Calling it a “crisis” would be an understatement. Across Latin America, several state-run oil companies that thrived during last decade’s commodities boom are now hemorrhaging billions of dollars a month, seeking emergency funds, laying off workers — and facing fundamental questions about what their future should look like. Following the sustained plunge in global oil prices, Mexico’s Petróleos Mexicanos (Pemex) reported $32 billion in losses last year, Brazil’s Petróleo Brasileiro (Petrobras) lost nearly $10 billion, and Venezuela’s Petróleos de Venezuela S.A. (PDVSA), which does not publish financials, has stopped paying oil service providers to the tune of $20 billion. Possible defaults loom.
The status quo is untenable. As a result, some governments are starting to make changes — loosening the control that state companies have over the oil sector and opening to investment from foreign oil majors. Petrobras and Pemex are seeking joint venture partners, while PDVSA may give minority partners greater control over operations.
“All of a sudden, the relationship between the governments with their cash cows has completely reversed,” said Luisa Palacios of Medley Global Advisors, a consultancy in New York. “We’re now in a period where we’re more likely to see better terms for the private sector.”
The shift is worth exploring, for a number of reasons. First, it’s happening at different speeds, with different levels of enthusiasm from one country to the next. Second, it’s important not to misinterpret the underlying politics — for example, there is no mandate for a new wave of privatization similar to what Latin America saw in the 1990s. And finally, veterans are warily asking whether this is just another short-lived swing in the seemingly eternal pendulum between pro-market and protectionist policies in Latin America’s energy sector — and if so, whether it’s really worth buying into for the long term.
“If I go into a country where every five years the rules are going to change, I’m going to be more careful,” said Jorge Piñon, former president of Amoco Oil Latin America, which in 1999 merged with BP Plc to become the world’s third-largest multinational oil company. Now director of the Latin America and Caribbean Energy Program at the University of Texas in Austin, Piñon added that this is traditionally the greatest risk to oil investing in Latin America.
“Economic return, capital, technology — everybody understood those risks,” he said. “The fourth risk, the fourth main success factor, was political risk, and there was no one in that room who could guarantee the continuity that we would need. Whether it was Brazil or Venezuela, no one could say, ‘Yes, we’re going to have this set of fiscal and contractual terms for the next 15 years.’”
The Oil Is Ours!
To understand what will happen this time around, Rice University’s Francisco Monaldi suggested looking at what has historically driven oil policy shifts. He sees three factors: the price of oil, the pace of oil production and, to a lesser extent, political ideology. When prices and production are high, as they were in the 2000s, Latin America has veered toward nationalism in a bid to grab a greater share of the oil revenues. When low, as they were in the 1990s and again now, the region has sought private investment. Politics exacerbates these swings.
“All regions in the world move in these cycles,” said Monaldi, a fellow at the Baker Institute for Public Policy in Houston, “but Latin America is one of the few in which price changes dramatically led to changes of existing policy.”
Coloring that history is Latin America’s fierce protection of its underground resources. In 1940s Brazil, amid debate over the role foreign companies should play in the domestic oil sector, the public rally cry “O Petróleo é Nosso!” (The Oil Is Ours) helped spur the creation in 1953 of the country’s first state-owned oil company, Petrobras. When the company’s 44-year monopoly was broken in 1996, protesters could be heard again in the streets shouting, “O Petróleo é Nosso!”
The privatization of Petrobras represented the last big swing toward foreign oil majors as the region opened its energy sector, spurred on by low oil prices, declining production, and the open-market policies of the International Monetary Fund and World Bank (known as the Washington Consensus). In the 1990s, Venezuela ended PDVSA’s monopoly, while Argentina’s Yacimientos Petrolíferos Fiscales (YPF) privatized through a stock offering.
The Washington Consensus fell out of favor by the end of the decade, as repeated crises shook Latin America’s economies and governments failed to sufficiently address inequality and corruption. Anything resembling foreign intervention became anathema again, including in the oil industry, and the region turned back toward resource nationalism. In the decade to 2012, when oil hit a high of $145 a barrel and a “pink tide” of left-leaning governments were elected across Latin America, governments cashed in as nationalizations happened in Argentina, Venezuela, Bolivia and Ecuador. Brazil enacted protectionist regulations to ensure Petrobras managed deepwater oil fields.
Starved Cash Cows
Now, with oil prices down two-thirds since 2012 to about $45 per barrel as of May 2016, state companies are struggling once again to meet debt obligations. Mexico’s government recently injected $4.2 billion cash into Pemex to prevent the company from defaulting on its $87 billion debt load. Petrobras is this year selling assets worth an estimated $15 billion in an effort to stay current on its $126 billion debt. Colombia’s Ecopetrol reported a $1.26 billion loss in 2015. Annual profit for Argentina’s YPF halved to a mere $322 million.
The situation is exacerbated by a history of under-investment in infrastructure and exploration because governments have siphoned oil revenues to fund political projects. Oil production fell 0.2 percent regionwide in 2015, with the pain most acute in Mexico (down 7.2 percent), Venezuela (down 3.7 percent) and Ecuador (down 2 percent), according to Medley Global Advisors.
In the most dire situation is PDVSA, whose bonds are considered the riskiest emerging market debt, according to Medley. Venezuela is estimated to be spending 10 percent of gross domestic product just to keep PDVSA running — a huge change from when the company provided about half of all government revenues.
It’s not only the new wave of centrist and center-right governments that are making changes today. Bolivia’s Evo Morales — who nationalized the oil and gas industry in 2006 — in November approved a hydrocarbon investment promotion bill to incentivize oil and gas exploration. Ecuador’s Rafael Correa — who increased state control over the oil and gas industry in 2010 — last year approved new legislation to help create public-private partnerships.
“Voters are not thinking ‘I love privatization,’” explained Lisa Viscidi of the Inter-American Dialogue. “It’s a more pragmatic, economically driven change.”
Even Argentina’s former President Cristina Fernández de Kirchner — who oversaw YPF’s nationalization in 2012 — in 2014 began reopening the oil sector, including a hydrocarbons law that extended production terms and limited taxes. David Goldwyn, who served as the U.S. State Department’s coordinator for international energy affairs in the first Barack Obama administration, said he was “amazed” by Argentina’s quick policy reversal and ability to attract companies.
In Brazil, under interim President Michel Temer, Congress is expected to pass legislation that will relieve Petrobras of its exclusive rights to operate deepwater oil fields. And Mexico is in the middle of a national energy reform launched in 2013, with the country’s first-ever deepwater auction this December considered “the most attractive area in Latin America for international oil companies,” according to analyst Jason Fargo of Energy Intelligence.
Lasting Reforms
But will these investor-friendly conditions remain? For Rice University’s Monaldi, who has extensively studied and written about the cyclical nature of oil policy in Latin America, it is almost inevitable that the region will swing back toward resource nationalism.
“If the price of oil goes back to more than $100, I see countries like Venezuela, Brazil, Mexico becoming less eager to attract investment,” he said. “They might not nationalize fully, but they’ll increase taxes, be less willing to offer deals, go back to a bigger role for the national oil company.”
Yet there are also signs regional policy is swinging less wildly, according to Ramón Espinasa, chief economist at Venezuelan state oil monopoly PDVSA from 1992 to 1999. He noted that despite the nationalism of the 2000s, Venezuela maintained private investment in upstream oil projects while Brazil and Argentina kept Petrobras and YPF listed on stock exchanges, where they were subject to strict rules on financial reporting. A huge corruption crackdown at Petrobras highlights strengthening rule of law in Brazil.
The region is also adopting long-term safeguards on investment. Since 2003, Colombia, Brazil and Mexico have created independent hydrocarbons agencies. In 2012, Peru became the first Latin American member of the Extractive Industries Transparency Initiative (EITI); Colombia and Mexico have begun the process to also become EITI compliant. This needs to be embraced regionally, along with private investment and stable operational rules, for Latin America to realize its potential as source of a quarter of the world’s proven oil reserves.
“The political class as a whole realizes that this is best for long-term development,” Espinasa said. “Now the pendulum is swinging toward the center. It doesn’t have to be cyclical.”
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Kurczy is a special correspondent for AQ.
