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Black Sea Energy and Economic Forum 2009
Speakers:
- Ronald Freeman, Chairman of the Board Committee, Volga Gas; Treasurer, Atlantic Council
- Richard Burt, Managing Director, McLarty Associates
- Traian Chebeleu, Deputy Secretary General, BSEC
- Ian Hague, Co-Founder, Firebird Management, LLC
- Vladimir Likhachev, Deputy Director, Institute of Energy Studies, Russian Academy of Sciences
- Neil Melvin, Senior Advisor, The Energy Charter Secretariat
- Ion Sturza, Former Prime Minister, Republic of Moldova
October 2, 2009
RONALD FREEMAN: We’re going to assume that we are sitting as an informal brain trust in the Kremlin, and out there, where you are, is Prime Minister Putin and President Medvedev. And they have asked us, given the pressures in the world today, to do a SWOT analysis, a strengths, weaknesses, opportunities, threats of where Russia stands today in terms of its energy, its place in the world, its role in the energy system in the world.
We have agreed to have a short go-around. Each of us will speak for three to five minutes on how we see the strengths, weaknesses, opportunities and threats, and then we’ll have a discussion among us, and then we’ll throw it open to you as our questioners, so you may consider yourselves as you ask the question, if you wish, collectively the president or the prime minister of Russia challenging the Russia in terms of the thoughts we have as to how to proceed.
So on that basis first let me introduce our very distinguished panel. They have each of them extremely lengthy CVs which you will find in the materials that have been provided, so I will limit myself to their names and titles for the moment.
On your extreme right, on my left is Dr. Vladimir Likhachev, who’s a deputy director, the Institute of Energy Studies, at the Russian Academy of Sciences. Next to Dr. Likhachev is Dr. Neil Melvin, who’s a senior advisor and the – for the energy charter secretariat. Next to him is Ambassador Traian Chebeleu, who is a deputy secretary of the Black Seat Economic Cooperation Council. Myself. Then His Excellency Ian Sturza, former prime minister of the Republic of Moldova. Ambassador Rick Burt, and my friend Ian Hague, from Firebird.
With that, if you’ll agree, Dr. Likhachev, would you like to be the first to do an analysis for President Medvedev and Prime Minister Putin of our energy strategy? Please?
VLADIMIR LIKHACHEV: I will try to play this – (laughter) – unusual role for fear – for lack of advisor for prime minister and president. I would like to say that sitting on this table during this brainstorming, we have to think about the things strategically and technically. We have to think globally and let’s say domestically. Several years ago, we announced Russia have to be leading energy nation in the world. And for this purpose, we try to develop special activities. One is to create national champions like Gazprom with diversification of its activity with broad activity worldwide, not only in gas but also oil, electricity, et cetera.
We also enjoy high prices, high oil prices. And until the middle of 2008, we have very huge benefits from external trade. At the same time, we clearly understood that we have a very old system of electricity, gas and oil supply inside country. We have a huge potential for energy efficiency. And the – we have a very big social-related programs on the domestic market concerning prices.
I would like to add that several years ago, we also had very unusual, from economic/commercial point of view relations with our neighborhood countries. When I’m speaking as an advisor of prime minister.
MR. FREEMAN: By all means.
MR. LIKHACHEV: We subsidized their economy during 15 years, and it’s necessary to stop it.
Today is another situation. We’re in a very dangerous crisis. Our economy dropped about 10 or for – by optimistic estimation will drop by 8 percent during 2009. We have a limitation of our sources to invest limitation to provide social programs, which we announced several years ago. So what we have to do? First of all, I would like to say that during this not very easy situation, we have documents, named it as Russian energy strategy until 2030, which provide more or less reliable scenarios for our energy development. And first of all, it’s the task to provide sustainable energy supply for our consumers inside country.
For this purpose, we have to develop energy efficiency, and we have a potential of about 400 million ton of oil equivalent totally. And we have to realize it using new opportunity, new technologies, new behavior for our people, to push it forward, and these provide us not only additional volumes of our primary energy, but also modernization of our economy.
The second, we have to establish clear and correct price system on the domestic market. And we started to do it starting our electricity in state (?) reforms. There is no now – there is no now monopoly in the electricity industry, but – and we complete privatization and decentralization of our electricity industry, but we made drop of our electricity consumption. As a result, owners, new owners of our electricity companies refuse to complete investment programs, which they – we’re obliged to do.
We have a drop in domestic gas consumption. And as a result, what we have to do with our very expensive – huge, but very expensive new strategic gas fields – I mean, Shtokman, Yamal, other Western Siberian deposits, Eastern Siberian deposits, forests. What we have to do with agreements, which we conclude with our Central Asia partners, to buy basically all Gazprom there, using formula balance at this price with European price.
This is a very, very important – I mean, vitally important task, and we have to reconsider our strategy for short term and try to reach our goals for long term. What means long term? Long term means realization of energy efficiency potential, keeping in mind environment protection. We have to provide all of our agreement with external consumers, export contracts and to try to catch new markets too. We have to think about diversification of our balance for one of the main tools for future development.
What does it mean? It means that today, even today, the share of gas in Russian domestic energy balance too high. For European part, it’s about 80 percent because whereas it’s cheap and it’s necessary to consider domestic prices for gas too. We propose to introduce more active development of nuclear. And the second step – more rapid development or electricity using clean coal.
MR. FREEMAN: Dr. Likhachev, one more minute, please.
MR. LIKHACHEV: Yes, and for energy security reason, we have to diversity our export roots. It’s my last point. So we – it’s a period when it’s not understandable what will be the real consumption in Europe – real consumption in Europe in gas, and real consumption in the United States, for example. In LNG, we have to diversify our export potential, develop a new approach to China, to Korea, to Japan by both ways, by pipelines, and by LNG.
MR. FREEMAN: Thank you very much, Dr. Likhachev.
So continuing, I’d like to ask our second speaker, Dr. Neil Melvin to, if you would, continue in the same vein.
NEIL MELVIN: Thank you very much, and thank you to the organizers for inviting me participate.
MR. FREEMAN: Is your microphone clear?
MR. MELVIN: Can you hear me okay?
MR. FREEMAN: Can you hear okay?
MR. MELVIN: Speaking not as an ACT official but as an advisor, I think what you can say is that Russia has pursued a certain logic over the last few years that it’s perceived to its advantage in the context of high energy prices and in terms of its broad strategy. And there’s no doubt that this broad policy has brought with it important short-term benefits, I would say, to Russia in terms of advancing its position both regionally and globally.
But I think, and as Dr. Likhachev highlighted, there are some major questions now about the medium- and long-term impact and consequences of this particular model. And I think it is a strategic moment to ask some hard questions about that model. And in particular, when we look at what has happened to the whole energy sector, we see a transformation from energy as being something that many people, at least in the European and Eurasian context, for many decades had seen as a guarantee, something that actually consolidated security, something that perhaps mitigated security difficulties in other areas, a transformation of energy into a major security concern. And this of course has – is not simply about Russia, but nonetheless, Russia is part of this story.
And Russia I think now faces a situation whereby there are suspicions around energy questions, a lack of confidence sometimes, a breakdown of trust and energy itself now contributing to tensions between states. And we’ve seen of course the conflict most recently in January.
So there’s a question about whether this particular model of energy security is really the best on at the moment for Russia to pursue. And I think when you look to the future, there has to be some questioning as to whether there might be an alternative. Russia’s logic of energy policy has led it to the point where it has now indicated it doesn’t wish to be a contracting party to the Energy Charter Treaty as of last summer and effective on the 18th of October this year, which means that it’s stepped out of the long-term cooperative approach to energy.
And I think that although this decision has been taken, there nonetheless may be an opportunity to reshape energy security around trying to rebuild cooperation, and looking at a particular set of challenges that energy security might best be approached as through the framework of cooperation – international cooperation.
It’s clear that Russia has a lot of projects on the table. It’s going to need investment, serious amounts of investment. There’s not enough domestic capital to meet those investment demands. It’s going to need to look to the international markets for that. Things like the Energy Charter Treaty are exactly designed to promote foreign investment by reducing the risk premium. So international cooperation can be a way of reducing the costs of investment capital.
Secondly, and I think this is an area President Medvedev has already acknowledged in his own conceptual approach launched in April of this year, is there is a need for shared international minimum standards, minimum rules in the world energy trade. And this includes I think a very pressing need, which is to establish an international – a reliable and efficient and legally binding framework for the transit of energy. Again, it’s very difficult to establish such a thing purely on the basis of a bilateral approach. You need some kind of a multilateral framework so that the whole energy chain can be addressed within such a framework.
And last year, I think particularly for the customers, you need to be able to reassure them that there will be predictability and transparency, reliability, and cooperation may be the best way to reassure the customers who perhaps have lost faith in some of these questions, that that is indeed what is possible in the future.
So if I was to advise the Russian government now, I think I would look to trying to take forward President Medvedev’s proposals on a new conceptual architecture, which there’s a framework and many interesting ideas there. There’s not a clear process on how to take that forward. There is already a set of existing, internationally binding and negotiated treaties, such as the Energy Charter Treaty, which has 48 ratified states, to try to take forward those ideas to address Russia’s concerns and interests within the framework of something that already exists, which seems to be a very practical way to try to advance these types of issues.
And one last point I think is it may also be very interesting to try to bring in the trans-Atlantic dimension, which has often been lacking to the European-Eurasian energy discussion particularly around these international cooperation, and to perhaps try and explore how a trans-Atlantic dimension might contribute to making this international cooperation a more realistic and viable challenge in the future.
MR. FREEMAN: Thank you very much. Professor Chebeleu?
AMB. TRAIAN CHEBELEU: Thank you very much.
MR. FREEMAN: Can you hear? Start speaking and they will –
AMB. CHEBELEU: Thank you very much.
Of course it is not easy for an international civil servant to speak about one of the member states of the organizations where he belongs to. Nevertheless, I will try to submit to this discussion some ideas, which are of course personal.
Our organization of course aims at strengthening cooperation in a region of the wider Black Sea area. As it was emphasized here, it sets a crossroads of energy transportation roots, and has a major role to play in insuring energy security not only for its member states, but also for many other states in Europe and in the neighboring area.
We have been witnessing crisis – dysfunctions, in particular at the beginning of this year, but not only – in previous years too, and which seriously affected many industry and citizen in consumer countries, not denying their technical or commercial or financial aspects. This crisis and dysfunctions were preponderantly political. And in fact we continual to witness more or less open or covert fights over creating energy transportations, corridors, involving, as it was emphasized, billions of oil. Here too, the core of these fights is political.
So since all of these problems are political, they should be addressed by political means with a view to establishing a clear framework for the business to act according to economic competition rules. And overcoming these problems needs a political approach in which all of those involved in oil and gas circuits, producer countries, transit countries, consumer countries, should participate.
I think we need to understand that energy relations are not purely commercial and financial; they have to be partnership relations in which all interests should be balanced, resources optimally used, and the interests of individual countries to have a fair chance to fulfill based on mutual understanding and trust.
Very briefly, what should be, in my view, the elements of such a political approach? This may sound idealistic, but nevertheless, in my view, they are visible, and we were to find a lasting solution. First of all, we need a political understanding, a common understanding I would say, as far as energy security means for every country. It should be regarded, in my view, as a right of every states and of its citizens, right to energy security. It is not, and it should not be achieved by harming interests of others, or against other states.
The way, for instance, states need food security for their people, the same way they need energy security for their industry, for their economy, for their citizen. And in this context, there was a lot of talk yesterday and today about the diversification of sources and transportation roots. This preoccupation are absolutely not wrong. And since this is a natural concern of states, it should not – of states in particular, it would depend on energy imports. This preoccupation of states which depends on energy should not be regarded as in favor of some states or against some other states. But to make sure that this is a case, all of those concerns should sit at the same table and talk.
Very briefly on second element: On energy transportation roots and corridors. I think a time should come when all promoters of various existing projects, particularly those envisaging to a great extent the same transit area and the same resources should sit down and talk together about the project, trying to make them complementary, at least, and thus to make the best views of the huge financial resources required to implement those projects.
Third element is that whatever agreements and understanding statements may reach, differences, disputes, and perhaps even crisis, will continue to arise naturally in the process of their implementation. That is why I believe that the idea which was launched in the Sofia Energy Summit earlier this year, in April this year, of an efficient international dispute settlement mechanism to deal with development which are likely to disrupt or reduce energy force, this was exploding.
Now, energy chapter of course is this transit protocol of the Energy Charter restates rules for settling international disputes between transit producer and consumer countries. It’s a good example, but at least the country which we are discussing about is not there in the protocol. So we have to find a way to involve Russia in all of this political approach.
I’ll finish here. Of course BSEC, the Black Sea Economic Organization, is an instrument, it’s an available instrument for dialogue and action. It has the potential of framework for cooperation to contribute to an integrated energy market in the wider Black Sea area and to secure corridors of energy transportation. And talk like those suggested could use the framework of BSEC, which is flexible enough, I would say, to involve in the discussion also nonmember states and the EU as an organizations.
MR. FREEMAN: Thank you very much, Ambassador.
Ambassador Chebeleu, thoughtful comments. I think start to show a little trend here among the three contributors so far. Let’s continue, if we can, with Dr. Sturza. Please.
ION STURZA: Thank you very much. When Mr. Freeman asked us or invited us to be advisor of Russia, for me in some sense it’s a deja vu because I remember my formal and informal meetings with Mr. Putin during his first prime minister occupation in Russia and during his first presidency, when everybody asked who is Mr. Putin? I think I know how he’s thinking and his basic instinct is not so easy to advise such guys. It’s much easier to advise guys like Medvedev, which is a totally different generation which I strongly believe he – believe and then the stand and agree common value offer of us like, you know, market economy, private, you know, economy, democratic rules, and everything. I repeat this is totally different guys, but they have totally different teams. And it will be a great intrigue in the near future about evolution of relation after these two key persons in Russian politicians.
First of all, I’ll advise Mr. Putin to rethinking and to think about the fact in the last two years all of this changed totally, not due to the fact of political economical crisis, but this economical crisis generated a rethinking of a lot of things.
And of course, the main problem of Russia today is to diminishing the voice of nationalistic approach of energy debate or energy weapons in bilateral or multilateral relation as a country. Russian today is really in a very difficult position to continue to play – and I hope Russia will continue to play a significant role in energy markets and energy relations and the world. But they need to invest a lot, to invest the resources, to invest a time, and diplomatically force to comply and to be capable to be able to play this role in the future.
I give you just one figures. There are different estimations, but just to modernize the production of electricity, Russia needs something around $300 billion. Additional $500 billion Russia needs today to maintain – even to maintain, not to increase production of oil and gas – the field are far – the field are much more complicated and from a technical point of view, and of course Russia needs, especially now when the economy of Russian financial system – it’s in a huge problems – needs huge investment and cooperation with international financial institution and with a key player which brings to Russia technology.
Second, in this sense, of course for Russians it’s very important to show capacity or capability or to be reliable suppliers. During these two days there was a lot of discussing about resource in Russia. I strongly believe – I know this not from the books or newspapers – I’m shopping around, I travel around the Russians, not just in Moscow and in all oil and gas field – Russia it’s a rich in resource – covered, undiscovered production, and in exploration. It’s enough resource to be really one of the biggest player and one of the biggest source of resource in the future, not just in Europe, also in Asia. But you need to prove this. You need to have a clear answer of how you want to finance and how you want to bring the new technology. What will be your cooperation with major companies because some companies which want to have in the book approved reserves today are not so, you know, happy, or so, you know, reliable, ready to play the game even two years ago.
During this meeting in Yamal, which was a huge disappointment for Mr. Putin, the head of the company – huge international – big company, raised the questions about the rule of games and a lot of us questions. And next point, maybe to stop to seem politically about business. And I mean, first of all this ambition to build a lot of pipelines. I think it’s a little bit exaggerated to build the pipelines 900 kilometers for a mount of more than $30 billion just to solve a problem to avoid transition. It’s too expensive. Even in the previous situation of Russia to do such a project because you solve a problem today with Ukraine maybe tomorrow, another country in the way of this pipelines will be in the problem.
It’s much easier and cheaper to solve problem with the Ukraine than to do such project. By the way, Ukraine, it’s not a simple, you know pipe. Ukraine it’s a very important , from a technological point of view, part of the gas transportation scheme. First of all, because this is a 600 – 60,000 billion cubic meter underground storage, which is crucial gas system of Russia. If they are – simply lose this instrument, they’ll lose technological capacity o supply Europe. From this point of view, I don’t think it’s possible. If you remember my friend Putin tried several – his foreign visit to try to identify capacity of underground storage – you know, Hungry, Great Britain because he thinks – there is some solution to solve this problem with underground storage because in compare with oil, which you would simply cut the production, the gas, you need to produce.
And then last, I’ll be – express my huge disappointment about absence of Russian officials and business community in this conference. You need to be in such – in this kind of events. We need to be – to use these panels, to use this opportunity to raise your opinions, voice, and to have this dialogue with Europe, especially because change is dramatically – the world is dramatically changing in the last two years.
MR. FREEMAN: We’re delighted to have Dr. Likhachev here representing all of Russia.
MR. LIKHACHEV: For sure I will inform my colleagues in government and in business circles about this very interesting forum. Of course maybe it’s a good idea to send somebody from the cabinet of sciences with some independent point of view, so let’s say all of the things that are here.
MR. FREEMAN: Thank you, sir. Have you finished?
MR. STURZA: Yes, I want to pass to Rick because he also met several times with Putin.
AMB. RICHARD BURT: What?
MR. STURZA: I think you also met several times.
MR. FREEMAN: You’re introducing –
MR. STURZA: Not just as Reagan because you advise sometimes and go with Reagan.
AMB. BURT: (Chuckles.)
MR. FREEMAN: Passing the microphone to Ambassador Burt, still within our brain trust here advising Prime Minister Putin and President Medvedev. Rick, I’d like you to use your Germany experience to answer the question, is our special relationship with Germany helpful to our energy strategy in Russia?
AMB. BURT: Well, I’m going to mention Germany very briefly at some point. I’m just trying to now envisage Reagan and Putin – interesting –
MR. FREEMAN: Medvedev and Putin?
AMB. BURT: Interesting dialogue.
I’m going to put myself briefly in a Russian advisor shoes just to begin my remarks and say that if I had the chance to be part of a Russian brain trust for Prime Minister Putin and President Medvedev, I think the key thing I would make is – point I would make is we face some very fundamental choices at this juncture. And I think I would continue by saying that unlike probably any other country in the world, either energy producer or consumer, that in the case of Russia, energy policy cannot be isolated from broader geopolitical and geo-economic concerns.
And I think much of what we will see in terms of the evolution of Russian energy policy over the next few years will depend on some of these broader developments, first on these success or lack of it that the Obama administration has in this famous effort to reset that relationship. And that involves bringing Russia into the WTO. It means lifting America’s own trade embargoes that have been in existence since the mid-1970s on Russia, and it means a coming to grips – and I’ll say more about this in just a minute – on some of the issues of what the Russians like to call the near-abroad or what others call the post-Soviet Space. It also depends on to what degree the Europeans in both energy policy and more broadly can come together with a common strategy vis-à-vis Russia, and there are some big divergences here that don’t get a lot of attention.
Ron, you mentioned Germany. I mean, Germany has been – is one-third of the EU GDP, has been the key proponent of a special partnership, economic and energy partnership with Russia. It’s understandable from Germany’s point of view. And by the way, I don’t think that will change with the new German coalition. I think the Germans will continue to pursue a strong partnership on energy issues, economic issues, investment issues, and to some extent geopolitical issues. But there other doubts in other parts of Europe. And on the other end of the spectrum, I think you’ll see a new Tory government, conservative government in Britain which will be more skeptical of Russia, and I think other key European countries will also. And it’s a real open question of whether Europeans can develop a common position and negotiate a new partnership agreement with Russia which has a number of open issues, including energy, that have to be resolved.
There are fundamental questions that the Russians themselves have to address on energy policy. Are Russia’s energy resources, its oil, gas and others really aspects – principally aspects of state power, or where political considerations will predominate, or are they assets to be used for the national welfare of Russia where economic considerations will dominate. And here I think the Russian government will have to make some decisions about tradeoffs between control of the energy sector, which has grown in recent years, versus effectiveness and efficiency in the energy sector which have arguably declined in recent years.
And that will be driven, I think this tradeoff between control versus effectiveness and efficiency will be driven by a broader kind of issue that the Russians will have to address which is the question of economic autarchy, which I would go back to what Ian said is maybe a Putin view of Russia’s interests versus Russia’s integration into the global economy, which is more of a Medvedev view, if I can put it in very simplistic terms.
But the key problems on the economic front is the diversification of the Russian economy. The fact that Russia is so dependent on its energy resources distinguishes it from the other BRIC countries and really raises a question of whether it should be concluded as a BRIC country. And the ability of Russia I think over the next decade to diversify the economy beyond oil and gas will depend on what other people have rightly identified is a question of foreign investment.
Between 2004 and 2008, the Russians were able to attract $500 billion principally through the sale of bonds. That money, given the financial crisis is not going to be available to Russia in the years ahead. They are going to have to provide other incentives for foreign investment, and that inevitably raises the issue of privatization to some degree, and being able to actually be able to be a shareholder in the Russian economy. And that’s a critical issue that only now the Russians are beginning take, but my view is they will be impelled by the need for economic diversification, and diversification within their energy sector, especially to fund these very high cost new energy projects to take a more open-market-oriented approach.
And that brings me, though, to my final point. The ability of Russia to take that more market-oriented, open and integrative approach will clash potentially with a very important geopolitical question. In my view, the West and Russia are an alignment on many important geopolitical questions, issues like terrorism, issues like nuclear nonproliferation, issues like economic growth. The one open issue, though, that hasn’t been resolved is the issue of European security, and especially the problems of European Security and Southeastern and the Black Sea Region.
Following the conflict in Georgia, both President Putin and Prime Minister Medvedev rolled out a doctrine that they called privileged interests, which was widely understood in the West as a doctrine of a sphere of influence, a sphere of influence, especially with the post-Soviet States, such as Georgia, Ukraine, the Baltic states. Our ability to have an honest and open dialogue with the Russians about this notion of a sphere of interest is critical, I think, to being able to – this broader vision of bringing Russia into the global economy. This clash between a Russian sphere of influence doctrine in the Black Sea and in adjacent areas like Ukraine is I think the most immediate issue we will have to confront.
And we have to confront it most early on in Ukraine itself, which is a country which is divided internally. It’s a country that is facing a very important election and where the temptation for Russia to somehow intervene politically or economically is very, very strong.
I’ll conclude by saying a lot of people talk about Russian energy these days as the functional equivalent of the Red Army and its ballistic missile force during the Cold War. But the key is that it’s – Russia’s energy resources should not be understood by the Russians themselves or anybody else as a weapon, but as a means of integrating Russia into the world economy on favorable on terms favorable to itself.
MR. FREEMAN: Thank you, Rick. Ian Hague, Firebird, last definitely not least within the private-sector orientation – the longest private company investing in Russia. What do you advise President Medvedev and Prime Minister on energy policy?
IAN HAGUE: Well, I think the – I agree with everybody on this panel who has discussed this before, but the challenge of changing the emphasis in Russian economic policy from primarily an emphasis on energy to something else, that will determine the degree to which the energy sector itself in Russia is able to more deeply integrate into the global energy economy. I think in a lot of ways, Russia is, in terms of its energy policy, is a victim of its huge success. If you look back at the state of the sector when we first started investing in Russia, huge strides had been made in the productivity of individual enterprises and the overall output of energy. But the problem is that the need for constant improvement is not – we’re reaching a point now where that needs to continue, and it’s unclear whether the resources are there to make that possible.
I think from a strategic point of view, the time may be finally arriving where the inherent tensions in strategy of the government with respect to energy are going to have to be addressed – efficiency versus overall output, the tension between an NOC-based model for developing the sector versus a private-sector model, the geopolitical sort of tension that has attended some of their actions with respect to energy, and the whole question internally in Russia of energy efficiency. I’m an investor and Russian companies that produce oil and gas, and when I hear stories about how in Russia in the winter people leave their windows open in Siberia because they don’t have thermostats, and at the same time they’re – on the foreign level, they’re trying to impose pricing models and market-oriented behavior on states which used to benefit from these same kinds of subsidies, it rings a little hollow with respect to how much value is being generated by the energy economy.
I mean, I think in general, in Russian economic thinking, there’s too much emphasis on energy as the driving force in the country’s economic development. It’s taken a lot of attention away from other ideas and opportunities that exist to make Russia much more productive and wealthier, not just for the elite in Russia, but for the entire country. And I think there’s a recognition now – you hear Prime Minister Medvedev talking about this all of the time – there’s a recognition that a new type of energy strategy and a new type of – a new model for managing the economy needs to be developed, and that model should emphasize individual entrepreneurial activity, and especially entrepreneurial activity and the availability of capital outside of Moscow.
If you look at Russian GDP, since the arrival of the market in Russia, to a degree not even encountered in the Soviet era, the economic center of gravity has more and more and more been concentrated in the city of Moscow. And over the long run, I don’t think that that tendency is going to serve Russia’s interests in terms of enhancing the wealth of its citizens or in making Russia a stronger, more effective participant in the global economy.
MR. FREEMAN: Thank you, Ian. Let me ask you a question from our two clients, to call them that, Misters Putin and Medvedev. They are not oil men; they are senior politicians. And I’m talking this from a paper that some of you may have read that was produced by Sergei Karaganov in 2007. And he was referring to how Russia’s energy strategy should affect its policy with Iran. And he said there are three scenarios – so the more likely – further confrontation between Washington and Tehran, which will not lead to an armed conflict. In this case, the world energy market will see a downward trend – he was writing in 2007 – with oil prices falling to 40 to 50 dollars per barrel, fluctuations within a five-dollar range.
Scenario two: reaching agreement with Iran, resolving the conflict by peaceful means will lead to a sharp fall on oil prices within a year. Chances for the realization of this scenario, says Karaganov in 2007, rather slim. Scenario three: armed conflict. In this scenario, oil prices will exceed $100 per barrel. Subsequently, if the armed conflict becomes protracted, the price could rise to 130 to 150 per barrel, which would force the U.S. government to exert unprecedented pressure on OPEC to increase production. As a result, competition in non-OPEC production areas will grow considerably. But if the military confrontation in Iran follows the Iraqi model, the market will gradually readjust itself and stabilize.
And whether you agree with those three scenarios in 2007, our clients, Misters Putin and Medvedev ask the question today, what should we do – should our Iran policy, Russia speaking, affect our energy policy and, if so, in what way. And simultaneously, we promised, we Russians, only a year or two ago that we would be a good friend to the family at OPEC, but we have not been a good friend of the family. OPEC has been reducing production and we’ve been raising production. What do we do? What do we do about Iran? What do we do about our relationship with OPEC? Any of you on the brain trust would like to –
Dr. Likhachev?
MR. LIKHACHEV: My feeling is that Russia will try – will try to stay a little opposite of OPEC.
MR. FREEMAN: Take the what?
MR. LIKHACHEV: A little near –
MR. FREEMAN: Outside – I’m sorry.
MR. LIKHACHEV: Outside of OPEC to provide more independent policy, to provide for Russia more flexibility on the world market, and not so strong let’s say rules of quota for Russian domestic – Russian oil production. I think Russians will prefer more smooth attention – I mean, to participate like observer but not inside OPEC. And my small remarks about Karganov’s scenarios is it is that they are a little simplified world picture – world development picture. I think that two, three factors, will not affect so strongly on the level of world prices.
And it’s necessary to keep in mind different things like, for example, a situation with China development – Asia development, let’s say – not only China but Brazil, India, China itself. We hear of Chinese in the future.
MR. FREEMAN: With respect, I think the question is really, should Russia’s Iran policy be affected by Russia’s energy policy? Should they try to keep the conflict at a low level to keep oil prices up? Or is the Iran issue more important than the price for which Russia sells its oil?
MR. LIKHACHEV: You know, you can find in newspapers, in Russia and abroad, in foreign newspapers – in European, for example, some opinion that there is a, let’s say a task to keep –
MR. FREEMAN: Connection.
MR. LIKACHEV: to keep prices more higher. I don’t believe in that because I am not – I don’t believe that the, how to say, – quote “mysterious things” with secret societies and so on and so on – (chuckles). I think the world is more complicated thing rather than just the behavior of Russia to keep prices up.
MR. FREEMAN: Would any other panelists like to speak on OPEC or Iran? Dr. Burt?
AMB. BURT: I’m not going to speak about OPEC, but I’ll first of all make a couple of points about Russia and Iran, and maybe the connection to oil prices. In the final analysis, the Russians will in fact not be in a position to decide how to manage this issue; it’s really going to be how hard the United States, Britain, France and Germany want to push this issue in the event that the current talks with the Iranians that just began yesterday fail, because they’ll move – if they do fail, they will move to the Security with probably strong resolution that we’ll want to impose some pretty rigorous sanctions against Iran. In that situation, both Russia and China will be faced with the question, in light of the recent disclosure of Iranian activities on nuclear enrichment, whether they’re going to support that decision.
In the case of Russia, I think that decision is largely going to be based not on the price of oil, on the question of whether a conflict or crisis with Iran is going to lower or raise oil prices and so on, but on the questions of what kind of equities does Russia have in its relationships at the time with the West. And I think the recent decision, for example, of the Obama administration on – for the Polish and the Czech facilities, the efforts of the Obama administration to work out a more constructive relationship already have been demonstrated, I think in Russian remarks, that there will be some limited support on behalf of the Russians to bring some stronger pressure to bear on Iran.
I will just say as a postscript though, all of this kind of choreographed diplomacy by Russia and the other members of the Security Council, including its efforts by the United States to resolve this issue could all be seriously disrupted by a decision taken by the Israelis.
MR. FREEMAN: Let’s not pursue that one. (Laughter.)
MR. FREEMAN: Prime Minister Sturza raised an important question. Ambassador Burt, is it necessary for Russia to be involved in projects, pipeline projects and tens of billions of dollars because we haven’t managed to sort out things with our friends in Ukraine? Is there not a more cost-effective way to use the huge storage and transportation infrastructure in Ukraine that we have had in the past? Do we really have to build brand-new pipelines, avoiding Ukraine altogether? Cannot we do something more efficient, more effective, perhaps even more intelligent? Does anybody want to speak to this?
MR. STURZA: I want just to come back to the question about Iran. Definitely for Russia, it’s much more important Iran in relations with, you know, not just of United States, with Western World, because I don’t think Russians needs to exchange, you know, some virtual benefits from the world price with instability in some parts of the country. Definitely.
Second, the changes made, I want to repeat – the market is changed. Now market is driven by consumer, not by producer and speculators, no more – I hope no more by speculators. Two years ago, any rumors about some tension in somewhere was used by speculators through different channels of mass media to raise the price. Today is not the case. I think this is not the case and not in the interest of Russia to raise the tension or the attention of some publicity when Iran – and to play this very dangerous game in exchange of some virtual benefit. I think Karaganov also changed his mind in his analysis.
MR. FREEMAN: Two thousand and seven.
MR. STRUZA: But when you speak about pipelines, let’s speak not just about south stream; the same story is with north stream to avoid Poland. Also, for technical point of view, from economical point of view – no sense. Of course this project is for strongly, you know, advocate from German side – one Mr. Schroeder was a councilor of –
MR. FREEMAN: Chancellor of Germany. And there is some, you know, rumors between specialists – something will be changed because no more of this ground coalition. And Merkel, what I know from some source, is not a big fan of independent policy. But I continue to advise Europeans to make one voice because in energy policy in any direction with the United States – this is one of the biggest single markets, you could say. If it will be continued to place separate bets, Berlusconi is a friend of Putin. Merkel tried to be a – this is counterproductive because this destroyed one market which is now much more important than to be one producer. This is my opinion of all of this.
MR. FREEMAN: Does any of the panelists which to speak on the Ukraine?
MR. LUKHACHEV: I have to react. (Chuckles.) I would like to remind everybody that there is a lot of story around relations between Russia, Gazprom and Ukraine on the topic of transportation system of Ukraine. More than 10 years is discussed in Russia, in Kiev, and the first proposal was to create an international consortium, to modernize and to manage the system of gas transportation infrastructure, which include pipelines and underground storage because I don’t know what more or less important for supply of Europe – both of them very important elements and it’s a single system. And without any element, it will not work.
Ukrainian side refuse to create this consortium, even with participation of German side, because by different reasons, one of them, it’s prohibited by Ukrainian constitution to privatize or to do something with gas transportation system in Ukraine. The second one, is that Gazprom will catch through consortium which catch the Ukrainian national gas transportation system. So Ukrainian proposal – the first step to great additional pipeline complementary to existing one.
By Russian side opinion, it was not resolved the problem about modernization and good management of it. And agreement about consortium but not realize it, and it not, how to say – it exists as a paper. We have a – Russia has a – some difficulty with payment. So it was a decision mainly, not – I agree with you. It’s not poor economic reliable decision, but it’s decision take into account some political, some interruptible risk, additional external which is very important for Gazprom for Russian government. So it was decided to construct these two additional pipeline, north stream and south stream.
I would like to remind you that at the same time, Russia keep quite smooth attention with Ukraine. For example, it was an I think positive design for Ukrainians, for Europeans that we will not impose penalties for –
MR. FREEMAN: Non-payment.
MR. LIKHACHEV: Not taken the –
MR. FREEMAN: Oh, yeah, minimum amounts –
MR. LIKHACHEV: Agreed amounts which were specially formulated on between Russia and Ukraine.
MR. FREEMAN: (Off-take ?) penalties.
MR. LIKHACHEV: Yeah, it’s the positive side. And Russia I think possibility to collaborate with Ukraine in a positive manner for the nearest future at minimum. So it’s not so dramatic between Russia and Ukraine. There are – specialists are meeting, are talking, discussing this problem, and, it’s not a full collapse in relations between gas people in Ukraine and in Russia. It’s a very important thing.
MR. FREEMAN: It might be of interest to our clients – Misters Putin, Medvedev to say that EBRD, myself – well, President Yeltsin was in power. I approached President Kuchma. He said we were aware that they could not under Ukrainian law privatize the gas transportation system. But with the support of the French – Gaz de France, the Russian ministry of atomic energy, the United States and others, we’ve made a proposal that EBRD would finance – to lease the gas transportation system from Ukraine, which was okay under Ukrainian law – proposed a hundred-year for a consortium of off-takers and shippers which would then be managed professionally with completely transparency.
And President Kuchma came back to me a few weeks later, and he said they couldn’t do it because there were too many informal arrangements.
MR. (?): Yes.
MR. FREEMAN: Now, perhaps with the passage of time, the informal arrangements have weathered somewhat, but perhaps this might still be something worth pursuing before hundreds of billions of dollars are committed to new pipes under new territories.
I will perhaps now give the audience a chance to – either a person or collective, Putin and Medvedev – (laughter) – if you wish to do it that way or any other way you wish to do it. We will need microphones ready for the speakers. The first hand I saw was I think the third row, this gentleman here with the red tie. Yes. Yes, sir. And then over here and then behind you and the other over here.
Q: I’m Cedric Chalac. I’m a Romanian diplomat. I was somewhat intrigued by Mr. Melvin’s suggestion that the Medvedev initiative about a new legally binding arrangement on energy cooperation may need a broader framework. And my question is both to Mr. Melvin and Mr. Likhachev, whether there is in their view a real compatibility between the Medvedev initiative and the existing basis of the Energy Charter Treaty, or conversely whether Mr. Melvin had in view a broader framework of the United Nations, for instance, as something that may provide the basis a constructive development of the Medvedev legal initiative on energy –
MR. FREEMAN: Thank you very much.
Q: – because in the final analysis, energy is the most unregulated sector of the world economy and has been so far.
MR. FREEMAN: Thank you sir. And we’re hoping in the interest of getting as many questions in as possible that we observe the tradition that questions are short and begin and end with a question mark. Dr. Melvin.
MR. MELVIN: Well, thank you very much for that question. I think what does seem to be fairly clear is that there is a broad international consensus that more needs to be done on the issue of energy governance. And we see this – we’ve had President Medvedev’s conceptual proposal. We have a proposal from – in Turkmenistan, we’ve already heard this morning under the U.N. context to develop some kind of framework for transit question. So it does seem to be a set of a common interest that existing legal frameworks need further development.
So I think that that is our starting point. We should look at what we have already, and of course we do have an Energy Charter Treaty, which is signed and ratified by 48 states and over 50 members. Now, to start negotiations on that kind of legally binding framework from zero, again, today, would, A, I think be – well, a waste and take up a lot of time, and, B, I suspect that you will not be able to actually get that kind of agreement that you have already amongst those 48 states. So that, I think is your starting point. You have something that is perhaps not perfect but could be developed.
So President Medvedev has brought over some very interesting ideas. Within the secretariat we did an analysis of Russia’s conceptual approach, how much it was compatible with the ECT. As a rule of thumb, what we suspect is that about 75 percent of the Russian proposal already exists within the Energy Charter Treaty. About another 20 percent of it could be developed, but of course you’d have to negotiate it with the states. Nonetheless it’s in – it’s certainly we’re fitting with the principles of both the charter and the treaty. And then the are some issues that might be better taken in the different format that perhaps the treaty was not designed to deal with.
So I think you already have quite a strong common interest there to take that forward. And some other points that I think Russia has raised, which are legitimate ones, which is there probably is a need now to broaden the constituency. The Energy Charter Treaty, was primarily – it came out of the negotiations between European communities and so the Soviet Union. It was about European and Eurasian gas supplies essentially, I mean, at its core.
Now of course we see that energy markets are increasingly integrating. Central Asian gas is going to Asia. There’s ideas that the Middle East Supplies may come to the European market in different formats. So there certainly could be an interest I think both in the existing constituency of the treaty, but also perhaps Russia an d others, to take those kind of minimum international legally binding standards to new markets that actually try to build something more comprehensive.
So I think – I mean, that might be the kind of way that you can take forward the sort of Russian ambitions make it a sort of a – have a practical start with what’s already existing. And it may be that some things may go into the U.N. context, but let’s just say that that’s going to be a long-term negotiation. I mean, I doubt I will see the conclusion of that negotiation. And you do risk actually the – that you won’t have a legally binding – I mean, the big advantage I think of the Energy Charter Treaty is it’s legally binding, and that’s a very difficult thing to get, and it’s also a very precious thing to give up. And so I think that’s what we need to think about today.
MR. FREEMAN: Thank you, Dr. Melvin. Our next question was Mrs. Stern I think.
Q: Thank you. Paula Stern. I am thinking as if you were, along with you as an advisor to the Russian leadership at this moment in time. And Ambassador Burt talked about the reset button that Secretary Clinton referred to with regard to U.S.-Russian relations. There’s a – there is another tectonic shift in the form of the efforts to, as Obama himself said, to remake the U.S. economy, given the – based on green technologies, alternative energy, et cetera, et cetera. That to me, it seems, would be an incredible threat to Russia based on carbon and fossil fuel supplies that have been so much an important part of their clout worldwide.
The U.S. and the EU are going to be announcing, we were told by several speakers in December, a new energy coordination arrangement. I don’t know what that is. My question to the group is what role the U.S. and the EU may play in coordination vis-à-vis what has been the old Russian – what our tactic way of particularly relying on its commodities and particular fossil fuels from a geostrategic point of view.
MR. FREEMAN: Any member of the panel like to seize that question?
MR. BURT: Well, I’ll just take a stab at it so somebody will answer the question. (Chuckles.) I guess skeptical, Paula, to begin with – you know, how easily and how quickly the United States is going to be able to make this transition to the new green economy, the new green jobs that Obama would like to see, first.
Secondly, I’m a little bit pessimistic about how easily the United States and the Europeans are going to be able to reach agreement on a common framework here. It’s clear that they disagree about Copenhagen. The United States is prepared to sign up to significant reductions, but they’re way out there, 2050. The European, EU position, it wants to see near-term limits that I don’t think any American administration is going to be prepared and willing – especially under current circumstances to sign up to. So if I were a Russian there would be a lot of other concerns I would have then worry about this transition of the European and American, the Euro-Atlantic kind of economic community moving to less reliance on hydrocarbons in the near term.
And finally, though, if being a Russian, I would be very anxious, instead of strategically, as was said here, about trying to diversify the Russian economy. I mean, going back to the Karaganov paper, the Karaganov paper assumes that it’s in Russia’s long-term interest to have a high price of oil. There are a lot of perverse impacts that flow from a high price of oil, including the Russians place in diversification and the lack of incentive for real form. One of my favorite Russian businessmen and economist, Peter Aven, of the alpha group makes a very strong case for a lower price of oil, arguing that the real market-based reforms that the Russian economy needs to undertake are only probably going to be happen with a lower price of oil than a higher price of oil.
MR. FREEMAN: Very interesting. The next question.
MR. HAGUE: If I could follow up on that.
MR. FREEMAN: Sorry. Go ahead, Ian.
MR. HAGUE: As investors in Russian companies, there have been three major economic dislocations in the time that we’ve been investing in Russia. And our philosophy about them has always been the worse the better because it is the pressure imposed by a dire immediate economic situation that always coordinates economic policy in the country toward better longer-term outcomes. And I think Ambassador Burt is exactly correct. As long as oil prices are high, there is no attention to longer-term strategic considerations and economic planning. And I don’t even – it’s not an inbuilt feature of Russia that that is the case; it is the dynamics of the situation. All large commodity exporters face that challenge. That’s part of the resource of curse.
MR. FREEMAN: Thank you.
MR. HAGUE: And Russia is not immune from the resource curse.
MR. FREEMAN: The next question I think was a gentleman here. Yes, sir.
Q: I was going to address the question to Dr. Likhachev but Ambassador Burt already partially answered it, and that is that you cannot look at the energy policy in isolation from the geopolitical situation or equal important economic diversification. There were a number of proposals and strategic plans submitted by you advisors to the prime ministers and to the president about the diversification. And Russia missed a huge opportunity to use the oil revenue, significant oil revenue to diversify the economy.
The question is what are the lessons learned? Why this happened? And what could be done to catch the next opportunity with the oil boom – oil price boom coming.
MR. FREEMAN: Thank you.
MR. LIKHACHEV: Thank you for the good question. In my opinion, it’s necessary to keep in mind several things. First of all, — first of all, we have – before a high-priced period, we have a very – we had a very difficult period of unclear economical policy of low-income population, deficit of investment, et cetera, et cetera. Starting with – so during – about seven years, we enjoy high prices, and we start to work on several directions. First of all, it’s social policy and it’s a huge amount of money. It was a huge amount of money and management with spent – of this area. We start to develop export-oriented goods. Unfortunately it’s energy, it’s a heavier industry because it was bombed – it was a demand for such products – metals, chemicals and energy around the world.
So the main idea was to collect enough money for modernization. And maybe it’s a dramatical fact that just when we collect this – enough amount of money, the crisis started and we lose all of our benefits. I can add that of course we could start earlier and Mr. – and President Medvedev formulated this situation last month about the – our mistakes, the mistakes of our government that we’ll lose opportunity to use these benefits for modernization, for more high-tech technologies, for more development of light industry, et cetera, et cetera. Yes, it’s our mistakes, but once more nobody in Russia can predict that. So it’s a question of time.
So today, our government, our president and prime minister – formulate if it’s clear – if it’s necessary to begin modernization, diversification of our economy because once more I repeat that your – as a leading energy state, we are very – we are very in dangerous position when world market fluctuate – volatile.
MR. FREEMAN: Thank you. We have time for the last two questions. The gentleman in the front row and then Gen. Wald. Gentlemen, sir. Short, sweet in our remaining time.
Q: Short and sweet. My name is Eric Watkins, Oil & Gas Journal. Venezuela. What is Russia doing in Venezuela? And is it in connection with the United States and Europe going into the Caspian region? Is it kind of a geopolitical game or is it actually a commercial enterprise for oil? And in slight connection with that, this consortium that Russia has put together to go into Venezuela, is that really a commercial operation or is it again something political?
MR. FREEMAN: Thank you. Dr. Likhachev, I think you have to catch that one.
MR. LIKHACHEV: Very interesting question about Venezuela. As I know by my information, there are at least two companies which are now the interest to work with Venezuela. It’s Gazprom and it’s Lucile, and they had agreements, licenses to explore and to do something.
My opinion is that its actions, based on the announced deal to create a national or world champions, companies on the – world-range companies, let’s say, like Exxon-Mobil or other things, other companies, to declare the presences on the different sides of the world. Gazprom, for example, or LUKOIL actually work and also – not only in Latin America but in Vietnam, for example, in India, some concession in North Africa, and in Nigeria, for example. So it’s a strategic way to try to try something worldwide. And I think that for Gazprom, from LUKOIL, it’s a good experience, first of all. It’s new markets. They can be flexible. If we fail in the ambitions, they will go out. But if not, they will have some benefits to explore new markets, which they have now – which they will – a powerful forces – let’s say power companies in Latin America, for example.
MR. FREEMAN: Thank you, Dr. Likhachev. Ion, you want to add something?
MR. STURZA: Yes, I think there’s nothing with business. It’s pure politicians because when the Russians failed to create an alliance of friends in former Soviet Unions, Russian started to create an alliance with somebody else – Korea, Iran, Libya, Venezuela and other strange place. I think that this policy also raised some question – it’s now interiorly in Russia – how much Russians are now capable to allocate resource for such a policy because Venezuela, if you know from newspaper, that they are buy – for a few billions of dollars, Russian weapons– in exchange of credit of Russia.
MR. STURZA: Even more importantly, Venezuela recognized the Russian –
MR. HAGUE: No, no Venezuela – that’s just – the leader say something – sweet dialogue with Putin. Officially not – just Nicaragua and –
MR. STURZA: Actually, though, I mean, there’s a business logic in the case of LUKOIL to activity in the Western Hemisphere. They have a chain of gas stations all across the East Coast and in the U.S.
Do you think this is relevant to –
MR. HAGUE: If they have Western Hemisphere refining capacity, they can substantially reduce their costs and capture markets.
MR. STURZA : LUKOIL put in the market to sell all of this.
MR. FREEMAN: Okay, we’ll put the location swaps in another conference. Gen. Wald.
Q: Yeah, quickly. I agree with Ambassador Burt, even to the point to who the real president of Russia is. But the question goes back to the ambassador, the point in that you said you would advise the government of Russia and President Putin in this case, or Prime Minister Putin really, to treat oil as a right. And I give my question to Ambassador Burt. What do you think the reality or the possibility of Russia actually coming to the conclusion that it’s in their best interest to do what you’ve both advised on the left, in other words, advising that you need to get realistic about how you treat the market and what you do for diversification for your economy?
AMB. BURT: Well, I would go back to this very interesting comment that our Russian colleague made just a few moments ago. And the economic crisis came at the worst possible moment really I think for the Russian government and the Russian economy, because as he knows very well, the Russians had built up, thanks to their success in the oil market, a war chest of about $600 billion. And only about 18 months ago, two years ago, the government was talking about massive spending on infrastructure, which was really necessary – was a necessary component to diversification, with roads and railroads and power that would have made the Russian economy less dependent on this very narrow pillar.
Most of that money – not most of it, but a good part of that money is gone. They’re going to have to attract foreign investment, Chuck, as a result if they’re going to carry out that infrastructure renal project. And I think they clearly understand they need to. So I’m moderately positive about opportunities for some – for some change, some reform. I think it was Prime Minister Putin this week who was quoted as saying that the Russians are going to take a look at a new privatization program. Privatization was really sort of off the agenda two years ago.
So the earlier concept of national champions, an off-limits zone of the Russian economy to Western investment, the notion that these were two essential for state power, I think they’re all in the process of being reexamined. And I would conclude by saying that somebody, I guess it was Ian, said that there are some different world views at play in Russia today, and it is – while Putin is clearly I think still in charge, it is interesting and important to note that the Medvedev and the people around Medvedev are a different generation. Medvedev is 15 years younger than Putin. He’s trained a lawyer. His advisors are professionals and they are people who have grown up in the post-Soviet era. So I think as time goes by I think these forces, these ideas, these concepts are going to be more powerful in terms of Russian public policy.
MR. FREEMAN: Thank you, Ambassador Burt. We’ll hope the next wave of privatization is done for cash on the barrel if not for vouchers. (Chuckles.)
MR. HAGUE: Well, I think it very much will be because cash is important.
MR. FREEMAN: Thank you very much for your patience. Lunch now awaits. We are adjourned.
AMB. BURT: Cash is king in –
MR. HAGUE: Yes, it is. You know, it’s going to –
(END)
Transcript by Federal News Service, Washington, D.C.