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

Opposition politicians in Moscow have a name for the Russian oil and natural gas market: "Kremlin Incorporated." It's not the market that decides who the state-owned energy company Gazprom sells to -- it's Russian President Vladimir Putin. The gigantic concern is run by cronies from Putin's days as deputy mayor of St. Petersburg.


A Gazprom facility in western Siberia.

A Gazprom facility in western Siberia.

A seemingly endless desert of ice covers the Yamal Peninsula, which lies north of the Arctic Circle. Even the March sun fails to warm the air temperature above -20 degrees Celcius (-4 degrees Fahrenheit).

Yamal's indigenous population, members of the Nenets tribe, travel through the bare tundra -- dotted only with fir trees and shrubs -- on handmade wooden sleds pulled by reindeer. A dozen workers stand at the center of the peninsula, along the Obskaya-Bovanenkovo train route. Brigadier Alexander Balasovitch uses a crane to lay 25-meter (82 feet) train tracks on the ground.

A brawny colleague from Georgia uses a heavy wrench to fasten the new train tracks. His breath leaves a thin layer of hoarfrost on his chin. They are hardened workers from all over the former Soviet Union, and they've grown accustomed to the raw climate, with temperatures that can drop to as low as -61 degrees Celsius.

Russia's deposits and pipelines

Russia's deposits and pipelines

Yet as inhospitable a nook as Yamal may be, it is considered a "region of strategic interest" by Gazprom, the Russian energy giant. Below the peninsula's thick layers of snow and ice lie enormous reserves of natural gas. Measuring more than 10 billion cubic meters, they are Russia's largest reserves. One day, natural gas condensate and other resources will be transported southwest on this train route on its way to Europe.

Heat from the cold and barren land is already warming German living rooms. Last year, 40 billion cubic meters of natural gas from the region were consumed in Germany -- about two-fifths of the European country's total natural gas consumption.

Gazprom, the giant corporation controlled by the Kremlin, which also now has former German Chancellor Gerhard Schröder on its payroll, wants to dramatically expand natural gas extraction on the Yamal Peninsula in the coming years. Eighty kilometers southeast of Yamal, in Yamburg in western Siberia and in nearby Novyy Urengoy, two Gazprom subsidiaries are already channeling 74 percent of their natural gas into the pipeline to Europe.

From CEO to prison inmate

The steel drilling derricks of a facility run by the Yuganskneftegas oil company, which employs 6,000 workers, are located about 500 kilometers south of Novyy Urengoy. The crown jewel of Russian oil production, the facility was part of the business empire of oil baron Mikhail Khodorkovsky until 2004.

The former CEO of what used to be the largest private oil company in Russia is now an inmate at the Krasnokamensk penitentiary in eastern Siberia following his conviction on charges of business-related crimes including tax fraud. The Nefteyugansk facilities, once the prime asset of his company, were purchased by the state-owned Rosneft corporation for $9.35 billion dollars at a 2004 auction organized by the Kremlin. Putin's deputy chief of staff, Igor Sechin, is also Rosneft's chairman.

Rosneft made its initial public offering on the London and Moscow Stock Exchanges in time for the G-8 summit in St. Petersburg in mid-July. The purpose was clear: to mobilize capital for new investments in Siberia and in the far eastern regions of Russia. The IPO was coordinated with the Kremlin. And the move was meant to signal that Rosneft was open to doing business with the rest of the world and was designed to help the corporation achieve its goal of becoming one of the most important global players in the oil business.

But the Kremlin has no intention of surrendering its influence over the oil and gas business. Under Putin, the Russian government has expanded its stake in Gazprom to over 50 percent. In September 2005, the corporation -- whose chairman of the board Dimitry Medvedev is the Russian deputy prime minister -- purchased a controlling interest in the oil corporation Sibneft for $13 billion. With its acquisition of Yuganskneftegas, Rosneft, which controls Russia's largest oil reserves, catapulted itself to become the third-largest Russian oil company.

But neither Gazprom, with its 175 subsidiaries, nor Rosneft are particularly transparent by international standards. The manner of Gazprom CEO Aleksei Miller -- who was a confidant of Putin during the latter's time as deputy mayor of St. Petersburg and who obtained his position thanks to the Kremlin -- is more reminiscent of a Kremlin official than the head of one of the world's largest energy corporations.

Who Miller closes business deals with, whom he sells gas to and at what price is decided less by the market than by the Russian president, who Miller regularly briefs. The team surrounding Miller is recruited mainly from the personal networks of St. Petersburg-based Putin associates, as well as from old comrades from the Committee for State Security, a.k.a. the KGB.

KGB connections

Gazprom Deputy Chairman Sergei Ushakov is one former KGB man. Like his predecessor Sergei Lukash, who came to Gazprom from the Federal Guards Service, Ushakov is responsible for security matters at the corporation. Gazprom's chief accountant, Elena Vasilyeva, worked in the Central Accounting Office of the Port of St. Petersburg Open Joint Stock Company during the 1990s -- where Miller was director for development and investment at the same time.

Many St. Petersburg professionals who have entered the oil business and made a career there have grown breath-takingly rich during the last few years, insiders say. "A lot of them have dollar bills in their eyes," jokes a former KGB leader. Gary Kasparov, a chess world champion active in Russia's political opposition, remarks cynically that Russia has "the richest bureaucracy in the world."

The shady business networks prosper in part thanks to the absence of public criticism. Putin's associates in the gas business have used Gazprom's holding company Gazprom Media -- which has purchased the country's largest private TV network, NTV -- to cure the country's journalists of whatever inclination for investigative journalism they may once have had. The two main state-owned TV channels tend to be soft on Gazprom anyway.

True, Gazprom board member and Russian Economics Minister German Gref wanted to split up Gazprom when he took office in 2000. But Miller had a word with Putin, and the president was quick to put his foot down. The official line since then has been that plans to split up Gazprom are "not on the agenda."

Putin considers it a personal achievement that Gazprom is now worth about $260 billion and ranks as the third-largest corporation worldwide in terms of market capitalization, after ExxonMobil and General Electric. The position Gazprom now holds in the international energy trade is "the result of concerted state activity," Putin said in his state of the nation address in May.

During the past few years, Putin has in fact been telling his associates in the gas business to make sure Gazprom's weaker subsidiaries shape up. One consequence of the corporation's newly centralized structure has been a loss of power at the subsidiaries: The company headquarters decide their budgets for them, on the basis of internal negotiations.

A political instrument

One result of this is that the corporation that controls the largest gas reserves in the world lacks funds for long-overdue investments. For example, Gazprom has failed to meet the aims formulated in a program for the "reconstruction and technical adaptation" of gas pipelines -- the program came complete with a timeline that ends in 2006. A report from the central auditing authority also laments that the state-owned corporation has not invested sufficiently in the exploration of new gas extraction sites.

Russia is rich in natural gas, but many poor villagers are forced to heat their homes with 19th century wood-burning stoves.

Russia is rich in natural gas, but many poor villagers are forced to heat their homes with 19th century wood-burning stoves.

If Gazprom continues to develop its facilities for extracting the natural gas under the Yamal Peninsula as slowly as it has been doing until now, "we could end up waiting another 300 years before extraction begins," Resource Minister Yury Trutnev said sarcastically at a conference of Russia's leading state officials in Moscow.

What is more, the state is using Gazprom as a political instrument. For example, the energy corporation has to provide millions of Russians in small villages with gas for heating. The costs associated with the related pipelines run to $1 billion.

Gazprom's headquarters are still subsidizing a number of subsidiaries that have little to do with the gas business. The beneficiaries include a boiler factory in the town of Armavir, in the North Caucasus, a producer of gas stoves based in Vladikavkas and a tire plant in Omsk, Siberia.

The burden of the corporation's social commitments is even weightier: The Russian price for natural gas has been fixed so low by the state that Gazprom makes a loss with its domestic sales. That's not likely to change soon, since the Kremlin is resolved to prevent impoverished Russian citizens taking to the streets to protest gas price hikes -- especially one year before the Duma elections scheduled for late 2007.

The holiday homes and sanatoriums financed by the corporation in Sochi on the Black Sea coast and elsewhere also cost more than they make for Gazprom. But the special rates the corporation's employees receive when they want to spend their vacation in the shade of the palm trees on Sochi's shingle beach help make Gazprom a strike-free business, just like the option of free visits to health resorts owned by the corporation.

With its 350,000 employees, Gazprom presents itself as a paternalistically administered island of social partnership in the rough seas of Russia's post-Soviet capitalism -- as a model of the "socially responsible business" that Putin has called for.


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