Milov Nov30 2006

The future of Russian energy policy: 

The future of Russian energy policy Vladimir Milov President, Institute of Energy Policy (Moscow) http://www.energypolicy.ru The Brookings Institution Washington, D.C., November 30th, 2006

The present: the ‘Two Russias’ from the economic point of view: 

The present: the ‘Two Russias’ from the economic point of view Data: 2004. Sources: *EBRD Transition Report 2006; ** Rosstat *** Including Russian private and foreign owned enterprises; excluding mixed ownership enterprises

The ‘Two Russias’ in the energy sector: private versus public: 

The ‘Two Russias’ in the energy sector: private versus public Average annual physical output growth rates in 2000-2005, % Source: Rosstat, CDU TEK, RAO UES, Rosenergoatom, Gazprom, BP * Natural gas production only ** Rosneft net of Yuganskneftegaz, Tatneft, Bashneft, Gazprom (oil production only)

Power and gas supply shortages in public energy sector: energy weakness of the ‘energy superpower’: 

Power and gas supply shortages in public energy sector: energy weakness of the ‘energy superpower’ Gas supply cuts to Russian power stations during cold temperatures of January-February 2006, % of contractual supply volumes Power capacity cuts to consumers by RAO UES during cold temperatures of January-February 2006, MW Source: RAO UES

Shift in Government’s policy agenda in 2000-2006: 

Shift in Government’s policy agenda in 2000-2006

Recent developments: least efficient public sector expands at the expense of more efficient private sector: 

Recent developments: least efficient public sector expands at the expense of more efficient private sector Source: Oil & Capital; * estimate Today Tomorrow? Who’s next and when? Yukos? TNK-BP? Surgutneftegaz? Structure of Russian crude oil output by ownership type

Why change?: 

Why change? Average Urals price in various periods of modern history, USD/bbl (money of the day) Source: The Wall Street Journal

The consequences of policy shift: increased risks, market bubble instead of modernization: 

The consequences of policy shift: increased risks, market bubble instead of modernization Source: The World Bank, EBRD Where Russian market players prefer to invest: fixed capital formation vs. acquisition of shares

How the success of the Russian privatization is misunderstood in the West: 

How the success of the Russian privatization is misunderstood in the West “Russian oligarchs did nothing but send all the money they could outside the country’. Dr. Marshall Goldman, Davis Center for Russian and Eurasian Studies, Harvard University From a letter to the Editor of the ‘Foreign Policy’ magazine, March/April 2006 DID THEY REALLY ? Photo: Rose Lincoln

Capital investments by the Russian private oil companies in 1999-2004: 

Capital investments by the Russian private oil companies in 1999-2004 CUMULATIVE USD 39.5bn IN 6 YEARS IS NOT A BAD RESULT AT ALL... Source: Rosstat

Was the impressive oil production growth in 2000-2005 ‘picking of a low-hanging fruit’ or a result of large scale investment?: 

Was the impressive oil production growth in 2000-2005 ‘picking of a low-hanging fruit’ or a result of large scale investment? Source: Rosstat Some performance indicators of the Russian oil industry, 1995-2004

Russian privatization of large industries was unfair and corrupt.But, it had helped to establish competitive private sector, and promote efficiency and development.The achieved oil output growth was the result of large scale investment and improved productivity, not of the ‘low hanging fruit’ picking: 

Russian privatization of large industries was unfair and corrupt. But, it had helped to establish competitive private sector, and promote efficiency and development. The achieved oil output growth was the result of large scale investment and improved productivity, not of the ‘low hanging fruit’ picking

Oil & gas: picture of stagnation and tough struggle of the efficient private sector for survival: 

Oil & gas: picture of stagnation and tough struggle of the efficient private sector for survival Asset redistribution in favor of the state-affiliated companies in oil and independent gas producer sectors contains growth In oil, production stagnates; in gas, it is about to start to severely decline The potential of growth is there, but this is contained by state’s policies and market expansion of the state-affiliated companies

Oil: no room for optimism on future crude output: 

Oil: no room for optimism on future crude output Source: Oil & Capital, CDU TEK Average daily crude oil output in Russia, 2003-2006

Companies affected by ownership changes were the leaders of output decline in 2004-2006: 

Companies affected by ownership changes were the leaders of output decline in 2004-2006 Source: Oil & Capital, CDU TEK Change of daily crude oil output, August 2006 as % to September 2004

Gas: stagnation in upstream continues: 

Gas: stagnation in upstream continues Source: Institute of Energy Policy

Will Gazprom invest more if domestic prices rise?: 

Will Gazprom invest more if domestic prices rise? Source: Institute of Energy Policy, Gazprom data. * - Gazprom estimate of 2002 Cumulative capital investment by Gazprom in 2000-2006, USD bn (money of the day) Who’s next? Mosenergo? Yukos? TNK-BP? Centrica? RWE? Scottish Power?

In the monopoly environment and under strong state protection, Gazprom will not invest in production development, even if domestic gas prices in Russia will rise substantially.: 

In the monopoly environment and under strong state protection, Gazprom will not invest in production development, even if domestic gas prices in Russia will rise substantially.

Policy towards FDI: ‘protected territory’ tactics: 

Policy towards FDI: ‘protected territory’ tactics Support of market expansion of the state-affiliated companies at the expense of Little tolerance for historic agreements (Sakhalin, Caspian Pipeline Consortium) Active and arbitrary use of regulatory powers (taxation, environmental protection) in order to create market advantages to state-affiliated companies

Sakhalin-2: does environment matter?: 

Sakhalin-2: does environment matter? WHY Government was silent on environmental problems of Sakhalin-2 for years and raised attention only when Gazprom became interested in entering the project at lowest possible cost? WHY revoke environmental permit completely, when most of the environmental damage is curable? WHY environmental approvals were easily issued for far more environmentally damaging projects such as Eastern Siberian oil pipeline route passing by Baikal lake shore? WHY everyone talks about low efficiency of the PSA, but no one is reconsidering it before Gazprom’s project entry? WHY environmental claims and not the actual reconsideration of the PSA? ISN’T Russian Government simply using it’s regulatory powers to help advance market positions of the affiliated companies?

Can Russia build a successful paternalist economy?: 

Can Russia build a successful paternalist economy? Source: Vladimir Milov, ‘Can Russia become an Oil Paradise?’, http://www.carnegieendowment.org/publications/index.cfm?fa=view&id=18500

Shift in budget policies: sharp rise in size of the Government: 

Shift in budget policies: sharp rise in size of the Government Non-interest spending of the Russian federal budget as % to GDP, 2002-2007 Source: Russian federal budget, Russian Ministry of Finance; 2007 - draft budget adopted by State Duma in the third reading

Budget policies become far less cautious, driven by spending appetites: 

Budget policies become far less cautious, driven by spending appetites Urals price forecast used for the Russian federal budget income planning, USD/bbl Source: Russian federal budget, Russian Ministry of Finance

Investment fund spending: extremely inefficient, hardly a federal level infrastructure project: 

Investment fund spending: extremely inefficient, hardly a federal level infrastructure project Source: Russian media Allocation of the Russian Investment Fund expenses as of November 2006, billion USD

Conclusions. The future?...: 

Conclusions. The future?... State policies in the energy sector drive this sector into stagnation and crises Despite warnings, state’s policies become more paternalist and less cautious Increased state’s role in the economy contains growth The safety margin of the Russian economy is much larger than in the 1980s due to market reforms of the 1990s and large role still played by the private sector Paternalist policies have no chance to succeed in terms of significantly increasing per capita GDP But, Russia surely follows the policy path of mid-1980s

Is there a real perspective for Sino-Russian energy relations?: 

Is there a real perspective for Sino-Russian energy relations? Most Chinese energy demand is located in South Eastern areas - land pipelines from Russia no solution Chinese net gas imports will not grow significantly (IEA forecasts 60 bcm by 2030), most of it will be satisfied through LNG Sakhalin-2 LNG is already contracted with other countries There’s a tough situation on price negotiations for supplies through ‘Altai’ pipeline, high costs of the pipeline recently announced Russian authorities are reluctant to Chinese access to significant upstream assets Oil supplies under 2001 agreement (0.6 mbd from 2010) remain the only solid option

Why no possibility of ‘gas OPEC’?: 

Why no possibility of ‘gas OPEC’? Gas is not a globally traded commodity Spare capacity factor does not exist Markets are very fragmented; suppliers are divided between consumer territories Iran, Venezuela are hardly net exporters yet Turkmenistan interests tend to seriously contradict interests of Gazprom Some experts believe a cartel in LNG supplies can appear and exert significant market power over importers (Stern 2006), but not as Russia-Iran-Algeria axis as much as a union of LNG exporters to the Atlantic basin (Qatar-Algeria-Nigeria-Egypt)