Venezuela – Another Step on the Road to Ruin

RelevanceThe New York Times reports this week that President Hugo Chávez of Venezuela has asserted greater control over the country’s oil and gas industry by seizing the assets of some foreign and domestic oil service contractors.

The expropriation is one part of a broad assault by Chávez against the private sector. Assets have been nationalized in the electricity, telecommunications, cement, agriculture and food distribution sectors and the government intends to take control of the Bank of Venezuela, a subsidiary of Spain’s Santander.

This round of oil and gas expropriations is also significant because it took place in Zulia, a bastion of opposition to Chávez. At a stroke, therefore, Chávez has furthered his stated aim to stamp out capitalism in Venezuela and exerted greater political control in a region of known opposition.

 AnalysisThe assets expropriated include 13 drilling rigs, 39 oil terminals and 300 boats all located in Zulia, western Venezuela, home to some of Venezuela’s oldest oil fields. The assets were owned by some 60 companies (according to the FT) and the seizure comes after a law was passed last week to allow more state control over the industry. 

In a related development, leading opposition figure Manuel Rosales (from Zulia and elected mayor of Maracaibo last year) has fled to Peru rather than be arrested under corruption charges. Reports from Venezuela suggest that other opponents to Chávez have been jailed or have gone into hiding, as the persecution of his political foes continues. The mayor of Caracas has had access to the city’s budget withdrawn.

Those on the ground fear that this latest oil asset expropriation is a part of a wider power play by Chávez for greater political control in Zulia, backed by the military might of the National Guard, and will not be confined to just oil and gas assets.

Venezuela’s response to the world economic crisis is instructive. The government has taken control over important industries and has extended its political powers. Chávez has stoked a populist agenda stating that “our people will never again be anyone’s slave” (a veiled reference to foreign investment) and is seeking to further his anti-capitalist cause.

But even before the economic crises the oil and gas industry had been a priority for nationalisation. Foreign investors have had to endure higher royalties and taxes (increased 4 times since 2004), raids on companies’ offices by tax authorities and nationalization of oil projects. Government policy is to force foreign companies to take minority stakes and to give up operational control – ExxonMobil and ConocoPhillips are seeking international arbitration over government action on their investments.

PdVSA, meanwhile, is in a financial crises due to a fatal combination of decreasing revenues (due to falling production and lower oil prices) and increasing responsibilities to fund Chávez’s large social programs (in addition to paying taxes to the central government). PdVSA is heavily in debt to foreign oil service companies, with some industry observers saying it owes close to $14b. Some Western companies have written off debts, including a reported $241m write off by Williams. The latest round of expropriations in Zulia came after threats from service companies to suspend operations until PdVSA repaid its debts – indeed some have taken rigs out of service already. Venezuela has had difficulty coming to terms industry inflation over the last several years and will not accept the resulting higher costs in its oil and gas industry.

The impact of all this on Venezuela’s oil and gas industry will, of course, be devastating. PdVSA’s actions will discourage foreign investment and exacerbate the problem of falling production. Venezuela’s oil output is sinking to a level not seen for years. Venezuela relies on oil for over 90% of export earnings.

Nevertheless, some brave foreign investors are still active (e.g. Chevron and Total). The Venezuelan oil and gas industry is still open to foreign investment (unlike Mexico and Saudi Arabia, for example, which are totally closed) and foreign minority partners in nationalized oil fields are still permitted. Some foreign companies will be attracted by the country’s huge reserves. Government attempts to increase oil production include the delayed solicitation of bids from companies in the West, China and Russia for investment in the Orinoco belt, southern Venezuela. The Orinoco belt is Venezuela’s biggest hope of reviving production. Investment of $25-30b to give 800,000b/d production was reported in the FT. The number of potential investors is shrinking by the day.

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