While many were paying attention to the ISIS attack in Belgium, there was one bit of foreign policy news that went relatively unnoticed last week: the Russian tax regime, specifically with regards to petroleum. While the Russian government decided to reduce its oil export duty by 9 percent in December, it looks like the Russian government is eyeing the oil industry once again. The problem is that the proposed budget for the Russian government, which is supposed to be amended in April, assumes oil prices at $50/barrel when they're still stuck at around $35/barrel. Russia's budget deficit for 2016 will be at 3 percent if oil prices remain at $40/barrel. The New York Times (NYT) actually put out a very interesting article on the topic last week, which is worth the read. But let's ask ourselves: why should the world as a whole be concerned about Russia's budgetary shortfall?
Since oil prices started to drop in 2014, Russia has been in a recession. The International Monetary Fund (IMF) predicts that Russia won't pull out of the recession until 2017. While such factors as economic sanctions, stalled structural reforms, and weak investment that contributed to Russia's economic downfall, declining oil prices are particularly significant here because oil revenues account for about half of Russia's federal budget (IMF, Article IV Consultation, p. 10). Oil prices notwithstanding, the Russian economy isn't doing so well these days. Although Moody's rated Russia's Ba1 credit as stable back in December, Moody's is now looking to downgrade Russia further into junk bond territory. Fitch is presently the only major credit rating entity that keeps Russia out of junk bond territory, which doesn't bode so well for Russia.
Per the NYT article, the Russian government is looking to tax the funds that oil companies use to invest in future oil production. This source of money was once considered sacrosanct, but desperate times call for desperate measures. Russian oil companies are currently making about $3 profit on a $35 barrel of oil, which is less than 10 percent of a profit margin. The Russian Ministry of Energy leaked a study saying that Russian oil output could decrease by half of the current level by 2035. The Russian oil market is worrisome, and doesn't show immediate signs of amelioration. If the Russian government gives into temptation, it would only be shooting itself in the foot. Much of Russia's current oil deposits are running out, and Russia cannot automatically rely on an increase in oil prices since, according to the U.S. Energy Information Administration, an excess of global oil supply will remain through much of 2017. In order for Russia to continue with its oil glut, it would need to use more unconventional methods of offshoring and shale projects. The problem with that is that heavy capital investment is required for such operations to take place. If the Russian government manages to undermine its oil production with onerously high taxes, it will only accelerate Russia's financial woes.
Let this once again be a lesson that you can't tax yourself into prosperity. If anything, it looks like Russia will tax itself into financial ruin. The Left-leaning Vox plays out some of the more drastic, but nevertheless plausible scenarios: decreased military spending, cuts in social services, or even make up for the weakness by overcompensating via a more proactive military. Assuming the Russian government takes the expedient option, we will see Russia slip into an increased irrelevance in the greater world politik. The Russian people will certainly suffer as a result, but if we are to glean one thing from these trends, it's that Russia is declining into a territory that will put it far out of reach from its heyday of the Cold War era.
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