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Russia: Moscow Impresses But Also Worries Oil Investors

  • Nikola Krastev

Western experts say Russia is gaining an enviable position among world oil producers, while also cautioning that Moscow is moving too slowly on legal reforms to attract high levels of foreign investment to the industry. A conference in New York this week reviewed Russia's rising production levels, as well as the difficulties that have prevented outside investors from more extensive involvement in the country.

New York, 29 March 2002 (RFE/RL) -- Russian oil production is on course to grow by more than 2 million barrels a day by the end of the decade, posing both a rivalry to Saudi Arabia and a puzzle to foreign investors.

That was one of the scenarios raised at a conference in late March sponsored by the Asia Society in New York.

A survey by Deutsche Bank estimates that Russian oil production will likely exceed 2 million barrels a day by 2010 and will probably surpass Saudi Arabia's output.

Adam Sieminski, who is director of global energy strategies at Deutsche Bank, told the conference that, even now, Russia is producing more oil than Saudi Arabia, which was not the case just one year ago.

Russia's crude oil production, Sieminski says, has been rising dramatically since Vladimir Putin became president two years ago.

"Money has been finding its way back to the oil fields rather than getting skimmed off in Moscow. It's being reinvested. The devaluation of the ruble has made the cost structure in Russia relatively low, and the consequence of low costs based in rubles and more money being spent to redevelop existing fields has meant climbing growth in Russia," Sieminski says.

Experts point to Russia's proximity to South Asia, and China in particular, as one of the reasons for Moscow's anticipated growth in the global oil market. According to Deutsche Bank's survey, China will lead the world in oil demand growth until 2010, followed by the United States and Western Europe.

While the prospects for Russia's oil industry look bright in the medium term, some experts warn that Russia's precarious legal system -- its lack of transparency and widespread corruption -- are keeping away many potential long-term foreign investors.

John Sheedy is a partner in the Russia and Central Asia Practice Group at Coudert Brothers, a New York law firm, who worked in Moscow during the mid-1990s. He told the conference that a major problem for Westerners in Russian is a sharply different perception of what constitutes an "oil field."

"The Russians tend to view this as an asset, which must be valued, and if there's investment [in the field], it's viewed as a sale of the asset -- dividing up something. And it's a very sensitive subject, psychologically as well as economically. A foreign investor, though, looks at it more as a rate-of-return issue -- not so much as an asset to increase in value but rather a project that will produce a certain amount of income over a certain time," Sheedy says. "The Russians tend to also have a wildly inflated perception of what the value of the asset is, as well as a lack of appreciation for what the appropriate level of expenses would be for a foreign company to invest."

Such differing perceptions, Sheedy says, have caused a lot of friction and complications in allowing foreign investment to go forward in Russia. The negative experience of foreign investors in Russia in the early 1990s with licensing agreements, he says, gave rise to production-sharing agreements. These amount to a contract between the state and the investor, so the typical contractual remedies exist if there's a breach of contract.

A contractual clause stipulating international arbitration -- where decisions over disputes would be made outside of the Russian judicial system -- also enhances the sense of security and comfort on the part of Western investors, Sheedy says. Right now, all multibillion-dollar projects in Russia are production-sharing contracts.

Ian Bremmer, who is the president of Eurasia Group, a think tank in New York, believes Russia will eventually regain its political and economic influence in Central Asia as the U.S. gradually fades from the scene. Russia, experts say, is taking advantage of the territorial disputes in the Caspian oil basin zone. It is not clear, Bremmer says, how this issue is going to be resolved.

"I think the United States is taking a pretty helpful position on this. They don't want to do anything that impedes the exploration of energy, but aside from that, they view the five states of the Caspian littoral as having complete control over whatever it is they want to decide. The issues have been sort of local ones, but those local issues have not stopped, for example, Russian energy companies from going in and making deals that ostensibly weren't in the Russian state's interests," Bremmer says.

Leonard Coburn, the director of the office of newly independent states at the U.S. Department of Energy, says political instability in Central Asia and the Caucasus -- exacerbated by their aging rulers -- will play a role in the unfolding competition for oil and influence.

He counts among these aging leaders Georgian President Eduard Shevardnadze, Kazakh President Nursultan Nazarbaev, Uzbek President Islam Karimov, and Turkmen President Saparmurad Niyazov.

Coburn contrasts them with the more vigorous and youthful Putin of Russia: "If you look at most of the leaders in the Caspian region, they're old. More often, they're infirm. President [Heidar] Aliyev in Azerbaijan has been to the United States several times with heart problems -- pacemakers. Who knows how long he's going to last? He's in his 70s. He's teetering. President Shevardnadze -- same problem. He's old. He's teetering in terms of where he goes in the future. President Nazarbaev is a little bit younger. But still, they are all aging -- Karimov, Niyazov. You have a set of characters and figures on the stage today that are not going to be there five years from now."

Sieminski says the opportunity for Russia and the nations of the former Soviet Union to return to their late-1980s production levels of some 12 million barrels of oil a day now looks increasingly likely.

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