Ronald Reagan's Fear Of Energy Dependence On The Evil Empire

By: Andrew_McKillop

Destroy the Evil Empire

As a Hollywood B-movie actor Ronald Reagan never made it, but as a New Age politician preaching New Age economics he was so popular that in 1984 Reagan was triumphantly re-elected to a second and last term as US president. From at latest 1982, his first administration beat the drum on Europe's dangerous energy dependence on the Evil Empire (which was also known as the USSR).

At the time, one of the Reagan administration's major concerns was the rapid construction of east-west gas pipelines, mainly through Ukraine, bringing cheap Russian gas to Europe – after serving the Soviet dependent Warsaw Pact countries of eastern Europe, including Ukraine, which from 1975 essentially abandoned the development of its own, very large domestic reserves of gas. Also at that time, Soviet oil production was growing at a rate almost as fast as gas production, as oilfield E&P activity pushed eastward in Russia, from the Urals to Siberia, to the Arctic and the Pacific Far East. In large part due to oil transport and refining infrastructures being concentrated in western USSR, oil export to Europe was the prime market destination for rising Soviet oil output.

Moscow's major energy sector investment Alfa Bank (http://alfabank.ru) provides subscriber-only detailed studies on 1980-2014 policy trends and investment strategies in firstly Soviet, then Russian energy sector investment and development.

Almost certainly unexpected by the two Reagan administrations, the net result in Russia of Reagan's histrionic calls to destroy the Evil Empire, tub-thumped with his acolyte Mrs Thatcher of Britain, was a major shift of the dominant investment-development model of Soviet state planners, then private Russian investors, in the oil and gas sector. Using Alfa Bank's categories, the dominant model shifted from Soviet style to American style, but the two co-existed at the time and still co-exist.

The Soviet oil sector development model was slow-but-sure, high cost, and infrastructure-heavy. In the western Urals, for example, Soviet-era oil projects firstly developed roads, oil processing facilities, electricity supplies, water supply, telecom servicing, labor training and oilfield services, and others before moving on to the big push in field exploitation. The American model was almost the opposite, featuring the quickest-possible, infrastructure-light development of the easiest oil – reaping the low hanging fruit! Naturally the American model was cheaper, but field recovery rates as a percent of total oil in place were necessarily lower.

Only in the later-1990s did Russian energy sector planners and oil company chiefs start shifting back to the Soviet model as their dominant model. This means more upfront investment spending, also needing a high oil price for break-even. Soviet-era gas resource development was certainly affected by the oil-sector shift, to the American model, but through the period of about 1985-2000 Russia's gas sector had the non-problem of too much gas. Gazprom's basic resource-production model, today, still accepts a huge rate of gas loss, right through the production-transport chain. Gas losses, although Gazprom makes a point of not disclosing direct figures on losses throughout the production-transport chain to final users, certainly run at 15 – 20 billion cubic metres per year. Present gas prices for Ukraine now, and for west Europe due to oil-indexation are around $480 per thousand cubic metres.

The likely coming alignment of both oil and gas prices on world markets, on an ultra-basic metric of cost per unit energy supplied, will cause Gazprom to ease-off on gas production, and gas E&P.  Any significant fall in world oil market prices will also almost certainly cause Russian oil output to fall.

The Shift of Dominant Models

Gazprom's coming cutback in gas E&P, followed by gas production stagnation and then decline is we can say, almost cast in stone. Europe will for some while be unaffected but a shift away from Russian gas is highly rational – however not at all for political tub-thumping reasons. Taking only the Ukraine, its presently almost-ignored but very large domestic reserves of gas are a potential gas resource for future European supply. European shale gas resources are most certainly and surely large – but if the EU28 does not want to produce them “to protect the climate” (and import US-origin shale gas as LNG), or for any other claimed reason, that is Europe's problem.

From the mid-1980s, Alfa Bank studies document the results of phasing-in the American oil resource-development model and pedaling back on the Soviet model. With the American model, field output rates peaked rapidly, then fell away rapidly. Oil companies were forced to move on, stacking up their drilling costs while economizing on oilfield infrastructures. Adding in environmental damage from the American model, net overall cost-benefit tailed off rapidly as total costs rose.

In the gas sector, quick revenue gains from output-maximization strategies through operating the same American-type investment strategy, enabled massive downstream gas storage and pipeline transport construction to be funded. The negative side of the model was the net result of a fragile strategy of forced, constant and rapid production increases, with extreme-high gas losses becoming obligatory.

We can surmise these “technical details” were unknown, or at least uninteresting to the Reagan-Thatcher duo and their policy makers of the 1980s. Their ultra-simple reading of the changes under way in Soviet and then Russian oil and gas was the belief that the Soviet Union was maliciously intent on creating and maintaining energy dependence in Europe. In fact, any major cut in external demand for Russian oil or gas, today, will inevitably trigger a fast cutback in Russian energy-sector investment, production and export supply.

Politically of course, Russia can at that time be accused of “witholding production”, a politically powerful slogan used, for example, in the run-up to war against Iraq in 2003 and Libya in 2011. In other words, if Russia produces too much oil and gas it is a pariah – and is also a pariah when it produces too little! Nice logic, for the degenerate-minded.

Much more technical, the shift of models for hydrocarbons E&P strategy hinges on parameters such as gas-dominant, versus oil-dominant strategies. The ultimate example of the American model can be called the Spindletop Model (https://www.tshaonline.org/handbook/online/articles/dos03) where by 1902, this Texan oilfield had produced over 17 million barrels of oil – but very close to 100% of the associated gas had been simply vented to the atmosphere or burned. Oil was worth something but gas was worth nothing. The boom-and-bust was very rapid. Stripper wells on the Spindletop formation continued until the 1990s at typical rates of 5 barrels per well per day.

The coming shift of energy market trading – towards pricing on a highly transparent cost per unit of energy supplied, whether fossil or renewable – is long overdue. When it comes, this will have major impacts on world energy starting with a likely major drop in oil supply.

By Andrew McKillop

Contact: xtran9@gmail.com

Former chief policy analyst, Division A Policy, DG XVII Energy, European Commission. Andrew McKillop Biographic Highlights

Co-author 'The Doomsday Machine', Palgrave Macmillan USA, 2012

Andrew McKillop has more than 30 years experience in the energy, economic and finance domains. Trained at London UK’s University College, he has had specially long experience of energy policy, project administration and the development and financing of alternate energy. This included his role of in-house Expert on Policy and Programming at the DG XVII-Energy of the European Commission, Director of Information of the OAPEC technology transfer subsidiary, AREC and researcher for UN agencies including the ILO.

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