The Russian Oligarkhs

[Armen]

Financial Times

 

Putin's policies threaten global oil supplies

By J Robinson West

Published: February 2 2005 02:00 | Last updated: February 2 2005 02:00

 

The recent "purchase" of the best assets of Yukos, the oil major, by a Russian state company raises complex questions that could have an enormous impact on Russia and the world.

 

To understand the situation, it should be broken into three issues: Mikhail Khodorkovsky, the Russian oil industry, and world oil markets. First, there is the fate of Mr Khodorkovsky, the billionaire oligarch who grabbed the assets that made up Yukos during the privatisation boom in the early 1990s. Group Menatep, which he controlled, bought the assets for a pittance using state funds held in Bank Menatep. The group was later restructured to protect its assets from creditors.

 

Mr Khodorkovsky is smart and tough. To his credit, he operated Yukos effectively, bringing in the best western technology and capable managers. Yukos production surged to over 1.7m barrels per day, becoming Russia's largest oil producer.

 

Mr Khodorkovsky became a media darling in the west in part because he was attractive, articulate and seemingly open, and in part because he lavished funds on western think-tanks, consultants and public relations advisers to sing his praises.

 

In Russia, the attitude was very different and his fall is unlamented. He is viewed by many as ruthless and corrupt. He purchased Duma members to block government legislation. Mr Khodorkovsky also revealed his political ambition to have the Duma alter the constitution, create a weak president and make him a strong prime minister on the UK model.

 

President Vladimir Putin feared and detested Mr Khodorkovsky because of his enormous wealth - over $15bn (£8bn) at its peak - the way he gained it and his desire to expand his power unscrupulously into politics.

 

The Kremlin crushed Yukos and Mr Khodorkovsky through a muddled programme of huge tax claims and manipulation of the court system. The methods used were bizarre but the outcome predictable.

 

Mr Putin has grand designs for the Russian oil industry. He believes the state should play a dominant role in certain strategic industries, particularly oil and gas. Oil and gas revenues and taxes are 40 per cent of government revenues, generate most of the foreign exchange and subsidise domestic industry and agriculture. The merger of Gazprom, the giant gas monopoly, and Rosneft, the state oil company, with Yukos assets bolted on, would create the world's largest hydrocarbon company. This Russian powerhouse would be a source of power and prestige for the Kremlin to replace its once great military, now just a shattered hulk.

 

The problem is that the Kremlin runs the risk of destroying its petroleum sector rather than building an envied national champion. The tactics employed by the Kremlin to jail Mr Khodorkovsky, bankrupt Yukos and capture its best asset demonstrated the imprecision and politicisation of the Russian legal system. It frightened both Russian and foreign investors, even if they had no sympathy for Mr Khodorkovsky. There may be large oil reserves in Russia but without massive investment and management skills, it will not flow. In spite of the hype about Russia, more oil industry investment has flowed to west Africa. The risks in Russia were already large and have mushroomed.

 

The impact of the Yukos affair could be enormous. Russian production, now the world's second largest, could slide, not surge, and with it the Russian economy and prestige. PFC Energy estimates that Russian production, now 9.2m barrels per day, will peak at just over 10m barrels a day in 2008, and then, without a huge infusion of capital, technology and management for further exploration and production, begin to plateau and decline. Billions will be needed as well to expand its export capacity. Without a stable legal and operating environment, Russia will fail to meet its production targets. The world needs every barrel of Russian oil. With growing Chinese and Indian demand, plus the insatiable appetite of the US, markets will be tight and even more reliant on the Middle East.

 

A faltering Russian oil sector would be a disaster for the world economy as well as for Russia itself. Mr Putin must recognise that he needs a well managed and well capitalised petroleum sector. He is well within his rights to want the state to dominate it, but it must be managed efficiently. The Yukos affair indicates that he is going in the opposite direction and will hurt Russia's interests as well as the world's if he does not correct his course.

 

The writer, a former US assistant secretary of the interior, is chairman of PFC Energy, strategic advisers on global energy based in Washington, DC