Defense In Depth
Why U.S. Security Depends on Alliances—Now More Than Ever
Latin America is on the brink of a new era in oil politics. Over the past century, resource nationalism—when governments assert control over their nation’s natural resources—has ebbed and flowed, often in line with movements in global oil prices. In the 1990s, historically low oil prices created room for privatization in many of Latin America’s oil industries. After that, when oil prices rose again, the pendulum swung back toward state control.
But as global oil prices collapsed over the last two years, regional governments have started to lose their leverage in the energy industry. To attract international investors, they must offer increasingly favorable terms, which means ceding more of their own control. Meanwhile, governments that have banked on using the profits from high prices of oil and other commodities to redistribute wealth and gain popularity are at a loss. Without this revenue, these governments have delivered fewer improvements in living conditions and less financial security. As oil prices plunge, citizens appear primed for a change. Many of the region’s incumbent politicians – several of whom are leftist leaders that favor more state control over the oil industry, such as Venezuelan President Nicolas Maduro and Ecuadorean President Rafael Correa —are thus bearing the brunt of the economic slump.
In other words, the stars are aligning for a reopening of the oil industry and the flourishing of market-oriented economic policies.
Since the days of Standard Oil, John D. Rockefeller’s U.S. corporate oil monopoly, governments have steadily increased their control over the oil industry’s operations and revenues. In the 1970s, national oil companies controlled less than 10 percent of the world’s oil and gas reserves. Today, they control about 90 percent.
Latin America has been at the forefront of the movement toward resource nationalism starting with Mexico, which until 2013 had the world’s only complete state monopoly on the ownership of its oil reserves. As oil prices rose from $10 per barrel in the late 1990s to over $100 per barrel in 2008, Latin American countries enjoyed a large influx in oil export revenues and investment. Governments, initially in Bolivia, Ecuador, and Venezuela, and later in Argentina and Brazil, have sought to further exploit the boom by increasing taxes, adjusting contract terms to give more control to their state oil companies, and unilaterally expropriating assets.
In a region known for resource nationalism, a change is on the horizon. In fact, several Latin American countries had already introduced market-friendly policies before crude prices started to tumble. In 2013, Mexico opened oil exploration opportunities to outside investors, ending the 75-year-old monopoly that the state-controlled oil company, Pemex, had held on the Mexican energy sector. As a result of the oil price collapse, Mexico’s first auction that was open to private investment was a flop, with only 2 blocks awarded out of 14 on offer, but the government has since offered more favorable terms to attract bidders.
Meanwhile, Colombia has witnessed an oil boom over the past decade thanks to the introduction of investment-friendly policies and high crude prices. Colombia already had perhaps the most investment-friendly conditions in the region. The nation became increasingly dependent on oil revenues as the sector experienced a boom after the government’s introduction of investment-friendly terms during a period of high oil prices. Now, however, the government is trying to improve its image even further as it struggles to attract investment during a period of low oil prices and unfavorable geology in the country. As such, Colombia has further cut taxes on its oil sector, has allowed companies to extend exploration and production periods, and has reduced minimum investment requirements in efforts to reverse a recent decline in investment. And Peru has plans to reduce the amount of royalties energy companies must pay to the government.
Other countries with more nationalist oil policies are also considering proposals to reverse course. For example, Bolivia recently approved a hydrocarbon investment promotion bill with various incentives for oil and gas exploration. The legislation represents a striking departure from President Evo Morales’ decision ten years ago to nationalize Bolivia’s oil and gas industry and expropriate foreign assets.
Meanwhile, Brazil also appears primed to back away from its nationalist oil policies. Following the discovery of vast offshore oil reserves by the Brazilian state oil company Petrobras in 2007, then-President Luiz Inacio Lula da Silva introduced energy reforms that increased the government’s stake in Petrobras and made the state oil company the exclusive operator of the new fields. Last year, however, Brazilian Senator Jose Serra proposed a law that would end Petrobras’ monopoly over the fields, noting Petrobras’ inadequate financial capability to search for and produce oil from these basins. The bill was approved by the Senate last week and is now being debated in the lower chamber. Lula’s protégé and successor, Dilma Rousseff, has opposed the bill, although she will likely sign it under political pressure.
In November, Argentina became the first large Latin American country in a decade to elect a market-oriented opposition President, Mauricio Macri, in what may signal the start of the region’s pivot to the right. Indeed, many leftist leaders in the region are beginning to feel the pressure—Maduro and Rousseff have faced steep opposition, and the likelihood that they may not finish their terms is not out of the question. The terms under which international oil companies could invest in Argentina’s shale basin were also competitive under the tenure of Macri’s successor, President Cristina Kirchner, but oil companies were hurt by Kirchner’s broader nationalist economic policies in other areas, such as exchange-rate controls. Within a month of taking office, Macri eliminated these capital controls, which should encourage investment in the oil and gas industry.
If oil prices remain low for the foreseeable future, even stalwart nationalists will likely have to offer concessions to entice private investors. In 2010, Ecuadorian President Rafael Correa nationalized the country’s oil industry, forcing companies to transfer their production-sharing agreements into service contracts under which the government owns the oil and gas produced. Since then, Quito has maintained tight control over its oil industry. But as oil prices have declined, Ecuador’s exports have been halved (exports used to contribute about a third of the government’s revenue). The country’s currency is pegged to the dollar, and its inability to devalue the currency has made the dip in prices even more painful. Correa has said he will not run for re-election in 2017, sparing himself from having to manage the nation during its coming economic downturn. Whoever inherits it will likely have to improve contract terms to reverse the country’s decline in production and get its oil exports back up.
In Venezuela, oil accounts for 95 percent of the nation’s export revenues. Like other governments in the region, Caracas finds itself under mounting pressure to increase investment. The nation’s opposition parties recently won a significant majority in the Venezuelan National Assembly for the first time since former President Hugo Chávez was elected in 1998, signaling voter frustration over recent economic hardships. The country’s tightly controlled economy no longer delivers the results it once did, back when oil prices were high and showed no sign of declining. The Venezuelan government now faces a critical shortage of foreign currency, leading the President of the state oil company PDVSA, Eulogio del Pino, to hint at plans to offer incentives for private companies to increase investment in Venezuela’s oil sector. The measures may include reduced taxes and royalties, an adjustment to Venezuela’s exchange rate, and permission for PDVSA’s minority partners to exercise greater control over joint operations.
These moves might be too little, too late. Some Latin American countries will likely see slightly higher investment as a result of the adjustments. However, nearly all of the region’s major oil producers are expected to face a decline in production this year despite these efforts. Investment in oil exploration is also being curtailed, meaning future production will be lower. Further, many regional leaders and citizens still believe in the importance of state control over oil wealth and operations, and no Latin American country has discussed a return to 1990s-era privatization. Polls in Mexico show that anywhere from 40 to 60 percent of the population still oppose reforms to the oil sector. And in Brazil, Rousseff remains skeptical of reopening the nation’s oil sector. And Macri, despite being more of an economic centrist than his predecessor, says he will not privatize Argentina’s state oil company YPF, which was nationalized under the former administration. But given sustained low crude prices and their toll on Latin America’s oil-dependent economies, it’s fair to speculate that, for the foreseeable future, reform will be the order of the day.