Wednesday, December 30, 2015

Apocalypse Soon? What Will Happen to Russia if Oil Falls Below Ten US Dollars a Barrel

Paul Goble

            Staunton, December 29 – The dependence of the Kremlin on the price of oil has long been obvious. A year ago, some wags suggested that if oil prices fell to the level they are now, Vladimir Putin would not only pull his forces out of Ukraine but apologize to Kyiv and even begin to learn Ukrainian himself.

            Now that oil prices are in the mid-30 dollar range, some analysts are speculating that they will fall still further, possibly to below ten dollars a barrel, something that might not have the impact last year’s joke suggests but that will clearly put additional constraints on Moscow and possibly provoke even more radical changes as a result.

            One of the most thoughtful discussions of these possibilities is provided by Kirill Lyats, the general director of Moscow’s Metaprotsess” analysis company in an article on the RBC portal entitled “Apocalypse Today: What Will Happen When Oil Falls Below $10” (

            Lyats begins by asking: “Will [the Russian] economy survive if the price of oil is below 10 dollars a barrel?” And he answers, “of course,” it will. Indeed, oil was at that price as recently as 1998-1999. What matters is “not the absolute price for oil but the structure of spending” not only in the petroleum sector but in the economy as a whole.

            Even when oil prices were that low, some companies continued to invest in the development of fields because “sometimes, the correct strategy is not to react to the crisis but to act according to the plan one has set.”  Not all companies are in a position to do that, and in reality in Russia, those among major firms that could are “extremely few.”

When oil prices were high, many of them got used to acting as if they would always be that way, and the government assumed that its best strategy was to monopolize them and expand abroad rather than to develop the branch and the economy at home as a whole.  Now it is paying the price for that miscalculation.

If oil prices continue to fall, Lyats says, there are some obvious steps that the Russian government and Russian firms must take.  First of all, they must cut costs. The government must cut fees or even eliminate them altogether so that corruption will be reduced; and firms must become more competitive and efficient.

That will involve cutting salaries and wages in the oil and gas sector, something that will have a snowball effect both in other sectors and on government incomes.  But once the shocks have been absorbed – and they can be, the Moscow analyst says – the country will be better off for the future.

This all can be achieved, he suggests, by “a broad, decisive and well-organized deflation” and by reducing the role of the state in the economy so that bureaucrats and officials won’t be able to act as parasites on the economic activities of others via licenses, fees, and corrupt activities, he continues.

Indeed, Russia should be ready for a new round of even more serious privatization, something that could be promoted by “decriminalizing economic crimes” and the selling off of many state companies whose managements have been anything but competent, having grown fat and lazy in the times of high oil prices.

Another step Moscow should take is one that the US took 40 years ago: it should prohibit the export of oil, a step that would not only drive prices up, a trend Russian firms with oil interests abroad could exploit, but also have the effect of forcing the petroleum sector in Russia to investing more money in oil processing firms, whose products are in every case more valuable and profitable than oil itself, especially when the latter is so cheap.

Some ideas now being floated won’t work, Lyats says.  The defense industry won’t be a driver of growth, he says. “The Soviet Union clearly showed that.” Instead, the growth of defense firms will simply become yet another way for officials and their allies in business to raid the treasury.

“There must be a privatization of [Russia’s] military-industry complex” just as there must be one in the civilian sector. Any further monopolization will only promote “the degradation of thought and production. Not everything in this regard is now visible, but in the medium term, our backwardness will become ever more obvious.”

One sector the government should be promoting, the Moscow analyst continues, is atomic energy, but even more important, it should be investing in transportation and logistics both for the domestic market and for Russia’s role as an emerging transportation hub between Europe and Asia.

Summing up, Lyats says that “the prospects of the fall of oil to below ten dollars a barrel are not a threat but the last chance to change things for the better, to stop fattening snobs and bureaucrats and to get involved in real production within the country, to change its approaches to spending and in general to become more tight-fisted, economic and effective.”

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