Oil Nationalism in Latin America

Latin America is endowed with 132 billion barrels of “proven” oil. Venezuela, Brazil, Mexico, and Ecuador have significant reserves and strong state involvement in the exploration and production of oil through their nationalized companies PetrÛleos de Venezuela (PdVSA), Petrobras, Pemex, and Petroecuador, respectively. There have been several notable legal developments this year in all four nations, which will have consequences for U.S. energy policy and thus its relations with oil providers overseas.

Brazilian President Luiz Inacio “Lula” da Silva and his mines and energy ministry have devised a stricter tax framework and pushed for more aggressive terms with foreign companies around the country’s new-found offshore oil. The government has put forward a new state-owned company dubbed Petrosal to manage the licensing. This new company will award some exploration and production rights straight to Petrobras without options for foreign firms. Also, by mandate, it will award over half of the shallow-water contracts to Locally-owned Oil Service Companies (LOSCs). In deeper and more challenging waters beyond the capacity of local companies, foreign companies will be invited to bid. Those pledging to incorporate Brazilian “content” — human or technical resources — will likely stand a better chance of obtaining contracts. Petrobras and foreign firms will also likely pay higher taxes and royalties, and this revenue will go toward public programs.

Mexico is engaged in a similar trend of soft nationalization or even protectionism in which the state intervenes in the market to maximize domestic job provision. President Felipe Calderon signed reforms in December 2008 to increase local content in the Mexican energy industry to 25%, for example via the construction of a national support fund for LOSCs.

Venezuela and Ecuador have taken an altogether more combative stance. In May, Venezuela passed a law allowing PdVSA to expropriate oil and gas assets from foreign companies, who were refusing to work until a backlog of receipts were paid (PdVSA owes around $12 billion to foreign contractors). The law also allowed PdVSA to pay debts with government bonds instead of cash. In Ecuador, meanwhile, 30,000 indigenous peoples have filed a lawsuit against Chevron for environmental damage in Lago Agrio. Chevron actually settled out of court for large oil spill damages in 1998 with a $40 million payment, and a government-signed agreement releasing them from liability. The new case — begun in 2003 and currently under judicial review — demands $27 billion in additional compensation for the oil spills. Despite the apparently binding nature of the earlier judgement, the Ecuadorean government has endorsed the suit.

Business as Usual?

For environmentalists who want to see a reduction in oil production and use, these changes might be of little comfort. Major U.S. oil companies will suffer, but Latin American companies will simply pick up the slack. Despite global warming, it’s not so easy to do away with the oil complex. Oil revenues underpin massive public spending programs in Brazil and Venezuela, and neither country is prepared to leave the precious resource in the ground (or under the sea). So, environmentalists and social justice advocates square off, as these countries seek a fairer deal for their resources.

There are also practical problems. The United States imports over half of its oil. Alternative fuels and vehicle power sources are still nascent and need further development to become affordable. Even President Barack Obama — who ran an ad during his presidential campaign hammering ExxonMobil for its profits — acknowledges that oil tax revenues will be necessary for the next decade or so for investment in renewable energy technologies, and his administration just backed a new pipeline to Canada’s oil sands, the “dirtiest” crude source.

Changes in Brazil and Mexico make for a tougher climate for U.S. oil companies. But there is no profound shift, and it will likely be business as usual. Chevron just commenced a $3 billion project in Brazil’s Frade field, for instance, and Obama’s national security adviser General James Jones has discussed a $10 billion dollar loan to Petrobras to help Brazil develop its offshore reserves. The legal changes will mean less profit for the majors and therefore less tax revenue for the U.S. government. But by providing more jobs and self-determination, the policies could benefit the economies of Brazil and Mexico, provided the LOSCs are up to the challenge.

Developments in Venezuela and Ecuador, however, could indicate a more serious shift that may not benefit their economies and could deter U.S. oil companies from future investment. The policy changes in those countries signal not a tightening legal framework but an increasingly slippery one. As the oil price fell, Chavez tore up contracts that he could no longer pay. Such actions will harm future private investment throughout the Venezuelan economy (Chavez recently appropriated private-sector assets in other sectors too, notably agriculture). With oil now being left in the ground, falling revenue has led to a drop in public spending.

Chavez isn’t dreaming of a greener future. He simply doesn’t have the means to extract the oil that he wants. Increasingly, he is turning elsewhere for help with drilling. Russia, Iran, China, and South Korea are all interested. Yet their national oil companies are under less pressure than the transnational oil companies to adhere to environmental standards. Russia outright opposed the recent G8 proposal to cut 80% of carbon dioxide emissions by 2050 and Asian oil companies, especially in Africa, have hardly been development-friendly. U.S. oil corporations are actually subject to more stringent emissions restrictions, and tax on their profits can be invested by mandate in green energy, as proposed in the Waxman-Markey bill currently under Senate review.

In the context of oil, transparency refers to disclosure of license purchases, royalties, and taxes paid, as well as coverage of civilian displacement and environmental impact assessments. Although transnational oil companies have a long way to go before reaching a satisfactory disclosure level, they are ahead of national oil companies, which are controlled by oil-rich states. These national companies, which control 90% of the world’s oil reserves and manage 75% of production, have taken note of issues like transparency, but only when the oil price was low and they needed to raise investment. The long-term upward trend of oil prices and civil society pressure on the transnationals will likely preserve this discrepancy on the transparency issue.

Legal Dispute in Ecuador

The situation in Ecuador is more complex. Texaco — which merged with Chevron in 2001 —undertook oil drilling in the Ecuadorian Amazon from 1964 to 1990. In this period, they dumped billions of gallons of toxic water, crude oil, and hazardous waste in the surrounding regions and abandoned 900 waste pits, making the Exxon Valdez disaster look like a nose bleed. Texaco came to an agreement with the Ecuadorean government in 1998, agreeing to clean up its share of the 161 pits, at a cost of $40 million. Ecuador’s state-owned oil company Petroecuador was due to clear up the rest (it was also active in those oil fields and still is).

Although the Ecuadorian government signed an agreement in 1998 releasing Texaco from any further liability, the present government under Rafael Correa endorses the current law suit, objecting to the 1998 agreement and arguing that as operator Chevron should clean up the entire mess. Essentially, Correa’s government is rejecting the decision of Ecuador’s previous government.

Although a government should still be free to contravene the bad decisions of its predecessor, there are three problems with the Ecuador case. First, no new evidence has come to light warranting a new case, giving it the air of caprice. Second, the Ecuador government has continually benefited from the oilfields, recouping $25.3 billion in profits, taxes, and royalties, compared to Texaco’s $497 million profits, and Petroecuador still uses the fields today. Third, the Ecuadorean government is throwing its weight behind the plaintiffs and putting pressure on the courts. Ecuador’s prosecutor general indicted two Chevron attorneys associated with the lawsuit, for example, and the government is collaborating with the plaintiffs’ attorneys on nullifying the previous law.

Chevron is not a victim. Indeed, the corporation has been rather inconstant itself. It spent nine years fighting for the case to be tried in Ecuador, because that was where the damage had been incurred. Now it argues that the trial should take place in the United States, because the judicial process in Ecuador is inadequate. Chevron has also re-filed legal motions already denied, which is delaying the case. And, of course, nobody denies that Texaco caused immense damage in the first place.

Yet however you regard the Chevron case — perceived as government activism by the left or government whim by the right — these developments do suggest a legal discontinuity, with foreign companies finding that agreements with previous regimes no longer apply. Similar troubles have occurred in Nigeria, where the current administration tried to revoke licenses given to the Korea National Oil Corporation (KNOC) by Olusegun Obasanjo. This can deter future investment in capital-intensive industries like oil, which entail long-term financing that could outlast several governments. The Ecuadorean government thus has to weigh up the benefits of legal redress with the effect such intervention has on the business climate, which is already fractious. Spanish oil company Repsol YPF, previously active in Ecuador, has also gestured to the deterrent effect of Ecuador’s legal system. “For the private sector to realize high investment, the Ecuadorian government must offer stable contracts, legal guarantees and eliminate the discretion with which some bureaucrats interpret the terms of the contracts signed with the state,” says Repsol YPF’s Pacific region director, Carlos Arnao. In 2006, Ecuador revoked its contract with Occidental Petroleum, its largest investor, and took over its operations.

A Question of Transparency

Latin America is an energy partner of choice for the United States, and both the government and the U.S. oil majors will now have to work a little harder to stay there. But while Brazil and Mexico are pursuing a protectionist strategy, business relations remain stable. Ecuador and Venezuela, however, are veering away from transnational oil companies and toward state-owned oil companies from Russia, the Middle East, and Asia. The impact of these state-owned oil companies in poor regions — especially Africa — has been marked by ad hoc aid projects that weaken government capacity and flood local regions with migrant workers.

Most crucially, their operations are less open to public scrutiny and Ecuador itself is already one of the least transparent oil-producing nations in the world, on a par with Nigeria and Angola according to Ian Gary, Director of Extractive Industry Policy at Oxfam U.S. Ecuador ranked 151 out of 180 countries in Transparency International’s Corruption Perceptions Index 2008. A March 2009 report by Grupo Faro noted a series of special funds that allocate oil revenues directly to over a hundred beneficiaries or that earmark income for debt payments, investment, or savings regardless of changes in oil price. “In general, there is a lack of clarity about earmarked resources, cost estimates, and the amounts of subsidies included as part of [Ecuador's] national oil company balance sheet,” according to a Revenue Watch Institute report.

There have been movements towards greater transparency of late, in sectors like insurance and banking, and Ecuador is working with the Revenue Watch Institute on improving its petroleum sector disclosures. Yet actions that deter private investment and push Ecuador toward state-owned oil companies could halt this trend and won’t benefit the Ecuadorean people. In weighing in on the Chevron dispute, Rafael Correa’s government must be careful that by redressing past wrongs — in which Petroecuador itself colluded — it does not cut off its nose to spite its face.

Adam Green is editor of Exploration and Production: Oil and Gas Review and a contributor to Foreign Policy In Focus. His articles on politics, development, and energy have been published by the Financial Times, the Middle East Institute, The China Post, and the New Internationalist, among others.