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Sunday, February 12, 2006

OPI WEEKLY: PEAK OIL AND A HISTORICAL LOOK AT RUSSIA

Anyone who frequents the oil blogosphere is familiar with the Peak Oil movement. In fact, the Peak Oilers, for all intents and purposes, are the oil blogosphere. Despite inattention to Peak Oil claims on OPI –I haven’t figured out yet what I think of them- I saw OPI listed recently on a list of Peak Oil blogs. So be it. A lonely and wayward blogger is always happy to be noticed. However, one topic of discussion among Peak Oilers has particularly caught my attention. It seems that one of the ‘curious’ cases for Peak Oilers is production in Russia, which topped out at 12 million barrels or so per day in 1988 before falling to 6 million barrels per day in the mid 1990’s. Russia, however, has slowly climbed back up the production ladder to nearly 10 million barrels per day last year. Obviously the changing political economic circumstances in the country had much to do with this roller coaster ride, but exactly how much it had to do with it is unclear. Hence, here is my sense of what happened in Russia and what we may expect going forward.

The history of Russia’s oil production proceeds primarily along geographic lines. Russian oil was first produced in Azerbaijan and the North Caucasus. From its beginnings in 1870 to the turn of the century, Russian output increased from 660 barrels per day to 500,000 barrels per day. At the time, Russia and the United States were evenly matched as the world’s largest producers. By the eve of the Second World War, the Soviet Union was producing over 620,000 barrels per day, almost exclusively from fields in the Caucasus.

The German invasion and drive toward Baku pinched flows from the Caucasus region and frightened the Soviet Union into exploring alternative regions for development. The most promising locale was the Volga-Ural basin on the Western flank of the Urals Mountains. A set of dispersed discoveries in the basin that earlier had been shunned because of the high cost of building out production and transportation infrastructures in the region received renewed attention. By the end of the war production from the Caucuses had fallen to just 305,000 barrels per day, but new fields in the Volga-Ural basin contributed another 55,000 barrels per day to the Russian total.

Three years after the end of the war, geologists discovered the Romashkino field one hundred fifty miles west of the Ural mountains in the center of the basin. At 17 billion barrels of proved reserves, it was at the time the largest field ever discovered anywhere in the world. It would ultimately produce around 1.5 million barrels per day before its decline in the mid-1970’s. Seven more fields containing over a billion barrels of oil each were discovered in the basin by 1960. The region single-handedly powered the Soviet Union’s postwar economic growth.

Since 1960 only two further fields containing more than a billion barrels of producible reserves have been discovered and developed in the Volga-Ural region. In 1976 production peaked at about 4.5 million barrels per day and began declining at a rate of 5 percent per year, resulting in a loss of 80,000 to 100,000 barrels per day in the late seventies and 100,000 to 200,000 barrels per day in the eighties. By 1995 the region’s two primary oil producers, Bashneft and Tatneft, had stabilized the situation by reducing declines at the largest fields and developing a handful of smaller fields in the basin. However, the quick and inefficient development of the region throughout the seventies and eighties depleted its most economically recoverable reserves. The basin now contributes only about 1.6 million barrels per day to Russian production.

Beginning in 1964 the Volga-Ural basin began to show the signs of decline. The percentage of water produced in the basin’s primary producing fields began to rise dramatically, making production in the region more expensive. Around the same time, major new field discoveries were made in the West Siberian Basin which lies on the eastern side of the Ural Mountains. Although Soviet managers were at first wary of the difficult operating conditions in the basin –the region is a vast frozen swamp, making the construction of oil infrastructure difficult—the region’s prolific reserves and the decline of the Volga-Ural basin quickly made clear that the Soviet Union’s oil future lay in West Siberia.

By the late sixties production in the West Siberian Basin was in full swing. Labor and capital resources that had been devoted to Volga-Ural production were transferred across the mountains to West Siberia. The region’s largest field, Samotlor, was discovered in 1965 on the right bank of the Ob River. It became the centerpiece of Soviet production, reaching a peak of 3.4 million barrels per day in 1980. The region’s two other super-giant fields, Ferdorovskoye and Mamontovskoye each reached peak production levels over a million barrels per day. By 1987, 32 producing fields and hundreds of smaller fields had been discovered in the lands surrounding the Ob River.

West Siberian production powered Soviet production to its peak of 12.4 million barrels per day in 1987 and 1988. By the early to mid 1980s, however, the region was showing the telltale signs of decline. In 1984 and 1985 Samotlor lost a combined 25% of its production, almost 700,000 barrels per day. Water cuts began rising quickly –from 25 percent in 1980 to 68 percent in 1985—and the size of new field discoveries was diminishing at an even faster rate. Whereas in 1975 it took only 40,000 wells to produce 10 million barrels per day, in 1990 it took almost 140,000 wells to produce the same amount. Water cuts at Ferdorovskoye and Mamontovskoye had also doubled by 1985, reducing output and increasing production costs.

Russia’s record production of 12.4 million barrels per day in 1987 and 1988 was the crest of a production wave that would crash fast and hard. The aging fields of the West Siberian basin responded only briefly to a massive infusion of labor and capital. Water cuts rose and production leveled off, and then fell. To make matters worse, between 1983 and 1987 the world price of oil dropped from $27 per barrel to $15 per barrel. Under these conditions the Soviet Union was losing money on every barrel of oil produced for export, and much more on oil sold at deep discount on the domestic market. Domestic sales accounted for almost two-thirds of total sales. In 1983 Soviet oil netted the country over $22 billion. In 1987 the industry’s net income was -$4.8 billion on 11.4 million barrels per day of production. In 1993 it was -$4.1 billion on just 7 million barrels per day of production.

By the fall of the Soviet regime in 1992 oil production was in free-fall. With the collapse of the Soviet Union, the state budgets that had propped up the Soviet oil industry shriveled. With real wages and earnings plummeting, non-payment of accounts-receivable to the nation’s oil industry ballooned. By the end of 1994, approximately $10 billion was owed to the industry; by the end of the third quarter of 1995 that figure had doubled. As much as 30 percent of receivables for domestic oil sales were either not paid, or paid in barter with goods of dubious quality. Moreover, oil export revenues were drained by tax and transportation tariff policies, while exploration and development slowed to a crawl as regional oil managers received no clear direction from the Kremlin or the newly forming oil conglomerates. In February of 1995, the Federal Board of Bankruptcy Affairs in Moscow reported that all of Russia’s oil production organizations except one (Surgutneftegaz) were insolvent. Russian production bottomed out around 6 million barrels per day from 1996 to 1999.

However, just as price and cost conspired against Russia from 1987 to 1993, they pulled Russian production out of collapse in 1999. World oil prices rose to over $20 per barrel, while the 80 percent devaluation of the rubble in 1998 cut Russian costs significantly. Domestic subsidies on oil were also cut.

Between 1998 and 2003 Russian production increased by 2.4 million barrels per day –a 40 percent increase—and the industry’s revenues flowed back into development projects. West Siberian fields that had languished for lack of funding during the early part of the decade were brought back to life, once again powering Russian production upward. By 2000, most of Russia’s oil sector had transferred into the private sector courtesy of the ‘Loans for Shares’ program. As the new century began, the Russian oil industry showed signs of promise, and a small cadre of Russian oligarchs stood to reap the enormous gains.

However, declining fields in West Siberia continue to drive Russian output. While the injection of western technology has improved recovery at its major fields, their decline rates are significant at 3 to 5 percent per year.

In order to replace this oil lost, let alone increase production, smaller fields that were bypassed during the Soviet era will have to be developed. But here Russia faces a political-economic problem. Unlike the U.S., Russia lacks a cadre of small independent oil producers willing to take on these smaller projects. With the consolidation of the Russian oil industry over the past decade, Russian exploration and development has concentrated on expensive, large-scale development in new regions that have the greatest chance of adding significant amounts of reserve oil to the Russian books. This trend has decreased the amount of oil likely to be available in the near term to make up for the large field declines.

In the worst-case scenario for Russia, some of these-large scale projects may prove disappointing in terms of ultimate reserves and production. The Russian Caspian region is turning out to just such a case. Whether or not the Russian political-economic landscape will allow over time for a ‘middle class’ of small, regional developers to take advantage of the smaller fields in West Siberia and other regions remains to be seen.

1 Comments:

At 9:53 AM, Blogger David Amulet said...

Great overview -- now I don't have to read any books to sound smart on the topic.

I had heard that there were fields further east in Siberia, including on/near Sakhalin island. When were these oil reserves discovered and first brought online?

-- david

 

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