Putin Looking to Modernize Russia's Energy Sector, Bureaucrats Fight Back

Largely overlooked in the non-Russian press, an incipient struggle is developing between Russian Prime Minister Putin and his attempts to privatize some of the largest and most economically inefficient legacies of the USSR, the bloated behemoths of the Russian Federation’s energy infrastructure.

While foreign commentators increasingly decry that the Putin administration is centralizing authority and squeezing out capitalist initiatives to jumpstart the economy, the issue of privatization of the Russian Federation’s Soviet-era “crown jewels” should be attracting more foreign media attention, if for no other reasons than Russia competes with Saudi Arabia for the title of world’s leading oil producer and the nation’s natural gas reserves are the world’s largest.

But, in the clearest indication up to now that the Russian economy’s liberalization has bureaucrats increasingly opposed to reforms of the country’s energy sector, the Russian Federation’s Energy Ministry has not endorsed the Russian Federation’s Economic Development Ministry's proposals for the government completely to privatize state-owned oil companies Zarubezhneft and Rosneft, but the state’s largest hydropower producer RusHydro along with reducing the state’s stake in state oil pipeline monopoly Transneft as well.

In June 2011 Russia's outgoing president Dmitri Medvedev ordered a more aggressive privatization of state stakes in key companies as part of a policy to attract “smart (foreign) investments” to further a modernization agenda, but many state-owned energy companies, have been fighting a rearguard action against implementing the reforms.

Under the proposed Medvedev reforms the Russian Federation committed itself to divesting its remaining shares in the country’s leading energy companies, including RusHydro, Rosneft, pipeline monopoly Transneft and Zarubezhneft  within five years, also unveiling plans to reduce its shares in national power grid operator Federal Grid Co.

Sounds good on the surface, right? But the Russian Federation’s Energy Ministry subsequently discreetly lashed back, saying it opposed the planned privatization, questioning if the state budget would actually improve if the government went ahead with the asset sale under current economic conditions, which could have negative consequences for the national economy before concluding that Russia's foreign business partners were unprepared for such a policy shift of changing ownership at those companies.

The Economic Development Ministry's position is outlined in a letter that Russian Federation Energy Minister Sergei Shmatko sent to Economic Development Minister Elvira Nabiullina on 1 February discussing plans for the privatization of major fuel and energy companies wherein he wrote that the sale of the government's stake in Rosneft carries many risks for the company, and there should be no strict deadlines for divesting the state's biggest oil asset, citing the concerns after divestiture of consultants about the subsequent risk of higher borrowing costs for Rosneft, which would lose its sovereign-level credit rating if the government reduced its stake to less than a controlling interest.

So, why Putin’s sudden interest in opening up the crown jewels of the Russian Federation’s energy assets to (possibly foreign) investors?

Simple – state management of the companies has been fiscally inefficient and all need massive influxes of capital, whether indigenous or foreign.

To use American terminology, two decades after the collapse of the USSR, the companies have turned into “welfare queens,” requiring ever increasing amounts of state revenue to continue bumbling along in their non-accountable way.

But the entrenched interests are well dug in - the Russian Federation government still owns 100 percent of voting shares in Transneft, or 75 percent of charter capital. Transneft preferred shares, equivalent to 25 percent of charter capital, are held by private investors and Transneft represents one of the few Russian national interests that Putin’s presidential predecessor Boris Yeltsin didn’t put up for sale in the kleptocratic early 1990s.

Zarubezhneft, which specializes in oil and gas exploration and production outside of Russia, is currently 100 percent owned by the state. The Russian Federation’s Ministry of the Economy proposes to sell 25 percent minus one share in Zarubezhneftegaz later this year and the other 75 percent in 2016.

Rosnenft? Shmatko said that the sale of the government's stake in Rosneft carries many risks for the company, and there should be no strict deadlines for divesting the state's biggest oil asset.

Last but not least, the government proposes diminishing its stake in the country's largest hydropower producer, RusHydro, to 50 percent plus one share this year from the 58.6 percent it currently controls but RusHydro has indicated it would put the privatization plan on hold until at least 2015.

What’s going on?

Simple two decades after the collapse of the USSR, the Russian Federation’s energy company managers have signally failed to accommodate themselves to the global capitalist world in which they must now compete and Putin, having reviewed the books, has decided to apportion out a share of the companies to foreign capitalist to make the companies more efficient.

But the rearguard is fighting this in the form of Russian Federation Energy Ministry apparatchiks, who are not yet convinced that in order to modernize, the government must loosen its tight grip on the country’s natural resources.

Watch this space.

By. John C.K. Daly of Oilprice.com