Sunday, February 12, 2012

Russia's Gazprom Needs Giant New Arctic Gas Field

The continued existence of Russia as a transcontinental power depends on its ability to leverage vast energy wealth into political stability and power. Without energy wealth, Russia begins to disintegrate. A giant new gas field north of the Arctic Circle provides some hope for Russia's future.
Gazprom’s mammoth tax payments bolster the Russian economy, allowing the Kremlin to dole out subsidies and keep a lid on popular discontent.

At the same time, Gazprom faces challenges that threaten not just its dominance of the world’s natural gas market, but also the stability of Russia itself. As pressure rapidly decreases in Gazprom’s existing wells, the emergence of U.S. shale gas and the rise of liquefied natural gas supertankers are transforming the global gas market, providing alternatives to Russian supply. The company’s close association with the Kremlin, historically an asset and a hindrance, may invite greater scrutiny as domestic opposition to Putin’s rule grows. European clients and parliaments are contesting Gazprom’s continental influence with greater solidarity than ever before. A recent Morgan Stanley (MS) report determined that these tests may “leave Gazprom running a very different business,” diminished in scale and profitability and less favored at home.

That’s why so much is riding on Bovanenkovo. Beneath two feet of permafrost on the distant Yamal Peninsula, 1,500 miles northeast of Moscow, Bovanenkovo holds nearly five trillion cubic meters of gas. The field will begin delivering gas in July and for the next 35 years could on its own produce enough to meet 25 percent of European demand. Bovanenkovo affords the Kremlin peace of mind, although the price tag for its development—upward of $100 billion—allows Gazprom little margin for error. _BW
The emergence of abundant tight gas reserves in North America, South America, China, the Levant, parts of Europe, and Southeast Asia suggests that in the not-too-distant future, reduced demand is likely to shake global gas markets even further. Russia will be forced to move to gas to liquids (GTL) production in order to convert its less valued gas into more valued liquids.
Gazprom performs many functions traditionally reserved for the state, including funding public works projects directly from its budget. It’s the only Russian company that is compelled to pay its tax bill monthly, since this revenue makes up the single largest portion of Russian gross domestic product (10 percent) and is critical to the basic workings of government. Gazprom is less a company than a public trust, one that enjoys special advantages in exchange for fulfilling official wishes.

...Europe’s dependence on Gazprom for natural gas gives the Kremlin power to leave millions in the cold should it choose to do so (as it did to Ukraine after pricing disputes in 2006 and 2009). A deep freeze in Russia this winter has increased domestic demand for fuel, producing a shortfall in natural gas supply to Europe. Over the last year, as European customers have been squeezed by surging gas prices (generating Gazprom’s record earnings), some of Gazprom’s Western clients have demanded arbitration. European Union antitrust investigators stormed Gazprom offices in Germany and the Czech Republic, seizing contracts. (Gazprom insists its contracts adhere to international law.) And officials in Brussels are debating the Third Energy Package, anti-monopoly legislation focused squarely on Gazprom’s ability both to transport and sell gas in the territory of the EU.

...Czarist-era geologists discovered gas on the Yamal Peninsula just before the 1917 Russian Revolution, though they didn’t possess the wherewithal to extract it. Through the years, the litany of upheaval that is Russia’s burden prevented the exploitation of such an asset. Engineers discovered the Bovanenkovo field in 1971, three years after the death of Vadim Bovanenko, a geophysicist who had served as the head of Yamal Oil and Gas Exploration, an arm of the gas ministry. But it was only under Putin that workers were finally able to began building infrastructure at Bovanenkovo in 2007. The date for initial gas delivery was postponed on several occasions, causing observers to wonder if the project would ever be realized. The startup date was then pushed up to July 2012, sparking a new round of questions. Did Gazprom foresee a spike in European demand? Were Nadym’s gas fields in far worse shape than anyone had imagined? It’s hard to know why Gazprom behaves the way it does. Company executives aren’t known for sharing information. Several Gazprom officials replied politely to my interview requests but provided little revelatory insight.

Sharing profits, however, is part of being a national champion. In the last year, Gazprom has slashed investments and more than doubled dividends, increasing the yield of the Russian stock market and padding state coffers. As Putin prepares to reassume the presidency for what could be another 12 years, his ruling United Russia party increasingly turns to Gazprom, less to wield power abroad than to shore up support at home. In October, Gazprom absorbed a selective doubling of the tax levied for the extraction of mineral resources, which will result in $10 billion of lost profits this year. This money will help balance the Russian budget and pay for popular social programs. _BW
Gazprom is a central pillar of Putin's power. But globally, the gas industry is changing, moving on to new technologies and new sources of natural gas. If Russia is unable to keep up, it will be left behind once again.

That would be dangerous for the wounded bear, currently struggling with low morale, capital flight, and demographic collapse. The potential conflict between China and Russia over the mineral wealth of Eastern Siberia looms larger in the distance with every weakening that Moscow experiences.

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