Russia has set
the agenda for the global transition to an
entirely new model of international energy
security designed to address intensifying
concerns, especially those of the rising East.
Russia, possessing unequaled energy-based
leverage, has taken the leadership among the
world's producers and the rising powerhouse
economies of the East to promote a vast worldwide
web
of alliances and ties prominently featuring rigid
bilateral, private long-term supply contracts.
This model runs counter to and
increasingly circumvents the established liberal
US-backed global oil market denominated in US
dollars. The West relies on the current order for
its energy security. It cannot function without
it, and therefore the order is its single point of
weakness. And Russia is acting as the "point man"
to locate and exploit, with the help of its
partners, this Achilles' heel of the West.
A conspicuous feature of global
developments over the past several years is
Russia's distinctive leadership role in fueling
global transition in three key spheres - energy,
economic and geopolitical.
Within six
months of taking office as Russia's new president,
Vladimir Putin was by the summer of 2000 already
moving hard against the capitalist-inspired
oligarchs who were fleecing Russia of its natural
resources and industry with, at a bare minimum,
the full complicity of the West.
Western
institutions operating within Russia and those
exercising what the Kremlin saw as undue influence
from without, most notably the West's oil majors
and their closely related financial institutions,
certain non-governmental organizations and the
media, have eventually either been pushed out or
brought to heel.
Russia's strategic
resources have been brought firmly under de facto
Kremlin control in direct opposition to the West's
loudly proclaimed liberal democratic principles of
private ownership and control. Russia's example
and success in such endeavors have instigated a
global wave of nationalization and consolidation
of state control over energy resources, with an
accompanying loss of leverage and control by the
West's oil majors. That wave is accelerating.
The rise of a powerful and wealthy
resources-based corporate state in Russia
("sovereign democracy"), its rapidly expanding
control over global strategic resources, and the
resultant loss of leadership and control of the
global oil market by the West's oil majors are
developments that move directly against the very
foundations of the US-led oil-market order and the
wider US-centric global economic order. This is
because Russia is quite literally fueling the rise
of the powerhouse economies of the East and
helping to achieve a new global center of economic
power in the East.
It was also Russia that
fundamentally led, along with its key partner
China, the opposition to the US invasion of Iraq
in 2003. It has been Russia first and foremost
that has taken leadership among its strategic
partners since then to continue to stand firm
inside and outside the United Nations in a hugely
successful strategy to force the full and mounting
geopolitical, economic and military burdens of
Iraq on to US and British shoulders alone.
Thereby, Russia has taken the lead in
proving that the US-dominated geopolitical order
can be successfully opposed. Consequently, it has
clearly been primarily under Russia's leadership
that the US-dominated global oil-market, global
economic and geopolitical orders are being
transformed, circumvented and opposed by growing
numbers of the world's nations.
Against
this backdrop, an impending, forcible shift of the
US colossus out of its position of global
dominance can be clearly seen, less as merely
random and uncoordinated events, and more as a
progressive coalescing of a coherent global
strategy.
The new model As
indicated above, in a throwback to the 1970s, the
comparatively more rigid bilateral long-term
supply contract is making a significant comeback
on oil markets. As Putin explained at the July
Group of Eight summit: "We want to form a stable
system of legal, political and economic relations
that ensures a reliable demand and stable offer of
energy resources on the international market."
Putin later complained at the Valdai Club
meeting outside Moscow on September 9 that
consuming nations in the West too strongly
focussed on their own energy interests and
security while simultaneously slighting the
interests and security of producers. He noted that
consuming nations wanted suppliers to pledge
continuity of supplies for the long term, "so
customers should not be able to turn around and
say, 'We don't need it now.' Security works both
ways. We need assurances, too."
Putin
explicitly stated that Russia and other suppliers
wanted bilateral long-term supply contracts with
consuming nations so that suppliers would know
there would be a stable demand for their exports.
The underlying, impending risk to the
liquidity of the current oil order posed by such a
throwback to the rigid bilateral long-term supply
contract was highlighted recently in the testimony
of David Goldwyn before the US House of
Representatives Committee on Government Reform's
Subcommittee on National Security, Emerging
Threats and International Relations and the
Subcommittee on Energy and Resources on May 16.
Goldwyn is senior fellow at the Center for
Strategic and International Studies, a prestigious
Washington, DC, think-tank, and president of
Goldwyn International Strategies, a leading
provider of political and business intelligence,
energy-sector analysis and Washington strategy
advice to Fortune 100 companies and investment
advisers.
Goldwyn stated: "The United
States is more energy-insecure today than it has
been in nearly 30 years. We are insecure because
the global oil market is more fragile, more
competitive and more volatile than it has been in
decades."
Goldwyn referred to the fact
that "the growing [energy] dependence of rising
powers such as China and India is rapidly eroding
US global power and influence around the world" as
those rising powers increasingly enter bilateral
long-term contracts with suppliers, ever greater
numbers of which do not allow free market access
by the West's oil majors to production and
exploration acreage and which are creating a
strategically tight market for the rest of the
world.
Goldwyn observed: "This 'tight'
market is undermining the fluidity and fairness of
the market for available oil supplies and
exploration acreage. New competitors like China
and India are trying to negotiate long-term supply
contracts (at market prices) to ensure that they
have supplies in the event of a crisis or supply
disruption ... the trend is counter to the market
system that operates so efficiently ... the trend
of long-term contracts runs counter to the modern
liquid global market which operates efficiently in
rapidly moving supplies to meet market demand ...
China has not yet developed faith in these market
mechanisms."
While Goldwyn presented such
concerns in the context of a rising but not yet
imminent threat to the current order, in testimony
before the US Senate Committee on Foreign
Relations nearly a year earlier, on July 26, 2005,
Mikkal Herberg of the National Bureau of Asian
Research in Seattle, Senator Richard Lugar, the
committee chairman, heard the following facts:
For China and India both, as well as
the other Asian powers, energy is becoming a
matter of "high politics" of national security
and no longer just the "low politics" of
domestic energy policy. Governments in both
countries have decided that energy security is
too important to be left entirely to the [US-led
liberal] markets as their economic prosperity
increasingly is exposed to the risks of global
supply disruptions, chronic instability in
energy exporting regions, and the vagaries of
global energy geopolitics.
Both
governments are responding to their growing
sense of insecurity with a broad range of
similar strategies regionally and globally to
try to guarantee greater supply security and
reduce their vulnerability to potential supply
and price shocks. These efforts are growing in
scale and scope and they range from largely
cooperative and market oriented strategies to
those that are deeply neo-mercantilist and
competitive. Both China and India are
accelerating their efforts to gain more secure
national control of overseas oil and gas
supplies by taking equity stakes in overseas oil
and gas fields, promoting development of new oil
and gas pipelines to feed their booming markets,
developing broader trade and energy ties, and
following up with diplomatic ties to cement
relations with the major oil and gas exporting
countries.
And both governments sense
they are excluded from the major institutions
that govern global oil cooperation, such as the
IEA [International Energy Agency], and feel
largely excluded from the global oil industry
they feel is dominated by the large oil
companies from the industrial countries. Both
feel they are playing "catch-up". For China's
leaders, energy security clearly is too
important to be left to the markets and so far
its approach has been decidedly neo-mercantilist
and competitive.
The term
"neo-mercantilist" refers to the economic strategy
and ideology pursued by the European colonial
powers, wherein the natural resources and other
wealth of the colonies that had been established
by each colonial empire were rigidly dedicated
exclusively to the sustenance of the mother
empire.
In application to India, China and
the other rising powers of the East, the term
refers to the somewhat comparable strategy of
concluding rigid, private bilateral long-term
supply contracts between themselves individually
and producers they each target around the globe.
This has the net effect of securing oil and gas
exclusively for the individual consumer state at
the expense of the liquidity of the global oil
market, and hence at the expense of oil's
fungibility.
Herberg went on to make the
case that China's three main state-owned oil
companies (National Petroleum Corp, China
Petroleum and Chemical Corp and China National
Offshore Oil Corp) alone, by the latest data and
estimates available more than a year ago, "have
managed to establish control over about 300 mb/d
[million barrels a day] of crude production, which
could reach up to 600 mb/d by 2008".
Herberg went on to make the case that both
China and India strengthen and solidify the
exclusivity of such rigid long-term supply
contracts with multiple layers of cross-investment
and commercial ties between themselves and their
producer partners, and with deepening diplomatic
ties as well. The net effect is to shut out the
free markets and Western oil majors and place
rapidly growing portions of global supply under
private lock and key. As Herberg noted:
China now [as of July 2005] has
signed some form of "strategic energy
partnership" with nine countries, including
Russia, Sudan, Iran, Venezuela, Brazil, Angola
and Kazakhstan. Beijing's leadership has
followed up with a long list of high-level
diplomatic visits to cement stronger diplomatic,
energy and trade ties. China has also used state
diplomacy to secure future LNG [liquefied
natural gas] supplies in contracts with
Australia, Indonesia and Iran. China's
leadership sees the development of broader
diplomatic and trade ties and alliances as a key
element in securing its access to future oil and
gas supplies. This also includes military sales
and cooperation, sales of nuclear equipment and
other potentially problematic trade ties.
None of this includes the profoundly
important strategic partnership agreement China
signed with Saudi Arabia in January, nor its ever
more wide-ranging energy-based agreements with the
other Persian Gulf oil-and-gas-exporting states of
Qatar, the United Arab Emirates, Kuwait and others
around the globe. India also is pursuing a global
strategy very similar to that of China. In July
2005, Herberg noted:
Currently, nearly two-thirds of the
Gulf's oil exports go to Asia, and this will
grow sharply in the future. The growing nexus of
diplomatic, trade and military ties with China
and India appeals to the Gulf producers who are
looking to diversify their economic and
geopolitical base beyond traditional dependence
on the US and European markets and diplomatic
relationships.
Herberg concluded with
this assessment of the negative effects on the
dynamism and liquidity of the US-led oil market:
Another area of concern involves a
range of impacts of China and India's booming
oil demand as well as the impact of their
implied strategy of "locking up" national
control of certain oil supplies to fuel their
own economies, in effect, "taking oil off the
market". Both countries clearly aim to lock up
their own national oil supplies with many of
their investments in places like Sudan and this
practice is likely to contribute to higher oil
prices and price volatility by reducing global
market flexibility to handle tight markets,
shortages and supply disruptions.
Exploiting the Achilles' heel
The economic (and consequently also the
geopolitical) single point of failure for the
highly industrialized nations of the West
irrefutably is its continued unwavering global
adherence to the liberal oil market that created
and sustains oil-market supply fairness,
liquidity, and oil's currently high level of
fungibility.
The net effect of the (now
former) global dominance and control of the West's
oil majors over the lion's share of global energy
resources was to ensure that those resources were
irreversibly captured into the US-led market,
thereby perpetuating the global dominance of that
very order.
As such, the hemorrhaging of
the dominance of West's oil majors to the current
pitiful state that only 9% or 10% of global
reserves are controlled by them represents a sea
change. Where, that is, into which model, the
lion's share of global energy resources will now
be captured is no longer up to the West. That
determination has already been forfeited to the
rising East and the increasingly East-friendly
producing regimes around the world, led by Russia.
And nowadays the US depends on the market for
nearly 60% of its energy needs.
In effect,
the world is seeing the globe's energy resources
increasingly divided between two rival,
incompatible energy markets, one suffering loss of
global support and becoming ever more slanted
toward serving the energy needs only of the West,
and the other enjoying mounting global support and
fully serving the energy needs of all the rest.
Decisions of state-owned or
state-controlled oil and gas companies such as
that made known on October 9 respecting Russia's
Gazprom, which has decided to exclude all foreign
(notably Western) energy majors from its giant
Shtokman gas project, or the recent decisions to
threaten to revoke permanently the operating
licenses of Western oil majors in the Sakhalin-1
and Sakhalin-2 projects, are representative of the
wave of consolidation of control of global
resources by state-owned and state-controlled
energy companies around the world.
Such
producing regimes, which display an ever greater
self-assertiveness and an ever deepening political
affinity with Russia and the East, are deciding to
place a growing amount of their production into
the Russian-led energy-market model rather than
unwaveringly adhering to the US-led one.
The lucrative economic, financial,
political and diplomatic package of enticements
being offered to producers around the globe by
China, India and the other economies of the East
far outweigh what the US can offer - the US simply
cannot compete. It cannot prevent, nor turn back,
the steadily advancing global trend of the locking
up of oil and gas by virtue of private, bilateral
long-term supply contracts, and the mounting
strategic control of oil and gas by state-owned
enterprises. Its global leverage (and that of its
oil majors) in the energy-rich regions of the
world is severely contracting as a result.
The tentative decision announced recently
by Putin to redirect from the US to Europe the gas
production from the giant Shtokman project
illustrates how such state-owned (or controlled)
enterprises can turn on a dime. Today, they may
sell their products on the established New York
and London exchanges, but tomorrow they can switch
away from this order to a growing number of
alternatives, including the security of rigid
bilateral long-term supply contracts.
Russia, China, India and the rest of the
world outside the West have little fundamental
attraction or loyalty to the US-supported global
oil market or the governing institutions from
which (such as the IEA and the Organization for
Economic Cooperation and Development) they have
largely been excluded. They do not feel an
integral part of the global system they see as
greedily and inordinately dominated by the
multinational oil companies of the West, with
which their relations are growing ever more tense.
As such, they certainly cannot be expected to
bolster the US-led model, and they are not doing
so.
As the new Russian-led model locks up
increasing amounts of oil and gas away from the
global pool, that one virtual global pool of oil
is increasingly being transformed from being a
truly global one into a Western one. This revives
the possibility of a targeted embargo because
producers can decide to place less oil in the
US-led system in favor of locking up more of their
production into bilateral contracts with consumers
in the East, and they can move rapidly to
accelerate in that direction.
Professor
Peter Odell, quoted in Part 1 of this report,
alluded to this danger when he warned that
Russia's oil grab presented an impending threat to
the energy supplies of the West. The issue here is
control of the production of oil and gas fields,
and therefore where and to whom that production
will be offered - within the open, liberal US-led
model or within the rival, more rigid and private
Russian-led one.
The global production and
profits of the West's international oil majors are
still very high. However, behind that facade of
apparent market control and dominance lurks the
specter of an impending, perhaps precipitous,
collapse of the role and leverage of those oil
majors the West relies on for its energy security.
In The Observer of London on October 29,
in an article titled "Big oil may have to get even
bigger to survive", the author notes that the
West's international oil majors are in real
trouble as regards the collapsing of their control
over global energy reserves and face a global wave
of nationalization, forced renegotiation of
existing agreements, inability to get access to
new exploration and production acreage and rising
taxes. It is a caustic mix that is dissolving the
glue that holds together the US-backed oil order.
As the oil majors produce oil for the
market, they must replace their reserves. In 1997
they were able to replace 140% of their reserves,
but in 2005 they were able to replace far less -
only 75%. Consequently, they are rapidly shrinking
while the state-owned companies around the globe
are rapidly expanding as respects market dominance
as measured by the crucial parameter of control of
reserves.
Furthermore, the mounting global
wave of oil-sector nationalization that is pushing
international oil majors on to the sidelines as
respects control of reserves could easily and
quickly take an even more ominous turn - cutting
significantly into the current production
capabilities of the oil majors and placing the
energy security of the US in acute jeopardy.
Assumptions that such a scenario deserves
little worry and attention are not valid or safe
in the environment of ever more nationalistic
leanings on the part of the oil-producing regimes
around the globe and the specter of forced
renegotiations of PSAs (production sharing
agreements) and cancellations of operating
licenses.
What applies to production
acreage also applies to exploration acreage, and
access to and control over both are being
massively forfeited by the West and its oil
majors. Foreign investment in energy-producing
enterprises and acreage is being severely
restricted as a result, and this ensures
strategically tight global supply, further
exacerbating the mounting energy security
misfortunes of the West. This is because in the
absence of abundant global supply the West has no
viable means to counteract the locking up of
increasing amounts of the global supply by
Russia's new model.
Attack on dollar
dominance As if these developments were not
bad enough for Western strategic energy security,
another key development has arisen, one that
gravely threatens not only to diminish further the
energy security of the West, but also in effect to
put an end to its global economic and geopolitical
dominance by credibly threatening to crash the US
dollar.
This additional key development is
the planned and actual proliferation of new
oil/gas market exchanges denominated in currencies
other than US dollars.
The new Russian-led
concept of "international" energy security and its
new model for the global market do not consist
merely of long-term supply contracts alone.
Planned oil- and gas-market exchanges are being
set up not to bolster the current London and New
York exchanges, but to stand separate and distinct
from, to compete with, them to rival the US-led
order.
The new exchanges are either being
originally set up to settle transactions in
currencies other than the US dollar, or they are
being created with the sophistication and autonomy
to enable them to switch from US dollars to
virtually any other desired currency (or to
multiple currencies) when developments might
warrant such a switch.
That fact implies
the draining of significant portions of the one
global dollar-denominated pool of oil to fill the
new pools denominated in other currencies, thereby
fragmenting from the current global pool (and from
the US-led order itself) significant portions of
the global supply to fill the new pools. Such
fragmentation will in effect put an end to the
current order, which has dominated for barely two
decades.
The new Shanghai Petroleum
Exchange settles transactions in the Chinese
currency, the yuan. Russia's new St Petersburg
exchange, slated to come online next year, will
settle transactions in the ruble. According to
Russian Economy Minister German Gref, Russian
products will be offered on the New York exchange
until the St Petersburg exchange is operational,
at which time Russian products will be shifted out
of the New York exchange to the Russian exchange.
Qatar's new Energy City concept with its
integrated IMEX (International Mercantile
Exchange), which India has recently joined with
the planned creation of a satellite Energy
City/IMEX complex in Mumbai, will apparently
settle transactions initially in the US dollar,
with the capability to switch to other currencies.
The IMEX is a fully autonomous system
predominantly designed and intended to capture the
rising energy markets in the East.
Prudently, Arab oil and gas exporters are
leveraging IMEX to work to achieve full autonomy
as respects market and exchange operations and
product pricing and delivery, foreseeing the day
when having their operations constrained almost
completely under the aegis of the Anglo-US market
arrangement and the US dollar no longer serves
their strategic interests.
The logical
question at this juncture is whether these new
exchanges can successfully compete any time soon
with those in New York and London. Assuming those
creating the new exchanges do not lose their nerve
and back down from establishing them as working,
autonomous entities, as Iran apparently has backed
down from its planned oil bourse denominated in
the euro, the answer to that question is
fundamentally the same as asking whether there
exists enough global supply margin for importing
nations to be able to ignore the new exchanges.
In the very tight global supply situation
we find ourselves locked into, importing nations
will have little choice but to go wherever oil and
gas are available to fill their needs. If the new
exchanges rob significant portions of oil from the
current one global pool as is planned, then the
new exchanges will not need to be concerned about
adequate consumer interest, support and devotion.
And global producers are assuredly going
to do all that is needed to keep the global supply
tight and the price of oil elevated to avoid a
global oil glut and a price collapse. Continued
tight supply will help to ensure the success of
the new exchanges.
Furthermore, the fact
that the West's oil majors have lost control of
all but 9% or 10% of reserves means that
state-controlled oil companies can reroute any
amount of product they wish from the New
York-London exchanges to any of the new exchanges.
This will provide a more than sufficient supply to
guarantee the success of the new exchanges, and
the US can do nothing to stop it.
As this
happens, the prospect of a targeted embargo of the
West is revived. Producers will be able to
restrict the amount of oil they sell on the
London-New York exchanges, or cease selling there
altogether, because they will have viable, even
preferred, alternative exchanges. That will
seriously endanger the amount of supplies
accessible to the West and will radically drive up
the price of oil on the dollar-denominated
exchanges. But because all of the new and planned
exchanges will have their own non-dollar pricing
mechanisms, the undesirable price volatility will
tend to be confined to the dollar-denominated
exchanges.
What happens to the US dollar
as the new exchanges become operational and begin
to be successful? The exit from the dollar as the
international currency will have begun in earnest.
But that exit will not be to one currency, but
simultaneously to the several currencies that are
the denomination currencies of all the successful
new oil and gas market exchanges.
The
dollar will begin to weaken as its international
support and devotion wanes, or even sinks. As the
dollar weakens, the price in dollars for
everything the US imports will skyrocket, adding a
powerful inflationary hit to the US economy. Along
with the impending US recession, that will further
weaken the dollar and likely its decline, or
outright collapse, will feed on itself.
As
the dollar weakens and energy price volatility
increases on the New York-London exchanges,
producers will have further powerful incentive to
switch their product offering to the
non-dollar-denominated exchanges, where there will
be greater stability and where they will not be
forced to take payment for their products in the
increasingly undesirable weakened dollar.
The profound risks to the West as respects
its ability then to secure access to sufficient
energy resources should be self-evident. Left with
a severely shrunken dollar-denominated pool of oil
and gas, a pool that virtually only the West draws
from, the viability of a potential targeted
embargo will have increased exponentially.
The globe's producers will be fully able
to "throttle" the economies of the West by virtue
of controlling how much of their oil and gas they
sell into the dollar-denominated pool. This
represents the nightmare scenario for the US.
Perhaps the most disturbing aspect of this
analysis is the fact that it is not based on any
hypothetical conspiracy theory, but rather on
solid economic and market principles and the
increasingly ominous warnings of experts and
informed leaders.
Additionally, the key
developments that are already pushing the world
order to the eventuality described here, that of a
full exploitation of the West's Achilles' heel by
Russia and its global partners leading to a loss
of the US global position of economic and
geopolitical dominance, are already well
established.
Russia, in conceiving the new
model of "international" energy security and a new
global energy order, and in winning increasing
numbers of key converts and adherents to its
model, thereby defines and draws the circle of
international energy security. Those inside the
circle will achieve Russia's definition of "energy
security", but those left outside will be left
with little if any energy security by any
definition.
This is the conclusion of a
two-part report.
W Joseph
Stroupe is author of the new book Russian
Rubicon: Impending Checkmate of the West and
editor of Global Events Magazine, online at
www.GeoStrategyMap.com.
