Muscle vs. Strategy

It's easy to see Shell's current difficulties in Russia as part and parcel of the broad reassertion of centralized authority by the Russian government, particularly in the energy sector, and its increasing use of energy to create leverage over its neighbors. Shell and its Japanese partners seem prepared to sell a large, probably controlling interest in the Sakhalin-2 natural gas project to Gazprom, the partially-privatized Russian state natural gas enterprise, in order to keep the project alive. This move fits a pattern that includes the forced re-nationalization of Yukos and last winter's heavy-handed gas supply dispute with Ukraine, which may shortly be replayed in Belarus and Georgia. But as Reuters points out in the news item linked above, there's another factor at play in Sakhalin. Gazprom cannot translate its dominance in natural gas reserves into a dominant global market position without LNG expertise and capacity.

It's a tired cliche that Americans play football and Russians play chess, but that's still a good reminder of the Russian disposition towards strategy. In that light, Sakhalin-2 isn't just a business dispute between a major oil company and a host country that has employed a variety of means, fair and not so fair, to muscle its way into a potentially lucrative, world-scale LNG project. It's a major strategic move for a company that has already become a key instrument of Russian foreign policy in Europe and the "near abroad"--the Eastern European and Central Asian states that were once part of the USSR, or abutted it.

Just as Russia was traditionally a continental power, capable of asserting influence across the entire Eurasian land mass, but with limited sea power, Gazprom's market and influence is currently limited to where its pipelines can reach. The natural gas market will become increasingly globalized in the years ahead, with the expected rapid expansion of LNG trade. Without the ability to supply gas across the oceans, Gazprom would miss out on much of the growth in this market, especially in the US, where LNG is still in its infancy. That could be very costly, particularly if Europe turns elsewhere for the gas it will need to meet its commitments under the Kyoto Treaty.

The ultimate roots of Gazprom's LNG strategy--and thus its actions with regard to Sakhalin-2--lie in the inherent contradictions of the US gas market, where environmental regulation has simultaneously nurtured the growth of gas demand, while stifling its domestic supply from federal lands and offshore drilling. If I were running the world's largest natural gas company, I would not rest until I was properly positioned to participate in what is likely to be the world's largest market for LNG. Shell and its partners just happen to be in the unfortunate position of providing both the means for achieving that end, and an obstacle in its way.

12/22/06: "Shell Cedes Control"