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Beyond oil and reserves, Russia running on empty

Beyond oil and reserves, Russia running on empty thumbnail

* Russian economy at zero growth despite high oil prices

* Sanctions hinder investment in oil production

* Drop in crude prices could shake Putin’s reign


For all the sanctions Western leaders can throw at Russia, the biggest threat to President Vladimir Putin’s ability to back separatists in east Ukraine is something beyond his or their control: the price of oil.

With Russia’s $2 trillion economy heavily dependent on crude exports, oil prices are always closely monitored by the Kremlin, but the government is particularly wary now as tensions with the West mount and sanctions ratchet up.

Such conflicts often push up crude prices, but as long as oil, which accounts for 40 percent of state revenues, remains above the average $104 per barrel written into the 2014 budget, Moscow has little immediate need to worry.

The alarm bells will start ringing if it falls significantly below $100, forcing the government to pay more attention to propping up an economy already close to recession.

The International Monetary Fund warned in May that Moscow had no contingency plan for such a scenario, so a sustained tumble in the price of crude could even undermine Putin’s grip on power.

“If the oil price goes down to $75 and stays there for a few years, Russia will have regime change,” said a prominent Russian economist who asked not to be named.

“Two years ago I would have said $60, but now, given the lack of growth, the increase in corruption and sanctions, $75 would be enough.”


Such a scenario is not merely idle speculation; most analysts expect oil prices to fall in the coming years as new production, including from unconventional sources in North America, applies downward pressure to markets, with some forecasts going as low as $70 per barrel for Brent crude oil in 2020, down from over $105 currently.

A long-term decline in prices may be unlikely given the unrest in Iraq and the limited scope for Iran to increase output due to sanctions, but any substantial fall could derail the Russian economy.

Sergei Aleksashenko, a former deputy central bank governor and now a scholar at the Higher School of Economics in Moscow, said a $10 drop in oil prices would strip 700 billion roubles ($20 billion), or 5 percent, from Russian budget revenues a year.

That translates to about 1 percent of GDP. Local economists estimate that a $10 price drop could rob Russia of 3 to 4 percent in GDP growth.

“The most evident outcomes of any decline in oil price are destabilising of the balance of payments, devaluation of the rouble, rise in inflation and decline in budget revenues, decelerating of the growth,” Aleksashenko said.

“It is evident that the longer the period of reduced oil prices, the more significant the impact on the Russian economy.”

A drop to $38 per barrel in the aftermath of the 2008 financial crisis sent Russian GDP falling 7.8 percent, and it shed $200 billion of reserves within a few short months trying to defend the rouble, which still lost a third of its value.

Its reserves, though still the world’s fifth largest at nearly half a trillion dollars, are more than $130 billion below their level at the beginning of the 2008 crisis.

The crisis passed when prices promptly climbed, but if Moscow learned any lessons, it is not clear in its economic pronouncements.

“The government only publishes a basic level of macroeconomic risk analysis to support fiscal policymaking,” the IMF said in its May report. “There is no analysis of the implications of (changes, such as in oil) for the government finances.”

The Finance Ministry manages two oil windfall revenue funds. One, the $87 billion Reserve Fund, has a clear goal to patch budget holes if the need arises.

Former finance minister Alexei Kudrin said in a recent interview with ITAR-TASS news agency that if oil were to fall to $80 per barrel, the fund could last for two years.

“That (reserve) is rather small,” said Anders Aslund, a senior fellow at the Peterson Institute for International Economics in Washington.

If oil hits $75-80, Aslund said “Russia would have to cut its imports, which would hit the standard of living, investment and economic growth. A decline in GDP and standard of living would be inevitable.”

Besides oil and the oil wealth stash, Russia has precious little.

“The policy of recent years has led us to a point when in the current stagnation all (other) reserves have been exhausted,” said Kudrin, who helped to amass the sovereign funds during a decade of economic boom.

“Structural reforms or a (policy) manoeuvre in favour of growth are not being considered.”


Keeping oil output at the current 10.5 million barrels a day is also essential for the budget. But the vast West Siberian deposits, which amount to about 80 percent of the country’s total oil output, are in decline.

Some firms have already cut investment and others may follow suit as a result of the stand-off between Moscow and the West over Ukraine. Many cut investment after the 2008 crisis.

“The situation is difficult and most likely will lead to the need to revise the investment programme,” a source close to one of Russia’s largest oil producers said. “Everyone is pretending that nothing horrible is happening. It is very difficult to predict how the situation will develop.”

The annexation of Crimea from Ukraine in March boosted Putin’s popularity at home to all-time highs, but the Kremlin’s ongoing involvement in Ukraine and the economic price the country is paying is making business owners uneasy.

Yet, in a country where criticism is rare and can result in exile or prison, most remain silent.

“Business always adapts to the situation in which it finds itself,” Trade Minister Denis Manturov said last week, adding that the punishment on Moscow by the West is “peanuts” compared with the isolation Russia suffered in Soviet times.

Four of Russia’s leading oil producers – Rosneft, Lukoil, Surgutneftegaz and Gazprom Neft – plan to invest a total of about $50 billion this year.

Russia plans to spend around $150 billion a year over the next 10 years to bring onstream new fields in east Siberia, the Far East and the Arctic, as well as improve oil output at mature fields, according to Energy Minister Alexander Novak.

But that requires financing, which may be tricky, given the recent sanctions, which closed U.S. financing of longer than 90 days for Russia’s top oil producer Rosneft and leading non-state gas company Novatek.

Rosneft, which paid 2.7 trillion roubles in taxes to state coffers last year, used North American banks to arrange most of its over $38 billion in loans raised since the end of 2011.

Asian banks are unlikely to be able to fill the gap. Domestic funding capacity is limited as the central bank keeps a cap on liquidity, to avert inflation, and Western sanctions aim to restrict capital markets for Russia’s state-owned banks.

Rosneft, which is preparing to start drilling in Arctic Kara Sea with ExxonMobil, declined to comment. Its capital expenditure was around 700 billion roubles for this year under an oil price of below $100 per barrel.

“The sanctions will significantly limit (Rosneft and Novatek’s) financing options and could put pressure on development projects,” Moody’s ratings agency said in a recent report.

Gazprom Neft, Russia’s No.4 oil producer, which is exploring for shale oil with Royal Dutch Shell, declined to comment, as did Lukoil.

But based on their documents and earlier comments, they all envisage oil prices at between $90 and $100 in the medium term.

Kudrin has for years warned that oil prices will fall. Some analysts say it was falling oil prices and the passing of peak production that led to the rapid meltdown of the Soviet Union a quarter century ago.

Aslund, of the Petersen Institute, said a long-term oil price drop was unlikely, but not impossible, given the geopolitical volatility, and that scenario could be catastrophic for Putin, who is facing re-election in 2018.

“Putin would look weak and incompetent,” Aslund said.


19 Comments on "Beyond oil and reserves, Russia running on empty"

  1. Northwest Resident on Thu, 31st Jul 2014 4:47 pm 

    “…most analysts expect oil prices to fall in the coming years as new production, including from unconventional sources in North America, applies downward pressure to markets, with some forecasts going as low as $70 per barrel for Brent crude oil in 2020…”

    That’s not what the analysts that I pay attention to are saying.

    That above statement is forecasting downward pressures on oil prices due to increased production from shale plays, when the truth is exactly the opposite. Without sufficiently high oil prices, shale oil production shuts down instantly.

    But the article does make a good point which is, Russia’s oil production is headed south and without sufficient billion$ in investment, that trend will only continue.

    Ron Patterson covers the Russian oil situation very well in this article:

    “The International Energy Agency says Russia needs $750bn of fresh investment over the next 20 years just to stop oil and gas output declining. This has already become unthinkable. Who is going to wager so much money for such questionable returns in the face of so much political risk?”

    peakoilbarrel dot com/anticipating-peak-world-oil-production/

  2. dissident on Thu, 31st Jul 2014 5:10 pm 

    Tropes, talking points, memes, BS.

    Oil and natural gas accounts for 13% of Russia’s GDP. Western sanctions will boost domestic producers by replacing imports.

    The ones running on empty are the hypocrite blowhards in Washington and all of their media and pundit mouthpieces.

  3. Davy on Thu, 31st Jul 2014 5:29 pm 

    Ron Patterson
    Start at “But back to Russia!”

    Basically this is Russian roulette for both sides. It could be a short term win for the west but the damage will be significant long term. Neither side is in the position to absorb the systematic losses that will surface with continued conflict.

  4. Nony on Thu, 31st Jul 2014 5:33 pm 

    Drill baby drill. How many peakers predicted US LTO?

  5. Aaron on Thu, 31st Jul 2014 5:51 pm 

    NR – “Without sufficiently high oil prices, shale oil production shuts down instantly.”

    It’s staggering how many economists can’t understand this simple fact. The russians will not have to worry about $75 oil, ain’t going to happen.
    It will be interesting to see whether the russians can frack their Bazhenov shale without US tech.

  6. JuanP on Thu, 31st Jul 2014 6:21 pm 

    The price of oil is highly unlikely to drop significantly for an extended period of time in the future, they are more likely to stay where they are or increase gradually.
    Russian oil production appears to have peaked in these past months and seems to be headed down, probably permanently. IMO, this is PO for Russia.
    The way forward is down for all of us everywhere, only a matter of how far down and how fast the trip.

  7. Northwest Resident on Thu, 31st Jul 2014 7:19 pm 

    JuanP — It really does feel like we’re on the downhill slope of peak oil. That likely fact is obscured by short term shale oil production and plenty of misinformation as well as outright propaganda. But gravity cannot be denied, and as we pick up a little more speed on our downhill ride chances are that the reality of our situation will start coming into crystal clear focus for most everybody.

    Hey Davy, what are you doing in Michigan? Who’s tending the garden while you’re gone? And yeah, Russian roulette is what it is, using a six-shooter loaded with five live rounds. Spin that cylinder and hope for the best. That’s about what it’s come down to.

  8. Davy on Thu, 31st Jul 2014 7:32 pm 

    NR, parents are up here for month so I came up with them to help them get settled for a week. I have been eating lots of cherries and checking out the farms here. Nice country up here and the lakes are impressive. Neighbor is watching the MO farm.

  9. Northwest Resident on Thu, 31st Jul 2014 7:53 pm 

    Davy — Good to know. I thought you might be checking out real estate “bargains” in Detroit. Enjoy your stay! I didn’t know they had lakes in Michigan… 🙂

  10. Davy on Thu, 31st Jul 2014 8:09 pm 

    NR, I am on the 45th parallel. If my memory serves me right you are close to the 45th but due west about 2,200 Mi.

  11. Makati1 on Thu, 31st Jul 2014 9:10 pm 

    Another “bash Russia” article based on lies and fiction, not reality. Try reading something NOT originating in the Ministry of Propaganda MSM like Reuters or Bloomberg.

    I guess the “say it often enough and any lie will be accepted as truth, no matter how illogical or impossible” works fine in the West.

    Russia is in no financial/technical trouble. They have China’s trillions and engineering behind them now. If you don’t believe that, see my first sentence. The West is building a wall of lies so when they finally start the war, they can blame it on Russia.

    I wonder what the lies will be in October when Putin spins the wheel and turns off 30% of Europe’s gas/heat? THEN the realities of O’s gas lies will become evident as the EU shatters and NATO dissolves into a puddle of failed countries. Or so I see the possibility…

  12. Northwest Resident on Thu, 31st Jul 2014 9:26 pm 

    Davy — Correct. Portland, OR is at 45°31′N 122°41′W. I live in Newberg, which is a little SW of Portland.

    Makati1 — Based on everything I read, it is pretty much a fact of life that oil/gas production is declining in Russia and that without significant investment that decline will continue. Recognizing that fact doesn’t constitute bashing Russia, does it?

  13. markisha on Fri, 1st Aug 2014 12:06 am 

    The Russians have simple to stop selling oil for couple of months and the west will bag for it in my opinion.

  14. MKohnen on Fri, 1st Aug 2014 12:29 am 

    Here’s a joke I’m sure everyone must be familiar with.

    Two men are hiking up a mountain. They come around a bend, and come face-to-face with a hungry mountain lion. One man immediately sits down, pulls a pair of running shoes out of his backpack, and starts strapping them on. The other guys says, “What? Are you an idiot? You can’t outrun a mountain lion.” The other man calmly responds, “I don’t need to outrun a mountain lion, I only need to outrun you.”

    I think this is the game being played between the major powers at this time. All countries know that peak oil is upon us. The US realizes that Russia and China have a massive advantage. Both those countries have populations that are very used to hard times, and that are very likely to rally around their governments when the SHTF. The US, on the other hand, doesn’t really know how its populace will respond when the real pain starts. I think this is the major reason that Russia is being built into such an imminent enemy now. It’s not because of America’s fear of Eurasia, it’s their fear of their own people.

  15. Arthur on Fri, 1st Aug 2014 1:19 am 

    MKohnen certainly has a point about differences in ability in suffering between the West and the rest. China does not really have to consider number of casualties in a potential conflict, they have too many people anyway. Russians are famous for their capacity to sacrifice. The germans once were the greatest fighting force on the planet, but now feel guilty about everything. Europeans tend to ask: who is going to protect our soldiers? America starts to seriously revolt above 40,000 casulties, as we have seen during Vietnam. The West can’t win a conventional war against Russia-China. Americans invading Moscow is a joke. Europe will sabotage such a conventional war, as there is no war party in Europe. What the US will attempt is regime change by infiltration, like they did in Kiev, twice, by spending billions on financing the opposition. In retalliation, the BRICS will attempt to destroy the dollar and as a consequence destabilize the US internally.

    What a world.

  16. westexas on Fri, 1st Aug 2014 6:01 am 

    Russian net oil exports (so far, through 2012) stopped increasing in 2007. Here are 2002 to 2012 Russian net oil exports and their ECI ratios (ratio of total petroleum liquids production + other liquids to liquids consumption). At an ECI of 1.0 a country is no longer a net exporter.

    Russian Net Exports & ECI Ratios (EIA):

    2002: 5.0 mbpd & 2.9
    2003: 5.8 & 3.2
    2004: 6.5 & 3.4
    2005: 6.7 & 3.4
    2006: 6.9 & 3.5
    2007: 7.2 & 3.7
    2008: 6.9 & 3.4
    2009: 7.0 & 3.4
    2010: 7.1 & 3.4
    2011: 7.1 & 3.3
    2012: 7.2 & 3.3

    Production in 2007 was 9.9 mbpd, with consumption of 2.7 mbpd, and thus net exports of 7.2 mbpd (total petroleum liquids + other liquids), with an ECI Ratio of 3.7.

    Production in 2012 was 10.4 mbpd, with consumption of 3.2 mbpd, and thus net exports of 7.2 mpbd, with an ECI Ratio of 3.3.

    Based on EIA production data and BP consumption data for Russia, for 2013 we have production of 10.5 mbpd, consumption of 3.3 mbpd, and net exports of 7.2 mbpd, with an ECI Ratio of 3.2.

    Based on a simple mathematical model and based on the empirical Six Country Case History, a declining ECI ratio correlated with a rapid rate of depletion in remaining CNE (Cumulative Net Exports).

    Based on the 2007 to 2012 rate of decline in the Russian ECI ratio, I estimate that post-2007 Russian CNE are about 72 Gb (billion barrels), with 13 Gb having been shipped from 2008 to 2012 inclusive, implying that Russia shipped about 18% of post-2007 CNE in only five years (through 2012).

    The extrapolation of the observed 2007 to 2012 rate of decline in the ECI Ratio could be the result of a continued increase in production (unlikely, IMO) + a continued increase in consumption, or a combination of declining production + at least a slowdown in the rate of increase in consumption or a decline in consumption. The 2007 to 2012 rate of decline in the ECI ratio would put it at about 2.6 in 2022.

    As a scenario, if consumption continued to increase* for 10 years at the 2007 to 2012 rate of increase (3.4%/year), Russian consumption would be up to 4.5 mbpd in 2022. If we assume a modest 2%/year decline rate in production, Russian production would be down to 8.5 mbpd in 2022, resulting in net exports of only 4.0 mbpd in 2022, with an ECI Ratio of 1.9. An extrapolation of a decline in the ECI Ratio from 3.3 in 2012 to 1.9 in 2022 would put Russia in the vicinity of zero net exports around the year 2034.

    *BP shows a 3%/year rate of increase in Russian liquids consumption from 2012 to 2013

  17. Makati1 on Fri, 1st Aug 2014 8:14 am 

    westexas, I think no country will be exporting oil in 10 years and certainly none by 20 years. Nice numbers but not likely to be how it all shakes out.

  18. westexas on Fri, 1st Aug 2014 9:06 am 

    And I thought that I outlined a pessimistic scenario.

  19. Makati1 on Fri, 1st Aug 2014 8:46 pm 

    westexas, you are still too optimistic. The big picture, as I see it, does not list peak oil as the most important feature of our future. It takes a spot after economic collapse, world war, and climate change. Just before disease and pestilence.

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