Russia’s Oil Production Is Incapable of Making Needed Cuts to Stabilize Price

The oil price fixing pact known as “OPEC+”—between the original oil-producing members of the Organization of the Petroleum Exporting Countries (OPEC) and some non-members, primarily Russia—was agreed in December 2016 and implemented in 2017. By limiting oil production, OPEC+ helped keep global prices relatively high. But this cartel price fix all along had a powerful opponent in Moscow: President Vladimir Putin’s old-time associate and close confidant from St. Petersburg, Igor Sechin (59), a professional translator with a murky Soviet-era intelligence background. Sechin was the deputy chief of the Kremlin administration and a presidential aide during Putin’s first two presidential terms; he became deputy prime minister when Putin chose to be head of government from 2008 to 2012. In May 2012, Putin began his third presidential term, while Sechin was appointed to head Russia’s biggest state-controlled oil company, Rosneft. Sechin publicly opposed the OPEC+ agreement, arguing it only benefited shale-oil producers in the United States. As time passed and US oil production bypassed that of Russia and Saudi Arabia, opposition to OPEC+ expanded within the Kremlin ruling elite. In December 2019, Moscow reluctantly agreed to continue OPEC+, but Energy Minister Alexander Novak announced that the production-limitation deal “is not forever” and will eventually be terminated (Interfax, December 27, 2019). In fact, Russia was already surpassing its agreed OPEC+ quotas, producing and exporting almost at full capacity. In the beginning of March 2020, Saudi Arabia demanded Russia join OPEC members in more cuts and stop cheating. But after the March 6 meeting of OPEC+, in Vienna, Novak told journalists that the deal had been terminated (Interfax, March 7).

The Russian energy minister refused to compromise, under instructions to resist any attempts to impose oil production cuts. The objective of this action, as described by Sechin, was to create an oil glut on the world market, to cut prices enough to bankrupt US shale-oil producers. According to the thinking, prices would rebound after oil production decreased dramatically somewhere toward the end of 2020, while Russia could easily survive the temporary fall in oil revenues, since it had accumulated hundreds of billions of dollars in reserves (Vesti, March 30). In a worst-case scenario, Sechin’s plan predicted, Moscow could always devalue the ruble to stimulate production and keep the budget deficit manageable despite a lower oil price. Sechin may have been the most vocal proponent of eliminating OPEC+, but the decision was made collectively, with widespread support in the government (Interfax, March 7). The possibility that the coronavirus COVID-19 pandemic would dramatically send oil demand and prices into a freefall was clearly not taken into account (see EDM, March 25). After the OPEC+ deal collapsed, Saudi Arabia increased production and export. Russia threatened to increase its own production as well but apparently did not, because it was already pumping close to capacity. A glut of oil began to fill up storage tanks around the world, and it became apparent that something must be done to cut production. In an apparent about-face, Putin announced Russia could cut production if others did the same, and Novak was given a mandate to negotiate with the Saudis (Gazeta.ru, April 3).

The news of a possible Saudi-Russian deal on cutting oil production immediately caused a surge in oil futures, while the spot price of actual oil sales remained depressed. Recent reports suggest Moscow and Riyadh may be ready to come together along with other producers, maybe including US shale-oil firms, in order to clinch an agreement. The new deal would, apparently, involve a cut of 10–20 percent of global oil production or removing 10 million–20 million barrels per day (bpd) from the world market to balance supply and demand (Lenta.ru, April 9). However, a serious problem persists: Moscow will steadfastly resist any substantial cuts in actual oil production no matter what, even if it signs a piece of paper agreeing to some new OPEC+ mega deal.

The Russian oil industry can only make small cuts without causing massive and lasting damage to its production, unlike Saudi Arabia, which has repeatedly demonstrated its technical ability to close down oil wells and then swiftly reopen them. Russia’s (and Rosneft’s) main oil production is located in the northern parts of Eastern Siberia, where wells are much deeper than in Saudi Arabia and pass through permafrost. These are mature oilfields; most of them opened in Soviet times, and the oil is pumped up with lots of water that is later separated. If extraction stops, the pipes soon become clogged up with ice that is practically impossible to remove. To reopen production after a stoppage, massive investment and lots of time to drill new oil shafts and replace damaged infrastructure is required (Rosbalt, March 11). In some cases, it could be impossible or financially impractical to massively invest in restoring oil production in aging oilfields if pumping is actually stopped. When the oil price recovers as demand rebounds after the COVID-19 pandemic crisis is over, US shale-oil production and Saudi oil fields will bounce back with ease; but Russian oil production, at present on par with Saudi Arabia and the US, could massively and irreversibly contract—as would its export capability. In such a scenario, Sechin’s overextended and debt-ridden Rosneft would go bankrupt, and Putin’s petro-state economy would collapse. The leadership inside the Kremlin and Rosneft clearly believe such an outcome would represent the triumph of Putin’s enemies, external and internal, and thus must be avoided at all costs—i.e., real Russian production cutbacks are impossible.

If Russia eventually signs an expanded OPEC+ agreement and promises to cut two million bpd or so, further cheating is inevitable: Russian production will remain at more or less the same level. Some small cuts may be possible in new fields, where the oil comes up with little water. A few old, over-extracted fields could also be shuttered for good. But together, such measures would add up to around 400,000 bpd in cuts at best and would require up to half a year to accomplish. Moscow views real cuts of one million–two million bpd as impossible and unacceptable, causing too much pain and damage (Gazeta.ru, April 7). Russia may instead try to find some novel ways to store extra oil, increase internal consumption or attempt to smuggle additional crude and oil products while hoping the world economy rebounds soon and real production cuts by other producers help disperse the present market glut.