Russia's Road to Riyadh

In agreeing to cut oil exports Wednesday by 61,000 barrels per day, has Russia at last joined forces with OPEC and non-OPEC countries in an effort to bolster flagging prices? Probably not, despite appearances to the contrary.

This week's agreement between acting First Deputy Prime Minister Boris Nemtsov and leading Russian oil exporters in fact does little more than ratify initiatives that the companies have already started to take themselves. In short, the spontaneous forces of supply and demand have greater bearing on Wednesday's announcement than any desire on the government's part to sign up for last month's Riyadh Pact.

With output of 6.1 million bpd, Russia accounts for more than 8 percent of global supply. Of this, some 3.4 million bpd of crude oil and refined petroleum products are exported, making Russia a key player in the European markets. In short, Russia's actions can have a big impact on world prices. Russia's high production, taxes and transportation costs mean that it has also suffered more than most from the downturn in the value of oil. It might seem natural then that Russia would wish to take part in any international effort to boost prices. In anticipation of this, Russia was originally pencilled in for a 100,000-barrels per-day cut in output.

It is true that Iranian Oil Minister Bijan Namdar Zanganeh visited Moscow last weekend seeking to persuade the government to participate in the Riyadh initiative to cut global oil production by up to 1 1/2 million bpd. But he returned home with little to show for his efforts after being told by Nemtsov that Russia had no plans, or indeed interest, in reducing its oil output. "Russia isn't in OPEC and has no responsibility to reduce oil output," Nemtsov said at last week's Moscow meeting of G8 energy ministers. "We are interested in the state of our economy."

Nemtsov also pointed out that, unlike many OPEC states, the Russian authorities had no real power to instruct oil companies to cut output. "The Russian government does not have the right to interfere with the production of private companies," he said.

What then has changed over the past week? Not a great deal really. The 61,000-bpd cut in exports is a drop in the ocean and will do little to boost the credibility of the Riyadh Pact, which has itself encountered serious credibility problems. Weeks prior to Wednesday's announcement, Russia's largest oil company, Yuksi, announced that it would cut output by 5 percent this year in response to lower international prices. Yuksi's initiative alone will account for a contraction in output of 65,000 bpd. And Lukoil this week revealed that it too planned to cut production by some 50,000 bpd. You don't need to be a mathematician to see that the plans of these two companies alone already exceed the scope of this week's agreement.

It is also interesting to note that the brunt of the export cuts, some 36,000 bpd, will be borne by refined products, not crude oil.

Here again, Lukoil said more than a week ago that it will cut exports of gas oil-- used for diesel fuel and heating oil -- by more than 20,000 bpd this year. This move has been prompted by warm winter weather in Western Europe that has created a glut of gas oil in Russia's key markets. Similarly there is very weak export demand for fuel oil, which is Russia's other main oil product export. Russian fuel oil is usually bought for further refining in Western Europe, but with oil prices so low, refiners prefer to buy crude. It is safe to say that Russian exports of these products would likely fall this year whatever the government had to say.

So the government appears to be trying to make some political capital out of the situation, taking credit for what the oil companies are doing anyway. Nevertheless, the government was not necessarily wrong in the first place to say it would not interfere in the question of cutting output.

Emerging from the worst depression to hit a country this century, Russia has some justification in seeking to look after its own interests before those of the international oil community. Not least, the recently signed 340 to 360 billion ruble ($50.7 to $60 billion) 1998 budget expects the oil sector to contribute as much as 100 billion rubles in tax revenues.

There is also another reason why it was sensible for the government not to go down the road to Riyadh. A decline in oil production will have a knock-on effect on headline GDP figures. Gross domestic product barely edged upward last year -- Russia's first post-Soviet period of growth -- by an anemic 0.4 percent, much of it fueled by a 1.5 percent increase in crude oil output. Another downturn in GDP would not help to nurture confidence in Russia on the international financial markets. And perceived resumption of economic decline would also have an impact on the rouble, inflation and the treasury-bill market.

Even with Russia's somewhat belated and meager contribution, there are serious doubts about whether signatories will keep the promises they made in the Riyadh Pact. And it seems unlikely this year that Urals crude will sell at anything like the average price of $17.45 per barrel that it has attained since the collapse of the Soviet Union. It is perfectly possible that both production and exports will shrink further.

While this is sure to hurt oil companies' balance sheets, those best equipped to weather the present crisis will emerge leaner and fitter. In the end, it has to be encouraging that the real decisions on supply will be driven by the market and not by administrative fiat.

Euan Craik is CIS director for Petroleum Argus, an oil price reporting and information agency. He contributed this comment to The Moscow Times.