a convergence here. So I think we had this idea that there’s these sort of two separate entities. There’s the state and then there’s society and there’s like this transmission of influence and of information between the two. And that’s never been the case. I think the Chinese version of this has society embedded within the state. I think the Western version and the North Atlantic version has a degree of overlap, but it’s not a complete degree of overlap. So we’re talking about ways of looking at the world that have sort of been in place since time immemorial. I think what’s probably very important now to think about these two competing systems is that state capitalism is back. The state is back. It’s not going to retreat. Will it operate with society in more of this interactive, overlapping way through financial markets, for example, as signaling and capital transfer and risk transfer mechanisms or institutions, infrastructure, or will be in the mandate path?
And I think that’s the choice that we’re going to be facing. I want to be careful. Somebody could hear what I’m saying is sort of like the inverse of a Fukuyama end of history, sort of like a return of history, a return of sort of some grand ideological contest. And I don’t know that that’s what I’m suggesting, but I would suggest that we are coming back to a world with two distinct ways for the state and the society to interact. And this is in marked contrast to what we had up through maybe the Obama administration when there was this belief that it was actually China who was becoming like us. I think that is not happening. And I think it’s very clear to us right now.
Stephen Lacey: James Gutman is the head of research at Abaxx Technologies. He writes the Substack Arcs and Angles. You are one of the best communicators on this subject, James. I really love your Substack. Enjoyed hearing you talk about this. So thanks so much.
James Gutman: Thank you very much, Stephen. It’s really an honor to be included and it is always a pleasure to be able to spar with my very dear friend Jigar. So thank you.
Stephen Lacey: Jigar, enjoy your vacation. I hope you get to go shirt shopping and buy more sweet shirts like that.
Jigar Shah: You will see a whole new group of shirts the next time around.
Stephen Lacey: The wardrobe has become increasingly important on video. So you’ve stepped up. I appreciate it.
Open Circuit is produced by Latitude Media. The show is edited by me, Sean Marquand and Anne Bailey. You can find all of our episodes on Apple, Spotify, wherever you get your podcasts. And of course our video episodes, all of our videos are there on YouTube, subscribe to Latitude Media. You’ll get our show, Open Circuit, and Catalyst with Shayle Kann. You can also find our transcripts at latitudemedia.com. Be sure to subscribe to our newsletters while you’re there as well. Thanks so much for being here. Thanks to James and Jigar. I’m Stephen Lacey. We’ll catch you next week.
