Expectations of sustained Russian oil production boom justified

Thus, Russian oil production has been on the rise since 1999, taking full advantage of the generally high oil prices thereafter. Latest statistics place current Russian crude output at 7.23 million b/d for January 2002.⁵

In parallel to the current production boom, Russian crude exports are also regularly posting new records, with an overall estimate of 2.75 million b/d for exports outside the FSU in 2001 (Table 1).

For enthusiastic venture capitalists and moneylenders, the sky seems to be the limit for Russia’s booming oil industry.

Hurdles

But notwithstanding the ambitious plans and projects for increased oil production, Russia still faces serious hurdles on the way to the successful development of needed oil schemes:

• Legal hurdles. The structured framework for taxes is constantly being revised to allow for a rational and uniform system balancing state income and companies’ incentives.
• Internecine power struggles. For example, consider the infighting between the authorities of the Nenets Autonomous Region and operating oil companies as seen in the dispute between Nenets Gov. Vladimir Butov and OAO Lukoil.⁶
• Red tape is still to be found at every twist and turn in Russia’s byzantine bureaucracy–a bureaucracy geared to dirigisme, not capitalist efficiency.
• Corrupt practices. Due to the lack of transparency in management and financial deals, even major and experienced Russian oil and gas companies are not immune to corruption, so that controllers spend most of their time trying to find out who has had his hand in the till instead of monitoring and improving industrial competitiveness.
• Lack of adequate industrial infrastucture, as underlined by the Organization for Economic Cooperation and Development report entitled "Reforming Russian Infrastructure for Competition and Efficiency," issued earlier this year.⁷

Eventually, given enough time and incentive, the Russian authorities and oil companies will come to surpass most of these hurdles, but that might well happen when Russian oil production has entered its inevitable decline.

Limits

Like any other major oil producer, Russia faces natural limits to any indefinitely increasing oil production.

That’s especially the case in that Russia is not a new frontier but rather a well-known and thoroughly explored land–with possibly only two major exceptions: the Arctic and the Caspian Sea area. Moreover, Russia ranks second worldwide only to the US, both in cumulative oil production (Russia’s 121 billion bbl vs. the US’s 169 billion bbl at yearend 2001)⁸ and in the number of wells drilled nationwide (roughly 1 million wells for Russia vs. 3 million wells in the US).⁹

Russia is limited in its future production by a number of parameters, the most critical being its Ultimate Recoverable Reserves (URR). These, according to oil reserves expert Colin J. Campbell, presently stand at 200 billion bbl¹⁰ of conventional oil for Russia, with the breakdown shown in Table 2.

Furthermore, Campbell believes that Russian oil production peaked in 1987, and that its depletion midpoint occurred in 1992.

As for the French oil reserves expert Jean Laherrere, who has extensively studied and analysed FSU oil reserves, he is rather skeptical about published Russian reserves. His main arguments are that: (1) the Soviet oil reserves first reported by then-Soviet Deputy Oil Minister E.M. Khalimov at the 1979 World Petroleum Congress were later said in 1993 to have been "strongly exaggerated due to inclusion of reserves and resources that were neither reliable nor technologically or economically viable;"¹¹ and (2) by reducing reported Russian oil reserves by 45%, Laherrere achieved "a good fit between the production and discovery trends–with the latter smoothed over 5 years and shifted by 20 years."¹²

These are good reasons for doubting present official Russian oil reserves estimates and considering halving them, as Laherrere seems to propose, in order to obtain a realistic URR for the country.

In sum, the URR will prove the main limit to the speculation of ever-expanding Russian oil production, and the message issued by Campbell and Laherrere is that Russia’s URR could be lower than has been usually reported. This is a useful caveat for curbing unrealistic expectations fired by the latest increases in Russian oil output.

Other FSU

Among the other FSU countries, two main contenders clearly stand out: Azerbaijan and Kazakhstan. These two posted starkly contrasting results in 2001:

• In Azerbaijan, the list of dry holes kept growing, among them wells testing these prospects: Kurdashi, Oguz, Lenkoran, Absheron, Inam, and Muradkhanli. In addition, some major international oil companies (e.g., ExxonMobil Corp.) are considering pulling out altogether, as UK-based Ramco Energy PLC did.
• In Kazakhstan, the supergiant Kashagan oil field was confirmed by the successful drilling of appraisal wells Nos. 2 and 3, triggering the launch of the next offshore licensing round.

As for the two other FSU contenders, Uzbekistan and Turkmenistan, their oil output is currently plateauing at 175,000 b/d and 160,000 b/d, respectively, with only limited prospects of major new developments.

Forecasts

In order to predict future Russian and FSU oil production capacity, the World Oil Production Capacity (Wo- cap) Model¹³ was simulated with a fixed oil price of $25/bbl (in 2002 dollars) over the 2002-10 period.

The simulations showed both Russian and FSU oil output peaking in the present decade–Russia at 8.2 million b/d in 2007 and the whole FSU at 10.6 million b/d in 2008, as shown in the chart.

Moreover, Campbell’s predictions for Russian output in 2005 and 2010 show a fair fit with the Wocap model simulations.

In contrast to these forecasts, OAO Yukos predicted total FSU production peaking at around 14 million b/d sometime during the next decade¹⁴–a figure that seems rather optimistic, as the FSU (outside of any future Kazakh bonanza) doesn’t seem to have the necessary URR to allow it ever to reach such production heights.

Conclusion

Russia and the FSU still have some good years in front of them for increasing their respective oil production by leaps and bounds. But, with time, yearly output rises will prove to be following a diminishing curve. The critical limiting factor will inevitably prove to be the region’s overall URR.

Consequently, much sooner than many now imagine, the dream of Russia and other FSU countries coming to rival Saudi Arabia on the world petroleum stage will evaporate as the FSU struggles to keep its daily crude output on an even keel.

And, for the diehard optimists foreseeing a return to the Soviet-era peak of 12.7 million b/d or to some new record peak of 14 million b/d, they would be well-advised to ponder the adage: "A souffle never rises twice."

Acknowledgment

The author thanks Fariba Shahbudaglou for assistance provided during the compilation of this article.

References

1. Tavernise, S., and Brauer, B., "Russia becoming an oil ally," New York Times, Oct. 19, 2001. Quoting projections from Deutsche Bank AG and Petroleum Argus, the Times article projected that "over the next 5 years, Russia would be the fastest-growing oil producer worldwide-with an overall increase of 1.27 million b/d."
2. Laherrere, J., "Forecasting future production from past discovery," presented at the conference "OPEC and the Global Energy Balance: Towards a Sustainable Energy Future," Vienna, Sept. 28-29, 2001, p. 9.
3. John Varoli, "Russia’s Northwest stirs dreams of oil riches," International Herald Tribune, June 29, 2001, p. 13.
4. For a typical example of an occasion in Russian oil investment, see the account of a gambit by six American investors in the Siberian steppes, Samsam Bakhtiari, A.M., "D’Arcy concession centennial and OPEC today: an historical perspective," OGJ, July 9, 2001, p. 22, reference No. 7.
5. Nefte Compass, Feb. 7, 2002, p. 5.
6. Varoli, ibid.
7. Petroleum Review, March 2002, p. 8.
8. Campbell, C.J., Conventional Oil Endowment, table in the Oil Depletion Analysis Centre (ODAC) Depletion Model, to be found on the ODAC web site.
9. These very rough, order-of-magnitude estimates were put together by the author using a variety of sources, ranging from private communications to the roughly 1.23 million US well completions of 1972-2001 (OGJ, Jan. 29, 2001, p. 85).
10. Campbell, ibid.
11. Laherrere, ibid., p. 8.
12. Ibid., p. 7.
13. The Wocap Model was developed during 2001 by a team under the direction of Behdis Islamnour, the chief model developer. The Wocap Model subdivides the world into the categories OPEC (11 member states) and Non-OPEC (with yet another 11 subdivisions, among which are Russia and Other FSU).
14. Laherrere, "CIS Future Oil Production," Petroleum Review, April 2002.

The author

Ali Morteza Samsam Bakhtiari is a senior expert in the corporate planning division of National Iranian Oil Co., Tehran. He specializes in questions related to the global oil, gas, and petrochemical industries, with special emphasis on the Persian Gulf and the Organization of Petroleum Exporting Countries. Formerly, he lectured on design and economics at the chemical engineering department of Tehran University's Technical Faculty. He holds a PhD in chemical engineering from the Swiss Federal Institute of Technology at Zurich.