American Enterprise Institute

May 19, 2006

[Edited transcript from audio tapes]

9:45 a.m.	Registration and Breakfast
10:00	Welcome:	Leon Aron, AEI
10:05	Session I
		Oil Rents and the Russian Economy
	Speaker:	Clifford Gaddy, Brookings Institution
		Russian Offshore: Prospects for Investment
	Speaker:	Julia Nanay, PFC Energy
		Russian Oil and the Future of EU-Russia Relations
	Speaker:	Marco Fantini, Directorate General for Taxation and Customs Union, European Commission
12:25 p.m.	Luncheon
1:10	Session II
		Economic Policy and Russia’s Oil Production
	Speaker:	Vladimir Milov, Institute of Energy Policy (Moscow)
		Russian Petro-state: Modernization or Stagnation?
	Speaker:	Andrey Ryabov, Institute of World Economy and International Relations (Moscow)
		Investing in Russian Energy: A Mutual Fund CEO’s Perspective
	Speaker:	William Browder, Hermitage Fund
4:00	Adjournment

Proceedings:

Leon Aron:
Welcome to all.  I’m Leon Aron, and we’re here to talk about Russia’s oil, its place in Russian economy, and its impact on Russian domestic politics and foreign policy.  Russia, of course, is second only to Saudi Arabia in the oil production today.  Occasionally, it even outstrips Saudi Arabia on a monthly basis.  It pumps approximately, on average, 7 million barrels a day, and the high oil prices and the seemingly inexhaustible demand of the world for Russian oil have made oil exports and their revenues the driving force in the Russian remarkable economic recovery of the past six years.  Now, that also prompted President Vladimir Putin to make energy security the cornerstone of the G-8 summit in St. Petersburg this July, the first one that Russia will host and over which it will preside.

Along the way, some fateful decisions – policy decision – have been made in Russian economy, and they all, in the past few years, directly affected Russian oil production today, but primarily Russian production tomorrow, especially as it concerns transportation, taxation, domestic energy consumption, investment and, probably most importantly, the question of ownership of Russian oil.  And so, these structural matters everybody can see are looming large in Russia’s ability to meet the world’s insatiable demand for oil and to remain or not to remain a reliable and growing supplier of oil to the world.  And so, the overarching, I would imagine, conclusion or search for answer at this conference is Russia’s ability to become such a partner and its ability to cope with the implications both for its domestic politics and foreign policy.

Before we move to introducing the panel, I would like to express my sincerest and deepest thanks to Igor Khrestin, a research associate in Russian studies in the Foreign Policy and Defense Department of the Institute for invaluable assistance in preparing this event and in dealing with a myriad of technical issues that invariably arise in the organization of an event of such caliber, but also such geographical expanse.  We have panelists here from Brussels and Moscow, as well as from various parts of the United States.

You have the biographies of the panelists in your folders, so let me mention them only very briefly and with great thanks and appreciation for their generosity and collegiality.  Cliff Gaddy is a Senior Fellow at the Brookings Institution in Washington, DC, a world-renowned specialist on Russian economy, and, most recently, among his many books and studies the author with Fiona Hill of The Siberian Curse, a study of how territorial misallocation of industry and people burdens today’s Russian economy.  Julia Nanay is a Senior Director at PFC Energy and the head of the Russian and Caspian Service there where she provides clients with risk analyses for investments in oil and gas industry.  Cliff, I forgot to mention, will be speaking about oil rents and their place in Russian economy, and Julia will address the issue of offshore and the prospects of foreign investment there. 

And our final speaker today is Marco Fantini, who comes to us from the European Union headquarters in Brussels where he is the head of sectoral structural aspects of taxation in the Director General of Taxation and Customs of the European Commission.  Marco is an expert on the Russian economy as well, and for many years worked as an economist with the executive arm of the European Union.  And the past five years, he was responsible for Russia at the EU Department for Economic and Financial Affairs and, among other things, was Secretary to the EU-Russia Subcommittee for Economics and Finance, which was a bilateral forum between European Union and Russia on economic matters. 

And I think with that and, again, with thanks to participants, we will move to Cliff Gaddy.  You could speak from there.  We just need to give you the remote.

Clifford Gaddy:
Thank you very much, Leon, and thank you all of you for being here.  It’s always an honor, and it’s not the first time that I’ve been here and not the first time that I’ve actually talked about this very topic of Russian oil and resource rents.  I’ll try to avoid some of the things that I’ve said before.  It was actually, I think, at this forum that I presented some of the early work that I did together with my good colleague, Barry Ickes, on this very topic.  I may show a slide or two that some of you have seen, but I wanted to take the opportunity to talk about a few different aspects.  So with apologies for repetition of some things, I hope you’ll keep that interest long enough to see something that may be new.

For at least 40 years, Russia’s and the pre-Russian Soviet Union – Russia’s fortunes and fate have been tied to oil.  As we all know all too well today, oil is associated with a great deal of risk, uncertainty and volatility, and, therefore, Russia and the USSR before it have paid a price for their oil dependency.  Their leaders have paid a price as well.  They’ve experienced both the ups and downs that oil brings, the blessings and the curses.  If we go back a few decades – Leonid Brezhnev – for nearly all of Leonid Brezhnev’s long tenure, oil, I would say, was a blessing.  It didn’t end that way.  He did manage to die just as the blessing was turning into a curse.  And successors, we’ve had Gorbachev and Boris Yeltsin who were not so lucky.  They saw only the curse.  Vladimir Putin, well, a fortuitous set of circumstances in the world and in the Russia he inherited from his predecessors have made oil a blessing, a definite blessing, so far.

Thanks to Russia’s oil, hundreds of extra billions of dollars have flowed through the economy, hundreds of extra billions of dollars available for him to collect directly into the treasury or to deploy in other ways.  The difference that oil has made for Mr. Putin compared to, say, Mr. Yeltsin can hardly be overstated.  Just to give one example, in the four quarters prior to Mr. Putin’s assumption of power, Russia’s earnings from oil exports – crude oil and oil products – totaled less than $14 billion.  In the most recent four quarters up until now, that figure has now risen to $127 billion, so from $14 billion to $127 billion per year and just for oil exports. 

Now, this has allowed Mr. Putin’s government to fill its coffers and do many of the other things that we’re familiar with – pay down the state debt, build up foreign exchange reserves from virtually nothing to over $200 billion, build up a stabilization fund of $60-70 billion.  More broadly, the oil has propelled the entire economy forward.  Again, there are many ways to show this. 

Let me just take a few simple ones, and here’s where the apologies come in because you have seen this before.  As the crude oil export revenues have risen and fallen, so has the economy’s growth.  You can see this on a year-to-year basis looking at the annual growth of GDP or annual change in GDP since there’s a period of decline in the annual change in oil export revenues.  Again, this is actually just crude oil export revenues, a pretty tight fit there.  You can also see it over shorter periods looking at a quarter-by-quarter correlation.  Again, this is the change in crude oil only, export revenues, and the change in GDP quarterly.  It’s, again, very interesting that they fit so tightly.

Now, all this translates into growing wages, incomes, consumption, and from there into extraordinary growth of the retail, real estate, and construction sectors.  Yes, there are things that have not developed as well as they might have.  Capital investment in Russia lags.  Small business has not been as expansive as one might hope.  But these shortcomings cannot be blamed on oil, and, in fact, I would ask you to just imagine what things would be like with capital investment and/or small business or a number of other areas had there been no oil boom.  So for Russians, oil has not been a curse.  From Putin to the poor, oil has been a blessing.

But this very fact poses even more starkly a question I now want to raise on the basis of the following diagram.  The rates – annual rates – of oil output growth stretching all the way back to 1960, the last two years are, as you see, in red.  This is the biggest decline in growth rates of oil output since the Gorbachev period.  The question you ask is how could this have been allowed to happen?  More importantly, why has there been no real effort to do something about it?  In fact, you might even ask why is there not a national panic about it?  I suggest that the answer to that question is that no one in the Putin leadership is really in control of oil. 

Now in this respect, Putin is not unique.  Each of the leaders that I referred to earlier had completely and blindly abandoned the country’s faith to oil.  None of them planned what would happen.  They were all hostage, for good or bad, along for the ride, but oil was driving and no one of them ever managed to take control.In the case of Putin, we can see this by understanding what a remarkable set of circumstances had to occur to lead to Russia’s situation today, the situation of tremendous oil wealth and power in the oil markets.  So how did Russia get there?  These set of circumstances.  The first circumstance is China.  “Out of nowhere” China’s demand for oil grew in the way we know very, very suddenly, very dramatically, unexpectedly.  This sudden and unanticipated growth in Chinese demand for oil is the first circumstance.

The second circumstance is the unchallenged continuing market power of the OPEC cartel.  Now, we take this for granted, but it is useful to step back and ask a few questions.  You know, if we look at the picture of global demand and supply from a truly global standpoint – my colleague, Barry, he likes to say imagine we were running the world as an efficient monopoly – well, we would have met the Chinese demand by producing oil in the lowest cost production locations.  We would have produced oil in Saudi Arabia in the Gulf. 

There would have been a rush to invest in the Gulf fields.  However, the members of the OPEC cartel used their market power to prevent that efficient response.  In the words of Roger Stern, Johns Hopkins, in a recent article, “The cartel exerted its market power to ‘keep abundance at bay’” and, incidentally, to keep oil at $10 a barrel away, which it would have been.  So with the obvious efficient answer to increase demand, that is expanded production of lowest cost oil first ruled out, the world had to look elsewhere.

And that brings us to the third circumstance, the peculiar history of Russia’s oil.  As the Chinese demand surged and the OPEC cartel constrained investment in the Gulf, there happened to be a place that had large amounts of oil ready to lift.  This was Russia, specifically the so-called old oil regions of Russia.  This was the oil that had been left in the ground in mature fields, that is fields with the infrastructure already in place, left in the ground for two reasons.  One was the dysfunction of the Soviet economy, the late Soviet economy of the 1980s, and the second was the dysfunction of the early post-Soviet economy in the 1990s.  By that, I mean the first point of the late Soviet economy.  The oil that was there, a large part of it was simply bypassed due to ruinous late Soviet oil production methods, so-called ruined wells.  The second, that is the dysfunction of the early post-Soviet economy in the 1990s, meant a delay in returning to recover that bypassed oil.  So these 1980s and 90s circumstances are key.

But we need to add another historical circumstance.  That Russian so-called old oil is ultimately due to an even older legacy of the past, back to the 1970s, late 1960s even.  The buildup of the infrastructure of the oil industry as the USSR pumped as much oil as it could for specific political, not economic, purposes.  I’ll come back to that.  But thanks to the fact that today’s Russia has inherited a production infrastructure from the USSR, one that was debt free, and because the dysfunction of the late-Soviet and early post-Soviet economies had left oil in the ground, Russian oil was, therefore, the bumper commercially exploitable as the Chinese demand appeared.

And now, we must add a final ingredient, the existence of private companies willing to think differently about the old oil, not take it for granted that this was ruined oil that could not be extracted and lifted, but that were willing and able to do something about it.  And we have to thank Yeltsin for turning over a certain sector of the Russian oil sector to such people.  So Russia became the great hope as the Chinese demand surged, and it fulfilled that hope.  It increased its output from barely over 300 million metric tons of oil a year in 1999 to 470 or so million metric tons in 2005, a more than 50 percent increase.  Most of that increase – almost all of it – was put onto the world market. 

So the specific circumstances that have led to today’s “oil blessing” for Russia and Mr. Putin span more than three decades and especially these three leaders I referred to.  Brezhnev built the capacity.  Gorbachev or at least under Gorbachev the oil is bypassed.  Yeltsin or under Yeltsin the oil was left in the ground ready to be capped by the man that Yeltsin did empower to do so, Mr. Khodorkovsky.

Putin, therefore, is reaping the benefits of all that history as Russia, of course - the other important circumstance – free rides on OPEC market power.  It’s been perfect, but it had nothing to do with policy or planning or competence or wisdom in the economic management of the oil sector.  It is, above all, the legacies of the past, and, as the past created this blessing for Mr. Putin, I argue that it also has created the preconditions for a curse.  And this has to do with that very earliest period, the creation of the oil production infrastructure of the 1970s.  This was an oil production structure that, as I said, was built and the whole capacity was built for specific political purposes.  And that lives with us today, and those political purposes for which it was built and how it was used, the motives for why it was built and how it was built, are key in understanding where things are going today.

Ultimately, gas probably remains more important for Russia’s domestic economy than oil, but today we’re talking about oil, and I’m going to talk a little bit about that.  There are many reasons why Russia developed its oil capacity to the extent it did.  One was for military purposes.  A very recent – the last few days – article by Vitaly Shlykov describes this, a very good article.  Oil, in general oil production, was a matter of national pride and prestige as important as any of the other basic products – steel, whatever.  It’s interesting to look at this chart of the output of US and Soviet oil and just reflect a little bit about some of these prestige and psychological elements, as well as the direct economic consequences.  In the 1960s and 70s, Russia – the Soviet Union – was soaring upward in its oil capacity.  In 1973, 1974, somewhere around there, the USSR surpasses the United States in oil production.  The United States is a declining superpower.  Russia, the Soviet Union, is a rising superpower.

Now Shlykov talks about how oil was important to the military.  Oil fueled the military.  Building up the oil capacity argued Shlykov was important to have reserves, the ability to produce even more oil.  But as important as oil was for military power, I’d argue that equally important is the way in which it substituted for military power in the Soviet Union.  After the death of Stalin and the death of the Stalin system, the USSR was inclined to find what you might call softer and also more efficient ways of managing its own society and ensuring its security.  Yes, it had a nuclear arsenal.  It had a multi-million-man Red Army.  It had a repressive secret police apparatus.  But these were insufficient, unwieldy, inefficient, in some cases even useless instruments for the purpose of managing Soviet society and holding together the Soviet Bloc.

Oil, in contrast, was a kind of magic instrument that allowed it to control its satellites in a softer and cheaper way.  The USSR could act as a hegemony, rather than as an imperial power.  So the USSR maximized production of oil and the capacity to produce oil.  It imposed on its satellites on Eastern European countries a demand for oil, in part by shifting the consumption, shifting their industries – heavy industries – to shift to oil as a fuel, including even in Poland, the coal abundant in Poland.

So the USSR deliberately created a dependency by Eastern Europe on Soviet oil, and then supplied Soviet oil for close to free, also allowing Eastern Europe to even re-export, re-sell, Soviet oil to the west for hard currency at low prices.  That was part of the deal.  The result was that those regimes couldn’t survive without the oil, and we saw that at every major crisis point in Eastern Europe, from the post-Prague 1968 Czechoslovakia, the Polish food riots in 1970, Hungary in the 1970s, the solidarity crisis in 1979-80, the Czech recession of 1980, the Hungary liquidity crisis of 1983.  At each of these stages, you’ll find evidence now in the archives that Eastern European leaders screamed to the Soviets that they had to have more oil.  They sounded very much like the junkie, the drug addict crying out, you’ve got to give me my fix.

Now, the Soviets repeatedly – and their economists had advised them – to announce cutbacks in oil deliveries.  This was simply too costly for the Soviet Union.  It simply could not keep them up, but every time a new crisis forced them to back off the plans and return to the same delivery levels as before.  So the bottom line is that oil preserved the Soviet system at home and abroad far longer than it otherwise could have been sustained.  And yet, the alternative was more brutal.  It would have been, given a Soviet leadership with a political will to maintain power over Soviet society and over Eastern Europe.  The only other alternative was raw military life, occupation, Stalinist police state.  One might say that could never have succeeded.  Probably not, but, given the political will to make it, to try it, it would have been quite costly in blood and in money.

But because the Soviets had created – and this is my point – the addiction on the part of the Eastern Europeans, the addiction to oil, the Soviets themselves then had no choice but to keep producing more and more oil to supply them.  So the Soviets were trapped by the Eastern Europeans addiction, an addiction that the Soviets themselves had created.  Moreover, at home inside the Soviet Union, the Soviets had their own addiction, and this brings me – I think I have a few minutes left yet – brings me to the final points which I will attempt very quickly, and that is, again going back to the importance of the way that the Soviet oil industry – Russia’s oil industry today – was built up, the motives for why it was built and how it was built, are vital for the country today, for its economy, and its political economy.

The important point is that the buildup of this resource sector, especially oil, was, of course, done without regard to opportunity cost.  The important thing is that it’s not just the way the oil was used, but the way the oil was produced, the interconnection between the nature of production of oil and other resources, and the sharing of the wealth of the oil, the bounty or what we should call the rents.  And it is, by the way, important that we recognize that the importance of oil and gas to Russia is about more than just export revenues.  The issue is total rents, that is the total value of the resources produced that can be distributed in various ways to different claimants inside the country and outside.

My colleague, Barry Ickes, and I have written about this notion of rent sharing, and the next few slides illustrate the concept.  I will go very quickly through these, and these are things that I think I’ve shown here before.  They are, in any case, in articles that Barry and I have written that are on the Brookings website, and so I can suggest that to you rather than go into detail here. 

The first slide I want to show – the first two slides – are simply identifying for you historically the total volume of rent that Russia – now I will be talking here about the territory of the present Russian Federation, very little difference, by the way, if we were to do this with the Soviet Union.  Most of the oil and gas rent, oil and gas, was produced on the territory of the Russian Federation.  But looking at the evolution of total rent from 1970 to the present, the first graph aggregates oil and gas together.  So it begins in 1970 and comes up to last year. 

The second slide disaggregates that red area into the part attributable to oil and the part attributable to gas.  Again, there’s many things one could say about this, interesting things.  I will not do that here.  It’s pretty obvious that oil has remained the most important component of total rent, although note that gas, especially in these last few years, has really emerged as increasingly important.

The third slide on this notion of total rents is developing an idea that Barry Ickes and I, again, expounded in these articles in referred to on the sharing of the rent in the Russian context.  Rent is defined as the market value of any commodity or resource minus the cost of actually producing that commodity.  I’ve illustrated that by the left-hand bar where, if we take away what is important to consider, the natural extraction costs - and by natural I mean the extraction costs that would be expected in a competitive market economy – we’re left with the notion of total rent.

What’s important for Russia is to look at the right-hand bar, and it divides that total rent into some of the ways – not all of the ways – some of the ways in which it is shared inside the Russian economy.  Part of it is what we call formal sharing.  These are the profits that are distributed to shareholders, the top.  The taxes that companies pay, that’s the yellow part.  The other three components at the bottom, I think, are more interesting.  It’s like an iceberg.  The formal categories are the tip of the iceberg that we see above the surface.  The informal categories are the part of the iceberg that is below.  And I would argue that, like an iceberg, most of it is below.  The size of these categories are not intended to reflect reality.  It’s all stylized, but I want to just say a word about each one.

Now, subsidies on prices is familiar.  To some extent, that can be considered a formal category if it’s transparent.  Often, it’s not, and I’m putting this here in the informal category primarily.  But when price subsidies are given on a commodity, it has a market price obviously higher than what the subsidized customer is paying, who is sharing part of the rents with that subsidized customer.  Informal taxes, what is that?  Well, that’s something that kind of harks back to the other work that Barry Ickes and I did on Russia’s virtual economy in the mid-1990s. 

Remember all these curious sorts of side payments and payment schemes?  It ended up transferring value from one actor in the Russian economy to another in very bizarre ways.  A lot of this continues today.  These are the things that are – these are payments made, for instance, by resource provision companies to local governments, even to the federal government, that are not mandated by law.  They’re, therefore, not formal taxes, but they’re pretty obligatory anyway.  As one Russian writer, one Russian scholar, described this kind of phenomenon, at the local level he talked about like compulsorily, voluntary payments to local government funds, foundations and other things like that.  This is the money that companies spend to support the social sector, charitable projects, sports teams, stadiums, schools.  Again, a legacy of the Soviet period that has continued through the 90s and into this millennium.

And finally, down at the bottom, excess extraction costs.  What this is is cost of extraction, cost of production of the oil or gas, that are made not for economic reasons, but for political reasons.  Another way to, if you like, invest in building up good relations and building up goodwill, partly with local governments, partly with other major industrial interests who benefit from padded costs, excess costs, that a lean and mean type of strictly market-oriented producer would not engage in.  And in fact, the system is not only the legacy of the 1970s that remained through the 80s and 90s and into this day, it is extremely well-rooted, well-anchored, in Russia today, and I would argue – and I’m not the only one that argues – that for all the things that Mr. Khodorkovsky did that made him enemies, made him the enemy of many, many people in Russia, perhaps the one that made him the enemy of more people and more powerful people than any other was that Yukos, using the methods introduced from the western [indiscernible] consultants who then later became part of Yukos, that threatened that entire system of rent sharing in a way that was infamous, but completely invisible.  And that does explain, to me at least, why it was not enough just to remove Mr. Khodorkovsky from the management of Yukos, but that the company itself had to be dismantled and essentially destroyed as that type of oil production company that threatened that whole system and put things in a different way.

And I know now I must be running out of time, and I won’t take it anymore.  But I do want to finally make the point – and again, I’ll just have to refer you to the articles that I referred to.  The importance of this picture, this argument, about rent sharing and its historical legacy, the deepness of its roots in today’s Russia for the initial dilemma, the critical question that I shared when I showed the decline in growth rates in oil output production from the beginning is the following.  And it is, it is this system of rent sharing that is causing not just the last couple of years of decline in output, but the inevitable decline in outputs, stagnation and decline in output in Russia, and the delay in moving into developing the truly new fields, the new areas, the new oil that Russia would need to bring online and bring online very, very soon.  And it may be too late to save some pretty major declines in Russian oil output coming up very soon, in any event, if Russia is to remain a major player, a major producer, for not just a few more years, but a few more decades.

And it is the fact that – and again, I will use a phrase that I’ve used many, many times to sum it all up – the economic historians have written some really brilliant work on refuting the idea of the inevitability of an oil curse for resource-producing nations.  Gavin Wright from Stanford University talked a lot about how in nations that have resources, so much attention is given to divvying up the bounty, divvying up the bounty, dividing up the bounty, that very little, if any attention, is given to creating the bounty, and that is really the dilemma that all of those nations face, much more and much more acutely than the one of diversifying away from the great advantage and great potential lesson that they have.  It is really how to sustain that advantage and sustain that lesson, and I think that this is exactly the issue for Russia right now.  All the focus is on divvying up the bounty, sharing the rents or sharing the control of flows of the rents, and virtually nothing is being given to the fundamental question of how to create the bounty.  Thank you.

[applause]

Leon Aron:
Thank you very much.  I would ask everybody to hold on to your questions because we are going to take the questions for all the panelists when all of them are done.  And now, we’re moving to Julia.  Well, I think there is a – [panelists dealing with technical issues].  There we go.  Thank you very much. 
[panelists continue with technical issues]

Julia Nanay:
Well, on that happy note, I guess what I’d like to do is get into some of the actual developments in the offshore – well, in the oil and gas sector in Russia and some of the future prospects for developing new areas as Russia goes forward.  I think I do agree with many of the things Cliff said.  One of the key issues that the government is now trying to address is where does Russia go from here?  And Western Siberia has been the major producing area, but now the effort is to try to diversify to East Siberia, the far east, and the offshore.

I just thought I would start with a map of what some of the key offshore regions are in Russia because this is the area that, after 2010, is seen as one of the more promising areas for production for the country.  Sakhalin is currently the major offshore producing area, and that’s likely to stay that way for quite a while.  I apologize, but because I did a .pdf file, this is a little bit difficult.  As we discuss the question of Yukos, Yukos was the engine of growth in Russian production between 2000 and 2004.  In 2005, and maybe I should say more in 2006, this is really changing with Sakhalin, which could become the engine of growth for the next few years.  And after 2010, the Russian government, as I mentioned, is looking for new production from various offshore areas, Timan-Pechora, Eastern Siberia, and the Yamal Peninsula.

One of the key issues, of course, that is haunting probably western oil companies everywhere in the world is the issue of high oil prices, and that’s true for Russia as well because, in addition to the problems that were always there in the sector, now you have this environment of very high oil prices that creates added inefficiencies and problems for foreign investors.  These are some of the key areas and fields that we can identify – well, offshore is where I’ve circled.  The Sakhalin projects are the ones where western companies already have key roles in the first two of those projects, and we’ll see what happens.  BP is also in a couple of the other Sakhalin projects in an exploratory phase, but we’ll see what happens for the future in terms of foreign involvement.

The Ministry of Natural Resources is a key organization in Russia that focuses on this whole question of what happens to the offshore.  The Ministry of Natural Resources came up with a strategy paper recently, addressed strategy for 2020, and they estimate that offshore production could account for as much as 20 percent of total oil and gas output by 2020 in Russia, and it could reach 1.9 million barrels a day, which is a substantial amount. 

Aggressive implementation of this strategy depends on a number of things that aren’t happening as quickly as one would like.  The differentiated mineral extraction tax, which would give a tax holiday for investors in the offshore, has not moved forward for the offshore area.  It has moved forward for East Siberia.  And a new subsoil law, which is still being debated, but the timing of the adoption of both the mineral extraction tax for the offshore and the new subsoil law is still uncertain.  At the end of April, as I mentioned, the government did adopt these MET changes for in Siberia, but left out the offshore.  So that’s going to be part of the Duma debate. 

The offshore strategy is hostage to bureaucratic infighting.  Various ministries and people are fighting the new subsoil law, and I’ll have a discussion on that later in the presentation.  The mineral extraction tax, I think, will be posted on the AEI website.  It basically gives you an idea of what the take of that tax is currently for the onshore areas, and that tax for East Siberia will be zero so it will have significant impact on East Siberian developments.

Taxes in general pressure the upstream, and Russia has really been very aggressive with the export tax.  As of April 1, $25.40 of every barrel is taken as crude oil export duty.  In fact, the various export duties take so much per barrel that it makes it basically impossible for companies at this point to look towards exploration.  That is why everyone still looks towards the big existing fields and projects as the major source of oil development.  But higher taxes are redirecting earnings to the state, and they’re depressing upstream investment and slowing the production growth.

The new subsoil law will be very important if it passes potentially.  If it were to pass and if the positives were accentuated, which is right now looking uncertain, it would create more transparency in the way that licenses are awarded.  And there was this element of shifting to auctions for new projects away from tenders, but in the end, as you look at it, while Russia is still talking about auctions, they really are so controlled with so little access for companies other than the companies that the Russian government determines, that it’s difficult to see how foreign companies, even if the new subsoil law is passed, are going to benefit.  For example, license auctions are not publicized.  The subsoil law requires publication of the notice of a license auction in at least one national press outlet and one local one, but somehow the dissemination of these notices is not done in a proper timeframe.  Foreign investors are often disqualified.  They can be disqualified even if they follow all of the requirements because everything is arbitrary, and very often in these auctions it’s predetermined who is going to be the winner.

Access to data is a problem.  It’s a problem here, and it’s a problem – in fact, everywhere in the world companies are finding this issue of accessing data.  In fact, when you go in and bid in an auction or a tender, very often you don’t have a complete set of numbers to base your bidding on.

The negatives, of course, are that, with this new subsoil law, big fields, very large fields that foreign companies would have access to, may either be off limits or foreign companies will only get very small stakes.  Shtokman is a very good example of this, although it’s gas, and I know we’re talking oil.  In the Shtokman fields, foreign investors each one will have very small stakes.

The Ministry of Natural Resources is definitely focused on the offshore, and the view is that two-thirds of the future offshore resources are in the Barents and the Kara Seas.  Gazprom is the lead player in this area.  Gazprom sees the Barents Sea, which is where Shtokman is, as a critical area for its projects and for its future growth.  Gazprom is involved in an oil field there called Prirazlomnoe, which is a field where foreign companies through the years had some hope of involvement, but right now it’s being developed without foreign partners. 

The Arctic is seen as the most promising area for new offshore production, but, in fact, because Arctic developments are so difficult to manage and need such sophisticated technology, foreign companies feel that they should have and could have a very important role in the Arctic project.  This shows though that the Arctic developments, they have challenges.  There’s a boundary dispute still between Norway and Russia.  The environmental conditions are harsh, and the technical issues are very difficult.

There are various tenders or auctions, I guess you could call them either way, that are being planned, and the Ministry of Natural Resources has said that decisions about which foreign companies can participate in the offshore will be made in two stages.  They’re going to have a pretty harsh judgment.  It’s going to be on the basis of the volume of production and investment companies already have in Russia and their technical and financial capabilities.  And then there’s going to be another stage according to how much companies are willing to invest in exploration and how capable they are of meeting deadlines.  One has to say that in these very complex offshore projects companies are probably always going to see the timing slip and probably the cost much higher than they estimate.

Again, while Shtokman isn’t a focus of discussion, I think it is a key project for US companies at this point that are looking to be involved in Shtokman.  It is the major project right now that the Russian government has offered for foreign involvement and, certainly in the US, the US government is looking closely at this as well.  As I mentioned, the Barents Sea, which is where Gazprom is seeking to stake out its future for the offshore, there is a disputed area with significant reserves, and this disputed area has boundary disputes between Norway and Russia which they haven’t been able to settle.  But supposedly, there are such huge resources here that that is probably one of the reasons that it’s been difficult to negotiate a settlement for the boundary dispute.

 The Black Sea, I think, is something that, again, has to be watched closely because it’s becoming of greater interest to Russian and foreign companies and particularly since Ukraine in March had a tender for a big offshore block in the Black Sea, which a US independent in Houston, Vanco, won.  This, I think, has stirred some attention in Russian circles, and potentially Russian companies will get more active here as well.  LUKOIL and Rosneft are already there.  Rosneft has been exploring offshore Tuapse.  The biggest challenges are insufficient exploration and technological issues, and also Russian companies lack deepwater capabilities and offshore rigs.  But there is a renewed interest in this particular area of the offshore.

Russian Caspian Sea is another one.  LUKOIL announced discovery of what they say is the largest oil field discovered in Russia in the past 10 years with very good quality light, sweet crude.  LUKOIL has a dominant position in the Russian sector of the Caspian Sea, but, if one looks at LUKOIL’s activities closely, they are probably the company with the most licenses in all of the Caspian.  In Kazakhstan, in Azerbaijan, in Russia, LUKOIL is turning out to be the most important company involved in the Caspian Sea.

Finally,  Sakhalin I and II, as I mentioned, these are the most important current offshore producers, and Sakhalin Island could not have been developed without the foreign companies that are involved there.  Sakhalin I, Exxon Mobil, and Sakhalin II is Shell.  Exxon Mobil is partnered with Rosneft, and Shell may be partnered with Gazprom, which is trying to come into Sakhalin II.  Very interestingly, of course, these are oil and gas areas, Sakhalin I and II, and Gazprom and Rosneft are, in a way, fighting it out over who is going to have the rights to market the gas from Sakhalin I where Rosneft is involved and which has sizeable gas assets that could actually be shipped by pipeline on Russian territory to the Chinese and Asian markets.

My final point is that, in terms of developing the Russian offshore, that international oil companies are essential to doing this.  I know that it’s possible to argue that onshore you can use service companies and that they can substitute for the management skills of the international oil companies.  But in these big offshore complex developments, which are even difficult for the IOCs and very often are using state-of-the-art technology and just new ways of doing things, Russian companies are going to need help.  So this is why so many foreign companies, so many IOCs and US companies, are focusing on the offshore in Russia as the next potential area where they may have access.  Thank you.

Leon Aron:
Thank you very much, Julia.  [audience applause]  All right, Marco, I’m going to you.  Let’s see if you could – [participants get set for next speaker].

Marco Fantini:
Thank you very much.  So the title of my presentation is Russia’s Energy Policy in the EU-Russia Relations.  Now, until now, we have listened to very interesting explanations and comments about what has been going on in Russia and how the oil rents in the Russian economy has been shared and what are the prospects for future production in the different oil fields.  Now, I would like – my presentation comes from a slightly different angle and looks at what are the consequences of the trends in Russian for the outside world and specifically, in my case, for the European Union because I work at the European Union.

Now, I think we can sum up developments in a very concise way in Russia in the oil sector under two headings.  One main heading, I’d say, is nationalization.  So nationalization as a general concept, so the government has been increasing its role in the oil and gas sector, both directly, that is to say by acquiring directly with the management, the ownership, of energy reserves and indirectly by actions that have the same effect, such as the—we’ve heard about the increase in taxation that is transferring more and more of the oil wealth and gas wealth from the remaining private companies towards the government.

There is another interesting trend, and it is the trend towards or it is the hint that Russia’s oil and gas power should be somehow linked or could be somehow linked to wider objectives, such as foreign policy objectives.  Now this, I think that this in Europe has, of course, created certain concerns because, if you think that you can use your oil wealth or your gas wealth for other reasons than strictly for commercial reasons, well, the fact that your energy sector becomes more and more donated by the state makes it easier, of course.  So that is why in the European Union we have been looking at these developments, and I’m going to sketch out here how we assess these developments and what we could do about them.

The EU, well, I think it’s quite interesting that even here in the US there is this great interest about what is happening to Russia because the US is, after all, not in the front line, so to speak.  The US is an important oil producer.  You cover probably around half of your needs, and, at any rate, you are mainly dependent on oil.  And oil can be imported from different suppliers, so it is true that, of course, what happens in one supplier affects the price of oil, but oil can be transported easily.  So if one supplier turns off its tap, you can still go to another supplier. 

And Europe is in a more delicate position, I would say, because for two reasons.  First thing, because we are, as I said, at the front line, which results in our importing also energy hydrocarbons from Russia, and because a lot of these imports take the form of gas imports.  And gas is difficult to transport.  The best way is to use a pipeline, but a pipeline is something that is very costly to build and, once you build it – it takes many years – and once you build it, you’re essentially locked into a bilateral relationship because the supplier has to recoup their investment by selling to the destination.  And the destination, the buyer, cannot say, okay, I’ll stop buying this gas and go somewhere else because there’s no way to transport it there.
And so, that is why I’m going to focus – another characteristic of the gas sector is that all that we have heard today about the oil sector can be applied to the gas sector as well and probably in an even more intense way, so to speak.  Gas rents are probably now higher in the gas area for various reasons, but essentially, to simplify, because the gas area is more nationalized.  It’s still more nationalized than the oil sector.  And the production concerns that we have heard exist on the oil front are equally or perhaps even more relevant for the gas sector.

So, as I said, we are a front line state, not only geographically.  We are front line in a sense because the EU is heavily relying to imports of energy and, in particular, from Russia.  And 70 percent of EU energy needs will have to be satisfied by imports by 2030.  Currently, we are at the lower level because the European Union has been utilizing for many years now North Sea oil and North Sea gas, but in the North Sea the resources are declining.  We have used up most of it.  It’s coming.  The production is going to decline.  That cannot be stopped. 

Another interesting feature is that Europe’s – so Europe turns essentially for oil and gas, to a large extent, to Russia, and this is not new.  Russia has been supplying oil and gas to Europe already since Soviet times, and an interesting feature of that supply relationship is that, even though we were in the Cold War at that time, the supply of oil and gas has been, was, extremely reliable.  And, as Mikhail Kasyanov said in Brussels on the 10th of May at the conference where I was also participating, at that time not once was supply interrupted throughout the whole Soviet Union.  So the Soviet government has placed a lot of weight on this.

Now, this actually has - or there has been an episode recently.  I don’t know how much attention has been given to this in the US, but it has made the headlines in the EU.  At the beginning of January over a gas dispute with Ukraine, the supply of Russian gas to the EU was curtailed, not by a dramatic amount.  This was not a tragedy, but there was a decline of supply, so this was a first, in a sense, in this relationship.  And you can imagine the impact that had on EU public opinion and on EU policy makers.  Obviously, if you are reliant on gas supplies to make your factories steer, if something happens to that reliability, you have to pay attention.

And as of today, EU gets 30 percent of its oil and 50 percent of its gas from Russia.  This I have already mentioned, so I am going to pay more attention to gas during the rest of this presentation.  But do not think that oil is so much a different story from that because the key, prices for the two are linked.  So if something bad should happen to gas, then that would have an effect on the oil price, and vice versa.  So I have said before that the situation concerning the gas sector is similar to that of the oil sector, but possibly more critical, and that I have said before.

Now, in fact, two trends deserve an important mention, and one is that there is a growing gap.  The forecast we have points to a growing gap between demand and supply of gas.  Gas is getting more and more popular.  For various reasons, demand for gas is growing much more than demand for oil, so we see here.  And as a result, the share of gas – natural gas – in the EU energy mix, so the mix of sources that we utilize in the EU, is set to increase significantly. 

So why is the use of primary energy going to increase by 20 percent from now to 2030?  The demand for gas is going to increase by 60 percent.  As I said, North Sea production is to decline, and so we need imports to fill the gap, and these imports can come essentially from two sources.  Guarantee there aren’t too many sources.  One is Russia, and the other is Algeria, but Algeria has already highly – the source is highly utilized. 

Already by 2020, gas imports are set to rise – EU gas imports are set to rise – by 200 million tons of oil equivalent.  Now, even in the – let us say where are we going to get these 200 million tons of oil equivalent?  Well, the Russian Energy Strategy to 2020, which is an official document, foresees that Russia will be able to increase export capacity by only 50 million tons, so one-fourth of the EU needs.  So already this, irrespective of the politicization of the debate that has happened and irrespective of possible disturbances in future Russian oil and gas production, already this would imply that the EU would have to find a solution to this problem. 

So where are we going to get this gas?  And moreover, increasing exports by the amount foreseen by the Russian Energy Strategy would require up to $200 billion in EU investment, and we have seen that the investment climate is not improving in Russia.  And in particular, it’s not improving for private companies, so these, of course – these facts – are facts that we have to consider in the EU.  And, as a result of that, the EU has said quite clearly and quite openly that it considers necessary to diversify its energy supplies.

Now, the problem with this is that, of course, these concerns, legitimate though they are, but they create a mirror effect on Russia because, as the EU starts talking about the fact we need to diversify energy supply, this to Russian ears sounds like you guys don’t trust us, and they are trying to limit our role as suppliers, and they’re looking somewhere else.  And they are going to treat Russia as a supplier or last resort.  So obviously, this situation is not ideal, especially if trust levels are not ideal or not as high as one might hope.  So if we put the Soviet – these are facts.  Now, if we put the fact that there is a gap between demand and supply and we add on this all these additional concerns, which I’m going to comment on individually, well then the political debate and the relationship can be affected, of course.  And you understand that, given the extreme strategic importance of oil and gas, well this is bound to have implications for the political level.

So as I said, our main factual concern is that, upon current projections, there is going to be a demand and supply gap.  Then there are these concerns that have been already briefly mentioned, the debate about using energy as a foreign policy tool.  Now, I will briefly, for instance, comment on the fact that Russia or Gazprom, Russia’s gas monopoly, has been renegotiating contracts, supply contracts, with a number of ex-Soviet states.  And I have already said that this happened with Ukraine, and that led to a short in production in gas supply.  This has happened also and there have been other instances in Georgia that has been also instances such as Belarus and some more. 

So an interesting fact, by the way, is that Russia sells this gas – or Gazprom – sells gas to the former satellites of the former members of the Soviet Union at a far lower price than the price asked of EU member states.  So the prices are, if I remember well, about one-third to one-fourth.  And so, the Russians say, and quite legitimately, that this is uneconomical, and so prices should go up.  But of course, if this happens in the context of a political tension, then this is bound to have a series of repercussions.  And in particular, some analysts have linked, have said, that the aggressive tactics used in the Ukrainian case may reflect the fact that Ukraine has, in a sense, turned rather towards EU in terms of foreign policy and is now neglecting the historical ties with Russia.  So some analysts link these moves to Vladimir Putin’s foreign policy.
Re-nationalization of energy sector, well I have said, well, that is a concern because if you have other than commercial concerns then it makes it more difficult for your partners to see what is the strategy and what are the incentives that can be offered.  And it gives objectively greater possibility for using energy as a foreign policy tool.

Another concern is lack of third-party access to Gazprom pipelines.  Now, what does this mean?  Gazprom is Russia’s gas monopoly, but it is not the only company in Russia that produces gas.  When you drill oil, very often you have as a byproduct is gas, and, if it were possible to sell that gas, then of course the production of gas could be – it would be great.  But now, what’s happened is that currently a lot of gas is flared in Russia because independent producers have not been able to find with Gazprom an arrangement to transfer this gas towards customers in the EU, for instance.  Now, in a sense, in the EU we would like that this gas would not be flared, but would be sold to us, and of course the fact that, in a sense, Gazprom is in a conflict of interest in this because Gazprom owns the pipelines, but one may think that they are not so enthusiastic in letting other independent producers of gas or their rivals use these pipelines.

Another issue is the fact that Russia has, so far, not agreed to sign the Energy Charter Treaty and the Transit Protocol, which are treaties that are – I won’t go into the details, but which the EU thinks would increase security and supply.  The Russians, of course, have their reasons, but still these treaties are not being signed.  And so, overall then the overarching problem is, of course, a slowdown in oil and gas production.  We have spoken about oil production decline, and the situation in gas is, I think, even worse.

Finally, there is another point, which touches the EU quite directly.  Gazprom, the gas monopoly, which, as you know, is controlled by the state, is following a strategy or a signaled wish to expand downstream into distribution of gas.  So not only downstream and abroad.  They already have struck these in several countries, such as Moldova most recently where they have exchanged their gas debts for control of the local distribution company, and, generally speaking, Gazprom is interested in this.  There has been talk, for instance, of Gazprom being interested in acquiring a UK company, Centrica.

So this vertical integration it may very well make sense from a commercial viewpoint, from a company viewpoint, but this creates a problem for the EU in the sense that we are trying to introduce in our gas market more competition.  And obviously, it’s difficult – well, this is already quite a difficult enterprise in itself with the existing EU structure, which is characterized by a small number of large private companies.  But if you throw into the equation a foreign company which is extremely large and extremely important, Gazprom is one of the world’s – it’s probably the world’s most important gas producer, which on top of that is controlled by the state.  Well, obviously that can create a concern for competition.

Now, the Russians, as I said, have concerns too, obviously. They are alarmed by this talk about EU diversification of supplies.  They fear that the EU will impose restrictions on long-term supply contracts.  Now, let me explain this point.  As I said, the EU has been trying to introduce more competition in the energy market generally and in the gas market in particular.  This is technically not easy.  Why?  Well, the reason it’s linked to the story I told you about pipelines, when you have a – a pipeline is something that is costly that you can only envisage building it if you have a guarantee that for 30 years your buyer will keep buying your gas.  And so, the usual way this is done is that you sign a 30-year contract in which you say, okay, I sell you the gas, and you are obliged to buy my gas at this price and so on.

So the problem with this is that having a 30-year contract with someone who is your sole buyer of gas obviously does not – well, it creates a problem if you want to introduce more competition in the gas market because there is only one company who is buying this gas.  So whenever the EU says we want to create a spot market for gas similarly to what’s already happened for oil, so oil has a spot market.  Gas does not have a spot market or, at any rate, it’s not developed.  So we would like to introduce a functioning liquid market, but it’s technically difficult because of these long-term contracts.  But when the Russian’s hear this, as I said, they get alarmed because they think, no, no, they want to outlaw these contracts that Gazprom has signed and which are indispensable for Gazprom to continue producing and, in particular, to continue exploring foreign gas.

I have mentioned also the Russians quite legitimately fear restrictions to Gazprom access to the EU market, so whenever the EU then says, well, we need to have a gas market which has many players and so then the Russians start worrying that Gazprom is then blocked in its quest to acquire distribution companies.  Well, political risk in transit companies, well I won’t go into the details, but I think we’re all aware that Russia has been discussing for years and years with Ukraine, for instance, about the Russians say that the Ukrainians were pilfering gas from the pipeline.  And Ukraine would say, no, it’s not true, and so on.  So these are concerns that remain and that the Russians would like to clear.

And then, as I said, there were the transit clauses and the energy charter, so the EU would like Russia to sign up with this treaty to increase, to improve, its supply.  But there are some clauses which the Russians don’t like.  And finally, there are fears on the Russian side that all this highly politically-charged debate leads to obstacles to the WTO accession.

So as I said, there are all these concerns, and how can the EU try to solve them together with the Russian government? Well, there are some problem-solving forums, and one is, of course, the summits.  The EU has regular summits with the Russian President, twice a year, but at a more technical level there is the so-called EU-Russia energy dialogue which is the initiative that was set up in 2000 whereby the EU Commissioner for Energy - so Commissioner in Eurospeak is the Minister – so the Minister for Energy of the EU meets the Russian Energy Minister. 

Now, this is a high-level forum between the EU and Russia representatives which has helped solve problems of compatibility, so a series of technical problems.  It has also promoted energy efficiency projects.  This is important because Russia has a very wasteful way of using its energy since it is cheap and domestically it is much cheaper, of course, than the price abroad.  So quite naturally, they are not so intent on saving energy at the economic level, so of course this problem of a lack of gas and lack of oil could be addressed also by making the Russian economy use its gas more efficiently.  So the EU-Russia energy forum has provided a series of initiative, but nevertheless challenges still exist, and this forum has still work to do.

As I said at the beginning and generally, these supply cuts to Ukraine has made big headlines in the EU, and energy is now hotly debated in all EU member states and at EU levels.  And so, the EU Executive has brought out a green paper on what should be our energy strategy, which of course indirectly also looks at the Russian issue.  And this green paper signals very clearly that a fundamental reassessment of the EU energy policy has begun.  The green paper has been adopted in March by the Commission.  The Commission is the EU Executive, so it still has to be adopted – this is a green paper, so it’s not yet legislation in force, but it starts a debate, a policy debate.  And as I said, it does not specifically address this process, so it is a whole reassessment of energy policy overall because we need to do that.

So what are the objectives?  Security of supply, competitiveness, and sustainable development.  Now, the third of these objectives is linked with global warming, so I won’t go into that now.  But security of supply and competitiveness do relate to today’s subject.  So the green paper identifies six priority areas.  So the first is complete internal market and external of the gas market.  Now, what does this mean?  Well, I won’t go into the details, but essentially this first objective means that the EU now has as a priority the intention of introducing more competition in the gas and electricity market.  And the aim is to – well, why?  Because less competition means more efficiency, so we can hope to meet our energy requirements in a more efficient way.  Now, as I’ve said, this has actually from the Russian side some implications, and some elements of this can make analysm, policy making – or I think this is not justified, but it has implications for Russians in the sense that it makes some Russians worried.

Another priority area is that the EU has decided that in the face of possible supply shortages, as have already happened, we need to have a better mechanism for dealing with emergencies and for dealing with situations such as a breakdown in the network.  And when I talk about network, I’m referring to the gas pipeline network, to the oil pipeline network, and to the electricity pipeline network.  Now, I haven’t got the time today, but it could be interesting maybe in a future conference the electricity because Russia would also like to export electricity to the EU, and that has also a number of implications.  But we haven’t got the time today.

Another clear policy orientation is to change the energy mix away from – so to increase the share of secure supply and to review, to increase the share of low-carbon energy.  And each member state, well it is proposed, that each member state in the EU, which has 24 member states, should have a minimum share of secure oil energy and oil – low-carbon energy.  Now, this can make – this has an impact on Moscow because, if you see this from the Russian side, you may worry that this means that the EU is trying to reduce its exposure to Russia in various ways.

The fourth objective is climate change, then fifth objective is new energy technology to reduce consumption.  And then there is the final priority area, which is to have a new, more efficient setup for external energy relations, and this also includes Russia, and, in particular, the EU here has said quite clearly that it wants to build up relations not only with Russia, but also with other suppliers, the Caspian countries and Central Asia and so on.  And that also can have an impact on Russia.

So the way forward, well, this does not mean that the EU is growing hostile to Russia.  On the contrary, we think that the dialogue with Russia should be revitalized, and this has been said by the European Council in March.  But one way to do this is that there should be secure and predictable investment conditions for both EU and Russian companies.  So the Russians are worrying that Gazprom may face or other companies may face obstacles.  Well, for both sides there should be secure and predictable investment conditions.  There should be reciprocity in access to markets and infrastructure.  So it is okay for Russian companies to be active in the EU market, but the same should happen the other way around. 

And so, this, in a sense, refers to the growing difficulty for foreign investors in the energy sector in Russia.  There should be no discriminatory third-party access to pipelines, as I’ve already commented upon.  The EU has expressed understanding for the Russian need of security of demand, a legitimate concern, so we do not want to abolish long-term supply contract or that sort of thing, but the EU has restated the need that, given the slowdown in energy supply growth, so in oil and gas supply growth, there should be kept an investment starting quickly now.

And finally, oh, and the overall objective is to create a deeper energy partnership with Russia, which should be based on mutual security and predictability.  So I’m coming to the conclusions.  Now, these are my personal conclusions.  There is, as I said, the gas price issue is, if you look at the economic models of these kind of situations, well they suggest that when you have a monopoly such as Gazprom facing a monopsomist – a monopsomist is a sole buyer, so this is a classic pipeline situation, have a sole supplier and a sole buyer.  Now these models, generally the results from the economic literature suggest that the price equilibrium in the short term can move sharply.  So we have seen an example of that in the Ukraine.  That has been a negotiation, and the price of gas has gone up quite sharply, quite suddenly.

So in the short term there is, in my view, a potential for sharp price changes, but the aggressive negotiating tactics in this field can, if they can bring a short-term payoff – and they can because Gazprom may say, well, all in all, we’re going to sell gas at Ukraine at a much higher price so there is a short-term payoff.  In other words, speaker William Browder, I saw a comment.  He said, well, this is good for Gazprom.  If they stop subsidizing Ukraine and all other companies, so this can have a benefit in the short term.  But the costs, the long-term costs, are important, and they rise with time because if your buyer comes to the conclusion that he or she is facing a situation whereby the price can go up very much in the future, well obviously then the reaction will be let’s try to find another source.  So you can make a killing in the short term, but be aware of the long-term consequences.

And my other conclusion is that, well, we have seen a lot of talk about Russia too going to switch the focus of its energy partnerships.  So the Russians are saying, well, we don’t really need to sell only to the EU.  There’s China next door, and there are so many other countries that need the gas and oil and so on.  Well, however, if you look at how much it costs to build pipelines, then my conclusion is that beyond the rhetoric economic rationality makes it impossible for either EU or Russia to move to turn away from the other as a major energy partner.  So the EU and Russia are bound to remain major partners.  Nevertheless, the current climate results from concrete issues which has to be addressed and will need to be addressed if we are to come to a more satisfactory, more secure, and more predictable climate in the future.

Finally, I would like just one word on the G-8 presidency.  It is now in June it will be Russia’s turn to chair the G-8.  G-8, as you know, is an extremely important forum, and the G-8 presidency is going to be an important test of Russian intensions in this area because one key theme of the G-8 is going to be energy security.  And there is a lot of expectation about what Russia is going to do in this context because the situation as it is now is not completely satisfactory, as we all know.  So I think that overall there is a keen expectation for some for how the Russians will handle this.  So are there going to be policy announcements from Vladimir Putin or is everything going to be business as usual?  Well, we’ll see.  Thank you very much. 

[audience applause]

Leon Aron:
[; off microphone] and I would encourage, of course, the panelists, as always, to speak to the questions, even if they were not posed to them.  Anders,  you wish to ask.  Please feel free also to ask several panelists if you have different questions for them.

Male Voice:
 [indiscernible; off microphone]

Marco Fantini:
Yes, well, they are very detailed questions, and actually what is the official new response to the 18th of April speech to – well, I don’t know there has been an official response to that particular speech, but very clearly I think that the official new response is the presentation of this green paper.  So this is the policy line for the moment, and we are in a phase of reflection.  I think the EU is certainly not – has no intention of stoking up the fire, so I think that there is a general expectation that the Russian government will make some steps.  And as I said before, my personal view is that perhaps now the G-8 might offer an opportunity for this.

There is no denying that there are negotiations going on, and in these cases, until the 11th hour, you don’t know which way it is going.  So my personal guess is that I would hope that the opportunity of the G-8 does bring about some change and that there is a need for flexibility, and I think both sides have to be flexible.  If nothing happens at the G-8, well, that will be very bad news, I think.

And I think this comment will be referred also to your question on the Energy Charter Treaty.  I think that all these issues are tied together.  You have referred to the EU agreement with Russia on the WTO, which did, as you said, include clauses on Russian domestic energy prices.  Now you say the EU should be rid of that.  Well, I don’t know.  That’s your opinion, and, of course, I’ll tell my bosses about it.  As you said, this is an extremely complex negotiation with many different elements, and so I think it can only be handled together as a package deal.  So that would be my answer.

Anton Fedyashin:
Good morning, Anton Fedyashin, Georgetown University.  And at the risk of sounding as a conspiracy theorist, which is all the rage on Catholic campuses these days, is there a scenario in which domestic instability in Iran or the international isolation of Iran will work in favor of Russian interests in the Caspian, both for gas and for oil development and exploration?  Thank you.  Oh, to all the panelists, whoever.

Julia Nanay:
I don’t think domestic instability in Iran would serve anyone’s interests in the region.  I mean, with high oil prices and Russia has energy, you can argue that Russia benefits because oil prices go higher, and their energy is more in demand.  But I think that could potentially bring other types of problems to the region and even to Russia itself that I don’t think would benefit anyone ultimately.

Ron Davis:
Thank you.  Ron Davis from the State Department.  A clarification, I believe the EU receives 50 percent of its imported gas from Russia, but not 50 percent of all of its gas.  I think the chart might have given that impression.  And the second point is we’ve seen European gas companies like Rurgas; off microphone] involved in a lot of joint projects with cross investment with Gazprom seeming to move actually closer in a relationship with Gazprom.  What is the relationship between the EU Commission and its ability to influence these large gas companies?  I saw in the Financial Times yesterday that they had rated actually the corporate officers of these firms, but I’m not clear on just how this works.

Marco Fantini:
Yes, well, the EU Commission has the role to propose legislation and regulation.  But yet another role which is extremely important, that is the role to enforce competition law.  So in Europe in the European Union there is a single set of competition law, let us say, for all issues beyond a certain threshold.  So whenever a business deal is big enough, then it is EU law that is applied.  And obviously, energy companies generally have a high turnover, and so EU competition law comes into this.

And I have referred to several times in my presentation about the fact that the EU wants to introduce more competition in the gas and the energy markets overall, so very clearly there has been a drive towards this.  And I was referring to this development too, in particular, so there is on the one hand a wish to strengthen the regulation, but on the other hand there is a new very strong emphasis on investigating abuse of dominant position in the energy sector of finding if that exists and, if it exists very clearly, then this will be fined and fought very forcefully.  And as you said, there have been downgrades that have affected several large energy companies. 

Now, of course, that’s just the beginning of the investigation, and, well, we’ll see at the end of the investigation how that happens.  But it all comes within this more general objective of upholding competition and improving the functioning of the market.  EU Commission does not – as I said, its role is that of a regulator, and they’ll not try to manage the deeds of companies in the private sector.  That’s not our – we don’t do that.  But of course, we have to enforce regulation.

Alexander Goltz [phonetic]:
Good morning.  I am Alexander Golub Senior Economist at Environmental Defense, and my question is to Clifford.  Clifford, when you calculated oil rent, did you take into account rent if you did it within Russia in the form of hidden subsidies?  And if so, did you analyze relationship between Russia economy decline and recoveries growth somehow if it was some correlation with different distributors between the countries?  Thank you.

Clifford Gaddy:
Absolutely, the hidden subsidies – I think I mentioned that subsidies are a mixture of the formal and the informal.  Some subsidies are transparent, they’re public, they’re even legislated by law, but others are hidden.  And there would be a way to distinguish between the formal and the informal, and, indeed, those categories of distribution of rent are very stylized.  They’re arbitrary because each of them could be subdivided into different subcategories of distribution.  It was just to illustrate the point that there are ways in which rent is distributed far beyond what we often think of as the arena of rent seeking, which is really fighting for budgetary funds. 

That’s, I think, what we think about first and foremost, lobbying for government funded projects and so forth.  And the intent of that was to underscore that that indeed is a big thing going on in Russia, as in many other countries, all of the countries.  But Russia is somewhat specific in so many areas, such large expansive areas, of informal distribution of rents, and the informal subsidies obviously are a very important part of that.

Pam Benson:
Pam Benson from CNN.  You talked about keen expectations for the summit, but no one has really said what are the minimum steps that Putin might need to take at the summit to show that he’s trying to counter some of these issues you brought up about unfavorable tax policies, failure to develop new fields, creating conditions for western investment.

Marco Fantini:
On behalf of the Russian President or -?

Pam Benson:
Well, what does the Russian President need to do at the G-8 summit, sort of the minimum steps, to show he’s moving in what the West would consider more favorable ways?

Leon Aron:
[indiscernible; off microphone] for what Putin should do.  [indiscernible; off microphone]

Marco Fantini:
Well, I think all these – I have mentioned several things that could be done, such as the energy – progress on the Energy Charter Treaty and the Transit Protocol or reassurances on the fact that Russia is going to address the problems that we have discussed today in a concrete fashion.  So I think there’s quite a wide range of things that could be done, but I think whatever is done should not be a purely cosmetic gesture because at this point it wouldn’t – it would be very visible.  So I don’t think there’s any shortage of areas where progress could be easily made – I mean, easily could be made.

Julia Nanay:
Well, I think discussing this internally, we would love to have them hold up a map with pipelines and say the CPC expansion is going forward, we’re going to deliver an extra 800,000 barrels a day to western markets, Shtokman is going forward, we’re going to have “X” companies here, and this is going to deliver gas to western markets by “X” date, and whatever other projects.  Sakhalin III, we’re going to bring back the western companies to move that forward quickly so it will provide supplies for international markets, we’re going to do the pipeline from Kovykta to China to get that gas field unlocked.  There’s a whole list of projects that should move forward, and, frankly speaking, I’m not sure that the G-8 is going to provide any of those assurances.

Clifford Gaddy:
I think for the most part the US supports the interests that the EU has.  I mean our interest in Russian energy is really mainly the way it reflects to how it affects the EU, and that makes all of the EU concerns very important for us.  Secondly, the US is always interested in its oil companies and the IOCs and their interest, and presumably there could be some things that would be done to reassure them.  But I would say from a personal standpoint, if I were thinking of US policy, I would be more concerned about the general sustainability and viability of Russia as a producer, less concerned about who they deliver the stuff to.  That’s Russia’s concerns and the concerns of the recipients, which is generally not the United States of America directly. 

But to the extent that Russia continues to supply as much energy as it can to the world pool, we benefit, and that’s probably the healthy way to look at it.  It means that we have to be prepared to accept a lot about what Russia does with its energy, but the bottom line is that there’s some real effort put into trying to approach the reproduction of its wealth, the recreation of this bounty that I referred to, in a very serious way.  It’s not something we can demand that Russia do.  If they don’t do it themselves, what can we say?  But it would be a great thing to see them do, and then, as I said, it’s way behind schedule.

I flipped through some slides there just – or Julia did, I guess, just to end up my presentation that I never showed, but no matter how I come at it and no matter what optimistic forecast I take, including those that Julia mentioned from the Russian official energy strategy to 2020 about the pace at which they are going to develop all these new fields, the decline of the existing mature regions, Western Siberian, not to mention the Urals, is so rapid.  It’s going to be so rapid.  It has to be rapid right now that the bringing online of the new fields at the pace that it’s projected, even the optimistic pace, and, as Julia says, they’ll probably be behind schedule.  Russia’s going to be down by 2020 at this pace to well under 200 million tons per year, now I said 470, and that’s even giving them the benefit of an extra 90 or so that’s coming from these new sources. 

So this seems to me that, given the importance that Russia’s oil has had in these last few years, as I said, in the situation with Chinese demand surging and India now coming on and so forth, it really is pretty critical for the world that Russia maintains its energy production for the sake of the world, not just for the sake of Russia.  But ultimately, if the Russians don’t care that much about that, there’s nothing we can do about it.

Leon Aron:
If I could briefly switch the hat from the host to somebody who has thought about this, there’s a paper that I’ve recently finished you have in your folders.  There’s some very concrete steps that the Russian can assure the other G-8 participants in the summit.  For example, the no discriminatory access to oil exploration or gas exploration, the subsoil law that we’re discussing is extremely discriminatory.  It bars not just foreign companies, but Russians companies with over 50 percent foreign participation from exploring precisely the kind of giant fields, one billion plus barrel reserve fields, that Russia needs in order to support or maintain the energy security which Putin made the centerpiece of the summit.

The second issue is the private pipelines and the access to pipelines.  One of the things that follows from Cliff already the element to this backlog or drop of which Cliff has spoken is the fact that Transneft simply cannot maintain the flow of oil as it is now.  It already has backlog.  It certainly cannot handle the increase in the oil production that’s required in order to meet the demand.  And the projections, in fact, one of the authors of this projection, Vladimir Milov, will be speaking to us in the afternoon. 

What I believe I cite in my papers, the paper that you have, the number that within the next 10 years translates will be 100 million to 150 million at least tons behind of what Russia already produces.  And yet, as you know, one of the – and despite some high level lobbying from the United States – the Kremlin effectively vetoed the private pipelines, one of which from West Siberia to Murmansk was very hotly debated and actually came fairly close to being approved in the early 2000s – 2001, 2002.

If Russia does not create or does not allow a rescind to this veto on private pipelines, the question at the G-8 should be asked of the Russian President how does Russia plan to do it because everybody knows that Transneft does not have resources, does not use them efficiently, and does not foresee an increase in the pipeline capacity that is necessary to meet the demands.  So these are some of the issues, very concrete issues, that I think will be raised actually at the G-8 by Russia’s partners.  Please.

Ken Austin:
Ken Austin, US Treasury.  As the Russians have basically re-nationalized and reasserted control over the oil industry in order to get the rents, as Mr. Gaddy said, they’ve also implicitly seized, whether they like it or not, some of the equity risks of further development.  Now, the Russians have been publicly very concerned about getting some sort of assurance of continued security of demand.  Does this reflect their realization that they are assuming more equity risks if they nationalize the industry?  Are they then trying to find some way to keep the rents but shed the equity risks?

Clifford Gaddy:
You know, I don’t know.  I don’t know whether that does reflect that sort of degree of sophistication.  I suggest we ask Vladimir Milov these kinds of questions about what’s going on in the minds of some of these people.  It would be – actually, it would be a positive sign if they’re thinking in that way.  I kind of doubt it, but I may be wrong.

Leon Aron:
Yes, Marco.

Marco Fantini:
Well, in a sense, the stabilization fund, which has been in existence for some kind, represents some kind of insurance fund, so to speak, to buffer the consequences of price decline on the budget, in particular.  However, the OECD has argued that there should have been, it should have a greater size than it has.  So indirectly, there is this kind of macro economic insurance.

Leon Aron:
Yes, I think the last two, and then we’ll move towards lunch that’s being laid out for us, I believe.

Asadi Aradi [phonetic]:
Thank you very much.  That was an excellent presentation, and thank you very much for all that.

Leon Aron:
Could you identify yourself?

Asadi Aradi [phonetic]:
Yes, my name is Asadi Aradi.  I really liked the title, Whither Russian Oil?

Leon Aron:
Thank you.

Asadi Aradi [phonetic]:
The discussion was – I’m finding the discussion too rational for oil.  I wanted to address a little bit the rationalities of oil here.  Recently, there have been some heated exchanges between Vice President Dick Cheney and Russian President, so on and so forth.  Energy is very much part and parcel of that.  And Russian shot back and said that there is a return to Cold War, and then yesterday’s Financial Times had a very lengthy piece about how energy is going to be a very important part of a lot of bickering between the US officials and Russian officials.  I wonder whether anybody else – especially Mr. Gaddy – but anybody else on the panel would like to discuss.  I’m mostly interested in hearing about the rationalities of oil fears and the economics is wonderful.  Thank you.

Leon Aron:
And speaking of irrationality, this afternoon we’ll hear from Bill Browder, who is the embodiment of the – not he, but of somebody else’s irrationality.  Please, we’ll start with Cliff.

Clifford Gaddy:
Okay, very briefly, I didn’t mention anything about this in my presentation, but it seemed to be kind of inviting to do it.  Clearly, one of the, if not the main, concerns that the US has about Russia’s oil is that Russia’s oil has given it independence that it didn’t have before.  We describe that – we, that is the US Administration and various other people – describe that as assertiveness, aggressiveness, arrogance.  I heard somebody use the term not just with respect to Russia, but for all of these guys – Venezuela and Bolivia – as petrol arrogance.  I’m sure from the standpoint of Venezuelans, at least a lot of them, and the Bolivians, not to mention the Russians, that’s pretty bold American arrogance.  Okay, they’re not so poor that they have to listen to everything the US says anymore.  They can decide what they want to do.  You may not agree with it.  It may not be wise what they do, but it’s their choice, and they’re able to make it given that they now have their feet on the ground.  They have some ability to make these choices.

So this is what makes this whole discussion about Russia’s oil a bit curious and awkward from my standpoint since my presentation and even a couple of earlier comments made it clear that I’d like to see the Russians produce more oil.  I want to see them produce more.  Of course, that’s just going to, according to some people, make them all the more arrogant and be a bigger oil curse and so forth.  It has all these bad effects. 

As I said, I don’t think the oil is a curse for Russia.  I think it’s a blessing, and I think Russian contribution to the world pool of energy is, in and of itself, a good thing for the world.  Just ask yourself where would the world oil prices be without these 3 million extra barrels a day that Russia has contributed since 1999?  It’s real counterfactual and a lot of other things might have happened in the meantime.  Maybe China wouldn’t have grown as much without that oil.  Maybe the whole world would be in a depression.  But maybe oil prices would be not $70-80 a barrel.  Maybe they’d be $120 a barrel or !50 a barrel or $200 a barrel.  We have some different things we need to weigh in here, and the politics and the economics can definitely clash.

Julia Nanay:
Well, probably what Dick Cheney was expressing is the US frustration with the fact that, just look at two short years ago, we thought that the answer to instability in the Middle East was going to be Russian energy.  And now that’s not the answer, and now we don’t know where to look because clearly Latin America is not the answer either.  So we’re looking to Kazakhstan, but it’s a landlocked country and, unfortunately, being one of those countries that has the greatest upside potential, it also has to depend on pipelines through other territories.  And so, there’s a level of frustration.  Particularly, as we just mentioned earlier, there is added instability in Iran.  I think there must be growing alarm as to where does the energy then come from.

Leon Aron:
Marco, would you like to add anything?

Marco Fantini:
No.

Leon Aron:  All right, I believe we have one last question that we’ll take.

Sanjay:
Good morning. My name is Sanjay.  I’m going to be a student at Johns Hopkins SAIS, and I have a couple questions.  The first is for Ms. Nanay.  Do you think the current state of the US-Russian relations or further deterioration is going to have an impact on the work of American oil companies in Russia?  And my second question is for Mr. Fantini, and that question is why has Gazprom chosen now to renegotiate its contracts with other former Soviet states?  Thank you.

Julia Nanay:
I think the worsening relations are not just US.  It’s EU, it’s generally with the West, and it could have repercussions for companies.  It already has, to some extent, but I suppose we’ll see when the – I think the last element of the US-Russia dialogue on energy really is the Shtokman gas field, and how that gets decided will be interesting to see because after that I don’t know what else we would dialogue on about energy.  Everything else has kind of fallen by the wayside.  So if US companies don’t have access there, then I suppose you can say that really the big projects are Sakhalin and then – I’m just trying to think for US interests – some small companies in the south of Russia.  But really, the majors are increasingly squeezed from the US side, and Conoco has been very successful with LUKOIL, and I suppose maybe these will be the success stories.

Marco Fantini:
No, I wouldn’t say that Gazprom has now chosen to renegotiate the contracts.  I think the contracts simply came to – there are some predicted times when they are renegotiated, which are fixed in the contract.  I think the novelty is what has changed is that now the requests for price increases have been markedly higher in a number of cases.  So it’s not an issue of breach of contract, but the issue is the request for the price increase, which was, let us say, more higher, relatively high, compared to the historical price.

Leon Aron:
All right, well, I would like to thank the panelists for a truly excellent job.  We’ll have lunch, and then we’ll reconvene.

[audience applause] [conference breaks for lunch]

Leon Aron:
I just would like to make sure that everybody here knows that the lunch is served outside.  We usually serve it over there.  It was a surprise for me too, but it’s being served right outside.

[lunch break continues]

Leon Aron:
I just want to announce that we will resume at 1:10.  I believe it’s in your program, but I just wanted to make sure.  So enjoy a leisurely lunch.

[lunch break continues]

Leon Aron:
If I could have your attention, we are reconvening and have an equally insightful panel.  We will start with Vladimir Milov, who will talk about economic policy and Russia’s oil production.  Vladimir is President of what I consider probably the best independent outfit of expertise on Russian energy, particularly oil, and that is the Institute of Energy Policy.  And he has the credentials that you could examine in your folder, but I just would like to say that he actually was among the decision makers in 2002 when he served as Deputy Minister of Energy and subsequently resigned when the structural reforms that he was promoting were gradually frozen.

We will then go to Andrey Ryabov, who is the scholar in residence and program co-chair of the Russian Domestic Politics and Political Institution Programs at the Carnegie Endowment in Moscow and Chief Editor of World Economy and International Relations, which is a journal published by the Russian Academy of Sciences.  And I understand also with the Institute of World Economy and International Relations, the famous e-memo and author or co-author of a number of books primarily published by Carnegie, which are listed there, but also a very prolific and insightful commentator in the Russian media, something that, incidentally, I omitted to mention also about Vladimir Milov, whose articles in top Russian and western publications, such as Financial Times, Wall Street Journal, and Business Week in Russia and so on I’ve read and enjoyed very much.

And then finally, we will go to Bill Browder, whom I had an occasion to mention in our give and take during the first session as a sort of embodiment of what somebody called an irrationality of the Russian energy policy.  Not himself, of course, because he’s an extremely successful investor and manager and the CEO of Hermitage Capital Management, which is the leading international asset management firm which specializes in Russian equities with $4 billion under management.  But rather, the rationality of at least some portion of the Russian government, or even worse, the part of somebody who has the authority to act irrationally, but whose name we, at least I, don’t quite know.  Bill serves as the Chairman of the Russian Taskforce for the Institute of International Finance, among his other voluntary obligations and involvements. 

So with that, we will go to Vladimir Milov, and, again, as with the first panel, thank you very much to the three of you for sharing so generously in your time and effort.

Vladimir Milov:
Thank you.  It’s a great pleasure to be here.  Thank you very much, Leon, for inviting me.  Unfortunately, I think I was designated a topic which I consider a quite narrow one, the impact of the Russian economic policy on the future of Russia’s oil production.  I am, of course, very much tempted by the discussion that has happened in the first session to touch on bigger issues, so probably I will do that.  What I want to do is apologize for the fact that some of the figures and graphs and arguments that I want to use touching on those bigger issues are actually missing in this presentation.  But I hope that you’ll be able to find a lot of them on our website, and I encourage everyone to visit it in case somebody is interested.

But basically speaking about the current situation in the Russian oil sector, I think it’s very important to understand two things.  First, it is now undergoing a very severe structural transformation, and it should be appreciated because this transformation by its scale can be compared to the transformation that happened in the Russian oil sector in the early 90s and afterwards was restructured and privatized.  And basically, the opinion about the nature of developments that were happening in Russia and abroad is quite split, but I tend to represent the group of people who believe that this restructuring which has happened in the 90s was quite successful.  Of course, it was successful only on a limited scale because the results that we had attained – Russia had attained – were relatively shortsighted, and they were not supported by long-term trends.  But there were trends that allowed us to predict that, if the situation would have been allowed to evolve in a natural manner, this would have led to even more positive results from a long-term perspective.

What I’m saying about is the establishment of a very unique case of group of large, internationally competitive, privately owned companies that were set for development and actually did a lot to improve the situation in the Russian oil sector in the beginning of the new millennium.  And I think that there is a lot of misunderstanding to that point.  When these issues are discussed, when people talk about the Russian oil sector after the privatization, they usually mostly refer to the nature that the assets were privatized, which was obviously slow, and this is no doubt about that.  But to me, as an industry expert, I think the most important thing is what happened afterwards this flow of privatization happened, and exactly this was the appearance of an extremely competitive and rapidly developing sector, the extent of development of which was heavily underestimated even by the government. 

For instance, when we are talking about the repressive growth of Russian oil production during the recent six years that Clifford and other speakers were mentioning during the first panel, I can tell you one story.  When I was working in the government in 2002 on a draft Russian National Energy Strategy, very responsible and very important officials in the government were actually scratching their heads and saying look how production is growing.  Basically, by the end of this year, they might overcome the figures that we had set for 2020.

So this was actually obviously a result of private initiative and what I would say very significant private investment because, in spite of what some commentators are saying, I’ve read – which I’m very much tempted by the desire to quote it – I read a letter published in the recent edition of the Foreign Policy magazine, a letter by Mr. Marshall Goldman, if I correctly remember his name, who said that what Russian oligarchs did with the oil sector actually they have sent all the money they could out of the country, which was actually not true because, even due to official statistics, which is obviously underestimating the figures, during ’99 to 2004 increasing the cumulative investments – capital investments – over the Russian oil-producing companies just in development of the upstream sector were accounting for a total of $37 billion dollars, which is investment debt could not have been possibly imagined in the 90s. 

So this growth that we had achieved, despite some people blaming it for certain negative production practices and that the availability of a large free capacity which was stagnating, was not in use in the middle of the 90s.  Indeed, the fact is that this was investment growth, a result of massive investments in enhancement of oil production and increasing recovery sector investments in developments of new oil fields like Prirazlomnoe or whatever in introductions downstream..

So we had established a very successful model of the oil sector, which did lack a long-term perspective.  And of course, the behavior of this oligarch-owned companies was quite short-sighted, but, on the other hand, first they were doing the next best thing that the government’s own oil sector was not able to do during the 90s.  And another important point is that there was an alternative way for evolution rather different from the one that we are experiencing right now, the trans-nationalization of the Russian oil sector.  It’s not a secret that international oil companies were not allowed to participate in the privatization procedures during the 90s, but instead, after the competitive oil sector was established on the basis of privately-owned oil companies, foreign companies started to bid for acquisitions of equity states in Russian oil majors, and this process was developing quite successfully.  Unfortunately, TNKBP was the only example of successful merger.  The long-hoped-for Exxon-Mobil, you could see they’ll never happen, and the more successful deal between Conoco-Phillips and LUKOIL have stopped at what some people believe a virtual limit for Conoco, direct ownership in LUKOIL at 20 percent, which was what some experts believe is directly set by the Russian President.

So there was an alternative way