AS OIL ENRICHES RUSSIA, TENSIONS SURFACE IN EUROPE
by Sacha Kumaria

Human Events
May 23 2006

On July 15, the leaders of the world’s eight great industrial nations
will convene in St. Petersburg, Russia, to discuss the future of
the global economy. Chaired by Russian President Vladimir Putin,
it will mark the culmination of Moscow’s 20-year transformation from
the spiritual home of communism into a major capitalist power.

But the meeting will be held against a backdrop of increasing
international tension about Russia’s resurgence. Relations between
Washington and Moscow are at their lowest ebb in 10 years, and in his
recent Address to the Federal Assembly — equivalent to the State
of the Union address — Putin remarked that “far from everyone in
the world has abandoned the old bloc mentality and the prejudices
inherited from the era of global confrontation.”

The speech as a whole was an intricate balance between the need
to arrest Russia’s internal societal decline — one-third of the
population, which is shrinking rapidly, lives in poverty — and
a desire to play an ever-greater role in world affairs. Moscow’s
involvement in the Iranian nuclear affair is a case in point. Its
refusal to sanction serious Security Council measures against Tehran
is a growing source of concern to the United States and Britain.

This newfound confidence has its basis in Russia’s economic resurgence
since the collapse of the rouble in 1998, the single largest cause of
which is the high (and rising) price of oil. Russia is the world’s
second-largest producer of oil, and the wealth pouring into Moscow
has allowed it to retire most of its foreign debt and build up a $62
billion “stabilisation fund” to buttress its economy against a fall
in oil prices. But if oil is underpinning Russia’s economic growth,
natural gas is the basis for its geopolitical resurgence. It possesses
the world’s largest reserves, and through its ownership of Gazprom
— now the world’s third-largest company — the Kremlin exercises a
total monopoly on exports.

There is a growing concern in Washington and some European capitals
that the actions of Gazprom and RAO UES, the state-owned electricity
monopoly, are not solely driven by the profit motive. Both companies
are pursuing an aggressive policy of acquiring “downstream” (i.e.
distribution) assets in Europe and the Caspian basin to complement
their “upstream” (i.e. production) facilities in Russia. For example,
RAO UES recently purchased a majority stake in both Georgia’s and
Armenia’s electricity networks in return for the offer of subsidized
electricity. And Gazprom is currently purchasing transmission networks
and distribution companies, often through middlemen organizations
(one of which is being investigated by the Justice Department),
in Eastern Europe and Germany. As a consequence, these state-owned
monopolists are increasing Europe’s structural dependence on Russian
energy. And unlike oil, which can be transported anywhere in the world,
gas and electricity require considerable investment in infrastructure,
and hence long-term supply contracts, to be delivered to the market.

While such dependence has been growing for some years now, it was not
until the Ukrainian crisis in December — when Gazprom cut supplies
to Kiev on the basis of an irresolvable “commercial dispute” — that
Europe and the United States began to question Russia’s reliability
as an energy partner. Since then, the EU has been scrambling to
develop a new energy policy towards Russia, but a consensus remains
elusive. Some countries are already too reliant on Russian energy,
by dint of pipelines that date from the Soviet era, to ruffle any
diplomatic feathers.

The Baltic States, Hungary and the Czech and Slovak Republics all
receive more than 80% of their gas from Russia. By contrast, Berlin
recently signed an agreement with Moscow to build a pipeline from the
vast Shtokman field in the Barents Sea to the north German coast via
the Baltic Sea. The plan has provoked a furious response from many
Eastern European nations.

The Polish Defence Minister, Radek Sikorski, likened it to the
pre-World War II Molotov-Ribbentropp Pact, wherein Nazi Germany and the
Soviet Union secretly agreed to divide up Poland. But while such fears
are overstated, the fact remains that, if the pipeline is completed,
Poland and other Eastern European nations will be more vulnerable to
Russia’s political machinations because any ‘disruptions’ to supply
won’t now have a knock-on effect on the politically powerful Western
European markets.

Such concerns were the basis of Vice President Cheney’s recent comments
in the Lithuanian capital of Vilnius when he accused Moscow of using
its energy resources as “tools of intimidation and blackmail” and
its “back-sliding on democracy.” Europeans share many of the same
concerns, and following the rift over the Iraq war, the issue of
Russia’s growing assertiveness may offer the opportunity for greater
transatlantic cooperation. Notwithstanding its traditional antipathy
towards Russian authoritarianism, Washington has another considerable
reason for weighing in on behalf on Europe: China.

Moscow has rapidly scaled up its diplomatic efforts with Beijing over
the last few years — both are fervent supporters of a multi-polar
world order — and trade tripled to $16 billion between 1999-2004.

China’s growing demand for energy, combined with Russia’s vast untapped
resources in Eastern Siberia, represents an opportunity for a further
deepening of relations. However, Russia will struggle to meet both
projected Chinese demand and its current European commitments without
massive investment in new infrastructure. Such investment is unlikely
to come from foreign investors as the climate for business in Russia
becomes ever less encouraging, and it will therefore have to come
from the Russian government.

If Europe feels that it cannot rely on Moscow as a stable source
of energy, it will seek to diversify away from Russian gas and oil
toward more expensive forms of power generation including nuclear and
renewables, further undermining the continent’s weak economic growth.

Similarly, investing in exports to China is a very expensive, long-term
proposition for Moscow, but one they are willing to undertake if they
feel their European market share is sufficiently threatened.

By contrast, a free-market approach would greatly facilitate the
trade in energy between Russia and Europe, because it makes eminent
economic sense — the infrastructures already exists, and demand is
slowly rising. The EU, therefore, needs the United States’ support to
pressure Russia toward further integration into global trading system
of liberalized markets and the privatization of its vast state-owned
energy firms which too often conflate Russia’s economic and political
interests — often to the detriment of both.

Mr. Kumaria is director of programmes for the Stockholm Network.

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