Streetwise Professor

Ambrose Evans-Pritchard reports on the remarks about potential cooperation between Russia and OPEC uttered by that tease, Arkady Dvorkovich:

Riyadh has made it clear that it will not cut output to shore up prices unless non-OPEC producers share of the burden. This essentially means Russia, the world’s biggest producer.

Mr Dvorkovich, the head of Russia’s economic and energy strategy, said his country was in constant talks with OPEC in order to bring about a “more rational policy” but was coy on whether the Kremlin would break the impasse and strike a deal with the Saudis.

“Our consultations do not imply directly that we are going to see any coordinated action. Perhaps ‘yes’, perhaps ‘no’, most likely ‘no’,” he said, speaking at the Ambrosetti forum of world policy-makers on Lake Como. “We are sending signals to each other.”

Russia insists that it cannot switch off output as easily as the Saudis, given the harsh weather in the Siberian fields, a claim dismissed by OPEC as a negotiating ploy.

For his part, our favorite mullet man, Igor Sechin, says that Russia is different than OPEC countries, and cannot play along:

“The Russian oil industry is private, with a high number of foreign shareholders,” Mr Sechin told an audience at the FT Commodities Retreat in Singapore. BP owns 20 per cent of Rosneft, the Russian state-backed oil company, which is majority owned by the Kremlin.

“The Russian government cannot administer the oil industry like an Opec country can,” he said, adding that Russia would also face technical difficulties in shutting production in regions such as Siberia, where extremely cold winters could cause wells to fracture if they were closed.

Although I agree there are real difficulties in shutting down Siberian production, the remarks about Russia’s inability to administer the oil industry is a crock. Suppress the giggle reflex about foreign shareholders, and remember that Russia levies export taxes on crude (and products) that can be used to “administer” the market. If Putin desired to reduce foreign sales of Russian oil in an effort to support price (perhaps in coordination with the Saudis or Opec), he could readily do so by increasing the export tax. Russian exports would decline, the world price would rise, and the Russian domestic crude price would fall. (Russian refining capacity would constrain how much oil can be diverted from exports to domestic use.) Thus, the Russian government undoubtedly has the policy tools to cooperate with OPEC to support the world price.

But truth be told, Russia doesn’t trust OPEC to adhere to production cuts, and OPEC doesn’t trust Russia to adhere to export cuts. OPEC has heard Sechin and Putin whisper sweet nothings in its ear before (in 2009, particularly) and have learned that flirting or no, Putin doesn’t put out.

In other news of unrequited love, there have been numerous stories of late about Russian disappointment about the failure of its dreams of a romance with China. Most notably, Putin returned empty handed from his recent trip to Beijing to witness China’s commemoration of the end of WWII. Most notably, Gazprom failed to secure financing for a gas pipeline into western China, it announced that its deal to ship gas to the east was delayed, and Timchenko (a target of US sanctions) failed to secure Chinese funding for the Yamal project. (Which may be a good thing, as it would be bringing LNG into a glutted market . . . which could explain Chinese reluctance.)

Putin was deluded if he thought that he could pivot to China and get a good deal after the US and Europe imposed sanctions. The Chinese realized that he was turning to them primarily out of weakness, and tough bargainers that they are, it was inevitable that they would exploit his weakness: the alternatives for Putin were a deal on very unfavorable terms, or no deals at all.

Market developments have only intensified Putin’s predicament. The decline in oil prices has increased his financial desperation. Moreover the fact that the decline in oil prices is due primarily to a slowdown in China’s economy means that the Chinese have less need for Russian resources, and less capital to invest: China has to focus on dealing with its own pressing problems, and helping Russia is not a priority. Putin was already deeply exposed to China risk through the resource price channel, and sanctions and his pivot only increased that exposure through an investment channel. Now that risk has crystalized, and Putin is doubly effed.

Just like Glencore, the subject of my previous post, Russia and Opec are at the mercy of China. Russo-Opec cooperation isn’t going to happen. It is devil take the hindmost among oil producers, and the individual incentive for all of them is to produce up to capacity. Price will mainly affect future investments in capacity, not utilization of existing capacity. In the near to medium term, before depletion and lower investment in the US reduce supplies, price will be demand driven, and primarily China demand driven at the margin. Russia and Putin are along for the ride, and can’t do a damn thing about it.