The Caspian is a promising region for petroleum and natural gas, comparable to the North Sea. Thanks to the ambitions of the states and companies on the Caspian and Russian passivity, Russia has almost missed its chance at gaining a leading position in the region’s oil industry
In the late 1990s, the problem of exploiting the Caspian became one of the most fashionable topics in the oil industry. The buzz surrounding Caspian deposits and pipelines back then was accompanied by a flood of inaccurate information. There were tales of the fantastic riches the Caspian promised to potential investors. The most impetuous among them believed that mankind was about to open up a second Persian Gulf. There were also assertions that just the opposite was true, that the oil wealth of the Caspian was a bluff and investment a confidence game.
The truth lay somewhere in the middle. The Caspian was no Persian Gulf, but was easily able to compete with Europe’s main oil deposits in the North Sea. Now no one doubts that around 4% of the world’s petroleum reserves lie beneath the bed of the world’s largest lake. This is about the same as in the US, for example. Yet most importantly, oil and gas production in this region is very attractive economically, as the quality of the oil is high and the cost of prospecting is two to three times lower than in developed countries. However, Russia’s position in the Caspian region is currently far from enviable. Global corporations and local capital are playing the key role on the Caspian.
Good and bad publicity
Rumors of the Caspian’s untold riches were actively promoted by officials in the recently independent former Soviet republics. The leaders of these young states desperately needed these rumors to attract Western attention and get rid of Moscow’s guidance by relying on Western support. They were not shy about making promises. Kazakhstan’s Nursultan Nazarbaev, for instance, announced to foreign politicians that in Kazakh national waters alone were 6-12 billion tons of oil, almost as much as in all of Russia, and that by 2015, Kazakhstan would bring as much as 400 million tons of oil to the market each year, the same amount as the world’s leading producer Saudia Arabia. Western companies that had made investments in the region and were hoping to increase their market value promoted the brouhaha, and Western countries, sick of OPEC’s monopoly, were also not opposed to referring to the Caspian as an alternative to Middle Eastern oil. However, the first failures cooled foreign investor’s ardor somewhat. After drilling was conducted, contracts in Azerbaijan were cancelled due to the low profitability of production.
Politicians and businessmen from Russia ended up on the other side of the barricades. Deputy Minister of the former Ministry of Fuel and Energy, Valery Garipov, confirmed in 1998 that the actual exploitable oil and gas resources under the Caspian were 4-6 times lower than certain Caspian-area states were insisting, and that they did not exceed 7-10 billion tons in oil equivalent. The skeptical Russian attitude was not a well-considered or objective position, but rather jealousy, plain and simple. Russian wanted the investments flowing into the oil industry in the post-Soviet region. The government was alarmed by the potential for foreign politicians to start moving into the region in droves and remained doubtful about the region’s prospects. All of this was combined with an absolute confidence in the inviolability of Russia’s position in the Caucasus and Central Asia. After all, six or seven years ago, few doubted that Caspian oil would be exported exclusively via Russia.
The lake of discord
The rapid development of the Caspian’s rich petroleum resources met with political obstacles. The first obstacle arose due to the Caspian’s lack of legal status. The Caspian Sea is a uniquely large lake, so wide that 20-mile zones of economic jurisdiction do not cover all of its area. While fifteen years ago, only two states controlled its shores (the USSR and Iran), now five countries are vying to divide up the lake according to their own interests. As the biggest deposits lie right on the border of the proposed sectors, who they belong to is open to dispute. In the former Soviet republics on its shores, there is little demand for fossil fuels, and so most of the oil and gas will have to be exported. This is the second problem afflicting the Caspian: the absence of an efficient transportation infrastructure, and in particular oil pipelines. The average cost of transporting a barrel of Caspian oil to refineries on the Mediterranean is now $6.50, half of the total cost of production. Thus, the growth in oil and natural gas production that began in 1995 is hampered by transportation costs. Pipelines are also no easy affair, as Central Asia and the Caucasus are riddled with unstable regions and the process for selecting routes is extremely politicized. The solution to these problems will define each Caspian-area country’s geopolitical influence in the region.
The first time Russia blew it
Russia had a fairly good chance of winning the battle for influence in the Caspian. The proposed route from Baku to Novorossiisk was short and cheap, and Kazakhstan’s oil could have been inexpensively transported via Transneft’s pipeline system. Russia had allies in the dispute over dividing up the sea, as well as many opportunities to exert political and economic influence in the region. However, we lost on almost all counts. Azerbaijani oil, as well as some western Kazakh oil and gas, will be exported through Turkey by means of a pipeline currently under construction. Oil from central Kazakhstan will go to China via another new pipeline. According to Transneft’s President Semion Vaishtok, oil will cease to flow along the Baku-Novorossiisk pipeline in the near future in spite of international agreements.
Russia also had limited success in dividing up the deposits. In the early and mid-1990s, Russia supported joint exploitation of the Caspian’s resources beyond coastal waters. This division would allow Russia to gain a small share of the region’s petroleum. However, the lack of a unified exchange rate, pressure from the West, and the desire to begin prospecting immediately forced Russia to abandon the principle of “nobody’s sea.” Russia came to an agreement with Kazakhstan and Azerbaijan regarding the modified central line principle, which is slightly more advantageous for Russia. However, the biggest deposit located on the border of several sectors came under the jurisdiction of Kazakhstan.
Russia lost the political race to grab a piece of the Caspian. The instability in Chechnya is partly to blame: locals were constantly punching holes in the pipeline passing through the republic despite attempts to guard it. The Caspian states’ desire to diversify their transportation routes and reduce their dependence on Russia also worked against us. In addition, Transneft had an effect on the situation, and the deficit in pipeline capacity forced Kazakhstan to look for other ways to export. Yet the most important problem was Russia’s diplomatic passivity, fed by a confidence inherited from the Soviet era in Moscow’s unshakeable position in the now independent republics that were once part of the Soviet fold.
Losing the second round
The most offensive fact is that Russia lost its dominance in developing the region’s petroleum resources. Among the fifty foreign companies operating in the Caspian region, only one Russian company, LUKoil, has participated in offshore projects outside of the Russian sector. LUKoil’s involvement was extremely modest compared to that of Western investors. The total presence of Russian oil and gas producers in foreign projects in the Caspian is six time less than that of US or European companies. Why did Russian private business, which rarely misses an obvious opportunity to make money, yield to its foreign colleagues right across the border from Russia?
The beginning of the Caspian oil race in the first half of the 1990s proved particularly unsuccessful for private Russian companies. At that time, the tastiest pieces of the petroleum pie were privatized. The Russian oil industry was just getting off the ground and was forced to focus on its own reform and business, and not on international expansion. Companies are now attempting to make up for what they missed and are increasing their presence in the region, in particular in Kazakhstan. The modest position of Russian private oil companies in the region testifies to the fact that the Russian energy industry is simply not ready for large-scale expansion abroad.
Finally, Russian companies are hampered by Russia’s lack of geopolitical clout in the area. Caspian states are passing out concessions as proof of their loyalty to centers of political influence such as the US and EU.
Should Russia give up?
It is still too early to throw in the towel, as many problems in the region have yet to be solved. Russian officials still have the opportunity to get some Caspian oil and gas into the Russian transportation system, which will require expansion of key routes and possibly the construction of new pipelines. In addition, there are still plenty of non-privatized petroleum assets and unexplored areas. Russia still has good chances to get more involved in natural gas in the region. On one hand, gas deposits are being exploited much more slowly than oil fields, and on the other hand, Gazprom has enough financial strength and influence to fight even the biggest of the transnational corporations. One way or another, all Russian players in the game for the Caspian have to understand that the region, thanks to its proximity and cultural connections to Russia, is the ideal and perhaps the only laboratory, where Russian companies, young by world standards, would have a chance to work out methods for further foreign expansion.
