Petrostate:Putin, Power, and the New Russia

by Marshall I. Goldman

  Because of spot market pricing in the buying and selling of petroleum and the absence of anything similar to the natural gas market, oil prices, unlike gas prices, tend to be uniform around the world. According to a study by Richard J. Anderson at the George C. Marshall Center in Garmisch, Germany, because there is no such flexibility or ability to substitute suppliers in the natural gas market, prices for natural gas will vary as much as 31 percent from place to place on any given day. In the vocabulary of economists, there is very little room for arbitrage in world gas markets.

  While Putin’s discussions with Algeria, Iran, and Qatar are unlikely to result in the actual formation of an OPEC-like organization, the Gas Exporting Countries’ Forum (GECF), which was formed in 2001 and has met only sporadically, may attempt to increase the sharing of information on prices and technology, but not much more. Russia has refused to join OPEC because it did not want to feel constrained by the decisions of such a coordinating group in the way it sells its petroleum. Unless it can work out an arrangement assuring that it will always be able to dictate GECF policy, it seems unlikely that Russia would be willing to accept decisions about how and when it can sell its natural gas.84 In actual fact, given the difference in the way gas is delivered, a gas supplier is less likely to need an OPEC to exercise economic and political leverage. Unlike the petroleum markets, which need coordinated behavior among a substantial number of producers to control price and supply, a supplier of natural gas is more likely to have a monopoly relationship with its customers. This is the kind of market OPEC tries to create, but to be effective, it must mobilize a concerted effort by more than a dozen producers. By contrast, because it already is the sole supplier of gas to many of its customers, Russia is effectively a one-country OGEC: an Organization of a Gas Exporting Country, in the singular.

  Of course, Russia is not the only source of Europe’s natural gas. Norway and Algeria are major suppliers, and the United Kingdom and the Netherlands can supplement output. But reserves in all these countries are being depleted. While they are all connected to the pipeline network, by 2006 there was very little excess capacity available if Russia, as the major supplier, were suddenly to suspend its deliveries to its customers.

  Table 6.2 shows just how important Russian gas is to Europe. Over a quarter of all the gas consumed there comes by pipeline from Russia. In the extreme case, Finland and the Baltic countries depend on Russia for 100 percent of their gas. But Germany, which buys a larger volume of natural gas from Russia than from any other country, depends on Russia for more than 42 percent of its imports. Russia provides 38 percent of its overall gas consumption. This is despite initial promises to limit dependence on Russian gas to 30 percent of overall consumption. As the reserves of the other suppliers are drawn down, dependence on Russia is expected to increase. If there should be any break in the flow, neither Norway nor Algeria can do much to make up the difference. Although they are at the other end of the pipeline, even Italy and France each depend on Russia for more than 30 percent of their imports. This heavy dependency partly explains why Gazprom was able to convince the French and their gas company, Gaz de France, to allow Gazprom to take over the internal pipeline delivery of three billion cubic meters of gas directly to individual French households. (See Table 6.1.) This of course gives Gazprom even more power. The Italian company Eni, a long-time trading partner of Gazprom and Enel, has also agreed that by 2010, Gazprom can sell up to 3 billion cubic meters directly to Italian households and factories.85 In exchange, Eni was allowed to buy gas-producing assets within Russia. The Italians have sought to acquire Gazprom’s 19 percent share of ownership in Novatek, which is now Russia’s second largest producer of gas.

  TABLE 6.2 Europe’s Reliance on Russian Gas (Bill. Cubic Meters), 2004

  Since Gazprom exports so much gas to Germany, it has made a special effort to integrate itself into Germany’s domestic distribution system. It has become closely connected to Germany’s three major gas supply companies, E.ON, Wingas, and Wintershall. The latter is a wholly owned subsidiary of BASF, a major multinational chemical corporation, which is involved in a maze of interlocking directorates. For example, Wintershall and Gazprom are partners in Wingas (Win and Gas), in which Gazprom has a 50 percent equity less one share. Beyond that, Gazprom, Wintershall, and E.ON have created another joint venture to develop the YuzhnoRusskoye gas field in Russia. In this joint venture, E.ON and Wintershall each have one share less than a 25 percent equity. As for Wingas, it originally had a 49 percent interest in Nord Stream, the proposed Baltic gas pipeline. In this case Gazprom has the majority 51 percent portion. Wingas will tie in Nord Stream to the internal German gas grid. E.ON, which was created in June 2000 as a joint venture by the German companies VEBA and VIAG, was allowed to acquire 24 percent of the Nord Stream project from Wingas and BASF.

  While Gazprom continues to hold 51 percent of Nord Stream, the German companies have had to spin off some of their shares to Gasunie, a Dutch company. In November 2007, Putin and Dutch premier Peter Balkenende announced that Gasunie had acquired a 9 percent share in the pipeline. This forced both E.ON and BASF/Winstershall to reduce their equity from 24.5 percent each to 20 percent each. Gazprom kept its 51 percent share. Equally important for Gazprom, part of this partnership arrangement includes an option for Gazprom to purchase 9 percent of the Balggand-Bacton pipeline that connects the Netherlands to Great Britain, an access Gazprom has long sought.86

  If this were not confusing enough, Gazprom in turn can purchase up to 25 percent in E.ON. The German firm Ruhrgas, which in 2003 was bought up by E.ON, owns 6.5 percent of Gazprom. So here is how things stand. E.ON owns Ruhrgas which in turn owns part of Gazprom, and Gazprom can buy up part of E.ON. This is like a dog trying to grab hold of its tail. To top it off, Bergmann Bruckhard, chairman of the Management Committee of Ruhrgas, is one of the few foreigners who is on the Gazprom Board of Directors.87

  All of this is very reminiscent of the way Soviet authorities designed their overseas trading and banking networks during the Soviet era. Each Soviet overseas corporation owned shares in almost all their fellow overseas corporations. This was done to mask responsibility while creating the appearance that the Soviet corporation had private shareholders and owners like other corporations.88 In sum, although who owns whom is convoluted and as hard to follow as the pea in a sidewalk shell game, the Germans are very much involved with Gazprom, and Gazprom, in turn, has become an important player in Germany.

  Direct access to the French, German, and Italian consumers allows Gazprom to earn a higher margin on its sales. It also gives it greater control over the source of the gas sold within these countries and again is a way of excluding other suppliers. The effort to gain dominant control is part of Gazprom’s long-term strategy. In addition to France, Italy, and Germany, Gazprom has either already succeeded or is trying to gain control of internal gas pipelines and distribution systems in Belarus, Ukraine, Georgia, Moldova, Switzerland, Austria, Finland, Turkey, Hungary, Greece, Latvia, and Lithuania, where Gazprom now owns 34 percent of Lithuania’s pipeline grid company, Lietuvos Dujos.89

  THE RUSSIANS ARE COMING

  Alert to the strategic control Gazprom would gain from internal pipelines and distribution systems, some gas distributors have become wary of allowing Gazprom to make such inroads. After Gazprom began to explore the possibility of buying up Centrica, Great Britain’s largest gas distributor, the Financial Times published an editorial entitled, “Your Local Gazprom,” warning British consumers that they might find themselves subject to Kremlin control. It could have added that Gazprom has also attempted to gain control of some British electricity-generating facilities as part of a swap arrangement with the German company, Ruhrgas.90 The paper acknowledged that foreign companies from the United States, Germany, and France were also taking control of energy assets in the United Kingdom, but given Russia’s past record it was concerned that the possibility of Russian control brought with it other negative “geopolitical factors to whi
ch unfortunately Gazprom is inherently prone.”

  Such concerns go beyond Great Britain and the European continent. Alexander Medvedev, deputy CEO of Gazprom, for example, has implied that some day Gazprom might create a joint venture that would distribute gas in China’s domestic market.91 For that matter, there is nothing to prevent Gazprom from making a similar investment in U.S. gas companies. LUKoil’s purchase of Getty Oil’s filling station network is a precedent. In addition, several Russian metallurgical companies have already acquired a variety of U.S. steel and nonferrous metal companies, including the only U.S. producer of platinum and palladium.

  Not surprisingly, the Russians do not take kindly to suggestions that Europeans should be wary of allowing Russian companies to expand beyond their borders. After Alan Johnson, British minister of Trade and Industry, insisted that England would block Gazprom from taking over Centrica, the parent company of British Gas, Alexei Miller, Gazprom’s CEO, warned that “attempts to limit Gazprom’s activities in the European market and politicize questions of gas supply, which in fact are of an entirely economic nature, will not lead to good results.”92 His response not only conveys Russia’s sensitivity over efforts to exclude it; it also reveals his insensitivity. Miller angrily chastised the British and Europeans for acting for political reasons while he apparently failed to realize that to Western observers, it is the Russians, even more than Western governments, who place political considerations ahead of commercial and economic considerations.

  7

  Russia

  The Unrestrained Super Energy Power

  THE ENERGY GIANT REAWAKENS

  In 1999, as petroleum prices began their climb from $10 a barrel to over $100, memories of the 1998 financial meltdown and its impact on Russia quickly faded. Fortunately for him, Vladimir Putin’s selection as prime minister in August 1999 and four months later his appointment as acting president coincided with the recovery in petroleum prices. The increase in oil prices would probably have triggered an economic recovery even if Boris Yeltsin had still been in power. Nevertheless, Putin did what he could to take advantage of that recovery in oil prices.

  Putin’s first priority was to prevent any further deterioration in Russia’s political and economic situation. In the aftermath of the August 17, 1998, economic crisis, it was difficult to see anything but a continuing deterioration in the economy. The banks remained closed, and because of the sharp drop in the value of the ruble more and more businesses, especially those run by foreign companies or dependent on imported components, closed their doors as well. Many of the country’s most talented people lost almost all their savings. No wonder so many simply emigrated to the West.

  The devalued ruble, however, along with the gradually rising price of oil, proved to be that proverbial blessing in disguise. A cheaper ruble made imports more expensive, so Russians began to buy goods made in Russia instead. The drop in imports may have hurt Russian consumers and businesses that depended on imports, but it was a windfall for Russian manufacturers who suddenly had the domestic market to themselves. This windfall explains why for the whole of 1999 industrial production increased 6.4 percent over 1998 and by 10 percent in 2000 over 1999. Even though Putin was appointed prime minister in August 1999, five months after industrial production started to increase, he took office the same year the economy began its recovery. So it is easy to see why, for many, including Time magazine, which named him “Man of the Year” in 2007, Putin was the reason for the turnaround.

  FIGURE 5 How Price, Not Putin, Affected Oil Production

  Crude oil “price per barrel” is U.S. dollars per barrel, Brent; Russian production is in tons per year. Sources: Price data from BP Statistical Review of World Energy June 2007, p. 16; 2007 price from Energy Information Administration, Weekly Petroleum Status Report (week of February 8).

  Production data from 2006 BP Statistical Review of World Energy; 2007 production value from Goskomstat (Russian official statistics).

  The causes and effects of Putin’s actions in the political sphere are harder to pinpoint. Putin began to move against what he considered the excessive number of political parties in the country. With more than one hundred existing parties, too many, he insisted, were no more than vehicles for individual ego building and petty feuds. He felt much the same way about the media. As he saw it, several of the oligarchs were using ownership of their TV networks primarily to attack each other rather than advance the interests of the state. Putin never bothered to mention that his targets were almost exclusively those TV networks that targeted him for criticism. It hardly advances the interests of the state, much less the cause of democracy, when a country’s leader like Putin can single-handedly determine which TV networks should be allowed to operate and which should be closed down; nonetheless, he did have a point.

  So whether Putin can be considered a supporter of democracy is not a simple black or white matter. Certainly he has no doubts. After Gerhard Schroeder (not one who could be described as unduly critical of things Russian, especially Putin) described Putin as “a pure democrat,” a reporter asked Putin if the characterization was accurate; Putin responded, “Of course I am, absolutely. . . . The problem is I’m all alone, the only one of my kind in the whole world.” To prove his point, he criticized the United States and Europe for Guantanamo, detention without trial, the homeless, and rubber bullets and tear gas against European demonstrators. In his view, no one else seems to care. As he put it, “There is no one else to talk to since Mahatma Gandhi died,” all said with a straight face.

  Of course, not everyone would agree, even within Russia. Grigory Yavlinsky, head of Yabloko, one of the more Western-oriented political parties, put it this way in an interview in the July 15, 2006, issue of the Economist. “Boris Yeltsin took mistaken steps in the right direction toward democracy; Putin took correct steps in the wrong direction toward an authoritarian petro state.”

  Perhaps the most controversial step he took while he was still prime minister in 1999 was to disavow the informal cease-fire accepted by Yeltsin in 1996 and order Russian troops back into Chechnia. In effect, he launched the second Chechen war of the twentieth century. Putin did this in retaliation for the bombing of a series of apartment houses in Moscow and elsewhere. He ordered his troops to invade, even though there was no evidence that the Chechens had actually planted the bombs. He also felt it necessary to respond to the invasion of neighboring Dagestan by an extremist Chechen group. Critics of Putin such as Boris Berezovsky insist that the bombings were actually a provocation set off, in fact, by the FSB (formerly called the KGB) itself. Whatever the provocation, Putin used the war to rally the country to fight what he saw as a potentially disastrous terrorist threat.

  THE NEW ECONOMIC IMPERIALISM

  Putin’s most significant contribution to Russia’s economic and political renaissance, however, was his adoption of the notion of national champions. It was his way of merging state interests with private sector capabilities. Putin correctly understood that Russia had little in its economic and business arsenal other than its energy and mineral resources. Skillfully used, Russian petroleum, gas, and other exotic minerals could be manipulated to advance state interests. But under Yeltsin, the preponderance of the country’s raw material reserves had been turned over to individual oligarchs and their corporations who used the country’s energy and metal resources to advance their own interests and profits. From Putin’s point of view, this was outrageous. In a June 1, 2007, press conference, he expressed “regret” that in the early 1990s Russian officials had allowed such transfers to take place, actions for which they should have been put in prison.1

  Even so, Putin insisted that he supported privatization. In a June 4, 2007, press conference, he boasted, “We have completely privatized our oil sector and we now have only two companies with state participation. Gazprom already has 49 percent of its shares on the market and according to our calculations, more than 20 percent are now in foreign hands. . . . The other company Rosneft carri
ed out an IPO [initial public offering of stock] and as you know has sold part of its shares.” What mattered, however, was not who actually owned the shares but whether the managers of these companies acted as agents of the state and adhered strictly to the goals set out by Putin and other senior state officials as if they were wholly owned by the state.

  Putin’s embrace of the concept of privatization notwithstanding, he nonetheless set out to reassert the state’s interests by either renationalizing the country’s corporations or by applying subtle—and sometimes not so subtle—intimidation to convince those corporations that they should temper profit considerations in favor of advancing what Putin had decided were the country’s geopolitical or strategic goals. While Putin may have been one of the most recent world leaders to openly espouse such a notion, he is not the only one to do so. The president of France, Nicolas Sarkozy, began to call for the same type of initiative when he was minister of the Interior, an idea earlier supported by Charles de Gaulle when he was France’s president and even earlier by Jean-Baptiste Colbert, who was King Louis XIV’s financial controller in the seventeenth century.