Since Vladimir Putin came to power at the turn of the millennium, Russia has exported crude oil and petroleum products worth almost $3.5trn, according to data from the Central Bank of Russia. Its natural gas exports over the same period were worth $938bn. Last year, oil and gas revenues contributed nine trillion roubles ($123bn) to the Russian federal budget, leading to a budget surplus for the year. Most of this money came from oil, and most of that oil was sold to the EU.
Russia’s most valuable commodity is its oil. It has underwritten Putin’s regime from the beginning, drives his economic policy and provides a source of revenue that the world may not be able to cut off. Russia’s fortunes are so closely tied to the price of oil that it creates a perverse incentive: Putin’s regime profits from chaos.
As Russian forces began massing on the Ukrainian border at the beginning of the year and US intelligence predicted an invasion, crude oil prices did what they typically do in times of geopolitical crisis and rose from $75 to $100 a barrel. The threat of war was already paying for itself.
“Putin was not driven [to invade Ukraine] by the desire to raise oil prices,” says Adnan Vatansever, acting director of the Russia Institute at King’s College London and author of Oil in Putin’s Russia. “But… he knows that oil prices will go up, and his war will not cost him much. So he is basically covered.”
Germany’s cancellation of the Nord Stream 2 pipeline, in which Russia and its partners had invested €9.5bn, might have looked like an economic blow to Russia, but again Vatansever says the high price of gas over the past year means that “that money has already been more than recovered… Even if Gazprom [the state-owned Russian company that had a majority share in Nord Stream 2] entirely abandoned the project, they’re still better off compared to a year ago. They will make a lot of noise, they will be talking about financial losses. But there is no loss.”
As the Russian army began targeting civilians and oil prices moved beyond $110 a barrel, the situation became grotesque even to those employed in the oil industry. Laszlo Varro, Shell’s VP of business development, observed: “At the current export flows and prices, Western democracies finance a T90 main battle tank in every 20 minutes”.
Though he has been employed by the state for all of his working life, Putin has been described in the past as more of a businessman than a politician, the CEO of Kremlin Incorporated. “It’s probably an accurate description,” says Vatansever. “A good CEO would know a lot about the intricacies of the business. Putin… does not fit the typical category of a statesman, who relies on bureaucrats and doesn’t know any of the technical details. He actually does seem to have a lot of control of the technical details of the oil and gas sector. He can respond to questions at meetings without needing assistance, without looking at notes, and can talk for a very long time about technical issues.”
Kremlin Inc is a conglomerate that makes more money from oil than anything else, and the fundamental principle of the oil business is energy return on investment (EROI) – the number of barrels of oil that a given project will produce for the money invested. Putin has applied this principle to war: when Russia invaded Georgia in 2008 and Crimea in 2014, the rouble fell, but the preceding years of high oil prices had already insulated his regime against economic damage. With each new venture it became apparent that where the national current account – and the military budget – are concerned, oil is Russia’s true currency.
In August 1999, the annual journal of the St Petersburg Mining Institute was led by an article from Vladimir Putin, who was that month promoted from director of Russia’s security services to deputy prime minister. A few months later, the sudden resignation of Boris Yeltsin would hand him the presidency. In the article, Putin observed that while developed economies relied on technological development to grow by two to three per cent per year, Russia’s economy could grow twice as quickly if it concentrated on “exploitation of mineral raw material resources”.
In the years that followed, Vatansever – who at that time worked as a consultant at the World Bank, in Washington DC – noticed that people in the West saw Russia as the “poster child” of how a state could turn mineral wealth into improved fiscal policy. Economists have long spoken of the “resource curse”, the economic trap created by abundant natural resources, which lead to unequal, myopic economies and corrupt, autocratic government. Putin was a president that America and the world could “do business with”, said Bill Clinton.
Within Russia, however, Putin had already begun consolidating and centralising his political power. Having done so, he turned to the businesses that had acquired Russia’s mineral wealth under Yeltsin: “those assets”, says Vatansever, “were acquired through quite questionable means. It was always possible to get back to pretty much any owner and tell them their ownership was questionable. He did not opt to revisit everybody’s contracts… he opted to hit the biggest among them”.
In October 2003 the assets of the country’s largest oil company at the time, Yukos, were frozen and sold to one of its smallest oil companies – the state-owned Rosneft. Its owner, Mikhail Khordokovsky, had been Russia’s richest man; he spent a decade in prison before leaving, with a fraction of his previous fortune, for Switzerland. In 2005, the Russian state acquired another formerly private oil major, Sibneft, when it was sold to the state-owned Gazprom.
For the next five years, oil prices grew steadily, the country invested in more extraction and the economy grew as Putin had promised. Russia was hit by the global financial crisis but continued to grow; in 2012, it overtook Italy as Europe’s fourth-largest economy. Russia’s inclusion in the “Bric” group of fast-growing economies (Brazil, Russia, India, China) appeared justified. Not since the 16th century, when Spain’s empire gorged itself on gold, had any world power depended so heavily on a single mineral resource.
But in 2013 – before Crimea, before oil prices became more volatile – it became apparent that something was wrong. “There were signs of stagnation,” says Vatansever, “signs of an inability to keep growing… the existing growth model was no longer delivering.”
The fundamental problem was that the expropriation, intimidation and corruption that had delivered Putin power and economic growth were antithetical to growing any other business – why bother, when it could be taken away? – so the economy did not diversify away from oil and gas. Russia tried to create a better “business climate”, says Vatansever, “by pouring money into different sectors – but that’s not how, typically, this works.”
Putin had become a leader more like Leonid Brezhnev – who also enjoyed a long reign during a period of buoyant oil prices, but failed to diversify the Soviet economy because he relied on a model of power that was incompatible with competition and innovation. “To create a proper business climate, you need to have solid property rights, an independent judiciary – these are not things that [Putin] actually wanted to have.”
Russia’s failure to branch out from oil would be bad enough if it were simply a finite resource, but it is a finite resource that the rest of the world plans to tax more heavily, and eventually to stop using entirely. In the long term, this is the great dilemma for Putin’s Russia: it can maintain a strong state with oil money, but only for as long as the oil is wanted. Last year Igor Sechin, the head of Rosneft, wrote to Putin warning that the EU’s incoming carbon tax – which KPMG estimates would cost Russia an extra $60bn by 2030 – was a more serious obstacle than sanctions. The grim irony is that Russia has only accepted the reality of climate change because much of its oil infrastructure is built on permafrost that is now melting.
For now, governments and businesses are doing what they can to combat the influence of Russian oil. On Monday, International Energy Agency (IEA) member states (which include the UK, US, Canada, France and Germany) agreed to release 60 million barrels of oil from their reserves to dampen rising prices. Meanwhile, refineries and shipping operators are avoiding Russian oil, either through distaste at dealing with a murderous regime (not something that has greatly troubled the fossil fuels industry in the past), or because the costs of insurance and freight have made avoiding it a PR-friendly choice.
But in a world that runs on oil, Russia’s mineral wealth will find a way. Vatansever points out that even after the US imposed strict energy sanctions on Iran in 2018, oil exports continued. The vice-president, Eshaq Jahangiri, declared that Iran would “sell as much oil as we can”; tankers turned off their transponders, buyers paid a discount, and hundreds of thousands of barrels per day left the country.
The longer Putin’s war in Ukraine goes on, the greater the opportunity for discounted Russian oil will become. Harder sanctions could halve Russia’s oil exports – but this would restrict global supply, pushing up prices still further. JP Morgan’s global head of commodities strategy, Natasha Kaneva, has predicted that in this situation prices could double, to $150 a barrel. “Oil, unlike gas, is a very, very fungible commodity,” says Vatansever. “How many barrels leave the country will depend on the severity of sanctions”, he notes, but if it can, “Russia will basically sell the oil to somewhere else in the world.”