13.10.2006
Assessing Russia’s Energy Doctrine
№4 2006 October/ December



In order to adequately assess the
global energy market it is essential to understand that the rise in
energy prices, which began in the spring of 1999, has some very
basic causes. However, this price increase cannot continue
forever. 

 

“ENERGY HOLIDAYS”

 

In addition to current market
fluctuations, high energy prices reflect a general shortage of
energy that, given the current rates of development, could confront
mankind in the next 10 to 15 years.

 

However, a global energy shortage is
not an inevitable scenario even with the existing level of
extracting technology. For example, the United States and Canada
can immediately begin developing the tar sands in Alberta, an
operation that is profitable even when the price of oil is at $30
per barrel. 

 

Nevertheless, the United States and
Canada have yet to take advantage of this opportunity, while the
world is not using alternative energy sources (above all, biomass
technologies) on a large scale.

 

The reason for this is simple. On the
one hand, expensive oil brings super-profits to the global oil and
gas corporations, primarily in the U.S., as well as to influential
Arab countries. Naturally, these parties are interested in impeding
the development of alternative technologies, not least through
intellectual property protection mechanisms that have long turned
into mechanisms for protecting monopolistic abuses.

 

On the other hand, high oil prices
act as a deterrent against strategic rivals of the U.S. – the EU,
Japan, and most importantly, China. But unlike these countries, the
U.S. not only has its own substantial oil deposits (which serve as
a kind of strategic reserves), it is also the issuer of the world’s
reserve currency that serves, among other things, the world energy
market.

 

Today, high energy prices, together
with its global monopolies, are about the only instruments of the
U.S. administration for containing their main strategic rival,
China. It seems that the aggravation of the Near East crisis and
its spillover into the Middle East is also conducive to this
goal.

 

Israel’s invasion of Lebanon looks
like a classic operation to preemptively destroy the infrastructure
of an insurgent movement. But since this movement arose as a result
of socio-economic and demographic factors, its infrastructure will
soon be restored; its destruction will make sense only in the event
of some global developments that could dramatically invigorate the
battered movement.

 

Therefore, the war against Hamas and
Hezbollah – and anybody else who happened to be in the wrong place
at the wrong time – which Israel started in Lebanon, shows that the
situation in the Near East is bound to intensify in the fall of
2006. In this scenario, the U.S. could possibly launch an air
strike against Iran in an effort to wipe out its nuclear
program.

 

Apart from the obvious internal and
external political dividends for the governments of the two
countries, such a hypothetical strike would drive oil prices even
higher – to about $100 per barrel for Brent crude. Needless to say,
the blockade of the Strait of Hormuz would be purely symbolic,
given the U.S. Sixth Fleet specially built to deal with such
threats. In the event of higher oil prices, the global financial
system would certainly not collapse, although it could be shaken,
while the impact on the global economy would be rather
painful.

 

First, higher oil prices would
aggravate economic stagnation in the EU and Japan, accompanied by
the scaling down of social guarantees, declining production (in the
developed EU member countries), and an escalation of ethnic and
communal conflicts.

 

China’s development will also slow
down, but it will not be destabilized because last year it shifted
the focus of state policy from encouraging private enterprise to
promoting social justice and closing the income gap, which will
have a positive impact on the stability of Chinese society. Another
factor to be reckoned with here is the Spartan discipline of the
Chinese and their ability to live amid an acute shortage of mineral
resources, including energy and water.

 

Furthermore, in the past few years,
China has been successfully implementing a global energy strategy
that has already produced tangible results. In particular, by
renouncing the exploitation of African territories in favor of
their comprehensive development, Chinese companies have put the
squeeze on multinational monopolies on their own turf, including
Nigeria. Meanwhile, this year Angola has become China’s largest
supplier of oil, ahead of Saudi Arabia. Therefore, although higher
oil prices could create problems for the Chinese economy, they will
not cause its collapse.

 

The most significant consequences of
higher oil prices will be relatively unexpected. These will include
a change in the organizational principles of the global energy
markets, involving a transition from their liberal to a more
segmented structure. In this case, the energy majors will sell
energy resources primarily to their privileged consumers, while
supplying energy to the open, liberalized market on the leftover
principle.

 

This type of segmentation has
traditionally been a fundamental approach of U.S. strategy
planners, while in 2000-2002 it also became the core of China’s
global policy. A new spike in energy prices could precipitate the
extension of this approach to the practical organization of
specific global markets. The key to energy market segmentation will
be the strategic choice that Kazakhstan – the real heartland of the
Eurasian continent – will have to make between Western and Chinese
consumers on the one hand, and energy transit routes through Russia
on the other.

 

Rising oil prices will make liquefied
natural gas (LNG) more affordable, thereby expediting the
development of the LNG market. By unfastening the gas market from
capital-intensive gas pipelines, LNG development will precipitate
not only the liberalization of the existing regional gas markets
(above all the European market), but also their gradual integration
into a single global gas market where long-term supplies through
gas pipelines will first be supplemented by LNG supplies, and then
limited to them.

 

Paradoxically, this liberalization
and formation of a global market will not destroy the general
segmentation of global energy markets, but will conveniently fit
into them. Global political barriers will to a very large degree
neutralize the consequences of gas market liberalization, while LNG
will be sold primarily to strategic, friendly consumers – in the
same way as oil and oil products are today.

 

Segmentation of the global energy
market will intensify through the nationalization of the oil and
gas sector in less developed and developing countries; this process
will further increase by the transfer of oil and gas deposits under
the control of Western monopolies to national state control.
Obviously, this will deal a crippling blow to global monopolies in
the developed countries – not only because they will lose some of
their existing resources, but also because they will lose the
prospect of further expanding their spheres of influence and
operation. Since stock markets are more oriented toward the actual
status of real prospects as opposed to business per se, the loss of
prospects will in the short term deal a harsh blow against global
energy monopolies.

 

Technological progress is yet another
factor that will create even more serious problems for the global
monopolies.

 

Although the segmentation of global
energy markets will alleviate China’s situation, it will definitely
not resolve all of its problems (at the same time, segmentation
will seriously exacerbate problems for the EU and Japan). As a
result, it will intensify the search for energy saving
technologies, as well as for new energy sources.

 

In principle, the existing
technologies are sufficient for allowing the global economy to
become much less dependent on oil and gas, but it is quite possible
that new, more effective solutions are yet to be discovered. The
problem is that global monopolies and certain energy-exporting
countries are hindering the growth of such technologies.
Nevertheless, growing energy prices will increase the need for
reducing energy dependence to such an extent that it will serve to
remove the existing constraints and ensure the rapid development of
super-productive technologies that have the potential to destroy
the global monopolies.

 

The principal outcome of such a
scenario will be a dramatic fall in energy prices. By 2020, mankind
will possibly enter an era of “energy surplus” that would herald in
a fundamentally new world order.

 

Once again, this development seems to
be the most beneficial for China, which has the best chances of
emerging as a technology powerhouse. As far as Russia is concerned,
it is important to remember that the remarkably favorable external
conditions for its rapid economic development, which are directly
related to high energy prices, will not last forever.

 

On the one hand, the unprecedented
growth of energy prices (which began in mid-1999) will continue in
the foreseeable future, thus making Russian oil, gas, and coal go
from being commercial commodities to strategic and geopolitical
assets. On the other hand, it would be utterly reckless and
irresponsible to expect that this price growth will continue in the
long term. It would be reasonable to act on the assumption that the
“energy holiday” that Russia is now enjoying will continue for no
more than another decade.

 

This assumption requires a drastic
review of the principles and mechanisms of using energy
resources.

 

Before we begin this topic, it is
important to understand that the attacks on Yugoslavia in 1999 and
Iraq in 2003 by the U.S. and its allies essentially destroyed
international law as it had been organized in the past, turning it
into little more than a cover for the use of brutal force.
Therefore, in order to secure the necessary level of defense
capabilities (including in the information sphere), Russia should
respond to U.S. military strength with its energy strength.

 

The elaboration and implementation of
a fundamentally new Energy Doctrine of Russia, presently impeded by
Russia’s deplorable condition and the ongoing degradation of its
statehood, makes this a pressing need.

 

RESTORING ENERGY SOVEREIGNTY

 

The most critical step for Russia is
to resolutely denounce the colonial-style agreements with the
global monopolies that were signed in the first half of the 1990s,
which either directly violate Russian laws (e.g., the Caspian Pipe
Consortium) or cause unacceptable damage to Russia. The latter
include production-sharing agreements (PCA) whereby foreign
investors receive almost all the profits from Russian oil and
natural gas. Meanwhile, Russia not only fully compensates their
overblown production costs, but owes them money as well.

 

A legal basis for annulling these
agreements is possible through a careful and impartial examination
of the circumstances that led to their adoption: e.g., if any
illegal motives for these agreements are exposed (it is difficult
to imagine any other reason for signing such disadvantageous
agreements, even amid the general chaos of the first half of the
1990s), under international law, this will provide sufficient
grounds for deeming these agreements null and void.

 

On the legislative level,
production-sharing agreements with strategic competitors should be
banned as a colonial method of developing Russia’s mineral
resources. Such agreements are utterly unacceptable to
Russia.

 

In developing natural resources,
priority should be given to Russian capital, both private and
state-controlled. Russia has enough money to implement projects on
any scale independently; foreign companies should only be allowed
into the country as providers of technological know-how that is
unavailable in Russia and, as far as possible, on the condition of
its transfer to Russia.

 

Russia should focus on attracting
advanced technology, above all on the level of individual
specialists and teams; should this prove unfeasible, then the state
must attract specialized firms working on specific technological
tasks (including the development of investment projects). As a last
resort, when the development of a particular energy deposit in
Russia proves difficult, foreign capital may be tapped as part of a
managing company for an associated investment project.

 

Still, all projects must remain under
state control. Major pipelines, for example, due to their strategic
importance, must remain the exclusive property of the state or
companies where the state holds at least 75 percent +1
share. 

 

Access to pipelines should be equal
and free for all Russian state and private entities, but foreign
capital, as Russia’s strategic competitor, must not have access to
these objects. The EU’s perseverance in attempting to deprive
Russia of its natural competitive advantage (which was created
through the efforts of several generations of Soviet people), not
least by forcing it to accede to the Energy Charter Treaty, which
ensures free access to our pipeline system for everybody, is
reminiscent of the aspiration by the most rabid revolutionaries of
the early 20th century to “nationalize” women.

 

HARMONIZING
BUSINESS 
AND SOCIAL
INTERESTS

 

The second most important strategic
goal for modern Russia is to strike a balance between the interests
of business and society. The experience of the more developed
countries proves that the most effective method for achieving this
goal is to divide the said interests on a regional basis.

 

The production and export of raw
materials (above all energy), which generates super-profits, should
be aimed primarily at meeting Russia’s public interests. This
sector should, therefore, be controlled either by state-owned
companies or by Russian private capital under close state
supervision.

 

Meanwhile, private business should
channel its commercial enterprise and robust aggressiveness not
toward Russian citizens, who in fact need protection against
unscrupulous business operators, but toward neighboring countries,
primarily in the post-Soviet space. This region should be
completely controlled by Russian business, at least in the
strategic energy sector.

 

Each ton of oil and each cubic meter
of natural gas produced in the post-Soviet area (not to mention in
Russia itself) by any company with a significant share of foreign
capital (let alone foreign companies) is a disgrace for Russia,
humiliating its national interests and damaging its economic and
political sovereignty.

 

Objectively, Russia’s strategic goal
is to gain full control over the gas and oil pipeline network
across the post-Soviet space. Presently, the main priority of
Russia’s energy strategy should be to block – at any cost and by
any means – the implementation of a gas pipeline project from
Kazakhstan to Turkey bypassing Russia, as well as all other
projects that threaten to cut Russia off from vital gas sources in
Turkmenistan and Uzbekistan. It is necessary to devise and
implement measures to ensure that the very idea of such projects is
taboo for all elites without exception, be it in Central Asia or in
the rest of the world.

 

The state should organize, direct,
and promote the expansion of private Russian business into foreign
countries. The basic principle of this expansion should be the
provision of relatively cheap Russian energy resources in exchange
for strategic assets in these countries. The most natural and
practical mechanism of this expansion should be the pro-Russian
lobbies created with the assistance of “energy money.” However,
this should not entail, of course, any form of energy blackmail,
not to mention the counterproductive “gas wars” and other conflicts
that are downright destructive for Russia.

 

Due to the high level of
protectionism in the developed countries, together with the density
of their political space, the development of strategic Russian
businesses there is only possible on a rather limited scale.
Therefore, it should be aimed at boosting revenues by increasing
the share of downstream operations and better meeting consumer
demand.

 

A top priority in the foreseeable
future is Gazprom’s penetration into the EU countries’ distribution
networks. The setbacks that Russia suffered in the EU in 2006
should not discourage this goal, but rather compel the state to
move in this direction.

 

An effective tool for interacting
with the EU in the energy sphere involves the potential partial
redistribution of Russia’s exports to the East. The first try along
this strategy was Russia’s preparedness to rechannel 28 million
tons of oil a year – now supplied from Western Siberia to Western
Europe – to the Pacific oil pipeline, with a simultaneous increase
of supplies under the substitution program of the Caspian Pipeline
Consortium. However, in the future such substitution programs
should be first considered by the customer countries (as opposed to
the supplier) as the most interested parties.

 

In Russia’s global competition with
major energy importing countries, its important strategic assets
involve the strengthening of relations with Iran, Kazakhstan, and
China. It is also important to create a formal association that
would finalize the segmentation of the global energy market. In
this context, Russia’s bargaining chip with the West should not be
the redistribution of energy supplies per se, but rather the speed
and the degree to which the interests of Western consumers will be
taken into account. Should they renounce long-term contracts
(especially gas contracts with the EU), Russia must be prepared to
reorient supplies toward more cooperative EU clients, as well as
China.

 

Aside from the UK and Germany,
Gazprom’s priority targets in accessing the European distribution
networks should be through the Netherlands (as a gateway to France,
which remains off limits to access as a distribution network due to
protectionism), Italy, and Greece.

 

RESTRUCTURING RUSSIA’S ENERGY SECTOR

 

An effective way of restructuring
Russia’s energy sector is by increasing the share of its downstream
operations. In 2005, Russia’s energy companies suddenly began to
substitute the export of crude by rail with the export of petroleum
products: the former fell 5 percent, while the latter rose 16
percent. This trend should be formalized by state policy whereby
Russia expedites the construction of oil refineries to end the
export of crude by rail and tanker shipment, replacing it with the
export of petroleum products.

 

It is essential for Russia to
thoroughly develop its oil, gas and coal chemistry industry in
order to substitute crude exports with the more profitable export
of refined products.

 

The intensive development of the fuel
and energy sector does not eliminate the need for developing new
deposits, primarily on the Yamal Peninsula (in West Siberia), and
expanding geological prospecting, to ensure sustainable development
of the fuel and energy complex in the long term.

 

It is vital for Russia to initiate
large-scale energy economizing, and this cannot be done without
systemic efforts by the state. For example, losses in the housing
and utilities sector can only be reduced through its technological
modernization, financial and economic prosperity, and the
elimination of monopoly abuses.

 

Development of the electric power
industry should be based on technological effectiveness, as opposed
to trying to squeeze the maximum possible profit from separate
sectors of the unified energy system. Such a strategy only leads to
its general degradation. Priorities for ensuring the success of
this program include: stimulating the use of cheaper energy that is
generated by the hydropower stations (today, preference is being
given to the consumption of more expensive energy generated by
thermal power plants, which increases the domestic consumption of
natural gas that is a valuable export product), and restoring the
so-called energy bridges with hydropower stations in
Siberia.

 

This requires an in-depth analysis of
the export obligations that have been assumed not only by Russia as
a state but also by all of its companies, including private
entities. These obligations should correspond with the actual
capabilities of Russia’s fuel and energy complex. Without this,
Russia’s export obligations would have to be met at the expense of
supplies to the domestic market and even at the risk of
destabilizing the national economy. A forewarning of this scenario
happened in the summer of 2006, when electric power stations in
some parts of Russia experienced serious shortages of natural gas
supplies.

 

Domestic energy prices should be
linked to level of living standards in Russia, as opposed to the
most developed countries of the world (which reflect world prices).
Energy prices should only be increased if living standards increase
commensurably – not just the living standards of the richest 12-15
percent of the population, as has been the case recently, but of
the entire population, above all the lower income groups.

 

Obligations to increase domestic gas
prices, which Russia assumed in the course of its negotiations with
the EU on the accession to the WTO under pressure from the Russian
gas lobby (and formalized in the Energy Strategy until 2020),
should be immediately renounced as damaging to the nation’s
competitiveness. There are many formal grounds for breaching this
agreement, such as America’s obstructionist position to Russia’s
WTO accession, the EU’s de facto withdrawal of consent to Russia’s
membership in the WTO, and the unilateral advancement of new
demands that were not discussed earlier – specifically, free
flights over Siberia and ratification of the Energy Charter
Treaty.

 

Even in the event that these issues
are resolved, maintaining the competitiveness of the Russian
economy should take precedence over the interests of Russia’s
strategic competitors.

 

One way to ensure the competitiveness
of the Russian economy is to demand that contracts for the export
of energy and other raw materials are negotiated in rubles. This is
a strategic goal that will not simply enhance the country’s
importance in the global economy, but will also transform the
global financial and economic system in Russia’s national
interests. Finally, such a move will create prerequisites for
making the ruble a world reserve currency.

 

Another step toward greater Russian
competitiveness in the global economy is to ensure that profits
from the export of raw materials be channeled into modernizing the
country – reviving its managerial, human and productive capital on
a fundamentally advanced technological basis.

 

The comprehensive modernization of
the many diverse elements that make up the Russian economy is vital
because it is dangerous to depend on increasing revenues from the
export of raw materials. Incidentally, the subsequent change in the
balance of global financial flows in Russia’s favor will cause the
developed countries to attempt to restore the status quo – i.e., to
continue exploiting Russia’s mineral wealth – through the use of
force.

 

In conclusion, Russia’s modernization
is crucial for guaranteeing the country’s defense capabilities and
safety of its leadership. Concurrently, these guarantees are an
indispensable precondition for the successful implementation of the
aforementioned Energy Doctrine.