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Reforms at risk in Latin America's elections

A busy political season will put recent market-friendly energy changes to the test

On 24 January, Brazilians were transfixed by proceedings in a courtroom in the southern city of Porto Alegre. After nine hours of deliberations, a three-judge panel unanimously upheld a corruption conviction and prison sentence related to the sweeping Lavo Jato scandal for former president Luiz Inácio Lula da Silva, known simply as Lula.

The ruling, on top of being a landmark moment in the vast corruption scandal, scrambled the political landscape ahead of elections in October. Leftist leader Lula, who maintains a wide base of support despite the corruption conviction, was planning a bid to return to the presidency and had been leading in polls. The 24 January decision doesn't end those chances. Lula is appealing the judgement, which he has cast as a political conspiracy, and held a defiant rally the day after the ruling declaring his candidacy.

But it certainly dimmed Lula's chances. The Brazilian justice system moves slowly so it's possible a new hearing won't take place until after the election. That would put Lula, and his Workers' Party, in the uncomfortable position of campaigning with a potential prison sentence hanging over his candidacy. Other potential candidates from the left smell blood in the water and are already positioning themselves to take over the party's mantle if Lula is forced aside.

The drama in Brazil has set the stage for a raucous year on Latin America's political scene. Elections are slated in all of the region's biggest energy producers in 2018, potentially charting a new political course for the region and putting to the test a series of pro-market energy reforms that have been welcomed by outside investors. The rise of populists arguing for a return to economic and resource nationalism will define the election season.

In Brazil, the political landscape has been shaped by public outrage at the ruling political and business class over the massive Lava Jato corruption scandal, a deep economic recession and surging crime. The unsettled landscape is proving fertile for politicians with populist messages coming from both ends of the political spectrum.

Lula's leftist populism remains appealing to broad swathes of Brazilians because he oversaw a commodities-driven economic boom in the 2000s that lifted many working poor into the middle class. Any successor from the left is likely to take up his populist economic-message touting, which would include a return to more protectionist energy policies. State oil company Petrobras' shares jumped 10% on the day Lula's conviction was upheld.

Running second behind Lula in early polls is the right-wing populist congressman Jair Bolsonaro, inevitably dubbed Brazil's Donald Trump. The arch-conservative Bolsonaro has long cut a singular figure at the fringe of Brazilian politics. He has drawn criticism for his praise of Brazil's brutal military dictatorships, racist comments about Afro-Brazilian communities and harsh anti-gay rhetoric.

Still, Bolsonaro's outsider-campaign, mixing hardline rule of law positions with anti-corruption rhetoric, has found a receptive audience, given the national disgust with the status quo. Bolsonaro, who has put the culture wars over all else in his political career, looks to be jettisoning previously-held economically nationalist economic positions. His platform has embraced more conventionally market-friendly positions, likely in a bid to win over support from a Brazilian business community that is loath to see Lula, or another leftist, return to office.

For the oil industry, a series of market-opening reforms put in place by President Michel Temer that have been popular with investors are on the line. Temer opened the pre-salt to foreign operatorship for the first time, eased local content restrictions, opened new areas to bidding and freed up Petrobras to sell off key assets to help restore its financial health. Foreign investors have been quick to snap up the opportunities created by the reforms, knowing full well they could be rolled back following the next election. Shell, Statoil, ExxonMobil and BP were among the global majors that won pre-salt stakes in a bid round last year.

Venezuela's woes

Brazil's election isn't even the most consequential or fraught one of the busy political season. Venezuelans are due to head to the polls on 20 May after President Nicolás Maduro brought forward the election date from October. The vote will come amid an economic depression, hyperinflation, a collapsing oil industry, tightening international financial sanctions and a worsening humanitarian crisis. Hundreds of thousands have fled the economic chaos to Colombia, Brazil, the US, Spain and beyond, and a recent poll found half of the country's youth want to follow. President Maduro is deeply unpopular, with polls putting his approval rating at around 20%.

The unsettled landscape is proving fertile for politicians with populist messages

However, the result is anything but a foregone conclusion. The opposition has been unable to win over voters in spite of the crisis. Its internecine fighting and ineffectiveness at the ballot box have turned off voters, who barely see the opposition as a more viable alternative to Maduro's administration. Moreover, Maduro has moved to sideline his most capable opponents. A deep sense of fatalism and ennui has set in among many government opponents that a Maduro victory, through a combination of opposition apathy and crookery at the polls, is the most likely result.

If Maduro remains in power, the economic crisis and collapse of the oil industry can be expected to continue, raising the likelihood of a messy debt default. Maduro has shown no appetite for badly-needed fiscal reforms needed to right the economy and draw in foreign investors. He has also handed the oil industry over to a military general and industry neophyte Manuel Quevedo, who hasn't put forward a credible plan to repair the engine of Venezuela's economy. Crude production fell nearly 30% in 2017, with no end to the decline in sight.

Even if the opposition manages to win back power, it faces a daunting and long path out of the economic crisis. On the economy, any opposition winner would likely look to put forward a programme of broadly market-friendly reforms in a bid to restructure the country's crushing external debt and negotiate a major foreign assistance package from the International Monetary Fund. Analysts have argued Venezuela will need the largest-ever sovereign bail out, dwarfing Greece's, to restore its finances.

Energy debate

Getting the oil industry back on track would be at the top of any recovery programme. The opposition has long argued for a return to a more technocratic and foreign-investor-friendly regime for the sector. Leopoldo López, a prominent opposition member (though barred by Maduro for running for the presidency), who was jailed amid a wave of opposition protests in 2014, released a book last year called Venezuela Energética that filled in some more detail of a potential energy overhaul.

López, who worked in the oil industry before going into politics, argues that Venezuela can't revive its oil industry alone and the government's most urgent task is to make it "investable" again in the eyes of international companies. He argues for a deep reform of state oil company PdV to make it more efficient and profitable—essentially a return to the Apetura-era style of governance. Lopez says new independent regulators are needed to level the playing field for private investors. He also argues for a pivot away from PdV's myopic focus on developing the Faja's costly heavy-oilfields in favour of a return to conventional fields, where the reserves are less but a quicker production turnaround could be engineered. It's a bold reversal of Venezuela's oil strategy and could serve as a blueprint for an opposition-led government, if they're given the opportunity.

Mexico's Trump critic

Populism is on the march in Mexico, too. Former mayor of Mexico City Andrés Manuel López Obrador, widely known as Amlo, is leading in early polls over Jose Antonio Meade of the ruling Institutional Revolutionary Party (PRI) and Ricardo Anaya of the business-friendly National Action Party (PAN). As in Brazil, the outsider Amlo is riding a wave of popular revulsion against official corruption and worsening violent crime. The nationalist Amlo has also received a boost from being the most outspoken and credible antagonist to US president Donald Trump, whose constant Mexico-bashing has turned public sentiment sharply against the neighbour to the north. He's also widely seen as free from the corruption that has stained the political establishment.

An Amlo victory could mark a sharp retreat from Mexico's energy opening. He has moderated some of his early opposition to the 2012 energy reform package, saying now that he would seek to review the policy rather than overturn it. However, his rhetoric around the issue has been vague enough to engender hope both from opponents of the reform convinced he will move against the opening and supporters who hope he has accepted it as a new reality.

The rules opening the energy sector to private investment were enshrined in the constitution and would be nearly impossible for Amlo to change. Existing contracts would likely remain untouched by Amlo, and with billions of dollars of foreign investment pouring in he'd be unlikely to want to derail those deals. But he could dramatically slow the pace of the opening and prioritise strengthening Pemex's position in the market over pulling in new foreign investment, both of which would be a setback.

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