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Sunday, February 26, 2006

OPR WEEKLY: OIL POLITICS RUSSIA: TAKING ON THE BEAR

I have decided to change the focus of this blog from international oil politics generally, to a focus on the oil politics of Russia. While the world is replete with fascinating plots and characters daily unfolding the story of international oil, I have found Russia particularly intriguing. The following, in a nutshell, is why.

THE IMPORTANCE AND COMPLEXITY OF RUSSIAN SUPPLY

Russia is the world’s second largest producer at 9.4 million barrels per day, and by far the largest producer outside of OPEC. However, unlike the Middle Eastern producers, Russian production comes from a geographically dispersed collection of basins. While historically Russian production has come primarily from the Volga-Urals basin and the West Siberian basin, these two regions are mature, with the former in steady decline.

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Whether or not Russia can sustain, let alone increase, production will depend on the development of smaller fields in the West Siberian basin and development of a number of new and technically more difficult production environments, including those in northern Siberia (Timan-Pechora), East Siberia, the far east (Sakhalin Island and the Arctic shelf), and the Caspian Sea region. These projects will take not only massive Russian investment, but also foreign technical help.

Russia has already engaged several foreign partners to develop these challenging regions. ConocoPhillips is assisting Lukoil in developing Timan-Pechora, while Shell, ExxonMobil, BP and several Japanese companies are involved with Sakhalin Island development. In addition, the high-water mark for foreign involvment in Russia's oil sector was reached in 2003 when BP was able to arrange the only joint venture in Russia’s oil industry, forming TNK-BP.

However, the extent and success of foreign involvement in Russia’s oil sector is clearly as dependent upon political factors as much as economic rationale. It seems unlikely given recent trends that another joint venture of the TNK-BP sort is in the offing. In general, the investment climate in Russia is still uncertain following the government's destruction of Yukos last year. How Russian companies and their foreign partners will meet the difficult production challenes ahead remains to be seen.

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(The full IHS Energy briefing from which these graphs are taken can be found here. See also this excellent analysis on Russian oil Reserves at The Oil Drum.)

THE GEOPOLITICAL IMPORTANCE OF RUSSIA AND THE KREMLIN DIVIDE

Russia’s geopolitical impact on the world is vast and complex. It plays a critical role in the politics of Europe, Central Asia, Asia, and occasionally, still, the Middle East. While Russia has suffered geopolitically since the collapse of the Soviet Union, it continues to struggle to reassert itself as a world power.

However, Kremlin policy makers are divided on the best means for such resurgence. Russia’s economic liberals, including the powerful Russian oligarchs, seek to strengthen Russia through economic development in cooperation with Europe and the U.S., even at the cost of decreased military/territorial prestige.

Opposed to them are the ‘siloviki’, the old-guard KGB/military nationalists, who believe that Russia’s future depends on a reassertion of military power and dominance with regard to the countries on Russia’s periphery, especially Ukraine and the former Soviet states of Central Asia. Russia still maintains a large and sophisticated armed forces and a stockpile of strategic nuclear weapons with which it can effectively project power abroad.

STATE TRANSFORMATION AND THE UNCERTAIN FUTURE OF RUSSIA

Internally, Russia is still in the midst of the largest and most profound state transformation in history. In the 15 years since the collapse of the Soviet Union, Russia has struggled through massive privatization, political devolution, a currency crisis, an economic recovery, and most recently the recentralization of political and economic power.

Despite its recent economic success, Russia still faces daunting internal challenges. Its population is declining rapidly, putting increasing pressure on the social welfare and pension systems in the country. A bungled attempt at social security and pension reform last year sparked Putin’s most serious domestic crisis since taking power. In addition, Russia has also struggled to develop its non-oil economy. While Russian revenues have soared with the price of oil, domestic production has not developed sufficiently to absorb the inflow. The result has been a constant and not always successful battle with inflationary pressures.

THE EVOLVING CHARACTER OF RUSSIA'S OIL INDUSTRY

Russia’s oil and gas industry has undergone a wave of consolidation in the past several years, including the accumulation of production assets under control of the state. In the past year the primary production assets of two of Russia’s largest oil companies –Yukos and Sibneft—have landed in state hands. This has left the country with only 5 private oil conglomerates: Lukoil, Surgutneftegaz, TNK-BP, and two regional (and declining) independents, Bashneft and Tatneft.

The increased concentration of oil assets in state firms Gazprom and Rosneft will likely increase the politicized nature of the industry. This trend was clearly evident in the recent conflict with Ukraine over gas prices. Because large companies often eschew small projects, the overall concentration of oil and gas production may also make it more difficult for Russia to develop the smaller fields in the West Siberian basin, upon which much of Russia’s future production depends.

RUSSIAN ELECTIONS AND POLITICAL CHANGE

Russia is only two years away from a Presidential election in which the Federation will choose its third President. While the Putin administration is credited for making progress with regard to many needed economic reforms, he has also centralized power at the federal level.

Whoever takes the reigns from Putin in 2008 –and there is no heir apparent at this point—will thus inherit a powerful and complex state machine. Putin has worked diligently and skillfully to split the difference between the reformers and the siloviki. Unless an heir of similar talent and mind-set replaces Putin, Russian policy will tilt one way or the other with profound political and economic implications.

CONCLUSION

Because of Russia's complexity and importance -both to the oil and gas markets and to the world generally- it is a state and industry worthy of increased focus and attention. While my knowledge of both Russia and oil are limited, I will count on those of you who stop by to read awhile to carry on the converstation . . .

1 Comments:

At 3:38 PM, Blogger David Amulet said...

I know much less than you do. But I do know that this is worth keeping up on -- Russia is more important for the world oil market than I ever expected.

-- david

 

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