The phrase “the energy superpower” has a special place among the phrases that are customarily used to characterize Vladimir Putin’s Russia. It is true that Putin himself has tried to distance himself from such a description of the country he has led for two terms. “As you may have noticed, I never say Russia is an energy superpower of any kind,” Putin said in September 2006 when he met with members of the Valdai Debating Club. But then he added: “Yet we have more opportunities than almost all other countries… Everyone should realize that these are our national resources, and should stop casting a greedy eye on them as if they were their own.”

Whatever the Russian president’s attitude is toward this impressive phrase, many people associate it with his presidency, which was marked by an extreme politicization of the energy business. Natural gas – Russia’s main export – is a priori not free from the implications of political influence, but in the past few years gas supplies have completely turned into an object of large-scale strategic bargaining. As for gas transportation projects, it looks like their economic feasibility has moved to the background. Business plans have given way to the geopolitical concepts of a reviving great power.

Naturally, Russian gas giant Gazprom sets the priority of economic interests since their implementation is necessary for turning the company into a global energy corporation. And yet the Kremlin’s political considerations have become crucial for mapping out the gas monopoly’s model of conduct. It is not accidental that Gazprom’s decision to change over to unified principles of price formation in trade with neighboring countries – a step quite reasonable in itself from the economic point of view – occurred right after Ukraine’s Orange Revolution, which was far from an economic event. It is also obvious that the new gas prices are set for different CIS countries proceeding not only from commercial considerations.

The politicization of cooperation problems in the energy sector has had a generally bad impact on Gazprom’s business development plans. Even the projects much needed for the development of the market and to upgrade Europe’s energy security have bumped into fierce resistance – like the Nord Stream pipeline – or have been ruined altogether – like the plan to build gas storage facilities in Britain and Belgium. The situation with the purchase of assets in the European Union is no better. The growing political friction between Moscow and Western countries and the Kremlin’s path to limit foreign investment in Russia’s strategic industries have led to a virtual blocking of access for Gazprom to large assets in Europe.

Another egregious example are the consultations on purchasing Centrica – Britain’s biggest gas distribution company – which provoked an unequivocally discouraging reaction in society and power agencies even at their initial stage. Earlier, E.ON Ruhrgas, Gazprom’s partner in Europe, refused to sell the Russian giant a large stake in the Verbundnetz Gas distribution company, the de facto monopoly operator in the former East Germany. Efforts to swap assets with a number of other European companies were also unsuccessful.

The only transaction made in that sector was the swap of a stake in Severneftegazprom, a Gazprom subsidiary that is developing the Yuzhno-Russkoye deposit, for a 15-percent stake in the Wingas distribution company. But this deal was successful only because Gazprom’s status in Wingas has not changed radically – the Russian company remains a second-tier partner there. Gazprom has pushed forward with its projects in Europe and has signed agreements on building pipelines, but on the whole its gains are confined to isolated spot buys. In contrast, the original idea was dramatically different and presumed full-scale integration through a marked change of the corporation’s role in the European market.

AN ALARMED WORLD

So what happened? One should remember that Vladimir Putin’s presidency had a very hopeful beginning. Russia launched intensive energy dialogs with the EU and the U.S. It seemed that Moscow had tapped a pool of steadily growing revenues and – more importantly – a lucrative place in the international division of labor, which could become instrumental in getting a worthy position in the nascent world order of the 21st century.

Yet Russia failed to choose the correct tone that would facilitate building a steady system of mutually beneficial barter relations (energy resources for technologies and access to mineral wealth for access to markets). This is due in no small degree to major changes in the global situation that occurred after Putin’s election as president. The international environment has become far less stable and predictable and general nervousness has grown. The U.S. campaign to democratize the Middle East that was meant – among other things – to enhance the developed world’s energy security, has failed. Meanwhile, the era of sky-rocketing oil prices that began in 2003-2004 is fueling Moscow’s sense of importance and success, while simultaneously breeding an overblown and often irrational phobia of energy resource dependence in the West – above all, in Europe.

Nonetheless, today’s global economy – largely based on the growing consumption of hydrocarbons – has its own implacable reality. Energy market players will either have to make arrangements among themselves or learn how to live without each other. The latter option requires a markedly innovative leap – the West should drastically reduce its consumption of energy and switch to alternative sources of energy, while Russia needs to extensively diversify its economy away from a predominant orientation toward the export of raw materials. However, no prerequisites for such radical breakthroughs are in sight yet, and so talks and further compromises are thus far only mandatory elements of the agenda of a global political dialog between Russia and the West.

The scope of world market players includes major and fast growing importers of resources, such as China and India, and regions where gas imports are gradually increasing – like North America and Europe. It also comprises exporters: those that have no claims to a sizable increase in the internal consumption of resources – like the Middle East and Russia – falling into the group of major exporters. But Russia, too, faces the task of a profound industrial modernization that may bring changes to its energy balance and stimulate a growth in the domestic consumption of energy. For instance, the implementation of plans for the mass construction of new power generation facilities will require huge amounts of natural gas to fuel power generators, while currently the country is short of resources to meet the demand for fuel at a handful of new medium-sized installations.

The risk of Russia turning into a net importer of energy looks theoretical now, but it cannot be ruled out that Russia will find itself in the future unable to meet the ever-growing demands of foreign customers. In this light, the fears of Western consumers that they will be left with nothing after the slices of Russia’s “resource pie” are doled out do not look paranoid, even though they are overstated.

A HOPEFUL BEGINNING

Until recently, the idea of an equitable dialog between Russia and its Western partners looked like little more than a tribute to diplomatic politeness. It was difficult to imagine that a country that had just lost an ideological and economic race and had veered off the track of political and economic transformation might start claiming the same status as the winners. Nonetheless, by the middle of Putin’s presidency, Moscow felt that it was mature enough – both morally and materially – for talking to the West on conditions of parity. The process of national rehabilitation was fostered by a factor typical for countries rich in resources; namely, the hike in world prices for crude oil and the associated increased value of European contracts for natural gas.

In 1999, when Putin was nominated for prime minister and then as the successor to Boris Yeltsin, a barrel of Brent crude only cost $17.98. It had climbed by as much as $10 per barrel the next year, which was followed by a period of international market volatility, with prices suddenly falling to $24 or then going up to $29. The time of a steady and steep growth in prices only began in 2004, when a barrel of Brent was sold for $38. One record followed another in the next phase. The average annual price rose to $54 in 2005; to $65 in 2006; and then to $72 and higher in 2007. In other words, prices have quadrupled over the past eight years and this trend is not expected to change. The leaps above the psychologically important mark of $100 or even $110 per barrel do not surprise anyone anymore and the next average annual indicator will obviously set one more record.

Export prices for the natural gas that Russia sells to the EU and former Soviet republics also went rampant, soaring to $350 per thousand cubic meters in the first quarter of 2008 from $64 in 1999. Gazprom’s gross revenue shot up to $38 billion in 2007 (as assessed by experts) from $6.8 billion in 1999.

The market frenzy was coupled with a tax reform in the oil industry that ensured the maximum imaginable skimming of excessive profits to the state budget and with an overhauling of property in favor of state-controlled corporations, thus imparting a new quality to the Kremlin’s foreign policy. This policy aims to streamline bilateral investments providing for an equivalent exchange of assets and support of a technological modernization of the Russian economy. However, the West demonstrated an apparent lack of readiness to accept this change in Russia’s conduct, viewing it as “energy blackmail” rather than an invitation for civilized bargaining.

This turnaround did not take place overnight. Putin’s first term saw the unfolding of an energy dialog with the U.S. and discussions of cooperation with Europe were more fruitful than ever before or afterwards, and even with reciprocal concessions. Gazprom agreed to eliminate the ban on the reselling of Russian gas from agreements with European customers, and the European Commission acknowledged the inviolability of those long-term agreements, even though this change did not match Brussels’ drive for the liberalization of the gas market. It should be noted, though, that the liberalization has triggered stern resistance on the part of corporations inside the EU.

The green light for an energy dialog with the U.S. was given in spring 2002 during a visit by U.S. President George W. Bush to Moscow. In the rising tide of cooperation in the format of the international antiterrorist coalition, the parties started mulling over new projects for creating an infrastructure for Russian crude exports to the U.S. Sometime later, an idea surfaced on producing liquefied natural gas for target supplies to the North American market.

While the energy dialog with the U.S. was largely based on political willingness rather than objective prerequisites, the European sector of cooperation was expected to bring real practice results. In 2000, Romano Prodi, then President of the European Commission, initiated the ‘Russia-EU Energy Dialogue’ which discussed a sizable increase in Russian energy exports to the EU in exchange for investment and technology.

The political environment for Russian investment in the oil and gas sector was advantageous at that time. British Petroleum was allowed to pool its oil and gas assets with shareholders of Russian oil company TNK and thus set up the Russian oil industry’s first-ever private oil major co-owned by foreign shareholders. At the same time, ConocoPhillips received permission to get a big stake in Lukoil.

The same period saw the Kremlin’s broad “easygoingness” in international politics, and this could be seen in the energy sector, too. For instance, Moscow did not react sharply when Turkey and Poland started pressing for a reduction in the amounts of gas they were supposed to take from storage facilities under long-term agreements.

BROAD JUMPS

This was a short-lived honeymoon though. In the middle of the 2000s, Russia and the West glaringly showed the futility of the conviction that policymaking has economic propellants. The level of political trust began to noticeably deteriorate – partly due to subjective factors, partly due to the growth of destabilizing tendencies in international relations.

Moscow became growingly aware of its capabilities in a new world of increasingly expensive oil where all the big powers are obsessed with the idea of energy security. This is how the idea arose of swapping energy sector assets, and offers were made to Western partners to pay for access to the development of Russian deposits with things much more precious than money – with their own markets and technology.

“If you have strong legs, you’d better engage in broad jumps rather than play chess; but if you have a big head, then chess might be better for you. So when we speak about high technologies and so on, we somehow forget to say where we’ll get them from,” the Kremlin ideologist Vladislav Surkov said in February 2006 as he explained the Kremlin’s economic policy in plain language to members of the United Russia party. Surkov pointed to the importance of “using our competitive advantages and developing them. [...] Russia’s concept of an energy superpower stands in line with this approach. Russia must get access to high technologies by exporting gas, crude oil and oil products,” Surkov said.

Gradually, the idea of such swaps took the form of scorn toward oil and gas revenues – naturally, from the angle of ideology, not budgetary policies. “We must not only think of how much money we can draw from it – because money is just paper. We’re dealing with global money issuing centers, aren’t we? Do the Americans really care for that money? They’ll ‘draw’ as much of that money as they want. What we need is knowledge, novel technologies,” Surkov said. About a year and a half later, Vladimir Putin said at his annual major press conference: “Offer us adequate assets in return. And if you think about money, no one needs those scraps any more, and this is our honest and open position.”

However, this “honest and open” position did not produce a response from the Western partners, either in 2006 or in 2008, and Moscow started readjusting it step by step. In 2005 and 2006, the government worked intensely on a new version of the Law on Mineral Resources aimed at tightening the terms for access by foreign investors to Russia’s mineral wealth by sealing off the largest or “strategic” deposits. The bill is still only on paper. Meanwhile, the idea of protectionism in the “strategic branches” of the economy is gaining popularity all over the world, including in countries that formerly took pride in their commitment to the principles of free trade.

When Russia declared energy security as its motto during its rotating presidency in the G8, it became clear that this was meant to demonstrate Russia’s relationship with the rest of the club and not the club’s relationship with the rest of the world. In late 2005, Putin chaired a meeting of Russia’s Security Council to discuss this country’s role in ensuring international energy security. He spoke in detail about the importance of joint efforts to provide traditional types of fuel for the world economy, as well as the diversification and reliability of resource supplies, including protecting them against the terrorist threat.

Yet at the same time, the government was preparing for an operation destined to show the essence of Russia’s presidency in the G8. On January 1, 2006, following a conflict with Ukraine over gas prices, Gazprom slashed gas supplies to Kyiv. The step – extremely awkward in terms of the propaganda that accompanied it – produced a far more turbulent reaction in the West than the Security Council’s decisions. Even though none of the Western customers experienced any serious problems with gas supplies and no one made claims against the seller’s right to demand that customers pay market prices, any discussions of any kind of joint efforts in energy security lost all practical sense.

The image of Russia in the minds of the European public immediately changed from “a reliable energy supplier” to “an energy gendarme,” while Gazprom got the image of “the Kremlin’s energy weapon.” Accusing Moscow of politicizing the energy business, the West also armed itself with an exclusively political approach. The climax of that approach could be seen on the sidelines of a NATO summit in Riga in December 2006 where voices could be heard that energy disputes with NATO member-states should be considered as an aggression requiring a unified response.

As for a Russian-German strategic agreement on the construction of the Nord Stream gas pipeline – which the two countries had formalized shortly before the Russia-Ukraine price conflict and which had been viewed as a harbinger of new relations in the energy sector in Greater Europe – it turned into a pretext for consolidation for all the adversaries of a rapprochement with Moscow that could come across inside the EU.

THE ENERGY FIST

Brussels developed an idee fixe to goad Russia into fulfilling the requirements of the Energy Charter. An agreement appended with the Charter and signed back in the mid-1990s was called upon to cement the principles for protection of Western investments in the production and transportation of hydrocarbons and the guarantees on the part of transit countries, which had emerged in large number after the breakup of the Soviet Union, in the territory separating the regions of production – Russia and Central Asia – and the regions of consumption – fifteen member-states of the then EU. Importantly, some provisions of the agreement did not cover the territory of the EU, which means its ratification did not imply a most favored partner status for Russian investors.

The gas conflict with Ukraine and Kyiv’s siphoning off of European-bound gas from pipelines confirmed that joining the agreement (Ukraine had ratified it) would not offer an efficacious mechanism of control over transit commitments. As Russia refused to accept the regulations specified in the Energy Charter, Brussels started speaking about the European Commission’s right to allow investment in the EU’s hydrocarbon transportation infrastructures (i.e., pipeline networks and underground storage facilities) only on the basis of special cooperation agreements.

Moscow stood firm and did not cede an inch of its political position to the Europeans, which was a matter of principle. Vladimir Putin summed up the gist of the situation at a Russia-EU summit in Sochi in May 2006, just a few weeks before the G8 summit conference in St. Petersburg. “When we speak about our full-fledged joining of the Energy Charter and the supplementary protocol on transits, what are those documents about, in fact? They are about free access to the infrastructure of hydrocarbon production and the infrastructure of transportation. OK, suppose you get that access to those infrastructures, and what do we get in return? And we hear from our partners: You get the same. And I’ve already said earlier: Where do you have the deposits that you’ll let us get to? Or where do you have gas-main lines of the kind that Gazprom boasts of having? There are none. That’s why we don’t object to doing this in the future. But we must understand what we’ll get in return. That’s easy to understand if you remember your childhood. You go out of the house into the street holding a piece of candy in your hand and someone comes over to you and says: Well, give me your candy. And you hold it tight in your sweaty fist and tell him: And what do I get for this? So we just want to know what they are going to give us in return. And suppose they don’t have anything adequate?”

The image of a greedy kid squeezing a piece of candy in his sweaty little fist did not puzzle Putin when he cited it as a model of conduct for a great country. More than that, almost simultaneously with the St. Petersburg summit, the authorities tightened their energy fist. In early July 2006, the Russian parliament passed a federal law on gas exports, which granted Gazprom – the owner of the gas supplies system – “the exclusive right to export gas.” Putin signed the bill into law almost immediately after the participants in the summit had left St. Petersburg.

It is not surprising therefore that the G8 conference produced unpretentious results. Russia came to the conference table waving a slogan that said: “Egotism in energy leads to a dead end.” This understandably meant the customers’ egotism. But while it looked quite suitable in a program article that Putin timed for the start of Russia’s presidency in the G8, no one felt like undersigning it in the summit’s final declaration.

The only thing that Moscow managed to push through at the summit was to formalize on paper “the promotion of a dialog and exchange of opinions between all the parties concerned on the problems related to a growing interdependence in the energy sector and security of supply and demand” as a major global objective of energy security. The concept of a ‘secure supply and demand’ proceeded from the assumption that the exporter of energy resources, i.e., Russia, must have the confidence that its investment in the upstream segment will not be wasted and the resources will be in demand. Moscow obviously believed that the European policy of secure demand should have made itself manifest in a renunciation of the idee fixe to diversify the sources of fuel. Europe, too, wanted to make Russia give up diversification – in terms of markets.

EQUIVOCAL RESULTS

Moscow’s energy diplomacy in the first years of the 21st century cannot be given a clear assessment.

On the one hand, other countries have begun to treat Russia seriously and have stopped calling into question its right to a tough defense of its national interests – including those in the energy sector. In spite of the excesses that could have been avoided and the inconsistency stemming from political considerations, the system of energy relations with other post-Soviet states has become more rational and transparent than it was five to seven years ago. There has been no quality breakthrough, but Russian companies now have a stronger foothold in the world market.

On the other hand, the atmosphere of energy relations has deteriorated; it does not help to attain the goals that the Russian government set for itself at the very start of the new century. The sweeping politicization of energy issues, fuelled by both suppliers and consumers, also destroys the foundations of the market and pushes its participants toward the logic of conduct standing far apart from the economy. A rather limited inventory of foreign policy tools – military and political influence, information opportunities and ‘soft power’ that are weaker than Western ones – has compelled Moscow to focus more on energy levers – a fact that whipped up nervousness among Western partners and heightened counteraction to Russian initiatives. For instance, the EU got down to formalizing political restrictions in 2007 on investing in the energy sector on the part of foreign state-controlled corporations.

A campaign to raise prices for Gazprom’s clients in the CIS has ended up with the logical result – ultimatums by Turkmenistan, Uzbekistan and Kazakhstan, which also demanded European prices for gas supplies to Russia. On the whole, there has been a hike in the political contest for the sources of hydrocarbons and delivery routes.

A search for a balance of interests between suppliers and consumers of energy resources will be the central tenant of global – and especially European – policies in the foreseeable future. The mutual rejection of politicized decisions in energy relations might lay the foundation for a responsible conduct typical of genuine partnerships.

What distinctive features could this conduct have?

First, the reliable fulfillment of commitments. In the past few years, Gazprom has extended agreements with its major European customers – Germany, Austria, the Czech Republic, Italy, France and others – for another fifteen to twenty years, and this is an encouraging factor.

Second, the development of transport infrastructure. Whatever the criticism the Nord Stream and South Stream projects received from some countries, they certainly play a positive role in supplies to the European market. Those who are worried about possible energy dependence on Russia should remember the cost of these pipelines, which is too high to think about using them as an “energy weapon.” Europe should look at the economic logic as it seeks to diversify its sources of natural gas and to choose alternative pipeline routes. This would be less expensive.

Third, it is high time Russia formulate the rules of the game on its own energy market and in the sphere of access to mineral resources. Even if these rules set tough conditions for foreign investors, the very availability of clear legal regulations will become a factor of stability and predictability.

Fourth, politicians in Russia, Europe and the U.S. should discuss and resolve energy problems with a sober mind, avoiding mythical threats or breeding mutual mistrust and blackmail. In this sense, Moscow would be wise to give up speculations on creating “a gas OPEC.”

Finally, the Russian authorities should persistently implement the plans for innovative economic development that were formulated at the beginning of 2008 in a concept of the country’s development to 2020. If one uses Vladislav Surkov’s phraseology, they are called upon not only to “coach” the Russian economy in “broad jumps,” but also to teach it how to be a fairly good chess player. The implementation of those plans would, in the end, reduce the pressure that domestic demand exerts on the energy balance and, consequently, would facilitate the stabilization of the entire European market.