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Russian Oil Industry Holds Promise, but Many Impediments Lie Ahead

Record-breaking energy prices have heightened concerns about diminishing oil production worldwide at a time when demand from emerging nations like China and India is growing dramatically. Increased production in Russia could offset the demand crunch, but many energy analysts believe Russia's internal political questions need to be resolved first.

The rise of Russia as a major oil producer could be just the boost the world energy market needs at a time of rising demand and questions about the security of supplies in the Persian Gulf region and elsewhere. At a conference Monday hosted by the Baker Institute at Houston's Rice University, experts and oil industry representatives came together to look at Russia and its energy strategy.

Amy Jaffe, chief energy analyst for the Baker Institute and one of the authors of a new report on Russia's energy sector, says increased Russian production could ease pressure on world oil prices.

"The strong growth in Russian oil production is real," said Ms. Jaffe. "Oil exports could rise by over two million barrels a day between now and 2008, based on just known resources, that is, without further exploration, and using existing cash flow for the largest Russian oil majors."

Currently, according to the report, the expansion of Russian oil exports has made the country second only to Saudi Arabia in total exports and the largest petroleum exporter among nations that are not members of the Organization of Petroleum Exporting Countries (OPEC). After slumping to around six million barrels a day in the mid-1990s, Russian oil production this year reached nine million barrels a day.

Much of the increase in Russia's production has come from a handful of private companies like Yukos, Lukoil and Sibneft.

But, Ms. Jaffe notes, Russia's future export growth could be hampered by the policies of its president, Vladimir Putin, who favors more government control of the oil sector.

"The Kremlin's plans for reorganization could dampen the level of increase by disrupting the speedy implementation of plans to remove infrastructure constraints or by causing a slowdown in capital expenditures and project development," she added.

A year ago, Russian authorities arrested Yukos President Mikhail Khodorkovsky on charges that included tax evasion. Then, President Putin raised license fees for exploration and development of oil fields and began to strengthen state control over natural resources. One consequence of this was a slowdown in foreign investment projects in Russia and derailment of a plan for a pipeline to supply the growing market for energy in China.

Nina Poussenkova of the Institute for World Economy and International Relations of the Russian Academy of Science, says President Putin no doubt wants to increase oil deliveries to China, but his priority is consolidating government control over the energy sector.

"It is a much more political than economic question," said Ms. Poussenkova. "But, yes, definitely, the government is targeting the market [in China], because it is very lucrative and fast growing."

But Russian oil exports are likely to keep growing, according to Richard Gordon, executive vice president of the petroleum research company John S. Herold, Incorporated, because, unlike China, Russia's own demand for oil is not significant.

"The strategic imperative for exports in Russia is pretty straightforward," said Mr. Gordon. "It has to do with the simple fact that the raw capacity to produce in Russia grossly outweighs Russian needs at this time. Much like Saudi Arabia there is absolutely no purpose to further development in Russia if one does not export."

Russian oil production could expand rapidly once the country begins to fully exploit some of its more remote regions, according to Robert Ebel, chairman of the Energy Program at the Center for Strategic and International Studies in Washington.

"The future today is in east Siberia and offshore," said Mr. Ebel. "If it is realized, we can expect probably continued growth through the middle of the next decade. If it is not realized, I would suspect you will see a decline in production starting in about ten years."

The development of new fields and the construction of pipelines will require billions of dollars in investment and the technological expertise that foreign oil companies could provide. However, the Baker Institute report notes that Moscow is opposed to production-sharing agreements with foreign oil companies and many potential outside investors are put off by the lack of transparency and legal protections in Russia.

Experts attending the conference here in Houston say that President Putin will likely continue to seek an energy partnership with the United States, but that he will not allow any foreign investment or strategic partnerships that would impinge on the Russian government's control of oil and gas assets. The growth of the vital energy sector in Russia will depend on what arrangements can be made to attract foreign investment, while at the same time assuring government guardianship of natural resources.