Latin American governments’ aggressive stance on oil persists, despite lower prices. But the need to court foreign capital may yet temper statist impulses

  • By Sid Verma
  • 23 Mar 2010
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On February 10, Venezuela’s president Hugo Chávez announced the country’s first oil exploration deal with foreign companies in over a decade.

“We don’t care about the size, or the ideology, of the government of their country,” Chávez said, referring to a consortium led by US oil major Chevron and Spain’s Repsol YPF, who will spearhead the project.

Less than three years ago, Chávez had instructed the military to seize oil operations in the oil-rich Orinoco region of the country. But his new-found liberal posture towards western private oil firms seems, at first blush, to fly in the face of his drive to establish “21st century socialism”.

Forced nationalizations and raids on energy companies have accompanied the socialist firebrand’s 10-year project, which has sought to ramp up social spending while – in theory – ensuring the proceeds of natural resource wealth are distributed equitably. Exxon Mobil and Conoco Philips are currently pursuing international arbitration for compensation over seized Venezuelan assets.

In contrast, the consortium last month pledged $15 billion of investment in the oil-rich Orinoco Belt. Further headline-grabbing deals with foreign oil companies are reportedly on the cards.

But Chávez’s new pact with the West is no road-to-Damascus conversion to free market liberalism. The Venezuelan president’s hand has been forced by market reality: oil prices collapsed from a high of $150 per barrel (pb) in July 2008 to $35pb a few months later, stabilizing more recently in the $70–80pb range. All bets are off on future pricing, analysts say.

So does Chávez’s courtship of foreign firms sound the death knell for resource nationalism in a world of lower oil prices?

Yes and no. “Chávez personifies the highly cyclical nature of energy politics in Latin America,” says RoseAnne Franco, senior Latin American analyst at PFC Energy. “In this new equilibrium of lower oil prices”, the power has shifted moderately in favour of oil firms, she says. “But don’t expect this to last in Venezuela if oil prices jump up.”


Such dynamics are well known. As commodity prices rise, energy producing states seek to boost their share of the windfall; when they drop, governments have traditionally relaxed contractual terms in favour of oil companies, in order to encourage investment and thereby boost production and oil revenues. Equally, if oil prices fall to precipitous lows or oil exporting governments face bankruptcy, politicians may expropriate oil proceeds to shore up the public coffers and, thus, their hold on power.

In the seven-year surge in global oil prices, energy nationalism reached new heights among Latin American oil exporters, says Paul Isbell, energy researcher at the Inter-American Dialogue, a Washington-based think tank. “The most violent, extreme and confrontational strain of state nationalism has occurred in Latin America, not Russia, Africa or the Middle East.” He cites the seizure of assets of foreign oil companies and pro-cyclical revisions to contracts by the governments of Bolivia, Ecuador and Venezuela in the commodity bull run.

But the bursting of the commodity price bubble is not the end of the road for energy nationalization, says Mark Weisbrot, co-director of the Center for Economic and Policy Research. He argues the global crisis has boosted the legitimacy of greater state control of the energy sector while discrediting any moves towards resource liberalization in the region.

“Although prices may be cyclical, the shift to the political left is a structural one, driven by the failures of liberal economic orthodoxy to address poverty over the decades, while the financial crisis has confirmed the moral failure of free markets.” Although oil prices have moderated from their giddy heights, stronger state control of resources is here to stay, he argues.

But the risk of regulatory uncertainty in the energy sector across Latin America looms large. For example, Ecuador’s left-wing president Rafael Correa has demanded oil companies surrender profit-sharing contracts and comply with fixed-fee oil service contracts. Then, on March 3, Correa was forced to extend the deadline for negotiations with international oil firms by one month to the end of this April, as firms contest the proposals.


Magdalena Barreiros, a former Ecuadorian economy minister, says commercial realities will force the president to soften his anti-market stance. “Ecuador faces the threat of fiscal catastrophe in a couple of years, if the current policy stance runs its course.” She adds: “Petroecuador [the state-owned oil firm] does not have the resources or expertise to reverse the downward trend in oil production.” These factors will transform the “ideologues into pragmatists”, says Barreiros, who was also a deputy to Correa during the latter’s earlier stint as economy minister.

In any case, Correa will seek exports to state-owned oil companies of emerging market nations, at the expense of the West, in order to cement political and economic relationships and demonstrate “his deep-seated hatred of the private sector”, she says.

In Bolivia, nationalist ideology is also hitting the wall due to the limits of state-owned companies. In his first term, president Evo Morales nationalized much of the energy and mining sectors, in a so-called indigenization push. But a drive to open up gas markets to the Pacific – either via Peru or Chile – together with the need to attract international capital to support the ailing state oil company YPFB, may call for a more pragmatic approach from the government.

“I believe there will have to be doublespeak. [Evo Morales] is very radical in his words, but more flexible when it comes to business with the investing companies,” former Bolivian president Carlos Mesa Gisbert tells Emerging Markets in an interview.

Gas exports to Brazil, Bolivia’s biggest market, fell by a third last year. Nevertheless, at the end of 2009, Spain’s Repsol and France’s Total unveiled plans to raise natural gas output by investing $1.5 billion in the landlocked Andean nation. A new hydrocarbons bill is pencilled in for this fiscal year.

Mesa, an outspoken critic of Morales, says the law will offer a “new equilibrium”, characterized by “greater tax pressure” on foreign oil companies but with clear legal rights that will create “more stable investment conditions” for companies.

Latin American governments have been historically prone towards the unstable regulatory environments for energy, says Christopher Sabatini, senior director of policy at the Council of the Americas, a US-based business lobby group. Even if Latin politicians want energy liberalization, this often conflicts with the soul of the electorate, he says.

There’s a widespread belief across Latin America that “anything beneath the soil is the sole property of the nation” – an emotional impulse Sabatini says has been shaped by the experience of colonialism. For example, Mexico’s nationalization of US and Anglo-Dutch oil operations in March 1938 is, to this day, one of the key patriotic holidays, or ‘fiestas patrias’.

Geographic and ideological lines nevertheless divide the region. Statist resource nationalists govern the volatile Andean region. Meanwhile, Brazil is seen as the poster child for a successful public/private partnership as the government-backed Petrobras is well governed and partially privatized. In addition, Colombia and Peru have offered favourable incentives to international firms, even in the commodity super-cycle, in order to jumpstart investment.


But an apparent nationalist turn in Brazil has raised eyebrows. Under the slogan “the subsalt is ours” and the promise of a “new independence day for Brazil”, president Luiz Inácio Lula da Silva kicked off a drive last year to reshape oil laws. The government is attempting to push through legislation that would make Petrobras the principal operator of the deep-sea subsalt projects. Subsalt crude discoveries could amount to 16 billion barrels of oil.

Lula, who is constitutionally barred from serving a third term, has chosen Dilma Rousseff as his successor in the October elections, and the Workers Party candidate has adopted the banner of energy reform as a key part of her campaign.

After years of “exemplary” management of its oil industry “through a good private/public sector balance”, these developments are “worrisome”, says Patricia Vasquez, a former trade adviser to Argentina and fellow at the United States Institute of Peace.

“The big question is: will Brazil become the next Nigeria or the next Norway?” she says.

Weisbrot argues that, unlike smaller Andean economies such as Bolivia, Brazil has the bureaucratic and administrative capacity to nationalize the energy sector. And the “promise of unbounded wealth” may have sparked a structural shift to the left in Brazilian energy politics, says Sabitini. At the same time, the financial crisis has boosted the relative strength of Brazil on the global stage and validated, in the eyes of many, the role of the state over the economy, he says. “Brazil is drunk with a sense of its new-found power so there is always a risk that nationalist ideology may trump pragmatism.”

Elizabeth Johnson, head of Brazil research at consultancy Trusted Sources, says the need to attract massive foreign investment in the subsalt projects, which is estimated at up to $50 billion, will limit the nationalist push and ensure a strong role for foreign operatives. But David Thomson, a Latin America energy analyst for Wood Mackenzie, cautions that the government views the development as a decades-long project, “which relieves some of the financing pressures in the near term”. Nevertheless, the proposals in their current form, which marks a shift away from concession-based to a production-sharing arrangement, will not be applied retroactively.


The global crisis and the commodity price volatility in its wake have also hammered home the need for energy liberalization in Mexico. But despite attempts by president Felipe Calderón, Mexico – the third largest oil supplier to the US – has largely failed to open up its rigidly nationalized oil industry to allow greater private investment.

Energy reform will remain a form of “third rail politics” in Mexico as the pro-privatization label is the kiss of death, says Shannon O’Neill, Latin America analyst at the Council on Foreign Relations. Sharply dropping oil output and declining reserves could spark a fiscal crisis on the oil-dependent budget in the coming years, she says, and “such a crisis is needed to trigger energy reforms”.

The country’s reluctance to court international capital for its energy sector is yet another example of the internal conflict facing Latin America’s energy producers – a struggle which shows no sign of abating so long as oil remains the world’s commodity of choice.

  • By Sid Verma
  • 23 Mar 2010

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