The continuing gyrations in the world's oil markets, accompanied with the recent peaking of oil prices at over US$40 per barrel, have sent shock waves around the world.
A number of readers have sought my views on this and I am taking the opportunity of this series to address the oil question. However, I shall do so in the context of broader developments in global commodity markets, concentrating on commodities of particular interest to Guyana and the rest of CARICOM.
As has been my practice in these columns, I am also encouraging readers to try to gather an appreciation and understanding of the economic and factual basis of the subject we are addressing (the ABCs as it were), as I believe this provides the best starting point for arriving at richer insights. In this week's article I begin by addressing some of the ABCs of the world's oil markets.
Oil reserves/ output/consumption
To begin with oil is easily the most important commodity in global trade. Furthermore, at this stage it seems likely that it will continue to hold this position, more or less indefinitely. At present rates of production, and taking into account existing economic and operating conditions, it is projected that known and proven petroleum reserves can last for another 40 years. The present ratio of reserves-to-production has broadly held stable for the past several years.
If we examine the global distribution of proven reserves we find that, as one would expect, the Middle East has the lion's share of the world's reserves, accounting for just less than two-thirds of the total. In that region Saudi Arabia and Iraq are the major holders of reserves. The next areas in terms of size of reserves are to be found in Europe/Euro Asia and Central and South America. Each of these two areas accounted for 9 per cent of the world's total. Africa as a whole, accounts for just over 7 per cent of the total, while North America accounts for just less than 5 per cent, and Asia and the Pacific the remaining amount of 3.7 per cent.
Supply and demand for petroleum are measured in units of barrels per day. In 2002, global consumption was about 77 million barrels per day. This was up from 60 million barrels per day two decades ago in 1984, and was also about 3 million barrels per day more than in 1998.
Consumption in the rich economies of the OECD accounted for about two-thirds of the total (48 million barrels per day) with North America leading with 24 million, followed by Europe with 15 million barrels per day, and the Pacific, with just less than 9 million barrels per day. The Latin American region and Africa accounted for 4.8 and 2.4 million barrels per day respectively.
The Organisation of Petroleum Exporting Countries (OPEC) produces about 31 million barrels of oil per day or about 40 per cent of global output. The Middle Eastern producers of OPEC constitute the world's largest exporting group, at about 21 million barrels per day. Specifically, Saudi Arabia is the world's largest oil exporting country.
Its present installed production capacity has a surplus or spare capacity that can be immediately brought into production of 2.5 million barrels per day. This makes it unique in that, it is at present, the only country in the world that can, in the short run, significantly impact on the volume of oil available on the world market.
Of interest also, it should be noted that Saudi Arabia has two further distinct advantages. One is that it alone controls about one-quarter of the world's proven petroleum reserves. At the same time, it is the lowest cost producer of oil worldwide and has the lowest exploration costs for new oil reserves.
The oil market
Most of the trade in crude oil takes place through three markets, London, New York and Singapore. Refined products (for example gasoline) and some crude are sold throughout the world. When we speak of crude oil, although this is a fairly homogeneous commodity, we should remember that, like raw sugar, this comes in a number of varieties/qualities, which vary. The main variations are the sulphur content, the specific gravity of the oil, and the location where it has been pumped. In the Middle East, the Dubai crude is used as the benchmark product. In the USA, the benchmark product is the West Texas Intermediate. This comes as 'sweet' crude, where the sulphur content is less than 0.5 per cent or 'sour' crude, where it is greater than 0.5 per cent. In Europe, the benchmark product is Brent blend crude oil, which comes from the North Sea. This is typically traded at London's International Petroleum Exchange.
This particular benchmark crude is used as a standard reference for other crude oils, which would then carry a discount (if they are considered worse) or a premium (if they are considered better). It has been reported that about two-thirds of the world's traded crude oil use Brent as the benchmark measure.
The use of these benchmarks makes it easy to standardise the wide varieties and grades of crude oil that are produced worldwide.
A year or so ago, analysts had arrived at the consensus that a moderate price range for crude oil was US$18 to $25 per barrel. At the top end, the range was expressed at $22 to $28 per barrel. It was also reported then that OPEC would have liked a target of $30 a barrel, but that seemed unlikely.
The price of $41 per barrel, which has been recently achieved is therefore stunning. It is the highest price in the past 21 years, and falls completely outside the range of what had been confident projections up to a year ago.
Indeed as confirmation of this we should note that OPEC's strategy, which came into play in 2000 provided for an automatic increase in production whenever the price rose above $28 per barrel, so as to temper price increases. Similarly, if the price fell below $22 per barrel, production cuts would automatically fall into place, so as to keep prices up.
Next week we continue this discussion.
The oil price crunch
This week I am continuing the series of articles on commodities that I had started last week, focusing on oil because of the present interest in this topic. In last week's article I had provided readers with some broad indicators of the global distribution of oil reserves, production and consumption and also provided a few comments on the organisation of oil markets. This week I shall examine some of the broader consequences of the unusually high levels of oil prices we are witnessing today.
The first question, which I shall consider is one I have been asked quite a few times in recent weeks: does the present high level of oil prices (approximately $40 per barrel) represent a permanent trend, or is it just another spike in oil prices similar to those that have occurred several times before. If one looked at a chart of crude oil prices going back over the past two decades one would be struck by a number of surprising things. Among these is that for most of the past two decades oil prices have been below US$25 per barrel. Indeed it was only for periods during 1985, 1990, and from late 1999 to 2001 that oil prices have exceeded the US$25 level. In fact, if we adjusted for global inflation (that is, the rise in the prices of goods and services worldwide) the 'real' price of oil has been for many years trending downwards! This therefore raises the question as to whether the present behaviour of oil prices is an exception to the more general trend of an almost secular decline in real primary commodity prices since the mid 1980s, or just a blip on the radar screen. We shall take up this issue later in the present series.
The double-edged sword
The high price of oil is a double-edged sword. Its effect is not the unqualified boon for oil-exporting countries most persons assume. It is true that in the short-run oil revenues will rise and as a consequence the exporting country is better off. The medium to long-term effects of this, however, depend on how effective is the use of the windfall gains in oil revenues accruing to the oil producers and the government. A couple of months ago we examined this particular situation in relation to Trinidad and Tobago, when we explored the phenomenon known as the 'Dutch disease.' To recall, this is the situation in which the windfall oil revenues are badly spent and the non-oil sectors of the economy are undermined, their competitiveness reduced, and inflation is generated from increased government spending and a rise in wages. This situation was described as All Dollars and no $ense.
High oil prices also stimulate the search for new supplies. Indeed there is a category of oil exporters known as the 'small producers,' which as the name indicates combine all producers other than the major ones. If their performance is examined, one would find that these 'small producers' have over the past two decades raised their output from about 13 million barrels per day to about 23 million barrels per day - an increase of nearly 80 per cent. With such increased supplies there is an obvious downward pressure on prices.
High oil prices stimulate the demand for alternative sources of energy. Apart from the established alternatives, hydropower, coal, nuclear energy and so on, over the past years a number of other sources have been researched and pioneered and some are in operation. Good examples of these are solar energy, alcohol, and the development of windfarms. However, none of these are sufficiently developed to a scale that threatens to displace oil.
High oil prices also tend to put downward pressure on demand. Oil consumers (and importers) naturally resort to conservation methods and alternate sources of energy in an effort to contain energy. If they cannot contain the rise in these costs, economic growth is invariably stifled and there is cost-push inflation. With the decline in incomes and output this produces, there is a slackened demand for energy, which ultimately reduces the advantages for the oil exporters, which came with the rise in prices. This economic slowdown spreads from country to country and can become a worldwide recession. Such a recession, therefore, acts as a brake on rising prices.
The oil producers are aware of this dilemma. Members of the OPEC cartel have tried to walk the tightrope between seeking short-run gains from spikes in oil prices and the medium to long-term threat this poses for the global demand for oil. This is never an easy task for them to accomplish, for the fundamental reason that OPEC is a grouping, which presently has among its ranks diverse major oil exporters and Iraq. These include, Algeria, Indonesia, Iran, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates (UAE), and Venezuela. Although they all have a common interest as oil-exporters, there is an enormous heterogeneity among these countries, which weakens their capacity to act in concert.
Consider some aspects of this. There is an enormous variation in the levels of their output. Thus in 2002, Saudi Arabia produced about 10.5 million barrels per day, compared to 3.9, 3.2, and 3.1 million respectively, from the next largest producers, Iran, Venezuela and Nigeria. This variation not only reflects their variation in dependence on the oil industry, but also the variation in their capacity to affect the global picture. As we noted last week, Saudi Arabia is best positioned in this regard, as this country has the largest amount of proven reserves, the largest installed surplus capacity, and the lowest production and exploration costs.
Oil as a strategic and economic commodity
Further, as we shall see oil is both a strategic and economic commodity. For the world's superpower, the United States, oil goes to the heart of its national interests. A look at the countries listed above would also show an extreme variation in the extent to which these countries are at present, effectively client states of the USA. The present occupation of Iraq is of course distinct from the other circumstances, but if we ignored Iraq for the present purpose, there is still a big difference in the patron-client relationship between say the US and the ruling elites in Saudi Arabia when compared to that between the US and the embattled Chavez government in Venezuela.
Next week we shall continue this point and note how in its oil trade strategy the US seeks to reduce its exposure to foreign oil suppliers.
Fact or fancy: OPEC to the rescue of oil markets
High and volatile prices continued to prevail in oil markets last week. On June 1, oil prices jumped by over six per cent to a record high of $42.33 per barrel. There was of course the usual outcry and finger-pointing at the Middle Eastern oil exporters. The immediate cause of this latest spike in the oil price was linked to the hostage-taking and killing of foreign oil workers in Saudi Arabia. The instability in the region continued to haunt the oil markets. However, after reaching the peak early in the week, the price fell later in the same week. Analysts have attributed this fall to expectations arising from the proposed OPEC boost in oil production.
On Thursday June 3, OPEC announced that it intended to raise oil production by 2 million barrels per day beginning in July, and by a further half-a-million barrels per day beginning in August, for a total increase of 2.5 million extra barrels of oil per day. This increase of 8.5 per cent is the biggest increase offered by OPEC over the past six years. The total quota for the 11 members of OPEC will now be 25.5 million barrels per day, which is almost one-third of global supply. Global consumption is of the order of 80 million barrels per day.
Although the present quota is 23.5 million barrels per day, it is estimated that OPEC is surreptitiously providing over-the-quota by 15 per cent as its current output is estimated to be of the order of 27 million barrels per day. This gap between quota and actual output has led analysts to speculate that the OPEC announcement will amount to very little in terms of actual production. Its effect on oil markets is therefore likely to be more psychological than practical.
Are oil prices high?
As I had indicated last week, although the price of oil is considered high this is not the case when the oil price is expressed in real terms, that is, when the nominal price is adjusted for the inflationary rise in the general level of all prices. Indeed, if the oil price had maintained its value in real terms at the level it was in the previous peak period of the 1980s, the price of oil would now be three times as high, costing as much as $120 per barrel! Put another way, the present peak price of oil ($42 per barrel) is less than one-half of the value of oil in 1982-87, when expressed in real terms. This decline in the real price of oil is a pattern similar to that which has occurred for nearly all primary commodities. The terms of trade or exchange between primary commodity prices and those of manufactures and services have deteriorated substantially. This is one of the main features of globalisation and constitutes a major impediment to the growth of commodity development economies like Guyana. Thus UNCTAD has estimated that in the second half of the 1990s the combined price index of all primary commodities in US dollars fell by 53 percent in real terms. The result was that these commodities lost just one half of their purchasing power in terms of manufactures. In other words commodity exporters would have had to double the volume of their export sales in order to maintain the total value of the foreign exchange earned five years earlier.
Furthermore, not only is the price of oil 'high' in nominal terms and not in real terms, but much of the present high price of oil reflects taxation. In Guyana we are all familiar with the high tax on imported oil. In some other countries this can reach as high as 75 per cent of the price of oil (United Kingdom). The myth of high oil prices, however, allows governments to attribute the 'blame' for rising oil prices to OPEC suppliers, thereby deflecting political attention away from their own roles in making the price of oil high. One striking way of seeing this anomaly is to note that in recent years OPEC's per capita revenue from oil exports has been about $430. This figure is less that one-quarter the per capita value of these same revenues earned in 1980, when it was $1,816.
Balancing the source of oil imports
Last week's article had ended with the recognition that oil is both a strategic and economic commodity and in this way it is very different from most other primary commodities. As hinted in that article, nowhere is this more clearly seen than in the USA's view of its strategic interests in the Middle East, which is where 8 of the 11 OPEC member countries are located. In order to protect its interests the USA has deliberately promoted a balanced geographical structure for its oil imports.
This can be broken down into six major supply segments. First, its largest source of oil imports is from Saudi Arabia. However, that country supplies just 16 per cent of the total USA oil market. The next two sources of imports in terms of size, provide 15 and 14 per cent of its needs and these suppliers are its immediate neighbours Canada and Mexico, both of which are members of the North American Free Trade Area (NAFTA) and Venezuela, a hemispheric supplier. Iraq is the next significant supplier, accounting for 9 per cent of the US market. Nigeria holds the same market share as Iraq (9 per cent).
The next category of suppliers includes Angola, Norway, Colombia, Britain and Kuwait, which together supply 3 per cent of the market. The rest of the world supplies 6 per cent. The remaining oil comes from its own domestic suppliers.
Next week we conclude this discussion by looking at the situation in our oil-producing neighbour and sister CARICOM country Trinidad and Tobago.
Wild Cards in the Oil Market: The Chinese Dragon and Russian Bear
Attacks on key pipelines in Iraq have led to the virtual stopping of oil exports last week. The impact on oil prices was immediate, as the day after prices rose by 16 and 19 cents per barrel in Europe and the USA respectively. The usual calls went out for other oil exporters to take up the slack caused by Iraq's stoppage, but there is likely to be little response. The turbulence in oil markets continues.
Last week I had indicated that I would round off the discussion on this topic today with a look at the situation in Trinidad and Tobago. However, last week's piece by Jessop in the same issue of Stabroek News dealt with this topic and there is now no need for me to pursue that discussion any longer. Readers who follow this column would also recall that in my earlier discussion of the "Dutch disease" I had made extensive reference to Trinidad and Tobago's energy sector. Instead this week I want to examine the situation of two important players in the world oil market, China and Russia.
The Chinese Dragon
In 1953 coal provided 94 percent of the power generation in China, as the country is rich in coal deposits. Although China also produces hydropower, natural gas, and oil, the effective alternative to coal is oil. In the year 2000, oil supplied just over one-fifth of all of China's primary energy consumption. In that year China's domestic production satisfied its oil requirements. By 1993, however, China became a net importer of oil. Its voracious appetite for energy had grown as China became the manufacturing hub of the world. Later, by 1998 China was consuming 4.2 billion barrels of oil per day rising to over 5 billion barrels per day in 2002 and peaking at 6 billion in 2003. Its domestic supply of oil increased, but only from 3.2 million barrels per day in 1998 to 3.4 million barrels per day in 2002, making for a substantial deficit in the order of 2 billion barrels per day.
The result has been that by 2003 China became the second largest oil importer in the world after the United States. In 2003 its oil imports increased by over 30 percent, and estimates show that for the first quarter of this year it has risen by a whopping 36 percent. Indeed analysts predict that in another 6 years (2010) China's dependence on oil imports will rise to 50 percent, up from 36 percent today. This seems to be a reasonable prediction, as last year China alone accounted for one-third of the world's growth in oil consumption! The expansion of oil demand in China has been so rapid that the International Energy Agency has identified this as "the main factor in this year's surge in world crude oil prices".
What explains these developments? The reason for the voracious growth in oil imports is obviously the unprecedented growth rates that China has been enjoying for the past several years. Consider that over the past three years China alone has accounted for one-third of global economic growth. This contribution was twice that of the United States, the world's most developed economy. China has been recording official growth rates of 10 percent per year (it did this last year), but some economists believe that these rates are underestimates and add as much as 3 percent to the official figures. This would mean that last year's growth is estimated at a whopping 13 percent.
This growth has been accompanied with rapidly growing imports of all raw materials, not only oil. Thus last year its total imports grew by an unbelievable 40 percent, reflecting the growth in industrial output of about one-half in the past three years alone. The result is that it is now reported China consumes 40 percent of the world's output of cement, accounts for 90 percent of the growth in world steel demand, and over 100 percent of the increase in copper demand.
Because of environmental concerns, China has been since 1999 on a programme to cut back on coal production with the closure of mines. Today, coal only supplies two-thirds of its energy consumption - down from the 94 percent level of 5 decades ago.
The Chinese Dragon: Threatened or Threatening
As a major player in global oil markets China is both threatened by the configuration of the market which poses a threat to its continued robust growth. As I had indicated before, oil is both a strategic and commercial commodity. At present 60 percent of China's oil is imported from the volatile Middle East. Worse yet, most of its oil imports is shipped through the Malacca Straits, which is strategically, a notoriously vulnerable bottleneck. It is beyond China's present capacity to defend this route against all comers.
In the face of this threat China has sought to diversify its sources of oil imports. As I pointed out in a previous article the United States had took a similar strategic decision decades ago and has fully implemented it. Everyone recognises that a strategic priority for China is to find other sources of oil supplies. In the recent past it has emphasised Russia and Central Asia as potential alternative sources. Indeed a proposal is out to complete a 2400 km pipeline to Russia, with which to supply its domestic market. This is being confronted by a rival offer from Japan to Russia, which would have a branch going to Daquing in China.
Most experts believe that two strategic considerations are at stake. One is "Washington's bid to control the Middle East is also aimed at controlling the critical oil supplies to its economic competitors, such as China and Western Europe" (Eva Cheng). The other is that oil companies in all the Western countries and Japan will do whatever is necessary to prevent any Chinese foothold in the international exploration and production of oil. The failed effort of China to buy out a British group's interests in a Kazakhstan oil venture, which was blocked by Exxon (USA), Total (France), ENI (Italy), and Angle-Dutch Shell is seen as confirmation of the importance of this strategic consideration.
China is not only threatened, but is itself a threat to global oil markets. This arises from the sheer amount of global oil production that it consumes (and we might add other commodities). The fear is that if the China boom bursts, growth slows, and imports fall dramatically, it could precipitate a catastrophic decline in oil prices. Such a collapse is not to be dismissed since no market economy has ever been able to maintain an unending boom. Every boom is followed by a recession, so that this represents a real threat.
Next week we shall continue this discussion and pay attention to Russia, the other major player I propose to discuss.
Turbulence in the oil market: Russia the other wild card
By Dr Clive Thomas
Sunday, June 27th 2004
Last week I introduced China and Russia as two 'wild cards' accounting for much of the recent turbulence and the high price of crude oil in the world market.
The discussion on China has showed that country affects primarily the demand side of the market, to the point where its influence has now overtaken that of the world's largest importer of oil, the United States. In support of this I quoted the International Energy Agency, which identified China as "the main factor in this year's surge in crude oil prices."
Although China has impacted positively on oil prices because of rising demand linked to its explosive economic growth, any future slowing of that growth could have strong adverse consequences for oil prices. What is the likelihood of any slowing?
As we saw last week, China's annual economic growth is at the double-digit level, a level that I indicated cannot be sustained indefinitely since experience has shown that all market economies grow with ups and downs, booms and recessions/depressions.
It is for such reasons that I characterized China as both "threatening to and threatened by" the evolution of the world oil market.
The other wild card: the Russian bear
In the case of Russia, which I deal with today, its impact is exercised principally through the supply side. Although its own demand for oil is substantial - about 4 million barrels per day in recent times - it produces enough to cover both its own needs and for export.
Indeed, while the popular image of a major oil exporter is often tied to an OPEC or Middle East producer, the truth is that, prior to its break-up in 1991, the former Soviet Union was the world's largest exporter of oil, exporting as much as 12 million barrels per day!
Russia alone accounted for 90 per cent of the oil exported by the Soviet Union. Following the break-up of the Soviet Union and the ensuing economic dislocations oil production and exports plummeted. By the end of the 1990s, production was down to 7.5 million barrels per day.
Since the new millennium, production and exports have surged. Over the past ten years output has increased consistently and Russia has become today the world's second largest exporter of crude oil, behind Saudi Arabia. Its own consumption is of the order of 4 billion barrels per day.
In recent times the growth of output has been encouraged by the recent high crude oil prices. It has however, severely strained the production and export capacity of Russia.
Thus the Baltic Sea and the Black Sea, through which most of Russian oil is exported, are almost completely choked with traffic, and the risk of oil spills and other environmental disasters in these areas is considered abnormally high. Oil is also exported to Europe via pipeline.
In light of these circumstances there is a desperate on-going search for alternate export routes, in an effort to maintain the momentum of rising exports. The United States is considered to be a key potential market, but apart from geo-strategic obstacles it is estimated that Russian production and transportation costs would still give an edge to Middle East exporters to the USA.
It should also be noted that Russia is the world's largest exporter of natural gas, so that its place in the world's energy markets is even more substantial than its leading role in oil exporting would indicate.
As a legacy of the previous era of central planning, Russia's oil quotas to the amount they can export - usually 30 per cent of output - limit producers. The price paid in the domestic market for oil is just over one-half that in the world market, giving the oil producers a strong incentive to export whenever they can.
In addition to the better price, there is the added incentive of receiving payment in hard currencies.
Most of Russia's oil exports now go to Western Europe. At the time of the break-up of the Soviet Union, only 53 per cent of exports went to countries outside the former Soviet Union. Today that share has risen to a whopping 90 per cent.
The Dutch disease in Russia!
Russia's rapidly re-emerging dominance in the world crude oil export market has raised a number of economic concerns within that country. These are centred on fears of the all too familiar 'Dutch disease,' which we have encountered in this series every time we discuss the performance of countries reliant on their natural resources for economic growth.
The export of oil is Russia's leading export. It also generates about 25 per cent of government revenue. It has contributed much to its economic growth, which has been in excess of 7 per cent per year.
With rising crude oil prices, Russia has had immense windfall gains and, based on this, Russia has projected that it should double its gross domestic product (GDP) by 2010. To achieve this target, however, Russia needs to use its oil revenues wisely and to diversify and strengthen other sectors of the economy.
The need for this is widely recognized within Russia, where there have been calls for less reliance on natural resources, especially in a period of what Russians describe as "anomalously high price of crude oil," and the development of new sources/poles of economic growth.
Indeed the Russian authorities hammer away at making the public aware that supplies of oil resources may be dwindling.
Oil scams:
Because oil is delivered to markets from reserves that are finite, the only way to guarantee long-term supplies is if the reserves discovered each year are sufficient to replace the oil consumed that year.
When the two amounts are identical, you have a 100 per cent replacement ratio. For firms whose shares trade in financial markets, or which require bank loans or other credit, their creditworthiness is clearly linked to this ratio.
As it has turned out, in recent times at least one of the 'four giants' in the oil industry (Royal/Dutch Shell) has been overstating their oil reserves by 22 per cent, giving a false picture to its capacity to sustain production at the prevailing rate.
Although Russian companies are not widely traded there is close scrutiny of its declarations of reserves in order to gauge that country's ability to be a dominant player in the world's oil markets, over the long term. From what has been made public, Russian reserves are nowhere in the region of that held by Saudi Arabia. It has enough, however, to make it a formidable player - a wild card - in the world's oil market for the foreseeable future.
Last week I introduced China and Russia as two 'wild cards' accounting for much of the recent turbulence and the high price of crude oil in the world market.
The discussion on China has showed that country affects primarily the demand side of the market, to the point where its influence has now overtaken that of the world's largest importer of oil, the United States. In support of this I quoted the International Energy Agency, which identified China as "the main factor in this year's surge in crude oil prices."
Although China has impacted positively on oil prices because of rising demand linked to its explosive economic growth, any future slowing of that growth could have strong adverse consequences for oil prices. What is the likelihood of any slowing?
As we saw last week, China's annual economic growth is at the double-digit level, a level that I indicated cannot be sustained indefinitely since experience has shown that all market economies grow with ups and downs, booms and recessions/depressions.
It is for such reasons that I characterized China as both "threatening to and threatened by" the evolution of the world oil market.
The other wild card: the Russian bear
In the case of Russia, which I deal with today, its impact is exercised principally through the supply side. Although its own demand for oil is substantial - about 4 million barrels per day in recent times - it produces enough to cover both its own needs and for export.
Indeed, while the popular image of a major oil exporter is often tied to an OPEC or Middle East producer, the truth is that, prior to its break-up in 1991, the former Soviet Union was the world's largest exporter of oil, exporting as much as 12 million barrels per day!
Russia alone accounted for 90 per cent of the oil exported by the Soviet Union. Following the break-up of the Soviet Union and the ensuing economic dislocations oil production and exports plummeted. By the end of the 1990s, production was down to 7.5 million barrels per day.
Since the new millennium, production and exports have surged. Over the past ten years output has increased consistently and Russia has become today the world's second largest exporter of crude oil, behind Saudi Arabia. Its own consumption is of the order of 4 billion barrels per day.
In recent times the growth of output has been encouraged by the recent high crude oil prices. It has however, severely strained the production and export capacity of Russia.
Thus the Baltic Sea and the Black Sea, through which most of Russian oil is exported, are almost completely choked with traffic, and the risk of oil spills and other environmental disasters in these areas is considered abnormally high. Oil is also exported to Europe via pipeline.
In light of these circumstances there is a desperate on-going search for alternate export routes, in an effort to maintain the momentum of rising exports. The United States is considered to be a key potential market, but apart from geo-strategic obstacles it is estimated that Russian production and transportation costs would still give an edge to Middle East exporters to the USA.
It should also be noted that Russia is the world's largest exporter of natural gas, so that its place in the world's energy markets is even more substantial than its leading role in oil exporting would indicate.
As a legacy of the previous era of central planning, Russia's oil quotas to the amount they can export - usually 30 per cent of output - limit producers. The price paid in the domestic market for oil is just over one-half that in the world market, giving the oil producers a strong incentive to export whenever they can.
In addition to the better price, there is the added incentive of receiving payment in hard currencies.
Most of Russia's oil exports now go to Western Europe. At the time of the break-up of the Soviet Union, only 53 per cent of exports went to countries outside the former Soviet Union. Today that share has risen to a whopping 90 per cent.
The Dutch disease in Russia!
Russia's rapidly re-emerging dominance in the world crude oil export market has raised a number of economic concerns within that country. These are centred on fears of the all too familiar 'Dutch disease,' which we have encountered in this series every time we discuss the performance of countries reliant on their natural resources for economic growth.
The export of oil is Russia's leading export. It also generates about 25 per cent of government revenue. It has contributed much to its economic growth, which has been in excess of 7 per cent per year.
With rising crude oil prices, Russia has had immense windfall gains and, based on this, Russia has projected that it should double its gross domestic product (GDP) by 2010. To achieve this target, however, Russia needs to use its oil revenues wisely and to diversify and strengthen other sectors of the economy.
The need for this is widely recognized within Russia, where there have been calls for less reliance on natural resources, especially in a period of what Russians describe as "anomalously high price of crude oil," and the development of new sources/poles of economic growth.
Indeed the Russian authorities hammer away at making the public aware that supplies of oil resources may be dwindling.
Oil scams:
Because oil is delivered to markets from reserves that are finite, the only way to guarantee long-term supplies is if the reserves discovered each year are sufficient to replace the oil consumed that year.
When the two amounts are identical, you have a 100 per cent replacement ratio. For firms whose shares trade in financial markets, or which require bank loans or other credit, their creditworthiness is clearly linked to this ratio.
As it has turned out, in recent times at least one of the 'four giants' in the oil industry (Royal/Dutch Shell) has been overstating their oil reserves by 22 per cent, giving a false picture to its capacity to sustain production at the prevailing rate.
Although Russian companies are not widely traded there is close scrutiny of its declarations of reserves in order to gauge that country's ability to be a dominant player in the world's oil markets, over the long term. From what has been made public, Russian reserves are nowhere in the region of that held by Saudi Arabia. It has enough, however, to make it a formidable player - a wild card - in the world's oil market for the foreseeable future.