Streetwise Professor

August 13, 2009

The Natural State, In a Nutshell

Filed under: Economics,Energy,Financial crisis,Politics,Russia — The Professor @ 8:29 pm

Check this out if you want to see examples of the myriad deformities in Russian energy policy in one brief article.   Wasteful use of gas due to domestic price controls–waste that contributes to the release of greenhouse gases, by the way.  The use of state regulatory agencies to exert pressure on a foreign investor;  in this case, the mineral rights regulator  RosNedra threatening to revoke Hungarian firm MOL’s license unless it captures gas production associated with the output of oil.  A threat that would be unnecessary if state firm Rosneft had followed Yukos’s practice of  purchasing of the gas.  The involvement of  Surgut Neftegaz–sometimes called Rosneft chairman’s Igor Sechin’s favorite “private” oil company–attempting to take control of MOL.  The simultaneous adversarial actions of RosNedra, Rosneft, and Surgut Neftegaz towards MOL suggests that they are playing a triangle offense, with the Hungarians caught in the middle.

In a more economically efficient system, the price of gas would adjust to ensure its efficient use, and eliminate wasteful flaring.  This would alleviate Russia’s looming gas shortage.  It would also make it unnecessary for the regulator to coerce firms into doing this–and therefore would also deprive it of the cover to use its powers at the behest of state owned firms, and the private allies of state owned firms.

But this is not possible in a natural state like Russia.  Prices cannot be allowed to allocate resources efficiently, because it would damage important domestic political constituencies, including individual consumers, but more importantly, industrial consumers and power producers dependent on below-market gas prices.  And protections of foreign investors constrain the ability of the state to shift rents around in order to placate other constituencies, so they cannot be countenanced.

The pressures being exerted on ExxonMobil represent another example of how the political imperative to allocate rents in the natural state precludes reliance on market mechanisms to allocate resources; the necessities of subsidizing restive Siberian consumers and feeding Gazprom’s voracious appetites means that something has to give, and that something is a foreign investor.

This is why this attempt to interpret Russia’s adamant unwillingness to sign onto the foreign investor protections in the Energy Charter solely as a response to the Yukos expropriation are simplistic, and wide of the  mark:

But everything was outweighed, judging by everything, by just one sole argument. The Energy Charter is the legal foundation for a claim by former shareholders of the YUKOS company against the Russian state. Investors who have suffered from the artificial bankruptcy of the former company of Khodorkovsky are demanding of the government of Russia to pay them back for their losses. In its time, the market had appraised the YUKOS company in the tens of billions of dollars. Correspondingly, the sum of the shareholders’ claims is comparable is size as well.

. . . .

It is possible that the powers would do well to be more consistent. It looks somewhat strange that the development of international relations and questions of economic strategy are subordinate to the logic not of benefit for the country or of society, but lie in the stream of resolution of superannuated conflicts. But, probably, it is not at all the «YUKOS affair » that should be determining the policy of the country, or else it turns out that the tail is wagging the dog, although it should be the other way around.

Yes, Yukos is important, and yes, the prospect of having to compensate the expropriated is one reason why Russia cannot join the Energy Charter.  But it could not join even if Yukos had never existed.  The energy charter would force an element of market discipline and economic rationality that the natural state that is Russia cannot abide.   The Charter’s provisions on investment protection, transit, and transparency limit the Russian government’s flexibility to manipulate markets in order to allocate rents to maintain a political equilibrium.  Khodorkovsky and Yukos threatened that equilibrium, but there are other threats.   As a result, Yukos or no, Putin and the Russian elite are perfectly willing to forgo some of the efficiency benefits of more secure property rights and the uses of prices to allocate resources, in order to ensure the distributive and political benefits that government control of resource allocation confers.

That’s the way the natural state works.

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