Petropolitics hang over Latin America's producers
Elections next year in Venezuela, Mexico and Brazil have pivoted politics to the region’s fore again. Can it break the self-destructive resource-nationalist cycle?
At the turn of this century, nobody would have guessed that within two decades Brazil, then a backwater for the oil industry, would be pumping more crude than powerhouse producers Mexico and Venezuela. Yet last year it did just that, partly thanks to a run up in its own output, and partly because of the decline of the others'. The change in fortunes shows how the region's volatile petropolitics, and of course a bit of geological luck, have shaped the landscape and will forge its future.
Venezuela is now the poster child for oil politics gone awry. Twenty years ago, it was embarking on a policy of apertura, opening its vast Orinoco oil reserves to private foreign investors. Cash flooded in and production soared, rising more than 1m barrels a day from the early 1990s to crest 3.3m b/d in the early 2000s. The country looked to be reclaiming its seat as a global oil power. Then came Hugo Chavez's nationalisations in 2007 and subsequent government stranglehold on the industry. Many foreign companies have kept a toehold in the country's vast reserves, giving Venezuela a sheen of openness to the outside industry, and for a time high oil prices staved off severe production decline.
But 2014's price collapse exposed fundamental weakness. Since the start of 2015, oil output has fallen 0.6m barrels a day, or by nearly a quarter, to 2.1m b/d, according to figures the country reports to Opec. Independent estimates put output below 2m b/d, but show a similar scale of decline.
Hopes of a quick turnaround are hard to find. The country's economic crisis has shrunk the economy by 25% over the past three years and the bolivar's value has been gutted. Deep economic reforms are needed to dig the country out of its recession, but president Nicolás Maduro instead seems willing to wait for rescue from an oil-price recovery. Opposition efforts to push the president out of office before next year's elections have gone nowhere. In the meantime, Maduro is totally reliant on foreign earnings from the nation's falling oil sales to keep the creaky economy afloat.
The economic mismanagement is starving the oil industry of badly needed investment. Investment in infrastructure has evaporated, leaving pipelines, upgraders, refineries, ports and other installations running well below capacity. Thousands of wells at mature fields around the country have been shut in. There has been little progress at a slew of new Orinoco heavy oil projects being run by state-owned PdV that are key to reviving output. Even if wholesale policy changes were made today, rebuilding Venezuela's oil industry would be a years-long project.
Any potential Venezuelan oil reformers waiting for their moment will, therefore, be keenly watching Mexico's oil opening. Following a decade of plunging production that saw Mexico shed a quarter of its crude output, president Enrique Peña Nieto embarked on ambitious reforms starting in 2014. The process is transforming Mexico's oil and gas business, opening every corner of the industry to foreign investors for the first time in nearly 80 years. The primary aim of the reforms is to stem the production decline. To that end, the country has held a string of auctions to open oil and gas-rich areas to foreign prospectors. The upstream reform got off to a slow start, with the first licensing round drawing just two winning bids for 14 blocks.
Since then, however, the reformers have adapted and their efforts are starting to pay off. Dozens of new private foreign and domestic companies have been brought into Mexico's oil patch through subsequent auctions, bringing billions of dollars in potential investment with them and promises to drill hundreds of new wells. The first of those exploration wells was a blockbuster. A Talos Energy-led consortium uncovered as much as 2bn barrels at the shallow-water Zama field earlier this year, in an area that state-run Pemex had hastily abandoned years before. The find was vindication for reformers who argued that private investors were needed to bring not just fresh capital and technology, but also better ideas into Mexico's oilfields.
Still, lifting output remains a long-term project. Even under the most optimistic scenarios, production won't start a significant recovery until well into the 2020s, and won't reach 3m b/d again until the 2030s. That assumes the reform process won't be undercut by a return to Mexico's deeply rooted resource-nationalist politics. Peña Nieto's six-year term will end in 2018, and with him will go many of the core team of reformers who have lived and breathed the process for years.
Political ball gazing
The future of the reforms will then be left to the next administration, a major source of uncertainty. It's possible another broadly pro-investor administration will take up the reform baton with the same gusto as the Peña Nieto team. But there's no guarantee, especially with leftist oil nationalist Andrés Manuel López Obrador making a strong showing in early polls. Peña Nieto marshalled a strong coalition that managed to enshrine the energy opening in the constitution, so a complete reversal of the reforms is unlikely. However, there is much the next administration could do to undermine the opening process, which remains in the early stages. A future administration could try to renegotiate fiscal terms, reassert Pemex's primacy in the upstream, by for instance requiring the state oil company to assume operatorship of all future deep-water projects, or slow the pace of new licensing rounds. For now, there's cautious optimism among early investors in Mexico's reforms that the pragmatic gains won so far—and $80bn committed in investment, which would be lost with any reversal—will win the day. But the risk is there.
25% - Fall in Venezuela's oil output since the start of 2015
Brazil, too, has seen its fortunes swing with the political winds. It was a broad opening of the oil sector, which included the part-privatisation of state-owned Petrobras, that led to the discovery of the country's vast offshore pre-salt reserves. But what followed was a cycle predictable by now in the region. Once oil prices rose, the left-leaning Lula da Silva and Dilma Rousseff administrations tightened the state's grip over the pre-salt's development, choking off investment and undermining an ambitious plan to exploit the discoveries. Corruption further tarnished the opening.
Brazil's slower-than-planned development still counts as a success compared to others in the region. Oil output is up about 0.5m b/d since 2010, to 2.6m b/d, led by new barrels from the pre-salt. Still, the last several years have represented a major missed opportunity for Brazil. The current president Michel Temer has rolled back many of the measures that had scared off private investment. Petrobras is no longer required to operate all pre-salt projects, local-content rules have been eased and a fresh schedule of oil auctions, including in the pre-salt, have been announced.
Like in Mexico, these pro-investor reforms look tenuous in the face of a presidential election next year. Temer has been severely weakened by the rumbling corruption scandal, which brought him to power after Rousseff was impeached. Temer won't run in next year's poll. Lula, in spite of being implicated in the scandal, has stepped back into the political arena and looks to be a strong contender again for the presidency, a prospect that will keep foreign oil executives up at night.
The region's fickle petropolitics has come at a huge cost. In 2006, Latin America as a whole produced 11m b/d, 1m b/d more than the US and Canada's combined output at the time. A decade later, its output has dipped below 10m b/d and the US and Canada, which have been magnets for industry investment, are turning out around 17m b/d, a 7m b/d chasm. The divergent paths have very little to do with what lies underground—Latin America's reserves are world class—and almost everything to do with what has happened above ground. It has left many in the region wondering what might have been. With a slew of crucial elections next year, the region has a chance to break the self-destructive cycle of oil nationalism.
This article is part of an in-depth series on Latin America's upstream. Next article: Latin America's continental contraction