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  Kremlin Inc.: Reshaping the World Order with Russian Gas and Oil

Kremlin Inc. Reshaping the World Order with Russian Gas and Oil

By Uwe Klussmann

Part 2: Next page: Mixing business with politics

The financial losses associated with the state-owned corporation's business engagements in two regions south of the Russian border show that the gas giant follows the logic of political power more than the laws of the market. For years Gazprom has been providing natural gas to Transnistria, a rebel republic located in Moldavia that has never been recognized as a state by the international community.

By July of last year, the would-be state had run up a natural gas debt of $495.6 million. But even though Transnistria's "president," Igor Smirnov, has made it perfectly clear that his republic can't pay, and even though Gazprom managers have occasionally threatened to cut off the gas supply to the rebels by the Dniester River, the threat has never been implemented. The reason? President Putin has decided that the pro-Russian rebels need to receive massive support in their struggle with the Moldavian state.

The investments effected by Gazprom in South Ossetia, another republic not recognized as a state by the international community, seem to be another such case of subsidies disguised as business. The heavily armed de facto rulers of the impoverished self-proclaimed republic in Georgia can now look forward to receiving natural gas from neighboring North Ossetia, which is part of Russia's territory.

Gazprom's leadership went as far as receiving South Ossetian "President" Eduard Kokoity for negotiations last October. The subject of the negotiations was an ambitious pipeline construction project. The pipeline would lead across the Caucasian Crest and into South Ossetia's capital city of Tskhinvali. Both the smirking rebel leader and the Gazprom managers knew only too well that the project, developed by the Kremlin, wasn't motivated by expectation of financial gain, but by the desire for political power.

A new Russian empire

And so Moscow-based ideologues of Russian power like Alexander Prochanov, the editor in chief of the patriotic Savtra newspaper, are already giving their imagination free rein. "With its steel pincers," Prochanov writes, "Gazprom could build a new kind of Russian geopolitical empire."

The oppositional Moscow weekly Novoye Vremya has found a name for the state-crafted power network of the Russian oil and gas industries: "Kremlin Incorporated." Vadim Kleiner criticizes the company management's tendency to cooperate with dubious intermediary firms. Kleiner's candidacy for Gazprom's supervisory board, where he wants to defend the interests of minority shareholders, has been unsuccessful for years.

The activities involving intermediate firms first came to light during the conflict over natural gas carried out between Russia and Ukraine in January 2006. Gazprom used the intermediary trade firm RosUkrEnergo as an exporter to Ukraine. RosUkrEnergo is an obscure company based in Switzerland. One half of its shares is owned by Gazprom's bank, the other is owned by dubious Ukrainian businessmen.

The state-orchestrated oil deals are hardly more transparent. Insiders know the obscure business transactions often follow a three-part scheme. First an oil trading company purchases petroleum from an oil production company, paying only between a tenth and one-fifth of the market price. Then the trading company sells the petroleum to subsidiaries in tax havens such as the Cayman Islands or the Bermuda Islands, below the world market price. Finally these subsidiary companies offer the petroleum to Western customers at the standard international price.

In 2005, Gazprom was Russia's most important tax payer: It paid €14 billion ($18 billion) in taxes. But estimates by Moscow's central auditing authority suggest that the Russian state loses out on three to four billion US dollars in tax payments every year, due to the devious business transactions involving sunny tax havens.

It's not just stinginess towards the tax authorities that is all the rage among Russia's oil and natural gas executives. They shy away from investing in outdated refineries too. The principle underlying this choice is the same that ruled the economics of real socialism: Live off what you have for as long as you can.

Making the rich richer

True, the Russians sell roughly $500 million worth of oil every day, and this has caused the value of the ruble to rise. But the rest of the Russian export economy -- which is not particularly competitive anyhow -- suffers from this state of affairs.

Instead of benefiting the Russian economy, the oil boom has made Moscow's billionaires even richer. Their villa neighborhoods surround the city like a ring of lard. Ten of the 33 billionaires featured on the 2006 Forbes list got rich thanks to the oil business.

The economic boom doesn't benefit the majority of the Russian population. According to official figures, about 70 percent of Russians had a monthly income of less than €200 ($257) in 2004. Twenty-seven percent brought home less than €100 ($129) a month.

Worse yet, many citizens, especially in rural areas, still don't have access to natural gas -- and this in the country that has the largest natural gas reserves in the world. Countless villagers heat their homes with wood-burning stoves, just as in the 19th century.

Despite rising oil prices, Russia's economic growth rate is declining, as the World Bank laments. During the first quarter of 2006, the growth rate of Russia's industrial production was three percent -- even less than the same period the previous year.

The "national projects" staged by the Kremlin were accompanied by grand propaganda campaigns. With some €3.2 billion in funding, the projects see the government improving education and health systems, the construction of apartments and improvments in the agricultural sector -- as if there were no end of funds available to distribute. But in reality the projects function as a surrogate for real structural reform. Nothing is improved by the projects except the meager salaries of employees. What is more, the projects also fuel inflation in a country where the inflation rate already stood at 5.4 percent between January and April of this year.

If the country doesn't begin investing its revenue from the resource trade into the modernization of its economy, "then Russia will become the Nigeria of natural gas," warns Yuri Solosobov of the Institute for National Strategy in Moscow. The Nigerian state is widely seen as a prime example of how not to handle oil profits.

The struggle over the revenue set free by the resource trade tends not to lead to reforms, but rather to strong-arming and violence. With increasing frequency, the struggle over oil and natural gas leads to bloodshed. On March 23 of this year, Igor Khorshunov, the deputy chairman of a company run by the Gazprom subsidiary Sibur was gunned down in the town of Togliatti.

Khorshunov, a veteran of the war in Afghanistan and a retired commander of the domestic intelligence service, had been charged with curbing the influence exercised on the company by organized crime. The manager of another Sibur company had been injured by shots from a machine gun in neighboring Samara two months earlier.

In the fall of 2004, bandits kidnapped and murdered a leading executive of the Gazprom subsidiary Yugtransgas in the town of Saratov near the Volga River. A short time earlier, his colleagues at the Zentrgas company in Tula, south of Moscow, buried their former vice chairman, Boris Shishikin. He was beaten to death by an unknown killer on his way home.

When such cases occur, Russian prosecutors usually conclude that the homicides are "related to the professional activities of the victim." But they seldom find out who the perpetrator is or who hired him. Police investigations are most likely to be successful when the perpetrator suddenly falls from grace politically, as was the case with Alexei Pichugin.

The former chief of Yukos's security service first had to appear in front of a Moscow court in March of this year. He faces the charge of having ordered the assassination of Vladimir Petuchov, the mayor of the oil town Nefteyugansk, in June of 1998. The local politician is said to have complained about the corporation's reluctance to pay its taxes.

Investigators in Moscow would like to know more about the special jobs Pichugin was charged with by Leonid Nevslin. Trained as a computer engineer and known for his interest in the bloody history of the Bolshevik purges, Nevslin was vice chairman of Yukos and responsible for the company's security service, making him Pichugin's boss.

But before a bill of arrest could be issued for Nevslin, charging him with tax fraud and accomplice to murder, the former chairman of the Russian-Jewish Congress obtained Israeli citizenship and moved from chilly Moscow to the milder climes of Tel Aviv. Israel categorically refuses to extradite its citizens to other states.