Russia, Georgia, Iran, Ukraine all get connected

It is time to look back at previous posts and see what there is to see on the topics of the day, which apparently look to be a fledgling democracy that helped the US getting snuffed out by a tyrant.  Well, 'look' may not be the appropriate word at this point...

Still, we will head back in my past posts and start to examine the origins of these things, which will not start with Georgia or Russia, but Iran!  Chronologically they go first and looking at the problems there will help to give link-back to the current conflict.  That is not to say that the source of this is in Iran: it isn't.  Some of it goes back at least a thousand years or more to the ethnic groups moving through the Caucuses and that you can go back all the way to the last glacial period.  Luckily we will start with the problems that the Mullah's self-inflicted on Iran, and that starts with Iran's Oil Problem.  That spurred on some letters between myself and M. Simon at Classical Values and got us to the Oil Outlook on Iran.  From there a post at Instapundit by Glenn Reynolds on the decaying infrastructure of Iran as seen by Michael Ledeen at NRO, is all a part of much of the same work:  the Mullah's don't know how to keep a technocratic society going.  From that I will set the stage with one more post of my own on The shockwaves of 5%, where jihad meets economics.

Iran has got a problem.

It has a technically backward and socially retrograde ruling caste that has no comprehension of modern markets, modern technical infrastructure nor how to utilize one to affect the other.  Their attempts to coerce foreign producers into contracts, which then have a regime (not market) flexible pricing schedule means that you cannot forecast if anything gotten from Iran, as a company, will be higher, lower or at market prices.  Iran rewards those it likes, punishes those they don't and have been suffering an economic boycott first from the US and, lately, from Japan.  Japan took an extra step of telling *its* trading partners that it didn't look kindly towards those that support Iran.  What this has meant is that technical upkeep of the entire Iranian petroleum industry (natural gas included) has been slowly going to hell since 1979.  This has capped their oil output as no major marginal increase in oil production nor any new exploration has been run by the regime since that point in time.  It has all been private companies 'under the gun' at best, and in many cases that has not proven to be a good investment.

By subsidizing the use of gasoline and natural gas at far below market prices, these two were used uneconomically and increased the interior demand curve of them inside Iran.  When production is basically flat or on a very low marginal expansion rate, and domestic use soars the result is that the amount of difference between the production and domestic use diminishes.  This has a word associated with it:  export.

Now as Iran started out with incredible production vice its population, that could go on a good long time with no one noticing that the folks keeping the store had wandered off.  What this has meant is oil lost in the petroleum system inside Iran due to old equipment, leaks and inefficient refineries... very inefficient refineries.  Outside of normal natural gas deposits a prime way to get natural gas (one carbon atom with four hydrogen atoms called methane) is to crack longer chain molecules in crude oil at a refinery.  Lots of smaller carbon chains and single carbon atoms go flying off and these are lighter byproducts that can serve other uses.  So, beyond natural deposits, well run refineries can yield natural gas and that is a wonderful commodity on the open market and has ready buyers globally.  The main indicator for the refineries not being run well is not, immediately, natural gas but normal gasoline to put into your car.

Iran, if it had kept its refineries up to date and wasn't losing oil in them due to pure waste (inefficient methods to retain not only oil but its byproducts) should meet its internal market, even when it is subsidized.  This year Iran has had to start purchasing refined gasoline at world market prices and realized that a subsidy on *that* meant a net outflow of cash from the regime in this area.  Well, they had lots of money from the boom in the oil markets, right?

Consider that one of the best ways (and cheapest) to rejuvenate old oil fields is to re-pressurize the with a nice, stable molecule in that environment: natural gas.  The actual amount of natural gas has been declining for use in this area inside Iran for some years if not more than a decade.  We know this as after the Gazprom review of Iran's infrastructure in 2004-05 (and possibly longer) Gazprom basically said: 'forget about it'.  If a system is bad enough so that those having to tend to the old Soviet gas system in Russia don't want anything to do with it, then it is in horrific condition.  Further the only place that Iran could easily purchase natural gas was Turkmenistan.  Well, that had been going on for a long time and gas flowed easily...

Until this year, that is.

Starting in JAN 08 Turkmenistan had 'repair problems' in supplying Iran with natural gas, and it turns out the amount Iran uses is 5% of its internal market.  Yes, there has been a natural gas shortfall in Iran which it had been making up by purchasing natural gas from a neighbor.  I do have trouble imagining any petroleum exporting nation with refineries needing natural gas.  Or needing gasoline, come to think of it, given the size of the population.  Run the longer chain stuff through the refineries and aim at natural gas plus other light hydrocarbon gases.  I mean they still export oil, right?

Well, not up to the OPEC quota, no.  Iran actually has excess quota it has to sell to keep up with OPEC but can't meet the quota.  Hasn't been able to do that for awhile now.  Which meant the Saudis have been pumping like crazy to cover the Iranian shortfall because if OPEC can't make its target quotas, it soon becomes an unreliable part of the world oil market, and starts to seriously lose what market heft it has left.  Of course now Venezuela is having problems with that, too, but that is another story of another rising tyrant.

That then starts to get to the point of Micheal Ledeen's look at the Iranian electricity infrastructure which is going to hell.  Now one can posit that it is for the separation of radionucleotides, and get worried.  Another view, simpler and far more direct, is to ask: just how much of their system depends on natural gas fired electricity plants?  Even as a minor part of the infrastructure, say sub-5%, it is the first part to feel natural gas shortfall shockwaves when an outside supplier starts playing with natural gas pressure levels and amounts.  I expect the electrical grid in Iran is in about the same shape as its petroleum industry: not so good and decaying rapidly.  Now who would be playing with that natural gas supply?

To answer that requires going to the natural gas article I put up: Natural gas, crime and destruction.  One of the prominent figures trying to make the transition from the black/gray market criminal world to the gray/white market respectable world is Dmitri Firtash, who now runs Group DF (GDF).  He has been able to get control over a substantial natural gas network stretching out to the far western ex-Soviet Republics and has a particularly strong tie to the ruling regime in Turkmenistan, the place where Iran is getting its 5% of natural gas from.  GDF is the latest incarnation of a group that started way back when the Soviet regime collapsed and the first laws for moving natural gas around required that a foreign company receive Gazprom natural gas once it left Russia:  no subsidiaries or anything like that.  So a group of wily investors started up a company and proceeded to skim money from that into nefarious criminal organizations.  Russia didn't like that, ended that contract and let another one... which somehow saw the exact same people in charge of the exact same set-up under a different name.  Russia didn't like that and tried again, via Ukraine, to do this one more time and even offered a 'kitty sweetener' of $10 billion/year into the bargain.  The result was exactly the same, save the organization with ties into the blacker side of things now got a $10 billion/year bonus!

Actually, that is a pretty respectable thing to do: swindle Russia three times on the exact same deal.  And get paid for it, to boot!  Vladimir Putin has found that getting rid of this legislation is well nigh impossible because that money going *out* somehow influences things inside Russia... possibly through all those corrupt government ministers that showed up in the 1990's that can't be dislodged.  So, he has to bite the bullet and pay for the privilege of letting other folks move stuff through Russian held pipelines.  Russia does get its 'cut' but, really, to have to pay for it?

Now, lets say that you are in the natural gas business, have a huge pipeline empire full of goods that you are getting on the cheap through sweetheart deals with less than nice regimes.  Lets further posit you have a long term contract that isn't flexible to market prices with one customer and market price flexible contracts with others willing to pay a whole bunch more.  What do you do?  Pretty simple, really, stiff the inflexible, lower payback folks and sell to the higher payback ones, or just stockpile the stuff someplace.  And then hint that the low-cost contract and its folks might be able to get more natural gas if they would just pay a bit more...

You now have the situation of GDF being the centralized natural gas seller, Iran being the fixed and low cost payment group and all of Europe willing to pay double or triple that amount per cubic meter, and a huge supply of natural gas slowly filling the Ukrainian system and no one willing to pay the rent for it.  What a great deal!!  Notice how much Gazprom makes off of it?  Nada.  It gets paid for bulk movement through the Russian portion of the system.  At that point Georgia serves as a major conduit for GDF to consider *bypassing* the Russian portion and linking up with natural gas supplies through a lower fee for transport system in Georgia.  Which would cut out Gazprom from that portion of the system, although it would still have a part to play in other portions.  So long as some natural gas goes through Russia, GDF gets cash to run its supply end, and if it is just purchasing from Russia and leaving it to supply it to the Ukrainian border, so much the better.

Ukraine has been a problem for Russia as it has tried to sway things there and has found that others have more ability to do so than it does, as a number of oligarchs use the local industrial base to leverage assets in Russia ( as seen in my original Red Mafia article and After the fall of Trans World Commodities and neither of those is particularly short as they cover over a decade and an additional seven years, respectively, and are at best thumbnails of the activity).  Putin, then, has a major and increasing problem of being able to capture western Europe market share directly as the Baltic pipeline idea is bogged down, the central routes are barricaded by groups able to maneuver around the Russian bureaucracy better than he can, and to the south there is a geographical problem of not being able to have coverage to stop the flow of natural gas (and other things) via Georgia.

Considering the alternatives of trying to lobby Finland, Sweden, Norway, Latvia, Lithuania, Estonia, Poland, Germany, Denmark and a whole host of 'Green' groups to get a pipeline put in or paying for the privilege of having someone else work the European markets and getting paid in something less than hard currency or in turning off the spigot and trying to get that money train working to you, which would you choose?

Forget the northern route: it is years if not a decade or more away from getting someplace even if everyone agrees, and since there is such limited anchorage space in the Baltic Sea, that is unlikely.  Too many environmentalists in the West to allow that.

Having been swindled three times and now paying for the privilege of being swindled, trying to renegotiate a contract as things stand is out of the question: your own negotiators turned out to be in the pockets of the oligarchs last time just a few years ago.  The oligarchs have way more money and more readily kill anyone in the way than even Putin can do and he knows that.

That leaves taking over a small neighbor, ensuring that Iran can get supply from Gazprom systems (at market prices) and finally getting a transport system for oil, natural gas and other products that is under Russian control that heads to the West so that hard currency can roll in from it... and deprive an oligarch of 'extra' cash there. And as the new pipeline deal through the Bosporus Straits has been inked (Source: Global Insight), and it would be possible for Russia to consolidate all that lovely eastern flow into it... and you can finally cut out the worse of the oligarchs.  It starts with oil, of course, but natural gas is a part of it.

And a bit of a mess in Georgia?

If you are Vladimir Putin, this must seem a prime opportunity to stiff some folks, get some real cash flowing in, remove some middlemen and consolidate trade clout.  Just one little problem:  Georgia is damned rugged country and prime for mountain warfare, and the last time a large-size Russian force tried that was a little place called Afghanistan.  I've written about Mountain warfare and what it takes, and it isn't about tanks, aircraft or lots of troops.  It is about skill, cunning, knowing the terrain and tenacity to fight without much help from anyone. 

Taking Georgia is one thing.

Holding it is quite another.

Especially as 20% of their armed forces have been trained by the US.  And as we have been reminded there is more to Victory than just 'winning'.