Alternate sources of capital

Let’s say you’ve recently nationalized major foreign oil assets (not to mention other strategic industries), but you want more foreign expertise and capital to develop your energy sector. Where do you look? China and Russia, of course.

Venezuela's President Hugo Chavez announced that China will invest $16 billion in an oil exploration project in the Orinoco River region, according to media reports.

The news comes only a few days after Venezuela signed a $20 billion joint venture agreement with a group of Russian oil companies to develop the Junin 6 deposit in the Orinoco basin, reports said.

Russian oil pipeline operator OAO Transneft plans to start building a $600 million oil pipeline in Venezuela within three to four years, the company said Friday after signing a memorandum of understanding with Venezuela's state oil company.

Under the memorandum signed with Petroleos de Venezuela SA, or PdVSA, Transneft will build infrastructure for development of the Orinoco oil belt, including a 1,300 kilometer pipeline.

It sure is a multi-polar world out there...

Shoddy energy journalism

Like I said, the media doesn't really get what's going on in Brazil - take for example the latest headline from Green Sheet, "Brazil Opts For Nationalized Oil Production".

No, Brazil is not "nationalizing" oil production in the sense the term is commonly used - expropriating private assets or unilaterally abrogating contracts with foreign companies. That's what Bolivia did in 2006, and what Venezuela did in 2007, which is why foreign oil companies are reluctant to invest in the Orinoco Basin despite its relative technical simplicity (increasingly scarce in new oil reserves).

The shared-production contracts that Brazil is moving to are common practice all over the world. And while Petrosal will be the legal owner of the pre-salt oil reserves (the surrogate state, if you will), foreign oil companies will be allowed to own up to 70% stakes in some fields.

It's a complicated situation, hard for anyone to understand. It doesn't need to be further complicated by imprecise language on the part of the media.

Fuel subsidy anecdote of the day

From MR:

On arrival in Colombia, he found a stall set up by the side of the road where he regularly sells his fuel.

A 20-year-old "pimpinero" - as those who siphon off fuel are known - takes the petrol from Juan's car by sucking it out of the tank with his mouth and a hose, seemingly oblivious of any potential health risks.

The transaction is successful and Juan leaves with about $7-worth of Colombian pesos for what cost him about 50 US cents in Venezuela.

Recently, Venezuelan Energy Minister Rafael Ramirez announced that Venezuela would not be renewing an agreement on subsidised fuel with Colombia.

Here's the full story on the rise of smuggling between the two countries.

PetroSal's raison d'être

The concept has been much-discussed, but it looks like now the government of Brazil is moving forward with plans to create a separate state oil company called Petrosal to control its heralded potential oil reserves in the pre-salt geological layer of the ocean off the Brazilian coast.

I haven't seen much understanding in the English-speaking media of the purpose of PetroSal. It will not be an operating company (Petrobras is already among the best in the world at deepwater exploration and production, private oil majors included). Rather, it will be a separate legal and financial entity that will "own" the reserves and interface - legally speaking - with foreign oil majors interested in the pre-salt area.

Why is this necessary? For one, Petrobras is publically traded, and while the government controls voting through golden shares, any profits to Petrobras would be distributed widely to international investors, rather than kept entirely within Brazil.

Second, there are little-understood tax implications. Under existing contracts, royalties for offshore accrue mainly to the states of São Paulo and Rio de Janeiro - two of the richest states in Brazil. President Lula's goal is to use the proceeds to fund massive social spending to rise the standard of living in the poorest parts of Brazil, and a new legal structure for oil royalties would channel more of the proceeds to the federal government.

This points to a third reason for Petrosal, which in my mind is a good one - separating social goals from business ones. We've seen in Venezuela how Chavez has used PdVSA as his private piggy bank for social programs, and its oil-related investments suffer as a result. This has hit Venezuela's overall oil production; Petrosal could be a step in the right direction to avoid that fate.

The creation of Petrosal and other new rules alone will not be enough to avoid the resource curse, which as Moises Naim points out in the FT can result from both macroeconomic factors (Dutch disease) and political ones (corruption and lack of government accountability). But I remain optimistic that Brazil will be able to walk the delicate line between attracting enough foreign investment in exploration and giving away too many of the proceeds. As for the efficacy of the resulting social spending, on that only time will tell.

P.S. For anyone interested in the many manifestations and implications of "the resource curse", I highly recommend Escaping the Resource Curse, a collection of essays from diverse points of view (academic, government, legal, business) on the resource curse. Oh, and both Joe Stiglitz and Jeff Sachs are editors.

P.P.S. Apparently the markets didn't like the announcement too much, shaving $7bn off of Petrobras' ~$180bn market cap. I'm not convinced the market really understands what's going on here, though. Bloomberg certainly doesn't.

The latest Peak Oil spat

A reader has asked for me to weigh in on the recent Peak Oil spat; in truth I was meaning to do so, but the commentary has piled up and I felt increasingly intimidated by the task of commenting on it. But here's an attempt at a quick synopsis:

To warm up, on Monday, Daniel Yergin (author of The Prize, the best book about oil I've ever read) wrote a piece in FP saying basically that Peak Oil fears are overblown because the combined response of technology and demand will adjust the world to declining conventional supply.

Then, main provocateur Michael Lynch published an NYT op ed calling Peak Oil "a waste of energy" and making the aggressive claim that oil is destined for $30/bbl in the long term.

The response was quick and furious; not one but two point-by-point rebuttals from The Oil Drum, as well as one by Morgan Downey (the author of the best book about oil I haven't finished reading yet, Oil 101 - I got diverted but it has received great reviews from very credible sources). And from the complete other end of the spectrum, Climate Progress took Lynch to task, going so far as to offer a bet:

Here’s my bet to Lynch. Let’s take the average price of oil from 2010 to 2015. For every $1 a barrel it is below $40, I’ll pay you $200, if you pay me a mere $100 for every $1 a barrel it is above $40.

That should be a no-brainer since I am giving him 2-to-1 and spotting him $10 a barrel off of what he says the right price is.

As I've mentioned before, I fall somewhere in the middle - I think $30/bbl is implausible, but the combination of 1), massive unconventional reserves (oil sands in Canada and Venezuela, deepwater in Brazil and who knows where else) that can be produced at a cost around $50-100/bbl, and 2), the power of high prices to destroy demand and incentivize development of alternative energy sources makes it unlikely that prices will settle much higher than $100/bbl in the next decade. Now, there may be volatility and prices spikes driven by supply shocks - we may have one coming, in fact, as the current recession has slammed exploration capex - but these will only last as long as it takes to deploy additional capital like it was deployed in 2007/2008.

(There is the chance that major geopolitical chaos could result in sustained higher prices, but that isn't the mechanism Peak Oilers are betting on.)

Peak Oil is many things - a mathematical tautology, an effective gimmick:

But regardless of the holes in Hubbert’s theory, peak oil, the gimmick, still serves to remind us that some day the oil will be gone, out of our reach, or most likely of all, extraordinarily expensive. Peak oil, as a way of understanding the real costs–political, economic, environmental–embedded in oil production regardless of the day’s market price per barrel, needs to live on.

... but I do not see it as a rigorous analytical argument that justifies energy alarmism in the short term.