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August 3, 2006
The Long War in the Middle East and Russian Oil

Profiting from the Middle East crisis?

The Russian business newspaper Kommersant has an article up on their website today, candidly titled Thanks to the War Machine. The article provides some historic perspective on how the USSR profited from the oil shocks after the 1973 Arab-Israeli War and the 1979 Islamic revolution in Iran. The article also notes that Russia has been the single largest beneficiary of higher global oil prices fueled by Mideast turmoil. However, Kommersant contributor Sergey Minaev's argument intersects with a view we have presented here at Russia Blog for some time: the West (not just the U.S.) has a strategic interest in developing Russian oil and gas, with the goal to expand global energy supplies from outside the Middle East.

A graph showing production in the Soviet Union and then the former USSR from 1980-2000 (Source: U.S. Energy Information Administration)

In presenting his historic argument that Russia has traditionally profited from fighting in the Middle East, Minaev dredges up a largely forgotten aspect of the Cold War - the role of oil money in propping up the USSR:

In 1978, the Soviet Union passed the United States and Saudi Arabia to become the world's largest oil producer, pumping about 11 million barrels a day. A third of that oil was exported, and mainly to capitalist countries, since socialist countries were unable to pay in hard currency and preferred to make payment in goods.

The [Middle East] crisis made Siberian oil fields the main sources of Russian oil. They allowed the country to raise its production so drastically from the level of 3.1 million barrels a day in 1960. In 1973, Soviet leader Leonid Brezhnev, maybe understanding that an Arab-Israeli conflict would promise a huge influx of petrodollars, suggested to U.S. President Richard Nixon that they cooperate in developing Western Siberian oil fields [!]. The Soviets proposed a project under which the U.S. would invest $10 billion in the course of 25 years, after which (that is, in 1998) it would get its investment back in oil and gas. The General Secretary could not, of course, foresee the sharp fall in oil prices and the consequent default [the economic collapse of the Soviet Union]. The Americans decided to pass on the offer, since they were not sure that there really were reserves of that magnitude that could be profitably accessed in Siberia. They also doubted that it would be technically possible to bring Siberian oil and gas to the American market.

Soaring oil prices made Siberian oil production quite profitable, and Japan willingly provided the Soviet Union with a $100-million credit for developing production. As a result, Nikolay Tikhonov, chairman of the Council of Ministers was able to claim, with great pleasure, at the 16th Congress of the Communist Party of the Soviet Union that “inspired by the high estimate of the Party, the Siberians...more than doubled oil production (including gas condensate) and increased natural gas production by 330 percent. That is one more feat in the name of the Homeland.” The general secretary of the party Central Committee presented a broader picture as he compared 1980 with 1970. “In northwest Siberia in 1970, oil production (including gas condensate) amounted to 31 million tons, and in 1980 it was over 312 million tons. Natural gas production increased from 9.5 billion to 156 billion cubic meters in that period.”

Docudrama presents 80s oil glut as part of the Reagan Administration's strategy to bankrupt the USSR

Many former members of the Reagan Administration are very familiar with the pivotal role global energy markets played in hastening the collapse of Soviet power. In the 2004 documentary In the Face of Evil: Reagan's War in Word and Deed, several former members of the Reagan Administration described how they implemented a comprehensive plan to bankrupt the Soviet Union. Most students of Cold War history are familiar with how the Reagan Administration baited the Soviets into a costly arms race and demoralized the Red Army by supporting the mujahadeen in Afghanistan. What is less well-known is the Reagan team's strategy of economic warfare against the USSR.

In 1983 CIA Director Bill Casey went to Saudi Arabia and cut a deal: in return for the latest American weapons (F-15 jets and AWACS planes), the Saudis agreed to open the crude spigots. The sustained surge in Saudi production not only made up for production lost due to the Iran-Iraq war, it collapsed world oil prices. At the time, the short-term cost of this strategy seemed high: oil shale and oil sands production in North America was mostly abandoned, and wildcatters from Alaska to West Texas went broke, costing the country thousands of jobs. But by the mid-1980s, the flood of cheap oil from the Middle East helped the U.S. and its allies whip inflation, end an economic recession, and bury the Soviet Union.

World oil markets have changed dramatically since the 1980s, and the biggest change is the rise of China and India as massive consumers. Some of the major players, though, remain the same - even without the Central Asian republics, Russia is on the verge once again of being the world’s largest oil producer. With sufficient foreign investment and new exploration, Russia could surpass the production levels reached by the USSR at its peak.

According to Stephen Blank, a Professor at the U.S. Army War College, Russia has accounted for fully half of the world’s new oil production in the last five years, though how much of this yield comes from fields already tapped during the Soviet era remains unclear.

Professor Blank argues that Russia has simply injected a few billion dollars into the old Soviet distribution network, and that the Russians are not discovering new fields in Siberia fast enough to keep their ambitious export commitments. Blank points to Russia's massive domestic energy subsidies as the biggest limitation on how much oil and gas Russia can export. Adding to this gloomy outlook, Peak Oil doomsayers warn that Russian production is going to tumble very soon, and absurdly insist that there are no more significant oil reserves to be found in the vast Siberian tundra. We are simply doomed, and industrialized countries cannot count on Russian oil to save them from their excessive ways.

But what if all of these assumptions are wrong? What if it is Russia’s turn to open up the spigots?

Russian oil production bottomed out in the Yeltsin years, and has since recovered
(Source: WTRG Economics)

Part of the problem in reading analysis of Russian energy is sorting out the hard facts from wishful thinking and politics. The legacy of the Cold War inside the Beltway seems so strong, and the fallout from the YUKOS case so radioactive, that even President Bush has not been able to fully pursue his post-9/11 agenda for an energy partnership with Russia. Instead, many of the people Bush considers his supporters have claimed that Russia is a neo-imperialist power ruled by an evil KGB officer who is conspiring with Hugo Chavez, Hamas, Syria and Iran against America. As Russia Blog noted in a post about the recent nuclear deal negotiated between Bush and Putin, the U.S. President clearly wants a rapprochement before he and Putin leave office. Yet for all the talk of Bush and Cheney being oil men who supposedly don’t care about human rights, this hasn’t happened. Why?

At the risk of oversimplifying the problem on the American side, too many Republicans remain locked in the Cold War mentality, while too many Democrats think Russia can still be treated like it was during the Yeltsin years. Foreign policy hands from both sides of the aisle tend to see in every Russian arms deal with the Middle East as part of some grand plan to stymie U.S. interests, rather than "just business". D.C.-based NGOs and think tanks that have old hands from both parties on their boards don’t seem to grasp that the power struggle between the Kremlin and the oligarchs is over, that the “New Great Game” in Central Asia is largely irrelevant; that the U.S. and Russia both have more pressing concerns. The language that Russians will respond to is not sanctions or threats of diplomatic boycotts, but U.S. dollars. President Bush gets this, while many of the pundits and think tanks who claim to provide the intellectual support for his foreign policy do not.

Has President Bush been hindered by his own political base from reaching out to Russia?

As for Russia's role in the Middle East crisis, we have documented here at Russia Blog how Putin refused to meet with Hamas leaders after they vowed at the Moscow airport never to recognize Israel and condemned Hezbollah’s missile attacks on Israel. In fact, Russia has probably been more supportive of Israel in the current crisis than many EU countries. Part of this is quid pro quo: Israel is considering revoking passports issued to fugitive Russian oligarchs, while Gazprom wants to build a gas pipeline under the Mediterranean from Turkey to Israel and the Palestinian territories. While geographically speaking it would make more sense for Israelis and Palestinians to buy natural gas from Iraq and Saudi Arabia, due to the Iraq insurgency and decades of Arab-Israeli politics, this fuel is not available. So Russia is profiting in this case from the Mideast conflict, but this does not mean that Russia started the fire.

Today Washington’s chief concern is Iran, since it is the financier of Hezbollah’s war against Israel and, in the next few years, will become a nuclear power with a leadership that speaks casually about using nuclear weapons against Israel. Yet the U.S. was able, without firing a shot, to slash the Achilles heel of Soviet power, and Iran is far less powerful than the Soviet Union was in the 1980s.

Instead of fighting proxy wars of attrition with the whole world watching, maybe it’s time for the U.S. to pursue a more covert strategy to squeeze the mullahs’ where they are most vulnerable – in the pocketbook. The first step would be recognizing that any strategy that hopes to undermine the present Iranian regime without war will require the U.S. to find partners outside the Middle East ready and willing to produce more energy, a lot more. The second step would be recognizing that Iran, sitting on a sea of oil, can't even refine enough gasoline for domestic consumption, and that the regime depends on largely Sunni Arab Gulf States to refine this fuel. Even a temporary disruption of gasoline deliveries across the Persian Gulf could lead to gasoline lines in downtown Teheran - undermining the Ahmadenijad regime's promise to put more "oil money on the table" for Iranians and bolstering opposition movements inside Iran. Such a strategy may be risky, but will prove less risky than bombing Iran's reactors and more effective than more toothless UN sanctions.

UPDATE: Welcome, Sean's Russia Blog readers!


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Just a line to tell you how much I enjoy your blog and how incredibly insightful your information and analysis is.

Excellent post!

You could also have mentioned that long term, Russia's vast gas reserves make its oil reserves almost secondary to any discussion on Russian energy policy.

Thanks Tim, and congratulations on your engagement and pending move to Sakhalin.

I mentioned Russia's potential to convert its immense natural gas reserves into liquid fuels (diesel, jet fuel) in my piece on private energy companies rising in Russia. I also think that in general the industry is underestimating the reserves of oil, whether conventional or unconventional, that will be found in Siberia.

Of course you are right that there is a lot more gas than oil around the world so in the long term, it makes sense to stop "wasting" NG for heat and start using it primarily as a transportation fuel - either as a pressurized gas or converted to liquid fuel. This is Peter Huber's basic thesis in The Bottomless Well, that we can shift a huge amount of our GDP from oil and gas to much cheaper (and with coal gasification and possible carbon sequestration, better for CO2 emissions) coal and uranium. That is certainly how we overcame the first OPEC embargo in the 70s (it wasn't just by building smaller cars or raising CAFE standards) - by shutting down all the old oil-fired plants and bringing online the first generation of commercial reactors.

With plug-in hybrids emerging as a possible fuel-saving initiative for city drivers and urban municipal fleets (i.e. buses and the post office) we may be on the verge of an even greater movement for the U.S. from oil to the grid, though both the battery technology and prices need to improve before plug-in hybrids become popular. It is a kind of chicken and egg problem of stimulating demand without creating a free for all of subsidies for "alternative" or "energy saving" technologies that do not work nearly as well, but have powerful political constituencies.

Thanks Tim, and congratulations on your engagement and pending move to Sakhalin.

Thanks! Much appreciated.

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