In the aftermath of the Soviet Union’s demise, Russia saw its wealth get concentrated into
the hands of just a handful of businessmen.
These oligarchs, known as the New Russians, came to own over half of the Russian economy,
including its vast oil industry.
That’s why today we’ll learn exactly how this transition happened, especially in the
context of one of Russia’s biggest oil companies, Lukoil.
On Christmas Day in 1991, the president of the USSR Mikhail Gorbachev announced on national
television that he had resigned.
The bigger shock of this announcement was that Gorbachev would have no successor; instead,
the Soviet Union would be dissolved.
On the following day, the Russian flag was flown over the Kremlin and Russian president
Boris Yeltsin was now in power.
His vision for the future of Russia was one of drastic reforms; he wanted to transition
Russia to a free market economy as fast as possible.
With funding from the Bush Senior administration and the research from a Harvard University
think tank, Yeltsin put the Russian economy in shock therapy.
He removed price and currency controls, lifted barriers on international trade, but most
importantly he privatized the country.
Obviously in a free market economy you can’t have the state running major industries, but
Yeltsin didn’t have time to set up a proper infrastructure for the transition.
Instead, he opted for a very simple solution: Every Russian citizen was issued a voucher
that could be exchanged for shares in any recently privatized business.
The idea was for workers to convert their vouchers for shares in the company they worked
for, essentially getting regular people to benefit from the success of their chosen industry.
While the idea sounded good on paper, it was extremely easy to abuse.
Most Russians at the time had no concept of capitalism or shares in a company.
In fact, in the aftermath of 1991 people were happy to even get their wages with just a
few months delay.
Now these vouchers were worth the equivalent of about $30, which back then amounted to
one month’s wage.
So what happened in reality is that a vast majority of people immediately sold their
vouchers for cash, either to feed their families or to buy otherwise lavish luxuries like a
refrigerator.
Very few Russians in 1991 were both educated enough and rich enough to take advantage of
the opportunity these vouchers presented, and the ones that could ended up becoming
very wealthy, often through rather dishonest practices.
The oil company Sibneft, for example, stopped paying the salaries of its workers for several
months in a row because supposedly it didn’t have any money.
But the owner of the company, Roman Abramovich, was generous enough to offer to buy the shares
of the few workers who were smart enough to convert their vouchers instead of selling
them.
And just to be sure, some of the newly privatized oil companies issued more shares to be sold
privately in order to dilute the few stragglers that remained.
Of course, all of this was done through various shell companies so that regular people didn’t
know what was going on until it was too late.
So let’s walk through the whole process of becoming a billionaire Russian oligarch,
using as an example Vagit Alekperov.
He was born in the capital of present day Azerbaijan.
His father was an oil worker so he studied engineering and eventually moved to work in
Western Siberia, where large oil fields had been discovered in the early 1960s.
In 1983, he became director of oil production in a town called Kogalym, where he dramatically
boosted their output, from a few million barrels a year in 1983, to 240 million seven years
later.
He did that by integrating the three branches of the business - exploration, refining, and
distribution, which under the Soviet system were entirely separate.
His performance caught the attention of Moscow, and he was invited there to serve as deputy
minister of oil and gas.
Then he did what he knew best: integrating the oil business, but on a much more massive
scale.
When he realized that the Soviet Union was on its way out, he made great efforts to build
up favor with Boris Yeltsin, who in return granted Alekperov autonomy to consolidate
the Russian oil business in the most profitable part of the country.
That’s how he created Lukoil, as a merger of three big oil producers in the region.
Now under the privatization scheme, the state would keep one third of the shares, the workers
would get a third through the voucher system, and then the final third would be reserved
for outside investment.
Alekperov and the other oligarchs, of course, quickly bought out the workers.
They also got a chance to buyout the shares held by the government, when Boris Yeltsin
needed to raise money for his reelection campaign.
Despite the consolidation though, Lukoil’s production was still inefficient compared
to Western oil companies due to its declining Soviet-era equipment.
So Lukoil struck a deal to sell 70,000 barrels of oil per day to Chevron, and using the revenues
as collateral for a $700 million loan from a Japanese company.
With new equipment, Lukoil soared to record profitability, even in the midst of the oil
crash of 1998.
Of course, the main benefactors here are the oligarchs.
They’ve been doing pretty much everything they can to move as much of their wealth as
possible outside of Russia, mostly by purchasing stock in foreign companies and real estate.
As to what the future holds for Lukoil and the other Russian oil companies, the truth
is that they aren’t gonna disappear any time soon.
Oil remains the lifeblood of the Russian economy, even though prices have been low for over
two years now.
So essentially, the Russian oligarchs have many decades of oil revenue to look forward
to, while the Russian people, well not so much.
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