In time, major net importers of energy such as the United States, Western Europe, China, and India came to realize that it was in their interest to encourage as much energy production in the world from as many different producers as possible. This obviously included Russia— the more supplies there were the better. This was particularly important for consumers of petroleum. If one supplier decided to withhold deliveries of its petroleum, importers could readily substitute with petroleum from another supplier. That reduced—but did not eliminate—the chance of a political embargo by an OPEC-type organization against a single consumer or group of consumers. But those who initiated such an embargo had to win support from like-minded exporters and even then there were bound to be some exporters such as Russia that would refuse to join in. There is always the danger that those exporters would use the opportunity to poach on others’ customers and sign up new sales.
But while buying petroleum and natural gas from Russia has its advantages, there can also be serious risks, especially for consumers of Russia’s natural gas. Because pipelines needed to supply natural gas are very expensive to construct, no one can afford to build a second standby pipeline from some other supplier as a reserve for emergencies. Thus even though the European pipeline network links up three major sources of supply—Russia, the North Sea, and Algeria—consumers of natural gas tend to become dependent on a single dominant supply source. This makes them vulnerable to the whims of that supplier. While LNG (liquefied natural gas), which can be delivered by seagoing tankers, could serve as a backup, it too requires billions of dollars in investment, not only for the special tankers that transport it but also for the expensive processing plants at the export site that freeze it and the plants at the import destination that return it to gaseous form. As a result, no one is willing or able to sell or buy LNG without an expensive infrastructure already in place, which explains why it is so hard to create a spot market for LNG, a market where buyers and sellers can agree to a sale at the last minute on the spot. As a result, unlike petroleum imports, which can be sent by tanker from any number of petroleum producers, if something happens to that natural gas pipeline, there are rarely any alternative natural gas supplies available to pipe in as a substitute.
President Ronald Reagan understood the political implications of all this and decided to do what he could to prevent the USSR from building a gas pipeline to Western Europe. He worried that if the Europeans became increasingly dependent on such supplies, as strong economically as Western Europe might be, they would soon find themselves vulnerable to Soviet political pressure. Reagan worried that as West European households and industries began to rely on Soviet natural gas, they would likely begin to think twice about countering Soviet political demands.
In an effort to deny the USSR such a weapon, Reagan launched an intense effort to prevent the pipeline’s construction. In 1984, he asked his friend, British Prime Minister Margaret Thatcher, to prevent the English firm, John Brown Engineering, from selling the Soviets the compressors they needed to move the gas through the pipeline from the super giant Urengoi natural gas field in West Siberia to Germany. Similar pressure was put on General Electric, another manufacturer of turbines and compressors. These efforts failed, however, and the pipeline was eventually completed.
Once the pipeline was completed in 1985, consumers in Western Europe became quite comfortable importing Russian natural gas and using it in their homes and factories. While cold weather caused occasional delivery problems, the Cold War never did. As a good salesman, Viktor Chernomyrdin, when he was Minister of the Soviet Gas Industry, always insisted that he would never think of cutting off the flow of gas for political reasons. He continued to issue such assurances when the Ministry, in August 1989, was transformed into a hybrid state corporate entity which he called Gazprom. He abandoned the title of minister and called himself the CEO of the now newly created joint stock corporation. The promise that the ministry and then Gazprom would honor its contracts has been echoed by numerous other senior government officials including Chernomyrdin’s immediate successor, Rem Vyakhirev, who as CEO, sold much of the company’s stock to nonstate entities in November 1992. Others frequently made the same claim. For example, in 2006, Igor Shuvalov, President Vladimir Putin’s economic adviser insisted that “Europe will never have a more reliable supplier than Russia.”31 Or listen to Putin himself. At the Balkan Energy Cooperative Summit in Zagreb in June 2007, he insisted that “for four decades now, despite the serious and truly global changes in the world, Russia has never broken a single one of its contractual commitments.”
Such assertions, however, overlook the fact that the Soviet Union in its day and Russia after 1991 have frequently terminated the shipment of energy supplies when a customer chose to oppose Soviet or Russian political or economic objectives. Yugoslavia under Tito, Israel in 1956, Finland in 1958, China in 1959, Latvia in 1990, Lithuania in 1990 and 2006, and Estonia in 2007 had their petroleum deliveries cut off. Later, Putin’s regime halted or reduced the flow of natural gas supplies to Ukraine, Belarus, Georgia, Moldova, and even Bosnia. What passes as “the rule of law” in other societies became “the law of the rulers” under Putin. A contract commitment with state-controlled enterprises in Russia has never been a guarantee of performance nor a deterrent to arbitrary behavior by Russian entities. That was true in the Soviet era and it again became common under Putin. Concessions made at a time when Russia is weak and prices are low are invariably invalidated once prices rise again and Russia regains its strength. Put simply, higher prices increase Russia’s bargaining power. Precedent is no guarantee that the Russians will not some day mend their ways, but it does suggest that President Reagan had legitimate concerns.
WILLIAM CASEY: DID HE PRECIPITATE THE COLLAPSE OF THE USSR?
Recognizing how important petroleum and natural gas production and delivery were to the Soviet Union’s domestic and foreign well-being and influence, William Casey, appointed by President Reagan in 1981 to head the CIA, decided that the best way to undermine the USSR was to undertake an effort to cripple its energy sector. Given that four years earlier the CIA had predicted there would be a sharp drop in production, which would turn Russia from an oil exporter to an oil importer, it should be relatively easy to expedite that drop in oil production.
Fortunately for the USSR, neither it nor Russia became net importers—far from it. So was the CIA wrong? Production did peak in 1987 at 625 million tons and it did fall to 571 million tons in 1990 (see Table 2.1). Yet according to the CIA, the USSR and Eastern Europe should have been importing 175 to 225 million tons by then. But that did not happen. The USSR remained a major petroleum exporter until it disintegrated. After that, production in Russia itself did indeed fall sharply in the mid-1990s, but as we shall see in Chapter 4, this was because petroleum prices were low and taxes were high so the new private owners concluded they could make more money by stripping assets than by producing petroleum. These were not the reasons anticipated by the CIA.
The CIA prediction was far off the mark. In fact, in 2006 Russia again became the world’s largest producer of petroleum. Nonetheless, the production and central planning problems on which the CIA based its 1977 analysis were real. The Soviets continued to inject too much water into the oil fields and the bureaucratic and central planning practices that characterized the Soviet economic system resulted in enormous waste and lost opportunities.