Tuesday, September 19, 2006

Choosing a Legacy

When Russia shook off seven decades of Communism in the 1990s, reactions in the West ranged from widespread optimism and hope to somber skepticism. I recall lengthy discussions about this at my old firm, bolstered by some clever scenario planning focused on the future political and economic development of this temporarily-humbled colossus. I don't think any of us imagined, however, that the model that ultimately emerged might be patterned on Mexico, and not the Mexico of today, in which the loser of a closely-run Presidential election can hang on for weeks without admitting defeat. I mean the older Mexico of institutionalized single-party pseudo-democracy and its stagnant, nationalized energy industry. Russia may not be quite there, yet, but the trends are worrying.

For a brief period in the late 1990s it didn't seem to matter how or by whom Russia was led, because the popular wisdom held that the country mattered no more than Norway. That was silly on the face of it, but it was an enticing comparison in a world of cheap energy and quiescent geopolitics. Now it matters very much who leads Russia and how, especially for the global energy industry and its consumers. An op-ed in Sunday's Washington Post looked at the succession process for President Putin, who may indeed retire at the end of his term. The price of that departure, though, will apparently be the right to ensconce his chosen successor.

Whoever follows Vladimir Putin, he is likely to share similar views on the ownership of Russia's key resources, including energy. While one can write off the entire Yukos matter as the internal settling of an old grudge, the current harassment of Shell and Exxon, which are investing billions of dollars to unlock the enormous reserves of Russia's Far East, suggests that the political component of access to Russian resources will always outweigh the economic.

Russia is hardly the only place in which we see that, but it's one of the largest. The resulting throttling back of its long growth trend is going to make an enormous difference in the global oil balance. It's much harder to piece together an optimistic scenario of long-term oil supplies without Russia sitting firmly in the "open" category, rather than the "closed" column.

If Russia were trying to build up its oil and gas technology into world-class competitors, it had a great opportunity with aggressive private firms such as Yukos to take the lead, instead of semi- or re-nationalized firms such as Rosneft and Gazprom. Post-Yukos, we see a clear strategy built around firm control of the resources and their logistics, and the steady application of state power to reduce the influence that international firms gained during the Yeltsin years. That approach will keep world oil prices higher than they would otherwise be, making alternatives more attractive. But how well equipped is Russia to play the game that must eventually follow, in a more energy-efficient world dominated by electricity and liquid fuels from oil sands, coal and biofuels?

So as Mr. Putin ponders his legacy, he might do well to consider another country with bountiful oil riches, but which by its policy choices relegated itself as the perpetual junior partner to a more populous, economically-overwhelming neighbor. If he likes what he sees in Mexico, then he's on the right track. If he prefers to keep Russia in the first rank of nations, then he must change course and pursue greater openness and an environment that is conducive for foreign investment. Big as they are today, Russia's energy revenues are insufficient to transform it into a 21st century leader.

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