The first week of September presented a historical moment in Russian relations with the oil-rich Middle East: Saudi Arabia’s de facto ruler Prince Abdullah made the first visit to Russia by a Saudi head of state in over seven decades. The visit reflects the growing importance of Russia in the world oil market. Though Russia holds less than a tenth of the oil reserves of the Middle East – about 60 billion barrels as compared to the latter’s over 680 billion barrels – it currently is the second largest crude oil producer after Saudi Arabia, pumping an estimated 8.2 million barrels per day (bpd) in 2003 – about 3 billion barrels per year. At current production rates, Russia’s oil reserves will be depleted in about twenty years, but in the short term it is an increasingly challenging rival. For about a year Saudi officials have responded with attempts to attract Russia to cooperate with the oil cartel OPEC.

While Prince Abdullah’s visit may be the culmination of Saudi Arabia’s efforts to establish cooperative relations with Russia in the energy sector, the future of Moscow’s stance towards OPEC is a critical question for the world oil market. Will Russia be willing to cooperate with OPEC and thus further strengthen the power of the cartel to set a price range for oil?

Following the 1998 collapse of the ruble, Russian oil production expanded considerably, growing from 5.8 million bpd in 1998, to 6.5, 7.0, and 7.4 million bpd in 2000, 2001, and 2002 respectively. By July 2003, Russia’s crude and condensate output reached 8.56 million barrels a day for the first time over the last 12 years. Further growth is expected in the years ahead, however as mentioned Russia’s reserves are limited and its ability to extract them at competitive costs is debated. Further hampering its export ability is domestic consumption - Russia is the world’s third largest consumer of oil; in 2002 a third of Russian oil production was consumed domestically – and lack of sea port capacity.

So far, in the midst of high oil prices, Russians have been unwilling to cooperate with OPEC in cutting oil supply. While the Russian government did agree to restrain oil exports in early 2002, companies found ways to bypass the regulation. This raises the question of whether Russia could decide to switch its stance towards OPEC in case of a potential drop in world oil prices.

Several factors indicate that Russia may be amenable to long term cooperation with OPEC. The country does benefit from OPEC’s limited production policies that sustain a price range of $22-28 per barrel. Prices within or above this range have been the primary incentive behind the fast growth in crude production in Russia, since Russia’s production costs are $10-12 per barrel of crude oil as compared to $1.50 for Saudi Arabia.

Further, the Russian government is highly dependent on energy exports for fixing its budget. A drop in oil prices would be a source of difficulty in managing the country’s debt problems, especially at a time of approaching presidential elections. The Russian government may also be inclined to cooperate with OPEC in the future in order to maintain domestic oil prices at their relatively low level. Policies aimed at restricting oil exports have been widely used and have often lead to oil gluts in the Russian market, keeping prices comparatively lower than the world oil prices.

Despite the above, several factors hinder cooperation between the Russian government and OPEC. First, OPEC can do little to induce Russia to cooperate at a time of high oil prices. Neither the Russian government nor oil majors would like to see a decline in domestic oil production, which would create budget difficulties for the former and decline in revenues for the latter.

Second, even if the Russian government would adopt a stance in favor of OPEC, its ability to control its domestic oil sector is highly limited. With very few exceptions, Russia’s oil sector has been privatized. This has resulted in the creation of the country’s highest value companies, with the major stakeholders emerging with significant political clout. These new Russian tycoons have had quite diverse views on the prospects of cooperation with OPEC. Companies, such as LUKoil, Tatneft and Bashneft, which have experienced difficulties in raising their production levels over the past few years, have adopted more accommodating stance towards OPEC. On the other hand, other Russian majors with booming oil production, such as Yukos, Sibneft and Surgutneftegaz have been in favor of getting a larger market share for Russian oil in the world market. Indeed, most of them have perceived the current rise in Russia’s crude production as a natural phenomenon. For them this is a mere recovery of a market share, since the demise of USSR. Any attempts by the Russian government aimed at accommodating OPEC will cause conflict with the oil majors in favor of expanding production.

Third, for several years Russia has been investing in expanding its export infrastructure. The first phase of the Baltic Pipeline System (BPS) came on stream in late 2001, adding 240 thousand bpd to Russia’s export capacity. Recently, the Russian government announced its plan to accelerate the expansion of the BPS by up to 840 thousand bpd by early 2005. Meanwhile, the Caspian Pipeline Consortium has already come on stream. Russia will soon be able to benefit from this route as well, especially after an expansion in the capacity of the pipeline of up to 1.35 million bpd. Reversing the route of the Adria pipeline with an initial capacity of 100 thousand bpd has been another project of Russian involvement. Finally, several new oil export projects have been on the agenda of the Russian authorities. LUKoil, Yukos, TNK and Sibneft have reached an agreement to jointly build a private pipeline to carry Russian crude to a deepwater terminal at Murmansk on the coast of the Barents Sea. If fulfilled, the project will enable Russia to export nearly 1.6 million bpd after 2007, primarily to the US market. Finally, the Russian government has been studying two possible pipelines to export oil to China and the Asia-Pacific market. On the one hand, Yukos has been promoting a 600 thousand bpd pipeline from Angarsk in Eastern Siberia to China’s Daqing province. On the other hand, Transneft has been in favor of a longer route that will carry 1 million bpd crude oil from Angarsk to Nakhodka, on the Pacific coast, enabling export to Japan and the entire Asia-Pacific region. Once in place, these infrastructure projects will further strengthen Russian interest to sustain high levels of crude exports.

Fourth, for over a year, Russian officials have been debating the establishment of strategic oil reserves that would enhance Russia’s role in world oil market. This will require an extensive new legislation and strict coordination between the government and Russia’s privatized oil sector, beyond the funds that the government would need to pay to implement such a policy. While establishment of strategic reserves is a difficult and costly task, both the Russian government and oil majors have perceived the common interests in exporting crude at a time of higher oil prices. Hence, if implemented, this policy could further raise Russia’s influence in the international oil market and enhance its position versus OPEC.

The likelihood of Russian cooperation with OPEC is largely a function of oil prices. Notwithstanding rhetoric in favor of cooperation with Saudi Arabia or other OPEC countries, at times of high world oil prices both the Russian government and the oil majors are induced to expand production. Conversely, low oil prices will shut down some of the high-cost wells in Russia. In the midst of a potential decrease in Russian crude production, Moscow might turn more dependent on OPEC and negotiate on the latter’s terms. This could be especially the case if world oil demand remains stagnant, and if Russia fails to implement its policy of establishing strategic oil reserves.

Adnan Vatansever is Associate Fellow at the Institute for the Analysis of Global Security.

Also see:
Fueling the Future: The Prospects for Russian Oil and Gas by Fiona Hill and Florence Fee

Saudi-Russian Rapprochement: U.S. Should Beware by Dr. Ariel Cohen

Russia Seeks to Join the Organization of the Islamic Conference (OIC) by Pyotor Novikov


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