#Глазкова Н.Г., Землянская С.В. Recommendations for Improving the Effectiveness of Government Incentives and Politics of Foreign Direct Investment in the Oil Sector

Economic science 2. / Foreign economic activity

Candidate of Economic Sciences, Associate Professor Glazkova N.G.,

Candidate of Economic Sciences, Associate Professor Zemlyanskaya S.V.

Volgograd State University, Russia

Recommendations for Improving the Effectiveness of Government Incentives and Politics of Foreign Direct Investment in the Oil Sector

In 2014, Western countries imposed sanctions on Russia. Some of the restrictions affect one of the most important parts of the Russian economy – the oil sector. Sanctions apply to the exploration of deep-sea and Arctic oil deposits. They limit the access of Russian oil companies to modern technology and foreign loans.

Russian oil companies are heavily dependent on foreign technology – in fact, the sanctions affect 68% of imported equipment. Restrictions on the import of technology also extend to those spare parts that are not produced in Russia. Due to the sanctions Western companies have had to suspend their participation in projects intended for future oil production in Russia and cancelled their participation in exploration of new oil deposits and stopped providing modern technology for geological studies and for production of heavy oil [2].

Financial difficulties caused by the sanctions have reduced the interest of Russian oil companies in projects requiring major investments, e.g. in the Arctic or in deeper geological formations. Restrictions on foreign credit are forcing them to focus on increasing the productivity of existing oil deposits. However, such productivity increases requires the use of modern technology – which is provided by foreign owned oil service companies.

Restrictions have forced Russian oil companies to request help from the government or from financial institutions of those countries that have not imposed sanctions. In 2015 Russia's Industry and Trade Ministry's Development Fund granted low interest long-term loans to a few dozen industrial companies for import-substituting projects. Despite their announced plans Russia's government and businesses have not succeeded in starting or restoring the import-substituting production of required equipment for oil sector.

The impact of financial restrictions on the oil sector is already being felt as the scarcity of funds is forcing Russian oil producers to cut down planned investments which inevitably lead to the fall of production and export of oil and to the decrease of tax revenues. Experts estimate that in 2014-2017 the Russian economy will lose approximately 170 billion USD due to the combination of financial sanctions and cheap oil [3;45].

Restrictions on the import of technology will have a long-term impact. The existing equipment fleet enables Russia to maintain current production levels. However, with the increase of the share of heavy oil in production the demand for new technologies also increases. Due to sanctions Russian oil companies have to make do with existing equipment because of their inability to replace Western technology with domestic equivalents. Import from non-aligned countries or buying up Western companies with necessary know-how will not solve the problem for the Russian oil sector in the long run.

The current system of government regulation does not create reliable motivation of oil producers for constant technological updates, and does not stimulate the inflow of foreign direct investments in the sector.

The shortcomings of the government FDI attracting policy in the oil sector:

- the system of subsoil use restricts the activities of foreign investors in the oil sector;

- the taxation system does not stimulate investment in exploration and R&D;

- non- systematic policies of technological development [1].

Pic. 1. Problems of Russian oil-producing sector and its regulatory systems

In order to attract significant investment to develop the Russian unconventional oil reserves, it is necessary to create joint ventures with foreign companies, and to use production sharing agreements (PSAs), similar to those in Brazil and China, for stranded oil, as well as hard-to-reach fields located in difficult climatic and geological conditions.

However, to minimize negative effects the terms of the agreements should be carefully studied before contracts’ conclusion based on international investment practice. Implementation of high-risk and capital-intensive large-scale projects is possible only in the framework of companies’ syndicate that has access to international debt capital market. In turn, for foreign companies the PSA acts as the guarantee of investment regime stability. The implementation of the agreement leads not only to direct economic effects, but also to indirect effects.

Based on the Brazilian experience in the Russian legislation the following changes should be taken: to modify the fields’ inclusion criteria in the list of subsoil for development under a PSA; to alleviate restrictions on foreign investments; to allow Russian private companies develop the Arctic shelf.

The national tax regime based on the tax on mineral extraction, needed to be changed with the introduction of a single flexible system of taxation, based on the financial results of oil companies that will contribute to the creation of joint ventures with foreign companies. Also the mechanisms of special tax regimes for foreign investors should be implemented, taking into the account the key importance of oil and gas revenues for the Russian state budget. In the framework of the subsoil system, which is based on production sharing agreements, it is necessary to establish a differentiated system of taxation, depending on the production characteristics of the field, similar to the Brazilian tax system.

It is also possible to approve in the Russian legislation the list of encouraged, limited and prohibited activities for foreign investors, which can restrict foreign investment to such segments of oil production, where there is a shortage of modern high-tech equipment and highly qualified specialists [4].

Table 1

Recommendations for Improving the Effectiveness of Government Incentives and Politics of Foreign Direct Investment in the Oil-Producing Sector

POLICIES	EXISTING CONDITIONS	RECOMMENDATIONS
Policy of subsoil use	Licensing system of subsoil use (Federal law) Non-performing investment regime of PSA	The removal of barriers to concluding production sharing agreements The establishment of the concession system of subsoil use
Tax policy	National tax regime based on the mineral extraction tax and export duty The special tax regime is only valid within 3 PSA	The creation of a single flexible system of taxation under the national tax regime The creation of a differentiated system of taxation under the PSA
Limitations on foreign investors’ investment activity	Limitation of the companies’ activity in the strategic fields	The easing of restrictions for foreign investors on the development of strategic deposits The creation of a List of possible activities for a foreign investor only at high-tech projects
Policies to encourage FDI	Federal law «On territories of advancing socio-economic development in the Russian Federation»	The creation of the Chinese analogue of the list of encouraged, limited and prohibited investment activities Introduction of benefits to encourage the types of investment activities
Policy in the field of technology and innovation	Preferences for mineral extraction tax and export duty Exemption from payment of the VAT, land tax, property tax Preferences for import of equipment Policy for usage of domestic components and materials for PSA	The introduction of an additional tax revenue for the development of research and development The activation policy of the domestic components and materials use

Literature:

1. Arbatli E. Economic Policies and FDI Inflows to Emerging Market Economies [Electronic resource] // IMF Working Paper. – 2011. – August. – URL: http://www10.iadb.org/intal/intalcdi/PE/2011/08863.pdf

2. Dmitrievcky A.N. The fundamental basis of the oil and gas industry in Russia. [Electronic resource]. – URL: http://oilgasjournal.ru/2009-1/4-rubric/dmitrievsky-f-b.html

3. Katisheva E.G. The analysis of structural changes in the Russian oilfield services market // International research journal. – 2015. – № 5. – P. 44–46.

4. Sechin I.I. Report on the Summit "A New balance in the oil market and its implications" within the framework of SPIEF 2015. – URL: http://www.rosneft.ru/news/today/190620152.html