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The Energy Sphere as Integral Part of the Development Strategy 1. National Priorities in the Energy Sector After the Independence

“It is well-known that the economic prospects of any state are to a significant degree determined by the availability of its own energy resources”.147

Since 1991 the fuel and energy complex of the republic has experienced substantial changes.

It took one of the central places in the overall strategy of the reforms during transition to a market economy. By looking through some key works of the President I.Karimov to discuss the debates on economic reforms and prospective development in Uzbekistan, one may notice, how often a particular attention is paid to the role of the fuel and energy complex in this respect. What could stay behind these considerations? Why did the energy sphere become target priority for domestic investment after independence? Why was it so critical to place an emphasis on the development of domestic natural base and how was it implemented?

Better understanding of this issue will require from us to take a short look back at the Soviet past again. As mentioned, specialization of the republics played a significant role in the whole division of labor in the planned economy. I.Karimov writes: “...In such a system all matters, i.e. which region has to produce raw materials, which region should process them, and where finally these products are to be exported, was already pre-determined. Uzbekistan was supposed to be a supplier of cotton, gas, gold, non-ferrous and rare metals, fruits and vegetables... In other words, the role of Uzbekistan in such a closed system was so strongly defined that it was merely unable to leave it”.148

The Soviet policy imposed a strict control on main enterprises which were critical in Union’s terms, while the republic was left with those economic areas only which could not de facto provide its economic sovereignty. Natural gas produced in Uzbekistan was supposed to meet both the domestic and exports needs. Among the consumers of Uzbek gas were largely the republics of the Central Asian region (Kazakhstan, Kyrgyzstan, Tadjikistan), but also Russia and Ukraine. The existing gas pipeline from Bukhara to Russian Ural made it possible to transport gas to Siberia, while Turkmen and Uzbek gas were piped towards Saratov and

147 Translated by the author from I.Karimov (1997) Uzbekiston XXI asr bosagasida: havfsizlikka tahdid, barqarorlik shartlari va tarraqiyot kafolatlari. Extract from the collection „Uzbekiston – buyuk kelajak sari“.

Tashkent, 1998. p.633.

148 Translated by the author from I.Karimov (1993) Uzbekiston – bozor munosabatlariga otishning oziga xos yuli. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.363.

linked to the Russian gas pipeline system. Since the domestic gas producing sector in Uzbekistan was relatively developed in the Soviet times, most industries consumed mainly natural gas, with less share of other energy resources. Contrary to that, the population, especially in rural areas, mostly used coal for domestic heating, as the gas pipeline system in the residential sector was almost undeveloped.

As regards the oil and oil products, their most part was imported from other republics. The Centre was reluctant to invest into the development and exploration of region’s oil fields, which came as a result of the highly centralised system of management in relations with peripheries in the planned economy, as well as because of the availability of large-scale energy projects in Siberia. Yet throughout the entire period of the existence of the USSR the central authorities in Moscow might also have had keen interest in retaining key aspects of development under direct control in order to avoid any possibility for the region to be become self-sufficient and therefore be less dependent on the Centre and its decisions, although this had been never recognized by Soviet planners. In this sense, oil imports came mainly through the pipeline starting in Russian Omsk and going through Kazakhstan (Pavlodar and Chimkent) to Ferghana Valley, and with Turkmenistan as a final destination. In the early 1990s, energy resources were the second largest tradable product which amounted to 14,8%

of total export and 25,5% of total import of oil, gas and by-products.149 Against the background of total trade deficit, the republic recorded a deficit in trade with energy resources too which thus made the republic substantially bound on external energy supplies, especially on the oil imports. In particular, in the second half of the 1980s, the republic imported about 5,5 mln.tons of oil and oil products with that figure peaking at more than 9 mln.tons in 1991, while domestic production being at about 2,8 mln.tons in the last years of the USSR.150

In this regard, the question of what was behind domestic policy decisions to channel huge investments into the energy sector in the post-Soviet time needs to be scrutinised in a broader context of political and economic implications.

The idea of oil self-sufficiency became a dominating national priority in Uzbekistan very soon after the declaration of independence. The President I.Karimov wrote that “one of the main priorities of the first phase of economic reforms was to ensure speeding up the fuel and energy complex’s development, increasing oil and gas extraction. And in such a way, to

149 Magazine Economicheskoye obozreniye. No 8-9, 2001.

150 In the early 1990s, the republic remained net importer of coal and oil and oil products, while being net exporter of some amounts of gas and electricity. The net import for these products in 1990 was equal to 0.6, 9.5, -3.0 and –0.5 tons of oil equivalent, respectively, with total net import amounting to 6.6 toe. See also: Energy data bank of the ECO secretariat at:

http://ecosecretariat.org/ftproot/Publications/EnergyDataBook/Energy_Databank/Uzbekistan/uzbekhstan.xls.

safeguard energy independence of the republic”.151 Further according to him, through active government investment policy in the energy sector, one could reach a few, primarily economic results. First of all, the necessity of deep structural changes in the economy was reiterated with the energy sector having been assigned a critical role in the reforms. The Uzbek President noted that “it was very important to determine key links like oil and oil independence, as well as fundamental industries which could stimulate sustainable growth in the entire economy”.152

Secondly, such a policy entailed the rational use of foreign exchange by reducing the amounts of the imported oil. On the other hand, the development of hydrocarbons export could give an additional source of foreign exchange. The energy complex was one of the first spheres in which import-substitution strategy had been applied.

Thirdly, in terms of successful reforms, energy resources are critical for perspective industrialization of the country.

Fourthly, during the Soviet period Uzbekistan had experienced high dependency on imported raw materials, consumer goods, technology which were yet in shortage in the republic. From this point of view, “the reduction of the economy’s resource-oriented bias and the elimination of one-sided specialization of the economic structure as a result of monopolistic policy of the Centre... has the decisive significance”.153

Similarly this issue was not of purely economic significance. The sweeping political events on the Soviet arena in the early 1990s could not have influencing the inter-republican relations.

According to the President I.Karimov, economic transformation in Uzbekistan at that time was to be seen as integral part of a big national political agenda. Speaking about the results of the first phase of economic reforms (1991-1995), he specifically noted: “At former times we imported 4 mln.tonnes of oil. At present this import has been decreasing from year to year...

This is not only economic, but also a big political task”.154

A couple of years later, these discourses took an even more explicit form being then linked to the domestic national security tasks too. In particular, among the rhetoric debates on the necessity of stable transformation process in the frame of a new economic security concept in

151 Our translation from I.Karimov (1995) „Iqtisodiy islohotlarni chuqurlashtirich yolida“. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.192.

152 Translated by the author from I.Karimov (1995) „Iqtisodiy islohotlarni chuqurlashtirich yolida“. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.355.

153 Translated by the author from I.Karimov (1992) Uzbekiston oz istiqlol va tarraqiyot yoli. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.14.

154 Translated by the author from I.Karimov (1995) „Iqtisodiy islohotlarni chuqurlashtirich yolida“. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.320.

1990s, they could be seen as another effort to reinforce various aspects of just acquired independence: “Despite favorable climatic conditions, we imported sugar, milk ..., grain, meat, potatoes, spirt. Could this meet our requirements for national security ? We had even to import such primary consumer goods of daily use, like matches and salt.

Therefore, domestic production of strongly needed goods (and resources) is an important task in ensuring national security, sustainability and stability on the whole. This task bears both, economic and political meaning”.155

In one row with a national task to localize production of consumer goods in the years of independence, Uzbekistan placed an emphasis on import-substitution energy policy too. In Soviet time Uzbekistan was part of common transport and energy system. But after the collapse of the USSR, this system could hardly work as stable as before. On the one hand, Uzbekistan, being located in the centre of Central Asia, was linking the republics to each other. On the other hand, such a geographical location made the republic itself directly dependent on both the Russian energy resources, and on territories, the resources had to cross before reaching Uzbekistan. Against the background of political instability across the whole post-Soviet space, it was hard to rely on prudent economic and political relations between the states. Russia continued to supply energy products to the entire region, like to other ex-Soviet republics for some time after the collapse of the USSR. Yet, with prices for energy products in Russia moving towards the world level and in terms of growing claims to pay in cash for the products supplied, it became hard for importers to meet both of these conditions. Other suggested schemes of inter-republican trade, such as barter, could be even less negotiable due to the presence of inadequate price mechanism and the politicization of trade.

Uzbekistan was then strongly reluctant to be involved in any political blackmail which could arise spillover effect on the domestic political situation by declaring “mutual advantageous cooperation with any state in the world”. The President I.Karimov characterises this principle by saying that it is necessary “to take into consideration mutual interests drawing from own national interests. We do not want to find ourselves under the influence of any other state again. Uzbekistan has acquired its independence not for that to pass it over again to anyone else”.156

155 Translated by the author from I.Karimov (1997) Uzbekiston XXI asr bosagasida: havfsizlikka tahdid, barqarorlik shartlari va tarraqiyot kafolatlari. Extract from the collection „Uzbekiston – buyuk kelajak sari“.

Tashkent, 1998. p.582.

156 Translated by the author from I.Karimov (1992) Uzbekiston oz istiqlol va tarraqiyot yoli. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.23.

Hence there was an explicit bias towards less import dependency on consumer goods and raw materials, such as oil, construction materials and etc. in the new post-Soviet development strategy in Uzbekistan. Although official discourses regarded domestic macroeconomic stability to be a result of reasonable economic policies through the prioritised used of internal economic resources,157 those steps might have been an integral part of general actions to strengthen political independence too so that to somehow relieve the possibilities of external, non-economic by substance, pressure on the country. “Uzbekistan faces the threats of great power chauvinism and aggressive nationalism which among the other purposes intend to limit foreign economic relations of Uzbekistan through the creation of unequal conditions… There are some political groups on the post-Soviet space who are trying to destabilize situation in the region... They recommend to use the tools of the energy and transport blockade against Central Asia... This is a potential threat to the national interests and security of Uzbekistan”.158

In this regard, substantial investments were made after the declaration of independence both to discover new oil fields and expand domestic production in Uzbekistan. Subsequent growth in the energy sector was at average rate of 5,5% in the years of independence which mainly came from the increases in oil extraction (by 3,6 times), gas and condensate (over 2 times) and natural gas.159 By the mid-1990s, production of oil and gas in Uzbekistan had doubled, in 1994 alone – by 40%. Natural gas extraction increased by 5% in 1994. In 1995, production of oil and gas condensate and gas increased on another 37% and 3%, respectively, over the previous year, and totalled 7,6 mln.tons and 48,6 m3, respectively.160 The national output of petroleum products – gasoline, diesel fuel, oil and lubricants, as well as jet fuel – expanded considerably. This virtually eliminated the need for fuel imports as a primary resource for power generation and consumption in the industrial sector.

Uzbekistan has also ramped up its gas production by nearly 50% since the early 1990s and reached the level of 57,5 bln.m3 in 2003.161 On the contrary, although coal marks the second largest reserves in the region, comparing to oil and gas, its production and consumption have

157 By the mid-1990s, macroeconomic stabilisation and economic growth in Uzbekistan in 1996 (1,6%) was mainly explained by the continuous supply of domestic resources, primarily energy resources (oil and gas). See in: Uzbekistan. Five Years of Independence: its Own Path of Development. 1996-1997.

158 I.Karimov (1997) Uzbekiston XXI asr bosagasida: havfsizlikka tahdid, barqarorlik shartlari va tarraqiyot kafolatlari. Extract from the collection „Uzbekiston – buyuk kelajak sari“. Tashkent, 1998. p.467.

159 See: R.Zakhidov „Mirovye tendentsii proizvodstva i potrebleniya toplivno-energeticheskih resursov i energetika Uzbekistana (The World’s Trends in Fuel and Energy Resources Production and Consumption, and Energy Complex of Uzbekistan) “. Report in the seminar on „The Energy complex of Uzbekistan in XXI century”. Ekonomicheskiy Vestnik Uzbekistana, No 4-5, 2001.

160 See: Uzbekistan. Five Years of Independence: its Own Path of Development. 1996-1997.

161Uzbekistan Hopes to Be Key Gas Exporter. http://www.interfax.com/com?item=Uzb&a=on&id=5762680

faced stable decline since the independence, largely due to shrinking state subsidies within the line of government priorities to gradually change domestic energy consumption in favor of gas, but also due to limited domestic funds to maintain production of all energy resources.

The production decline was thus about 40% from 1992 and stood at average 2,5 mln. tons in 2000-2003. (Table 3.1)

Table 3.1. Production of Energy Resources in Uzbekistan, selected years

Production 1980 1990 1998 2000 2002 2003

Oil (mln. tons) 1,33 2,8 8,1 7,5 7,2 7,1

Natural gas (bln.

m3)

na 36,67 54,8 56,4 57,7 57,5

Coal (mln. tons) 5,7 6,4 2,953 2,5 2,7 na

Electricity (mln.

kWh) na na 45,935 46,457 49,3 49

Source: EIU Uzbekistan Country Report, Uzbekenergo Joint Stock Company, Uzbekneftegaz, ADB, Bisnis

In general, energy policy began to play an important role in Uzbekistan after the independence. It was correlated with the capital-intensive industrialization policy and overall macroeconomic policy on domestic stabilization. National energy policy was expected to close the gap between rising demand on energy and oil products in terms of import-substitution industrialization on the one hand and secure energy supplies on the other hand.

Energy supply consisted mainly of energy products and resources imported from other Soviet republics, primarily from Russia. In attempt to hedge the economy against the risk of disruptions in energy supply, Uzbekistan made a stake on the development of local energy resources. Strategically, in terms of socio-economic and political turbulences after the collapse of the USSR, the desired task was implemented which was to minimize negative effects of these events by embarking on the way of the reinforcement of independence and therefore, leaving small space for any external source of potential instability to spread and fuel domestic processes. Against this background, the republic not only reached full self-sufficiency in coal and gas, but also became net energy exporter for the first time in its history in as early as 1994, and tried to further strengthen this position in the subsequent years.

3.1.2. Organization of Decision-Making in the Energy Sector

The whole energy sector and its related institutions are composed of a number companies and institutions which, to various degrees, take part in the decision-making process in the energy sector. They are: the Cabinet of Ministers (the Central government), the Ministry of Finance, the National Oil and Gas Holding company called Uzbekneftegaz (for the hydrocarbon

sector), the Stock Joint Company Uzbekenergo (electricity) and its legal entity Uzbekugol (coal), and other institutions.

The energy sector in general has been considered as a strategically important area by the government from the very outset. For this reason, all critical decisions, as to the industry structure, the form and content of sector regulation, pricing, the corporate structures of operational entities, privatization and private sector participation, including the establishment of joint ventures, investments into the development and exploration of oil and gas fields on the territory of Uzbekistan, are made at the highest level by the President and/or the Fuel and Energy Complex of the Cabinet of Ministers.162 The implementation of these decisions is delegated further to the respective agencies in the energy sector.

In 1992, the National Corporation of the Oil and Gas industry Uzbekneftegaz was set up as a fully government-owned company. Its main task was to preserve the former assortment of its products which involved the development of manufacturing technology for the petroleum products, such as gasoline, oil, lubricants, solvents and jet fuel formerly imported from the Soviet republics. In 1993, Uzbekneftegaz consolidated more than 260 enterprises in the oil, gas and oil refining industry previously submitted to Moscow. By a Presidential decree dated December 11, 1998, the national corporation of the oil and gas industry Uzbekneftegas was converted into the National holding company Uzbekneftegas as a legally founded joint – stock company of a public type, in which the state was to hold 51% of the company’s stock, with the rest 49% due to be sold to strategic investors. Yet the latter remained unrealised because of low attractiveness of the proposed investment package, as well as financial problems around the national company, currently embracing about 80000 workers.

On October 21, 2003 the Cabinet of Ministers took another decision directed on the improvement of the set-up of Uzbekneftegaz in order to increase sustainability and coordination between the oil and gas economic units involved into geological, exploration, transportation, processing and sales of energy products, as well as for better investment credibility.163 According to the document, the oil and gas decision-making structure is based on a three-tier vertically integrated system of the respective companies, although the policy-making level includes the highest level and a number of other non-energy state institutions (Annex 3.1). In our case, Uzbekneftegaz, as a first implementation tier company, controls and coordinates the whole activity in oil and gas industry both directly and through five other its

162 See for example: President Uzbekistana i Glava Gazproma Obsudili Sotrudnichestvo (President of Uzbekistan and the Head of Gazprom Have Disscussed Cooperation). www.uza.uz, 23 July 2003

163 See the Decree No 460 dated 21 October 2003 “On the Improvement of the Management Structure in the National Holding Company “Uzbekneftegaz”.

sub-units.164 The middle implementation tier consists of the two sub-levels: upper and lower, both report directly to Uzbekneftegas. The upper level includes the four joint-stock companies with 51% of stock are to be held by Uzbekneftegas, up 10% - for the employees these companies, 39% - for private investors, as well as a newly created general department as a legal entity. They include:

- Uzgeoburneftegazdobycha – oil and gas exploration, drilling and production, as well as processing of natural gas and recovery of gas liquids which emerged the reorganized Uzburneftegaz – drilling company;

- Uztransgaz – transportation of natural gas;

- Uznefteprodukt – oil products sales and distribution, also includes some petrol stations;

- Uzneftegazmash – manufacturer of oil and gas equipment.

- Uzneftegazsvyaz – general department for maintenance communications network.

The lower level embraces 3 specialized companies, one production complex and the two education institutions, and a specialized journal. In particular, they are:

™ the open-type joint-stock UzLITIneftegas (25% owned by Uzbekneftegas)

™ the open-type joint stock Uzvneshneftgaz – foreign relations;

™ UzVCh (company deals with safety and security issues), its stock are fully owned by state, but managed by Uzbekneftegas;

™ the Shurtan gas and chemical complex (the largest gas production unit in the country);

™ the Bukhara college on Oil and Gas Industries, the Ferghana oil college – the two regions with the main Bukhara and Ferghana oil refineries;

™ the Editorial Board of Oil and Gas in Uzbekistan Magazine

The lowest-tier subsidiaries are dealing with the construction issues mainly on a regional basis. All of them are open-type joint-stock companies, yet strongly linked with the top level management and control in Tashkent.

This is a new structure developed in close cooperation with an International consortium headed by French Investment Bank BNP Paribas. It has been significantly improved and simplified comparing to the previous one. The number of intermediary units was reduced

164 If the Cabinet of Ministers were assumed to be the highest level de-facto involved in decision-making, there would be a four-tier system. However, formally the organizational structure is made up of the companies directly involved in the oil and gas industry where Uzbekneftegas is considered to be on the top.