Unprecedented visits and high level political and business meetings have been followed by signed agreements worth billions of dollars. It is worth taking a closer look at recent developments to understand what is behind these trends and what to expect in the future.
It may be surprising to learn that the USSR was the first country to establish full diplomatic relations with the kingdom now called Saudi Arabia. This happened in 1926, and since then many changes have occurred inside and outside of both countries making their relationship rather volatile. For decades, Saudi Arabia has moved away from the Soviet Union / Russia, especially during the Cold War. Differences in geopolitical outlook still persist now but the two governments are trying to compartmentalise them and find areas where cooperation is possible. A thawing of tension has been noticeable since King Salman assumed the throne in 2015.
There are now clear signs of better cooperation between the two countries. In 2015, the Russian Direct Investment Fund and the Public Investment Fund of Saudi Arabia agreed to invest up to USD 10 billion in various joint projects. On the other hand, a Russian sovereign wealth fund RDIF and a few large local investors have promised their participation in the upcoming IPO of Aramco. In October, 2017 the Saudi King made the first ever visit to Russia to discuss partnerships in the fields of energy and defence. Agreements have been signed to begin supplying a variety of military and other products and technologies from Russia amounting to USD 10 billion. A large business delegation accompanied the King and they signed various agreements with Gazpromneft, Sibur and many other Russian companies. Later this year, the Energy Minister of Saudi Arabia was invited along with President Putin to launch the first LNG train. Built by Russian energy company Novatek, the first shipment of gas headed off to Petronas. Future loads may go to the Middle East as Saudi Arabia is looking to increase the volume of gas used as opposed to oil. However, possibly the most significant rapprochement between each other were made by the two countries in the area of oil exports.
Russia joined OPEC’s efforts to support the price of oil, and on November 30 it agreed to extend the oil supply caps agreement until the end of 2018. The country benefits from the agreement as it is able to accumulate more international reserves based on the excess of the actual market price of oil over the budgeted level.
Yet it was not an easy decision given the large oil companies’ recent investments in new upstream capacity. Both of the state-owned companies, Rosneft and Gazprom, have been increasing drilling in the last couple of years and have the potential to increase the volume of oil significantly. According to Citi Research estimates, the local oil industry expanded drilling by 14% in 2016 and by an expected 7.5% in 2017. Some in the Russian government are even blaming slower GDP growth on the OPEC agreement which restricts the volume of oil production. For Saudi Arabia, on the other hand, it is important to maintain the price of oil as it prepares an IPO of Aramco. Furthermore, its budget is now much more dependent on oil revenues than Russia’s.
Russia could use the partnership with OPEC as a way to get closer to traditional allies of the US such as Saudi Arabia. The timing could not be more favourable owing to increasing confusion around changing US political priorities, the growing strength of the shale oil industry and evolving disillusionment by the GCC within this organization. Russia could also benefit from expanding its trade with Saudi Arabia, which amounted to USD 492 million in 2016. Most of its exports are made up of barley and other agricultural and chemical products, and the country could potentially increase its sales of various grains, as well as gas and military equipment to the Kingdom. For example, Russia could easily satisfy its partner’s wheat demand given the water restrictions that led to a cessation of the crop’s cultivation in Saudi Arabia two years ago. Furthermore, expanding LNG output by Novatek could help to satisfy growing demand for gas there. Only 0.1% of Russia’s total foreign trade is with Saudi Arabia, so there is clearly more upside potential.
In summary, Russia and Saudi Arabia are unlikely to become close friends due to various historic, cultural and political reasons. There are too many issues on which the two countries look from opposite sides, with Saudi Arabia’s close partnership with the US being one of the strongest obstacles. Yet they could still profit from larger trading volumes and new joint projects in energy, agriculture and defence where potential economic benefits could be significant.