Francisco Monaldi, Ph.D.Visiting Professor and Roy Family Senior Fellow, Harvard Kennedy School

Non-Resident Fellow, Baker Institute, Rice University

Faculty Associate, School of Government, Tecnologico de Monterrey

Director, Center on Energy and the Environment, IESA

ESADE, Madrid, November 2014

The Oil Industry in Latin America

• In 2003 Latin America produced 11 mbd, in 2013, 10.17 mbd. A declineduring the largest oil boom in history? All other regions increased their production. The region lost more than 1% in the world’s production shareto less than 12%, even though it has around 20% of the proved oil reserves(the largest outside the Middle East).

• Divergent trajectories. In which countries production declined? México (-700 tbd from 2002 and -900 from peak in 2004), Venezuela (-300 tbd, -700 from peak in 1997), and Argentina (-250). Ecuador (and Bolivia to a lesser extent in natural gas), stagnated.

• In which went up? Brazil (+650 tbd), Colombia (+400), and slightly in Peru.

• Why? Political economy of resource nationalism and NOCs are the main culprits. Geology and ideology also relevant, but less so.

Oil Production: The Big Three

Source: BP Statistical Review of Energy

3830

2875

3480

2623

21932114

0

500

1000

1500

2000

2500

3000

3500

4000

4500

Mexico

Venezuela

Brazil

Net exports

Source: BP Statistical Review of Energy

3007

18461886

855

-858

-1500

-1000

-500

0

500

1000

1500

2000

2500

3000

3500

Venezuela

Mexico

Brazil

The Rest: Net Exports

Source: BP Statistical Review of Energy

505

52

592

670

373

271

-200

-100

0

100

200

300

400

500

600

700

800

tho

us

an

ds

ba

rre

ls d

aily

Argentina

Colombia

Ecuador

Peru

Political economy of resource nationalism: key drivers

• Characteristics of the oil industry (rents, high sunk cost, obsolescing bargain) in a context of: a) a cycle of high prices, b) the end of an investment cycle, and c) regressive taxation systems; tend to generate resource nationalism (a cycle of expropriation), particularly in net exporters with increased reserves and production.

• In contrast, net importers or countries with declining reserves and production tend to be eager to attract investments and strengthen property rights.

• Other factors that tend to increase resource nationalism are: easy geology, weak political institutions, political shocks, and oil fiscal dependency.

• Ideology can sometimes be a relevant factor, but generally it is not the driving force. In fact, sometimes the very existence of large rents is a factor promoting a populist ideology.

Political Economy of Resource Nationalism

in the Latin American Oil Industry: 2000-2014

• Argentina, Bolivia, Ecuador and Venezuela. After an investment cycle that led to increases in production and investment in the 1990s and 2000s, and during the high price cycle; expropriated and nationalized. The effects of the expropriations are now noticeable and they have been eager to attract new investment. Particularly, Venezuela in extra-heavy and Argentina in shale.

• The determinants of the expropriation cycle: high oil prices, high sunken investments, regressive tax systems, and weak institutions.

• Colombia, Brazil, and Peru, who needed to attract more investment went in the opposite direction. However, after large discoveries, Brazil became more resource nationalist.

• Mexico, with declining production and reserves, tried to move towards opening, but until this year it was unable to do it. The recent Mexican oil reform is a major event.

Texas 5

Qatar 33

United Arab Emirates 39

Colombia 48

Alberta 51

Trinidad and Tobago 58

Brazil 66

Alaska 83

Angola 118

Nigeria 124

Algeria 126

Russia 127

Libya 128

Iraq 129

Kazakhstan 132

Iran 133

Bolivia 134

Ecuador 135

Venezuela 136

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The Reputational Legacy

Institutional Quality: Rule of Law

Source: World Bank 2013

52

43

36

33

29

16

12

1

0 10 20 30 40 50 60

BRA

COL

MEX

PER

ARG

BOL

ECU

VEN

Percentile rank

Proved reserves

(billion barrels)

1993 2003 2013 %

Argentina2.2 2.7 2.4 >1%

Brazil5.0 10.6 15.6 4.5%

Colombia3.2 1.5 2.4 >1%

Ecuador3.7 5.1 8.2 2%

Mexico50.8 16 11.1 3%

Peru0.8 0.9 1.4 0%

Venezuela64.4 77.2 298.3 88%

Total 128.7 114.8 338.4 100%

Source: BP Statistical Review of Energy, 2013

Source: EIA

◦ Brazil has been considered a model for energy policy in the region. Production and investment have systematically increased .

◦ However, the discoveries in pre-salt appear to have changed the government’s perspective on the oil sector, beginning to behave more like its exporting neighbors. Requiring more government control and giving precedence to other policy goals instead of the oil industry growth. The government increased taxes, their equity participation in Petrobras, and created Petrosal, a state holding to have a stake and monitor the pre-salt projects.

◦ Domestic subsidies to tame inflation and national content policies have hurt Petrobras, reducing its cash-flow, production targets and market value. Investment in domestic refineries compete for resources with E & P projects of higher value.

◦ Conditions for pre-salt auction put heavy burden on Petrobras. Operator of all blocks, minimum 30% share in equity, high national content, high signing bonuses.

◦ Foreign operators play a minor role and Petrobras is not able to execute all the potential investments in its portfolio.

◦ Recent corruption scandals have affected Petrobras reputation.

◦ Nationalists pressures and rent distribution conflicts have significantly increased in the last 5 years. Still the politically system is managing them better than in other countries in the region.

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BRAZIL

The Colombian oil sector had a spectacular turnaround. Investment and exploration boomed. Production increased close to two-fold and exports even more. Colombia is the 3rd largest oil exporter in Latin America.

Ecopetrol market capitalization increased from around US$30 billion to close to US$140 billion, surpassing Petrobras and Total in early 2013, despite having a small fraction of their reserves.

However, the success cannot be attributed only to Ecopetrol. Private companies played a big role (e.g. Pacific Rubiales).

Ultimately the problem is that despite the increase in exploration activity Colombia has not been able to significantly increase proved reserves.

Recently there have been some tamed signals of resource nationalism, but nothing close to Brazil.

COLOMBIA

Chavez takes full control of PDVSA just in time to receive the oil windfall in 2003-2008. He uses PDVSA as a social and development ministry, spending directly without going to the national budget.

PDVSA loses all autonomy from the government and the president’s party. Corporate governance changes significantly.

Chavez becomes highly popular. Wins reelection two times.

PDVSA is heavily politicized and declines in capacity. PDVSA’s IOC partners are partially nationalized. Some service contractors are also nationalized.

Production declines rapidly. PDVSA becomes heavily indebted in the middle of oil boom.

PDVSA tries to attract IOCs back, as well as Chinese and Russian NOCs.

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VENEZUELA

0

500

1000

1500

2000

2500

3000

3500

2005 2006 2007 2008 2009 2010 2011 2012

Mile

s d

e B

arr

ile

s D

iari

os

Other

Chicontepec

Delta delGrijalva

Chuc

Ixtal-Manik

Antonio J.BermúdezCrudo LigeroMarino

Cantarell

Ku-Maloob-Zaap

Source: HBS Pemex Case, Secretaría de Energía, Mexico

MEXICO

Break oil price trend

MEXICO

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MEXICO

The Gulf of Mexico on the Mexican side could experiment a great expansion in well drilling activity in the next decade.

What could happen in Mexico…

MEXICO

PEMEX keeps 100% state-owned.

Allows PEMEX to have JVs with partners.

Allows for four types of contracts: service, profit sharing, production sharing, and licenses without state equity.

State is owner of resources, but companies can book reserves.

Round zero, PEMEX kept most areas in production with the approval of SENER (100% of the production areas requested 20.5 bn barrels, equivalent to 83% of 2P reserves, and 67% of the prospective areas it requested, estimated at 22 bn. barrels).

Pemex will associate in 10 fields (deep off-shore, heavy, natural gas, marginal mature fields), CNH auction, and migrate 22 existing service contracts

Round one to open deep-offshore and other marginal areas to private investors. Estimate 2P reserves of 3.8 bn barrels and 14.6 bn resources

CNH is independent regulatory agency, powerful, but still SENER and Finance keep policy role.

PEMEX more financially and operationally independent.

Transparency.

Oil Stabilization and Investment Fund.

21

MEXICO

22

ARGENTINA

23

ARGENTINA

The region has experienced cycles of investment and expropriation that have harmed the development of its potential.

We were again in an “opening face,” even before the recent decline in oil prices. The price decline will reinforce this trend throughout the region.

Pragmatism is the result of decline in Venezuela, Argentina and Mexico.

Brazil will probably move to more pragmatism again.

Thanks for your attention

francisco_monaldi@hks.harvard.edu

Twitter: @fmonaldi

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