Should this man be worried?
An anonymous Moscow-based blogger writing for Ruminations on Russia is making some interesting claims about a report issued last week by UBS, an international investment bank. According to RoR's Thursday July 13 blog post, foreign investors are seriously underestimating how quickly the Russian economy is growing, and therefore how much gas Russia will soon burn at home instead of having available for export. For those of us hoping that Russia can provide the U.S. and Europe with a major alternative to importing more oil and gas form the Middle East, at first glance this sounds like very bad news.
Contrary to the dire predictions of Peak Oil doomsayers, the main obstacle to Russia meeting the world's need for more energy is not geology, but waste and corruption.
Gazprom CEO Alexei Miller squinting under the camera lights
RoR quotes the UBS report arguing that the real issue is not the amount of gas in the ground (Russia holds a quarter of the world's proven reserves) but the massive subsidies and price fixing that distort the Russian domestic market:
Their conclusion is that the supply/demand equation is just in balance ("tightness means 'crisis risk' is real"). They believe that domestic demand and hence domestic pricing, is and has been under-estimated (which is definitely my view). In order to stimulate supply from independents (i.e. not GAZP) the regulated domestic price needs to rise faster than currently forecast. As they point out UES already purchases 1/3 of its gas on the (quasi)-open non-regulated market. In the Volga Region, for example, FOB well-head gas prices are about 40% higher than the regulated price. I can confirm that this is stimulating investment. UBS forecasts that non-GAZP [Gazprom] producers will account for a 27% share in total production in 2015, up from 15% today, and will account for 43% of domestic sales. 2015 is an unimaginably long time frame in a Russian context, but the trend is clear even if forecasting that far out is fairly meaningless. Their forecast for domestic price rises are the most aggressive of any Russia-based investment bank; forecasting netback parity (i.e. it's equally attractive to sell domestically vs export) by 2011.
The UBS report suggests that private competition for Gazprom and Rosneft may force the state-owned behemoths to become more efficient in response. The first step for Rosneft would be to stop flaring gas from its Siberian oil wells.
Before asking why competition is limited in Russia by a monopolistic Kremlin, our readers should understand why these policies are popular with many Russians. First, the "privatization" of the early 1990s, led by Yeltsin's advisors Gaidar and Chubais, was a disaster for Russia. These Western-backed reformers were blamed for lining their own pockets while massively enriching the oligarchs. Most Russians have a very bad taste in their mouths left over from this period. The Putin years have been a logical backlash to the 1990s attempt to create free markets overnight without the rule of law. The Kremlin also has some justification for its claim that since the state began to collect its "fair share" of energy profits, either via taxation or kickbacks, Russia receiving higher prices for raw materials. As one our Russian readers commented, the oligarchs were happy to sell these resources to foreigners at below world market prices, to avoid paying taxes.
None of this means that the Kremlin's state-driven model of energy development will work well for Russia indefinitely, only that it is far more popular than Yeltsin's "reforms". As the American libertarian P.J. O'Rourke remarked in his book Eat the Rich, there was no way Russia's gross domestic product in 1999 was actually smaller than that of tiny Belgium. In a country as vast as Russia, there is still far more business activity "off the books" than is recorded in official statistics. For the last 15 years, these off-the-books deals have spurred many business-related murders in Russia, since people could not sue for breach of contract. Now even The Economist admits that mafia violence has been reduced under Putin. In a recent article, they declared that Yekaterinburg's gangsters were "mostly dead, in jail or 'legitimate businessmen' now."
Rosneft oil derricks
The problem for foreign investors is that even the capital-intensive energy sector is not immune from the endemic Russian drive to pocket millions under the table. This is why it is difficult to tell if the statistics above reflect Gazprom and Rosneft being wasteful and inefficient, or local Governors and operators making sure that some gas has slipped through the cracks. Russia faces the same problem it deals with at home in its relations with equally corrupt officials throughout the former Soviet Union. For example, the dispute last year when Gazprom temporarily stopped the flow of gas to Ukraine had less to do with the Orange Revolution, and a lot more to do with prominent Ukrainian politicians cutting into Gazprom's sales to Europe. This history of Ukrainian siphoning was not widely reported in the Western media, so the Kremlin looked like a ruthless regional bully.
Nonetheless, Gazprom understands that it cannot become a global exporting powerhouse until it sets market rates for gas, thereby forcing its customers to stop wasting so much energy. It is far easier to start this process externally, by making former Soviet republics pay up first, than internally against powerful industries in Mother Russia that don't want to give up their subsidized gas. Gazprom also understands that with world gas prices continuing to climb, eventually burning natural gas for domestic heating will be seen as a form of waste. This is the official reason Russia has supported Iran's "right to peaceful nuclear energy" even while discouraging Iran from enriching uranium.
Graph of Russian electricty use (source: U.S. Energy Information Agency)
To illustrate the demand side of the energy equation, Chevron-Texaco published a pie chart ad in several popular magazines, revealing that 49% of U.S. energy consumption is for heating and cooling. In Russia, where freezing temperatures usually last much longer than in the U.S., the percentage of gas burned to heat homes and offices is even higher. Russia (and America) could substitute relatively cheap nuclear power for natural gas to keep people warm and air-conditioned.
Eventually, natural gas will be used mainly as a transportation fuel for heavy trucks, or be refined into diesel and jet fuel. For now, consumption from NG power plants built in the U.S. in the last twenty years has depleted supplies in the lower 48 states. Since natural gas prices quadrupled in the last decade, utilities around the world are again looking at nuclear power plants and coal to meet their needs. As Peter Huber explains in his book The Bottomless Well, this strategy of "burning uranium and coal" instead of oil and gas is pivotal for the future of the world economy.
A worker at a Siberian oil well
Westerners tend to forget how important codifying mineral rights were in establishing the rule of law in 19th century America. Add to this worldwide issue a Russian cultural legacy of centuries of thievery, hoarding and violence, and you begin to understand why so many Russians craved stability after a turbulent decade. Russia's transition from a massive centralized, state-directed model for energy development to some Western-style competition will probably take at least another generation. But for now, having the Kremlin act as the mokre kryshe (good roof) limits competition within Russia for control over energy resources from turning violent. And there are encouraging signs that Russia is beginning to shift towards setting market prices for natural gas - first for its former Soviet neighbors, and soon at home as well.
Yes there is corruption in Russia. But there is much more in the US. Review the recent history of Enron, WorldCom, Quest, Citigroup and the more recent on-going investigations of options... All economic systems have degrees of corruption. It is a definite form of economic inefficiency. When there is more competition such inefficiencies eventually are minimized either through an active process (whether it be through political or governmental means or via the workings of company management (sometimes motivated by shareholders and sometimes motivated otherwise). Corruption is an endemic problem throughout the world to a lessor or greater degree. From what litttle I have read corruption is far greater in select African countries. As the Russian economy becomes more integrated with the world economy many economic efficiencies will be identified and reduced. As in the US however there are poltical forces that benefit from corruption and therefore will slow progress in disclosure, media openess etc. The fundamentals are clearly there - Russia is a vast country with enormous resources and the potential to be the superpower of the 21st century. The indemic problem that the US faces is an aging population with the expectation that the entitlement programs of Medicare and Social Security will pay for their retirement needs - something that many competiting nations do not face.
Steve,
I don't think you can compare corruption in the U.S. to Russia, the equivalent for the U.S. would be 6 trillion dollars in bribes - that is, the Russian federal budget of 115 billion was dwarfed in 2005 by an estimated 300 billion in bribes, and the U.S. federal budget is about 2 trillion, no?
I would agree with your assessment that there are some double standards with respect to corruption, in the sense that if the Russian Federation were pursuing an "antitrust" lawsuit against Microsoft in the way the European Union has, the U.S. government would be screaming about it. Instead, even though the EU's antitrust definitions in this case are unprecedented and appear quite arbitrary, we seem to accept a $300 million dollar fine as normal. So what is considered normal "lawfare" and part of the cycle of litigation in the West, in Russia is known as "sharing", i.e. collecting from businesses or companies that are seen as doing too well. At the end of the day though, at least in the West there are more checks and balances than in Russia to keep such "pro bono" greed and ambition in check.
The other point you raised Steve was about Russia's potential: while we agree that Russia has far more scientific and natural resource potential for economic revival than even the Kremlin's staunchest supporters probably think (and I should add that Peak Oil enthusiasts are going to be very disappointed by Siberia); there is a fundamental cultural crisis contributing to the rapidly declining population.
Russia is losing 700,000 people a year, that would be like the U.S. losing the population equivalent of Austin, TX every year. This distressing fact is what Peter Zeihan at Stratfor and other analysts bearish about Russia's long term prospects always point to, and they have an impressive case to make.
One our contributors thinks that this problem can be overcome, since most of the decline is in rural areas among people who have less education, less income, and hence more health problems. In other words, Russia may be losing its poorest and least educated citizens, but the increased productivity from the people doing well will make up for this. I think this is a naive assumption, human productivity can only increase so quickly, and applying more brains to problem solving is the best way to guarantee that it continues to produce new wealth.
Sooner or later there will be a need for more labor, and the question is will it be Russian - or Chinese, or from some other part of the world?
"One our contributors thinks that this problem can be overcome, since most of the decline is in rural areas among people who have less education, less income, and hence more health problems. In other words, Russia may be losing its poorest and least educated citizens, but the increased productivity from the people doing well will make up for this."
Wow..I have been thinking this for years but never knew anyone else was thinking the same thing. I liken it to the people who say smoking costs the US so many $$$$$$ but does that really make sense. What costs more a person who dies at 60 from lung cancer or someone on social security and medicare who live till they are 100 with Alzheimers???
It is a cruel way of looking at it but probaly has merit. There are definatey problems not the least of which is having enough soldiers to defend the borders of the largest country in the world. Not sure what the right answer is...
Russia definitely needs more people, whether they can afford to live in Moscow and St. Petersburg or not. Most of our criticism of the Kremlin and the rest of the government has to do with them totally ignoring human rights abuses in the army (poor conscripts) and not doing enough to fight the corruption that holds back development in the regions. Moscow remains a different planet from the rest of the country...
Yes there is corruption in Russia. But there is much more in the US.
That must be the daftest comment I've seen on a blog to date.
I agree the way the army treats their conscripts is an embarassment and a crime. I'm surprised Ivanov still hasn't got a handle on this yet. Makes me wonder if he has what it takes to be considered a successor to Putin.
Steve:
More corruption in the U.S. than Russia? Please?
When your Deputy Prime Minister also chairs the board of Gazprom, it's no comparison.
Think if Dick Cheney were not only Vice President, but were still leading Halliburton at the same time.
The reason Russia is losing 700,000 people per year is really simple - right now the Russian baby boom generation (50's-60's kids) are reaching and old age and dying faster than the 80's kids (now adults) can procreate, obviously because the perestroika brought in instability the most basic levels (no guaranteed home, no guaranteed salary, no guaranteed healthcare), and no one wants to have children in that. Also, the centralization of Russia in Moscow and Petersburg and neglect of other areas really isn't helping at all.
The truth is, Putin isn't a bad president. He's the type of President a country in that state needs right now. Back when Russia under Yeltsin was pretty much directed by oligarchs and Harvard graduates, everything was considerably worse. All I can say is that under Putin there is no such thing as "delayed pay", whereas under Yeltsin you'd have to wait 6 months to get about half what you earn. Also, the mafia problems are decreasing, the Chechnya conflict is at a low, and the general lifestyle is improving. Yes, the military is as screwed as it has been after WWII (when the high-ranking military officers were heroes of the nation and could do whatever the hell they want), but hopefully that will change within a decade. The militaristic developments are confusing, because at one hand it's are trying to move from a draft system to a contractor (mercenary) system, but on the other hand the draft laws are more rigorous. Nonetheless, it's clear why Putin has such a high approval rating, and contrary to the bitching of the west it's not because he's a totalitarian @sshole.
Look at Hodarkovsy's trial. He was manipulating oil on a national level, billions of dollars involved, and he only got 8 years for it. Everyone in the West is outraged. Now look at Enron. Their President got something like 185 years, and his right-hand man got 42 or something like that. Nobody's outraged. And yet, if Hodarkovsky was in the US, and you apply the same judgment scale to their scamming affairs, he'd get something like 100,000 years in jail. I'm not saying that Russia isn't more corrupt than the US, I'm just saying that a lot of accusations towards Putin stem from the fact that he has his finger on unparalleled natural resource reserves, and not the plight of the Russian people. This is evident from the countless double standards like the one I just mentioned. It's like a reflex, calling Russia anti-democratic whenever it does something for its own gain.
Want to start your private office arms race?
I just got my own USB rocket launcher :-) Awsome thing.
Plug into your computer and you got a remote controlled office missile launcher with 360 degrees horizontal and 45 degree vertival rotation with a range of more than 6 meters - which gives you a coverage of 113 square meters round your workplace.
You can get the gadget here: http://tinyurl.com/2qul3c
Check out the video they have on the page.
Cheers
Jacob Roder
Russia definitely needs more Russian kids. This should be one of the top priorities of President Putin. Come to think of it, it should be most important issue for all European/Western governments as well as Japan and South Korea.
The U.S.A,s fate is looks sealed. America of the future will be a Brazilised, Balkanised nation with competing racial ethnic groups. It may end up as a middle income nation like Mexico or Libya by the end of this century if it even survives intact.