Has Russian oil output peaked?

Production dropped this year after reaching a post-Soviet high in October. On Monday, Putin's newly convened cabinet made the issue its first order of business.

from the May 28, 2008 edition

Page 2 of 3

Page 1 | 2 | Page 3

"Russian oil production has peaked and may never return to current levels," he said.

That poses problems for Russia, which has talked of expanding beyond its main oil market – Europe – to China, Japan, and the US. In 2006, then-President Putin approved construction of an $11 billion pipeline across Siberia to the Pacific Ocean to carry eastward exports. Putin and his successor, Dmitri Medvedev, have insisted Russia can meet demand by increasing output but oil analysts around the globe are pessimistic that oil supplies can meet rising consumption in the coming decade.

No supply squeeze applies to Russia's natural gas industry, which has both vast reserves and a favorable tax regime. Gas prices have been rising on world markets in lockstep with oil, but in Russia only one company, the state-owned giant Gazprom, enjoys a monopoly on exports. "Gas producers are comparatively well off. The export tax for gas is fixed and does not rise when the price goes up," says Ms. Milchakova.

Oil profits, on the other hand, are taxed at nearly 90 percent, which has filled the state's coffers as prices for crude oil have risen from $10 per barrel a decade ago to more than $130 last week. Petrowealth was a key factor enabling Mr. Putin to concentrate political power in the Kremlin, which he used to take over huge slices of the formerly private oil and gas industry. The looming production crunch, therefore, suggests a need for sweeping political reforms as well as economic adjustments, some experts say.

"As long as energy prices keep going up and the easy money keeps rolling in, there is no incentive to liberalize," says Yevgeny Gavrilenkov, chief economist at Troika Dialog, a Moscow investment bank. "If the golden goose stops laying eggs, then they'll start to recognize the need for change."

A sharp debate is breaking out among economists, some of whom argue that the crisis is an opportunity for Russia to develop a long-term strategy to husband its remaining energy resources and diversify its economy.

They point to figures showing that gas and oil exports have risen since 2000 from under half to over 60 percent of Russia's gross domestic product and say that to continue trading nonrenewable resources for rapidly devaluing dollars is a big mistake.

"Russia should not be a colonial country that provides raw materials to more developed countries," says Nodari Simonia, director of the Center for World Energy Studies, an independent Moscow think tank. "We don't need to export more crude, we have to invest resources in our manufacturing base."

1 | Page 2 | 3 | Next Page