Vlad the Impaler

Obama may have canceled a summit, but when it comes to power politics there's only one master.

It's official: President Barack Obama showed President Vladimir Putin his tough side by canceling out of the bilateral summit in Moscow. In yet another of those carefully calibrated messages the "realists" in the White House commend themselves for sending, the leader of the Free World will not give Russia's leader the benefit of His Grace one-on-one (oh, but he'll still participate in the St. Petersburg G-20 summit).

What a bold move. Except for the fact that Putin has little to gain from a bilateral summit with the United States just now. What are the deliverables Russia could expect from a face to face? There are no policy issues ripe for agreement. Putin could expect to be harangued by Obama about Edward Snowden (we extradite criminals to you without a treaty), Syria (end your lucrative defense supplies and use your influence with Assad to create an outcome you don't want and set a precedent you may suffer from), visa liberalization (not after Boston), gay rights ("I have no patience for countries that try to treat gays or lesbians or transgender persons in ways that intimidate them or are harmful to them"), and nuclear reductions (a safer world is in all our interests even if it takes away your only military leverage). Who wouldn't want to skip out on that meeting?

Putin may well benefit from discomfiting the American president, but he achieved that only weeks ago at their bilateral meeting in Ireland, where news stories carried pictures of tense, dissatisfied expressions and stories of stalemate, and in the granting of asylum to Edward Snowden. No need to stoke those embers again so soon, especially if Obama might step on Putin's preferred story line that by granting asylum he's preventing Snowden from revealing damaging information about the United States. Putin might like to play up supposed American hypocrisy, but you can't fault his understanding of realism: the man has an unapologetic insistence that goals come before morals. 

There is nothing now that Putin seems to want that Obama can give him. Or, to put it differently, the things Putin wants Obama has already given him: a de facto veto on American policies, from Syria to missile defenses, and quiescence on Russia's authoritarian descent. The Obama administration has compromised a core U.S. interest -- the ability to take action unilaterally or with like-minded allies -- in return for Russian cooperation on second-order issues like Iran sanctions (which should be just one element of an Iran policy). Realists would never make that trade. In classic liberal fashion, Obama is constraining American power by rules and norms to which all states could be subjected.

The reason President Obama's Russia policy is on the rocks is that the White House pretends to be realist but acts like a liberal. It hesitates to acknowledge the legitimacy of Russian interests, perseveres in policies that are not achieving results, and refrains from using power to deter or punish actions contrary to U.S. interests. All the while it earnestly explains why what it wants is what Russia should do, when Moscow clearly believes that preventing Washington from achieving its aims is a central goal.

Why has Russia policy gone so wrong? Not for lack of effort or desire for a fresh start. The Obama administration rightly set out in 2008 to refashion U.S.-Russian relations, which were in a dismal state after years of mutual disappointment and creeping authoritarianism in Moscow. One of the benefits of changes in government is a routine reevaluation of policies and the sense of a new beginning. President Bill Clinton tried to build a solid partnership with President Boris Yeltsin. President George W. Bush, too, took his chance, saying after his first early meeting with Russia's leader that he had looked into Putin's eyes and could see his soul.

The Obama administration put talent on the team for this problem: Mike McFaul is both a serious scholar of Russia and an ardent advocate of democratization who, before joining the Obama campaign, had run an important study of the opportunity cost to the Russian economy of Putin's governance. In showing quantitatively the ways authoritarian policies inhibited economic growth, the study up-ended Putin's argument that his policies were responsible for increased Russian prosperity. 

But, of course, McFaul is a poor choice of advisor to the president and plenipotentiary to Moscow if getting along with Putin's Russia is the administration's aim. If realists were actually in control of Obama policies, he wouldn't have been nominated. Belief that our values are universal -- that all people deserve and yearn for freedom -- and can take root even in the Russian tundra would have been disqualifying. No amount of private correspondence and Tom Donilon's shuttle diplomacy makes up for it.

Liberals are ignoring an important reality about Putin's Russia, which is that he has the consent of the majority of Russian people. According to a Pew poll, 56 percent of Russians report themselves satisfied with the outcome of the presidential election that swapped Medvedev and Putin. Seventy-two percent of Russians support Putin and his policies, a level of public endorsement Obama can only dream of. Fifty-seven percent of Russians consider a strong leader more important than democracy; a 25 percent margin over those who believe democracy is essential. And by a margin of 75 percent to 19 percent, Russians consider a strong economy more important than democracy.

Much as we might hope Russian reformers force progress, American policies need to acknowledge that Russians are mostly satisfied with the governance they have (and thus get the one they deserve). The Pew polling indicates that economic growth and social mobility are the bases of Putin's public support. And unless Washington can craft policies that affect those variables, it ought not expect the Putin government to be responsive to our appeals.

The Obama White House likes to think of itself as full of foreign policy realists. But realism, as it exists in international relations theory, has three main tenets: 1) power calculations as the metric of importance in understanding state behavior; 2) willingness to discard policies that are not advancing one's interests; and 3) the willingness to use one's advantages to threaten and enforce preferences on other states. For all their pretensions to realism, the Obama administration does none of these three things well.

The White House has been willing to sacrifice some U.S. interests and allies for the cause of U.S.-Russia comity. It refuses to intervene in Syria or anywhere else without a United Nations Security Council resolution. It cancelled the anti-ballistic missile deployments to Europe that NATO had agreed to. And it has prioritized issues to some extent, placing cooperation on Iran sanctions above European missile defenses and continuing to pull Georgia westward. But the administration has allowed lesser events like Libya, where we were duplicitous in gaining Russian consent for U.N. action, and half-hearted endorsement of congressional activism on the Magnitsky Act to foster Russian resentment.

Moreover, the compromises the Obama White House has made are consistent with the administration's overall policy preferences: avoiding foreign interventions wherever possible, and putting "diplomacy" before security on missile defense. But a better test of realism is when it requires compromising core tenets of either principle or policy. Handing over Syria's rebel leadership so Assad can consolidate his grip and "end the human suffering" of that civil war would be a realist move. Or, on the flip side, agreeing to write off Georgia's western aspirations for Moscow allowing a U.N. intervention in Syria would be a realist move. Or, on the flip side of the flip side, arming Caucasian separatists to aggravate Russia's security problems would be a realist move.

Putin has an economy seemingly incapable of diversification, dependent on high oil prices and current demand levels. And, like China, it has a public that's politically quiescent as long as standards of living are rising fast. But these are major weaknesses that Washington either doesn't want to seize upon, or doesn't have the ingenuity to figure out how to affect. Add to these the debilitating brain drain of technologists and creative types, business practices that are unlawful and predatory, and a foreign policy that's seen -- not just by the United States -- as bad guys keeping bad guys in power, and you have a choice of levers.

Instead of a Nixonian ruthlessness that presses our advantages or identifies common interests and sells off issues (and allies) of lesser importance to achieve them, the Obama administration has become a continuation of the Bush administration in Russia policy: a bossy liberal, condescendingly explaining to Moscow that if only they understood their true interests as we understand their true interests, they would adopt our policies.

But Putin has already made his own pivot, disavowing the values on which "Western" (by which is meant free) societies are based, and the Russia people are willing to permit it. President Obama may think he's sent a tough message to Putin that actions have consequences, and that keeping Snowden means a cold shoulder -- but when it comes to playing the realist chess game, he's got a lot to learn from grandmaster in Moscow.



Oil Kingdom

Shale is the new peak oil, and that's why Saudi Arabia still rules global energy markets.

Reading the newspapers these days, you'd think that the much-hyped impending American energy boom is about to make Saudi Arabia and the rest of OPEC irrelevant. Recent projections by the International Energy Agency (IEA), for example, have the United States surpassing Saudi Arabia as the world's top crude oil producer by 2020, a development that would appear to call into question the kingdom's role as the world's strategic energy provider. But such projections -- based, at least in part, on the rapid discovery and development of unconventional hydrocarbon resources in the United States -- are far from ironclad. Indeed, they are built around numerous variables that could change over time, and which hardly foretell the end of Saudi Arabian energy dominance. Just as the "peak oil" debate falsely predicted that worldwide oil production had reached -- or very nearly reached -- its peak overall production, the shale oil debate is steering public opinion to the opposite extreme.

Even the IEA acknowledges that both future sources of additional crude oil and price remain big unknowns. As the IEA's chief economist, Fatih Birol, noted in November 2012, "light, tight oil reserves are poorly known... If no new resources are discovered around the world and plus, if the prices are not as high as today, then we may see Saudi Arabia coming back and being the first producer again." The U.S. Energy Information Administration, meanwhile, predicts that U.S. crude oil production will peak in 2020, placing the United States 47 percent below the IEA's projections.

Thanks in no small part to new hydraulic fracturing and horizontal drilling technologies, "tight," unconventional oil trapped in rock and sand beds is becoming more and more accessible. These improved production methods are having a major impact on the U.S. energy supply, contributing to a 43 percent increase in U.S. oil production since 2008.

Many questions remain unanswered about the U.S. unconventional oil story that could have long-term, transformative effects on global oil markets. For example, global demand would have to decline substantially -- especially in emerging Asia -- in order for U.S. supplies to become omnipotent. The impact of the U.S. unconventional story hasn't depressed oil prices, which have been fairly resilient to date. Moreover, the IEA's expectation that North America will become a net oil exporter by around 2030 depends on how much crude oil is produced not just in the United States but also in Canada and Mexico. Under the IEA's highly optimistic forecast, the United States might surpass Saudi Arabia in liquids -- though not crude oil -- production for a brief period. Even then, an increase in self-sufficiency won't necessarily eliminate America's need for imports. OPEC's reaction and member cohesion will impact the way global markets respond to U.S. developments. Technological diffusion can also influence the rate of non-OPEC oil supply.   

Demand will ultimately determine America's appetite for oil and energy at large. In order for the country to become less reliant on imports, demand will have to continue to decline due to efficiency gains. To date, however, there is little indication that this is happening. Middle East oil exports to America, especially from Saudi Arabia, were higher in 2012 than at any time since U.S. tight oil production began its upward trajectory in 2009. Perhaps more importantly for American consumers, unconventional oil might not necessarily lead to lower prices at the pump. Besides supply and demand dynamics, oil prices are also determined by global geopolitical events. 

Yet another reason to be skeptical of the projected impact of unconventional oil in the United States is the sharp decline rate of shale oil fields. More than 80 percent of American tight oil production comes from two sources: the Bakken formation in North Dakota and Montana and the Eagle Ford formation in southern Texas. But decline from a typical Bakken well is steep, with production slumping to one fifth of its original rate within 24 months. The Eagle Ford wells, meanwhile, could reach the end of their economically useful life within four years. As a result, oil guru and hedge fund manager Andy Hall recently predicted that U.S. shale discoveries will boost production only temporarily and that oil prices will remain high.

Saudi Arabia's role as the most reliable global oil supplier, meanwhile, is unquestionable. The kingdom has repeatedly helped to stabilize the global oil market and keep prices down by increasing its own production -- first in mid-2011 to offset supply shortfalls from Libya and again in early 2012 in response to tensions between the United States and Iran. At that time, Saudi Arabia increased oil production to a 30-year high of 10 million barrels per day. This followed earlier efforts to offset supply shortages during the Gulf wars in 1991 and 2003, and the 2002-2003 Venezuelan general strike. Currently, Saudi Arabia has a total capacity of 12.5 million barrels per day, and between 2.5 and 3.5 bpd in spare capacity to meet global energy and supply shortage needs. Saudi Arabia accounts for over 50 percent of global spare production capacity. In other words, U.S. shale oil is far from displacing Saudi Arabia's role as the world's de facto strategic petroleum reserve.

But even if Saudi Arabia is safe atop the global energy food chain, it will need to undertake substantial reforms in the coming years. For the most part, Saudi Arabia has managed its oil wealth sensibly and prudently. Within just two decades, it has seen an impressive improvement in many of its human development indicators. Its dependency ratio -- the ratio of working-age people to non-working-age people -- has dropped from 79 percent in 1990 to 49.5 percent in 2011, a figure that is below the OECD average. Likewise, between 2003 and 2012, per capita GDP increased 250 percent, while the economy expanded close to three and half times. 

But the future of the kingdom hinges on its ability to curb its domestic appetite for energy. That oil bears the brunt of government and export revenues is undeniable. Encouragingly, however, the contribution of oil to the country's GDP is falling -- from 65 percent in 1973 to under 30 percent last year. Still, Saudi Arabia will have to cut down on domestic consumption in order to preserve its export capacity. Over the last few years several observers, first and foremost Saudi Aramco CEO Khalid Al-Falih, have alerted the world to Saudi Arabia's alarmingly high rate of domestic oil consumption

On an annual per capita basis, Saudi Arabia's consumption is twice that of the United States and around four times that of Germany, which has an economy that is five times the size of the kingdom's. Energy use per head is also rising, and between 2000 and 2010, domestic oil consumption jumped by around 30 percent -- a considerable opportunity cost for Saudi Arabia. In 2012, 22 percent of total Saudi oil production was consumed domestically, where heavily subsidized fuel encourages energy profligacy.

The situation in the kingdom is worrisome, but fixable. The United States faced a similar predicament prior to 1973, when energy consumption was growing at a rate of more than 3 percent annually. Following the oil prices shocks in the 1970s, the economy became more energy efficient and energy consumption post-1973 grew at less than 1 percent annually. Saudi Arabia appears to be taking similar steps to improve efficiency. For example, 2010 saw the establishment of the King Abdullah City for Atomic and Renewable Energy, as well as the involvement of Saudi Aramco and the Saudi Center for Energy Efficiency in efforts to help foster a national debate about reducing costly energy subsidies and directing them to those most in need.

If Saudi Arabia is indeed going to rise to the challenge, however, it will need to adopt price incentives that alter the mindset inside the kingdom. Already, a public transport strategy -- including a metro and bus system -- is being implemented in major urban areas and power production is becoming more efficient. Still, more is required. Efficiencies at the household level are a must, since that is where around 55 percent of all electricity is consumed (mostly on air conditioning). In particular, energy-saving homes should be standard, since around 70 percent currently have inadequate insulation. Oil consumption could also be reduced through aggressive adoption of renewable energy sources like solar, where Saudi Arabia's has a comparative advantage.

But time is running out for reforms. According to Fitch Ratings, Saudi Arabia's breakeven oil price, the price at which oil revenues cover the cost of expenditures, has spiked from just over $40 per barrel in 2008 to $76 per barrel in 2012. And if public spending continues to rise at the present clip, the breakeven price will soar to unsustainable levels. Saudi Arabia could curtail expenditure at a breakeven price of $50 per barrel and still address all its public sector wage obligations and adhere to a conservative spending program. If oil prices drop to $80 in 2014, existing surpluses would be sufficient through 2030, and last far longer once expenditures taper off in accordance with medium-term stated spending targets. The kingdom does have considerable breathing room on account of its net foreign assets, which are close in size to its $711 billion economy in 2012. These are enormous fiscal buffers that can be deployed should the government want to smooth expenditures over the medium term.

Some analysts have gone as far as forecasting a possible oil shock on the order of the 1986 glut, when prices dropped from $27 per barrel to below $10 per barrel. But the likelihood of oil prices dipping to $50 a barrel in the coming years is low because the era of cheap oil is most likely over. Much will turn on demand, which is set to grow to between 100-112 million bpd by 2035, from just over 89 million today, according to the IEA and the EIA, respectively. The marginal cost of oil for the 50 largest oil and gas producers globally, meanwhile, has been increasing by 11 percent year-on-year -- in line with historical trends. Currently, the marginal cost hovers around $100 per barrel. The claim that prices will be pushed down by alternatives to oil in the transportation sector -- such as compressed natural gas, methanol, and electricity -- might be true, though these alternatives have been around for a long time and they all have their drawbacks. However, Saudi Arabia's oil policy objective is not high prices at any cost in order to fund its fiscal obligations. Fiscal discipline can be applied when necessary without imperiling the country's development needs. The U.S. energy boom is positive and transformative for all, but unlikely to power a shift from a global energy scarcity to a paradigm of plenty.