January 9, 2009
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Russia Ready to Work on Oil Prices

By RIA Novosti Economic Commentator Oleg Mityaev 

MOSCOW.  Russia's Energy Minister Sergei Shmatko said on September 25 that it is time for Russia to start working on world oil prices.

Russia is the world's second largest oil producing country. But oil prices now depend on two factors: one is whether Saudi Arabia, the largest oil producer in the world, will open or turn off the oil tap, and the other is how world oil market players will behave. The question is, how in this situation the Russian energy minister is going to influence world oil prices and why Russia needs this at the moment?

Both questions have their answers. But first a bit of history to understand the background. After the economic and financial meltdown in the late 1990s, Russia, in the first half of the 2000s, doubled its oil output by tapping the capacities created in the Soviet Union. This sharply improved its economic situation and met demand for the black gold in the consumer countries. While in 1998 oil prices on the world market fell to $10 per barrel, at the beginning of the new century they began to grow steadily owing to an increased global demand and the policies pursued by the OPEC oil cartel, which controls 40% of world oil output. The cartel's countries led by Saudi Arabia began capping their production to push oil prices up.

What is the oil picture now? Despite a slowdown in economic development and in fuel consumption in the United States and Western Europe, and thanks to steadily growing energy demand in China and India, oil prices at the start of the year for the first time broke through the psychological barrier of $100 per barrel and are now keeping above that mark. Market players can push them even higher (up to $150 per barrel, as was the case in July 2008).

The problem is that the oil producing countries have little room for maneuver now. Almost none of them have any unused capacities left, with the exception of Saudi Arabia, which has free oil producing capacities of 2 million barrels per day. Between the mid-1970s and the early 2000s, the average oil prices kept stable around $15 to $30 per barrel, and for that reason a whole generation of oil producers throughout the world did practically nothing to explore or develop new deposits.

In Russia, the situation is very much the same. After its oil sector had tapped the capacities it inherited from the Soviet Union by the mid-2000s, oil production in the country sharply dropped, because new fields were developed at a slow rate. Starting in 2005, the physical output grew by about 2% a year. This year, oil output in Russia will, if anything, slightly decline if only by a few tenths of a percentage point. The good news is that Soviet geologists had been exploring new fields until the end of the 1980s and Russia now has enough large deposits (in East Siberia and the north of European Russia), which can be put to immediate use. But since this is a capital and labor intensive process, Russia can expect in the foreseeable future only a 2% annual increase in oil production (from the current 9.7-9.8 million barrels a day), beginning in 2009.

What then does Energy Minister Shmatko, appointed to his post last May, propose to do in order to increase the Russian say in world oil prices? First to adjust the country's output forecasts. Also, according to Shmatko, an interesting idea would be to mothball new deposits until such a moment when they can be put back into operation within reasonable time. Few if any players on the world market, however, will be surprised to hear that.

That Russia is unlikely to secure any massive rise in output until the middle of the next decade is known in all consumer countries. Its hydrocarbon deposits frozen in the late 1980s and phased out of use are also common knowledge. Nevertheless, Shmatko plans to reveal the new Russian approach to OPEC members at their next meeting on December 17. Russia is not an OPEC member, but it has decided to be more cooperative.

To my mind, the first thing Russia needs to do is to raise oil output to meet rapidly growing domestic demand for fuel both from industry and car owners rather than to maintain oil prices at the windfall level. This can only be achieved by drastically changing the taxation of oil companies. The point is that the lion's share of windfall profits from high oil prices goes to the state, leaving the oil companies little to invest in new fields. Only tentative and hesitant steps have been made in this direction so far.

An oil products shortage on the domestic market is another problem, as evidenced by a crisis in the air services continuing since the summer. To resolve it, the government met in summer to discuss the construction of a new and non-monopoly oil refinery (none has been built since the Soviet Union collapsed). The St. Petersburg commodity exchange, in turn, is trying to organize trading in oil products to determine their fair market prices. Deputy Prime Minister Igor Sechin, who supervises the fuel and energy sector in the government, is following these initiatives closely. He seems to be looking well ahead of his subordinates.

However, both the government and the oil companies are still under the delusion that windfall profits from oil exports come before the development of crude production and the domestic market for oil products.

September's unprecedented step of easing oil exports provided proof of that approach. On the back of high world prices in July-August, the October-November oil export duty was set at a record level of $485.5 per metric ton. The result was that exports lost their appeal, more oil remained in Russia and the price of oil and oil products were to drop dramatically (currently, oil products in Russia occasionally carry the same price tag as in the importing countries).

In the first two weeks of September, the domestic crude prices slipped by 40% month-on-month. One had only to wait a bit for the reduction to filter through to the oil products. But suddenly - from September 18 - the government slashed the oil export duty to $372.2 per metric ton, making exports attractive again, and driving up the domestic prices to their old level.

Appreciative Russian oil monopolies, thankful to the government for keeping up the domestic prices, have even promised not to raise them further - until March 1. Their pledges cover fuel oil and diesel for the energy industry. Gasoline was not mentioned, but is unlikely to go down in price too much this winter.

Source: RIA Novosti


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