Russian oil output seen peaking soon without tax change

July 31, 2017
Conflicting priorities of influential groups keep Russia from changing tax policy as it must to sustain oil production.

Conflicting priorities of influential groups keep Russia from changing tax policy as it must to sustain oil production.

"Structural features of the political system-namely a tendency towards factionalism and short-termism-have made agreeing and implementing reform difficult," reports Daragh McDowell, principal Russia analyst at Verisk Maplecroft, in a July 21 research note.

Agreement exists, says McDowell, on the need to tax profit from oil production rather than revenue.

Taxation based on revenue makes the fiscal burden on oil producers a function of production and the crude price. It doesn't account for cost.

Russia implemented the current regime early in President Vladimir Putin's first term, when underfunded administrative capacity made the inherent simplicity especially appealing.

Furthermore, writes McDowell, the system weakened Russian oil majors with influence then rivaling that of government.

But the tax regime makes many field developments unviable and discourages investment that would boost efficiency in existing fields.

The government has resorted to tax exemptions and holidays for select regions, projects, and formations.

"This has made the viability of many projects dependent upon the lobbying power of the companies involved," McDowell says.

Taxation based on profit would reward efficiency rather than raw production, stimulate field development, and encourage investment in existing fields.

Proposed changes, McDowell reports, face new delays. The problem is divergence of priorities among four key factions.

The Finance Ministry craves tax receipts. The Energy Ministry wants to maintain production. The oil industry seeks a regime that doesn't discourage production and that allows growth in shareholder value. And the Kremlin "wants to ensure the long-term political and fiscal viability of Russia in general and the Putin administration specifically."

McDowell thinks tax reform will be passed. But it will be compromised and delayed, "calling into question the Russian government's ability to adapt to new economic realities in a timely fashion."

Without reform essential to greenfield investment, he warns, Russian production will peak scarcely above the current rate of 11 million b/d in 2020 then decline sharply.

About the Author

Bob Tippee | Editor

Bob Tippee has been chief editor of Oil & Gas Journal since January 1999 and a member of the Journal staff since October 1977. Before joining the magazine, he worked as a reporter at the Tulsa World and served for four years as an officer in the US Air Force. A native of St. Louis, he holds a degree in journalism from the University of Tulsa.