Could Russia contribute to America's energy security? In the wake of the Yukos affair, doubts have been raised about the country's business climate, growing government intervention in key sectors of the economy, and Russia's reliability as a partner in strategic economic sectors. Given the high stakes involved, it is imperative to read Russia "right." With the world's largest deposits of natural gas and third-largest proven reserves of oil, Russia has the potential to make a major contribution to global supplies. Unfortunately, at a time when attention should be focused on an accurate evaluation of the extent of Russia's reserves and the challenges of getting Russian oil and gas to world markets, many discussions still focus on political risk.

To help make sense of Russian policy in the natural resource sector, we can turn to a fairly comprehensive statement from Russia's President, Vladimir Putin, about Russian energy policy. In the years before he was appointed Prime Minister and then elected President, Mr. Putin defended a Candidate of Sciences (kandidat) dissertation at the St. Petersburg Mining Institute (in 1997)

Neither the thesis nor the summary Avtoreferat have been publicly available since Mr. Putin's appointment as Prime Minister. Several people who claim to have read these works state that the thesis deals with three main subjects: the ways natural resources can contribute to the regional economy; strategic planning; and the development of port facilities in St. Petersburg and Leningrad Oblast to facilitate resource exports. and subsequently (1999) published an article in the Institute's journal outlining his views on a natural resource policy for Russia. While we have no way of proving the extent to which these writings influenced subsequent policy, developments since the arrest of Mikhail Khodorkovskii are in important ways consistent with the views expressed in Mr. Putin' article.

Mr. Putin's was the lead article in an issue of the journal devoted to the fuel and energy complex. His basic message is that Russia's mineral resources, and particularly its hydrocarbons, will be the key to the nation's economic development for the foreseeable future. To guarantee the most effective exploitation of Russia's enormous mineral wealth, the state must regulate and develop the resource sector. This can be best facilitated by fostering large firms that will be capable of competing on equal terms with Western transnational corporations. While the policies should rely on market mechanisms, the interests of the Russian state and people (and Russian corporations) must be protected.

Mr. Putin's Article

Mr. Putin's article begins with the premise that sustainable economic growth in Russia requires reliance on the country's rich mineral resource endowment. If developed economies grow at a rate of 2-3% per year, Russia requires 4-6% annual growth to catch up. Achieving this level of growth is possible if Russia establishes large financial-industrial corporations capable of competing with Western multi-nationals in energy and natural resources. Along with fostering these large firms, the state must regulate the extractive complex using "purely market methods."

Russia will need to rely on its mineral resources at least during the first half of the 21st century, and possibly longer. Used effectively, the resources can be the basis for Russia's entry into the world economy. Therefore, the sector is crucial to the entire life of state, supporting industry, providing 50% of GDP and 70% of export revenues, and creating conditions for modernizing Russia's military-industrial complex. The large number of "company towns," in the sector gives it a crucial role in preserving social stability.

Mr. Putin recognizes some limits on what may be expected even if the resource sector performs well. The sector cannot finance the development of domestic processing industries, nor can it employ everyone: the low share of labor costs and high cost per worker means the extractive industries by themselves cannot generate an overall improvement in living standards.

Mr. Putin repeatedly emphasizes that restructuring the resource sector to improve its performance is the most important issue for Russian economic growth. Enormous investments will be needed just to maintain current production levels. The gas industry is the best positioned among energy sector branches, but 60% of its pipelines have been operating for more than 20 years [published in 1999], which is nearly two-thirds of their projected useful life. Integrating the processing industry with the extractive industry is one key to improving conditions. The most promising way to accomplish this is by creating large financial industrial groups (FIGs). These companies will allow Russia to move away from reliance on outmoded technologies and they will be able to raise capital on Russian and international markets to locate and develop new deposits. These new companies must take the lead in building up the economy, providing revenue and jobs, and promoting economic integration within Russia, with the CIS and with the world economy.

The resource sector is too important to be left entirely to market forces: "Regardless of whose property the natural resources and in particular the mineral resources might be, the state has the right to regulate the process of their development and use." In doing this the state acts in the interests of society as a whole, and also helps property owners to resolve their conflicts through compromise:

Unfortunately, when market reforms began the state lost control of the resource sector. However, now the market euphoria of the first years of economic reform is gradually giving way to a more measured approach, allowing the possibility and recognizing the need for regulatory activity by the state in economic processes in general and in natural resource use in particular. . . .A contemporary strategy for rational use of resources cannot be based exclusively on the possibilities of the market.

Ensuring rational resource use, guaranteeing environmental protection and providing long-term economic security are beyond the capacity of markets. "In Russia, as a consequence, it is necessary to implement this principle of rational resource use by an organic combination of market mechanisms of self-regulation and support for rational resource use and conservation."

Given the serious mistakes during Russia's initial market reforms, the country now requires multiple forms of property corresponding to its diverse stages of technological development. While Western countries have moved beyond the resource-intensive "third" stage of development, Russia has reached the stage of "resource-conserving innovative technology" only in some military-industrial production. This brings Mr. Putin to what may be the most important passage in the article for an understanding of evolving policy: "the basic strategic tasks for the natural resource bloc involve achieving the transition to a rational combination of administrative and economic methods of government regulation in the sphere of resource exploitation" [emphasis added].

Mr. Putin concludes with several lists of priority tasks for simultaneously strengthening the state and improving performance in the resource sector. First priorities entail providing a legislative basis for the sector, including laws for licensing and fee-based exploitation: conservation and renewal; closely delimiting property relations; and establishing state reserves of valuable resources.

"In terms of a general conclusion it follows that existing socio-economic conditions, and also the strategy for Russia's exit from the deep crisis and restoration of her former power on a qualitatively new basis demonstrate that conditions in the natural resource complex remain the most important factor in the state's near-term development."

In sum, Mr. Putin emphasizes the importance of the resource sector for Russia's economic and geo-strategic revival; notes the need for mixed forms of property without specifying the optimal mix; asserts the primacy of state interests; and advocates fostering large, vertically integrated firms that will further with those interests.

Implications

Do Mr. Putin's academic publications have any bearing on Russian policy? In his address to the Federal Assembly on April 25, 2005, in the context of noting the need for legislation clearly delimiting security requirements so that Russia could attract foreign investment, Mr. Putin called for pre-emptive control "by national, including state capital" over defense industry production and strategic natural resource deposits, as well as infrastructure monopolies. In July 2005 Gazprom CEO and Putin deputy Alexei Miller told the Financial Times "that the company wanted to become one of the largest integrated energy companies in the world, spanning oil, gas and electricity." Dmitry Medvedev, Chairman of Gazprom's Board of Directors and head of the Kremlin administration, made a similar statement following the acquisition of Sibneft, noting that Gazprom "will not only become the world's largest natural gas producer, but also one of the world's biggest energy companies" (RIANovosti, September 29, 2005). In October 2005 Prime Minister Fradkov extended the industrial policy model to railroad rolling stock, stating that consolidation in the industry should be viewed as preparation for effective global competition rather than as creating a monopoly.

Invoking the need for vertically integrated enterprises capable of competing with Western multinationals is a call for "national champions." The concept appeals both to those who want to see Russia occupy an important place in the world and to those in a position to benefit financially. Thus the interaction of two related processes may help to explain events since the arrest of Mr. Khodorkovskii. Mr. Putin wants the Russian state to be in a position to exert strategic control over the energy sector with limited recourse to non-market methods. Actors in business and the government bureaucracy want the material benefits. Mr. Putin may not have foreseen the conflicts that would erupt when Rosneft first resisted being merged with Gazprom to create Russia's national champion and then competed successfully with Gazprom to acquire Yuganskneftegaz, Yukos' largest production asset. This put Rosneft in a position to play the role of a national champion in the oil industry, but left Gazprom without major oil assets and with less than majority government ownership. Gazprom's subsequent acquisition of Sibneft solves the ownership issue, gives the firm a role in oil as well as gas, effectively creating a second national champion.