Author`s name Dmitry Sudakov

Russia has only 7 years before oil crisis?

Russia is facing difficult times. Britain's largest bank HSBC forecasts that revenues from oil exports will drop significantly. In seven years. The British believe the oil sources will be depleted and will not be able to provide the current level of income. The Russian side is taking steps to maintain production at the current levels in anticipation of such a turn.

HSBC Bank forecasts a decline in oil production by 13 percent in the period from 2020 to 2025. It is assumed that in 2021 the budget will experience the first losses amounting to approximately $2.1 billion. The negative trend in the following years will only increase.

To compensate for the depletion of old oil fields, Russia will have to increase its oil production at least by 40 million tons. At this time, the reserves of the opened oil fields are estimated at 10 million tons, which is about 67 percent of the substitution.

According to some experts, the oil production in 2016 and 2017 in Russia will grow by two percent a year. The peak of oil production will occur in 2018-2019. The British HSBC clarified that the development of new oil fields should be carried out in the best possible conditions for the taxpayers. Oil companies leading the development of these fields will be provided with tax breaks, but this, in turn, will adversely affect the country's budget the due to the decreased revenues.    

According to Deputy Minister of Energy Kirill Molodtsov, this year the level of oil production in Russia should reach 520 million tons of oil. In 2012, this number was slightly lower, 518 million tons of oil. In some regions the decline of oil production has already started. For example, in the Khanty-Mansi Autonomous District, a leader in oil production, the production has been decreasing since 2008. In 2011 the production level fell by two percent as compared to the previous year. The decrease is due to the fact that the old fields have been depleted, and the development of major new fields with reserves of over 300 million tons of oil is not being conducted. This is the explanation provided by Yury Bodrov, chief financial adviser of Nexia Pacioli Consulting.

The President of "Rosneft" Igor Sechin has been discussing the prospects of oil production in the Orenburg region with the regional governor Yury Berg for a long time. The result was the decision that "Rosneft" in 2013 will invests 24.4 billion in the development of new deposits of tight oil in the Orenburg region.

According to Igor Sechin, "Rosneft" will undertake an obligation to implement all investment programs aimed at the development of the industry in the Orenburg region. According to the regional government, 24.4 billion dollars provided by "Rosneft" will be allocated by the authorities to the contracts with "Orenburgneft" and "Buguruslanneft."

In addition, "Rosneft" has promised to maintain social facilities in the territories where it has presence, and participate in cultural and sporting initiatives in the region. In 2013 approximately 10.5 billion rubles was allocated to the budget of Orenburg region from "Rosneft" enterprises as tax payments. Following the acquisition of 100 percent stake in TNK-BP, the number of assets in the Orenburg region has significantly increased.

In the development of new oil fields there are high expectations for the significant potential of the largest shale formations in the world, the Bazhenov Formation located nearly on the entire territory of Western Siberia. The size of its reserves is still unknown, but their extraction technology is yet to be developed.

Bazhenov Formation is located on the territory of the developed oil fields in areas where oil production infrastructure already exists. Its development has great social significance for Russia, as the decline in oil production will affect, first of all, the well-being of many cities and towns where oil-producing and oil refining companies are the main employers of the local population.

Extraction of oil in Western Siberia will last for at least a century and a half, according to Karen Sarkisyants, Chief Geologist of "Surgutneft." During that time the main oil deposits of the Bazhenov Formation will not be used, and its reserves are estimated at billions of tons of oil. This layer can be reached only with the help of special modern expensive equipment.

According to Alekperov, president of "Lukoil," oil production could begin declining even earlier if the tax system remains unchanged. The existing tax system does not encourage companies to develop new fields. According to Marcel Salikhov, head of the Department of Economics of the Institute for Energy and Finance, it is unprofitable for oil companies to engage in large projects, development of large fields, as ultimately the cost of oil, taking into account all the expenses, is very high, the project does not pay for itself and becomes non-feasible.

In Russia, the tax is based on oil extracted, and not the profits that the company receives. The Ministry of Energy has proposed to replace the export duty and mineral extraction tax (MET) with a profit tax (at 27 percent rate), or significantly reduce the MET. These changes would save companies from higher taxes in the beginning of operations, when there is no return on investment.

On July 10 the bill to enable differentiation of MET for tight oil reserves has been approved by the government. The bill provides for the establishment of different rates of mineral extraction tax that would depend on the size and the degree of depletion and reservoir permeability. In determining the rates the reduction factor of 0.8 will be applied. There is one clarification: the legislative provision does not extend to the entire deposits, but only individual reserves. The methods used to calculate the value of the formation permeability will be the responsibility of the government. The bill also stipulates that the government has the authority to determine export duty on tight oil.

Russia is one of the most significant world leaders in the production of oil, but traditional fields do not last forever, they are gradually depleted, and there is a need to find new large oil resources.

The British bank suggested a few other ways to avoid negative consequences for the Russian economy. The solution would be to increase taxes on "Gazprom" in particular, and on the gas sector in general; to increase allocations of "Transneft" as well as raise taxes on oil refining. Dividends provided by state oil and gas companies to the Russian budget in 2012, according to the HSBC bank, totaled 172 billion rubles. In 2020, this amount may increase significantly and reach 241 billion rubles.

However, there is a danger that the tax increase will lead to an increase in oil prices in the domestic market, which in turn will raise the cost of all products manufactured on the territory of Russia, therefore changes in the tax system must be very careful. So far it is unclear which path the government will take to avoid losses due to the possible decline in oil production. It is obvious that if the necessary measures are not taken, the adverse predictions may become a harsh reality. The authorities have seven years to implement changes.

Sergei Vasilenkov


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