Lisa Viscidi, Nate Graham
Venezuela’s flailing oil industry has helped prop up global energy prices even as Saudi Arabia and Russia open the spigots and global oil demand remains robust. Though oil prices have recovered from their lows during the price collapse in 2015, Venezuelan output has since seen an incredible decline of 1 million barrels per day. The drop in oil production is further squeezing the Venezuelan economy, which faces critical shortages of goods and ballooning inflation that is expected to reach an astounding 1 million percent this year.
But could Venezuela’s oil production decline even more steeply? Three evolving developments will largely determine the answer, which would push Venezuela closer to the brink: whether creditors can seize assets in compensation for default; whether conditions for oil workers on the ground worsen, leading large numbers to abandon their jobs; and whether the United States and other countries impose additional sanctions.
Although Venezuelan crude oil production has been declining gradually since its peak of 3.4 million barrels per day just before Hugo Chavez took office in 1999, it has recently entered a spectacular free fall. In June 2018, production hit 1.34 million barrels per day, 30 percent lower than in June 2017. Oil exports to the U.S.—Venezuela’s biggest buyer—also dropped by more than 30 percent in the first half of this year compared to the same period last year.
As the oil production decline freezes Venezuela’s cash flow, the country and its state oil company, PDVSA, are defaulting on their substantial loans from international creditors. Under President Nicolas Maduro, Venezuela has already sold off many of its assets abroad and offered its U.S. subsidiary, Citgo, as collateral to secure bonds and a large loan from Russia’s state-run oil giant, Rosneft. Caracas is even starting to offer its oil reserves as collateral. On July 25, the government transferred 29 billion barrels of oil—almost 10 percent of its proven reserves, valued by the government at $1.9 trillion—to the Central Bank to serve as guarantees for new loans from Russia, China and other creditors.
But what if they scramble to seize Venezuela’s assets? The recent seizure of $2 billion of assets by ConocoPhillips may set a precedent for PDVSA’s other creditors that collectively claim they are owed about $35 billion. The assets include oil processing and storage facilities in the Caribbean, which Conoco seized after winning an international court dispute over Venezuela’s nationalization of its projects in the country in 2007. PDVSA could also lose access to the U.S. market in the event of a Citgo seizure. The U.S. Office of Foreign Assets Control recently modified American sanctions to allow holders of certain defaulted PDVSA bonds to access the collateral held in the form of Citgo shares. The real trouble, though, will come if creditors are able to claim not only facilities abroad, but Venezuelan crude oil shipments themselves. Various creditors are said to be reviewing the legal case for seizing the oil—Venezuela’s only source of foreign currency for critical imports.
In addition to the risk to physical assets, PDVSA has been hemorrhaging human capital as dismal pay, unsafe working conditions and poor management lead workers to abandon ship. In Lake Maracaibo, some workers’ pay barely covers their daily bus fare. Reports of PDVSA workers passing out on the job from hunger are widespread. In 2017, 25,000 workers resigned from a workforce that totaled 146,000 the previous year. Many long-time employees were fired, some for political reasons, upon the arrival of Maj. Gen. Manuel Quevedo, the firm’s new head, who was named to the post last November. Less than 40 percent of current employees have more than 10 years of experience, and less than a quarter have a university degree. Rigs and refineries operate well below capacity, and in some refineries small fires have broken out for lack of supervisors. Conditions for workers in foreign companies are also difficult, as nearly all Venezuelans struggle to access food and medicine. If this leads to a massive strike or disorganized exodus from PDVSA and other oil companies operating in the country, production will quickly plummet even further.
Various creditors are said to be reviewing the legal case for seizing crude oil shipments—Venezuela’s only source of foreign currency for critical imports.
Meanwhile, Maduro’s government has repeatedly pointed to U.S. sanctions as a core factor exacerbating the crisis of Venezuela’s economy and oil industry. Many sanctions, including a new set from the European Union on June 25, have targeted Maduro himself and other individuals. However, three rounds of sanctions imposed by the Trump administration since August 2017 have also restricted the ability of the Venezuelan government, including PDVSA, to take on news loans and sell public assets.
While sanctions have undoubtedly put the squeeze on PDVSA’s financials, they could do much worse yet. In the near term, the Trump administration may avoid imposing sanctions that would hit Venezuelan oil production, putting upward pressure on global oil prices—and thus gasoline prices for American consumers—right before the midterm elections. And the administration will probably not ban imports of crude oil from Venezuela, which accounted for 32 percent of Venezuela’s exports in the first quarter of 2018. Such a heavy-handed move would choke off Venezuela’s main source of foreign exchange to import basic goods and be met with an international backlash.
But in the longer term, the more moderate approach of banning U.S. exports of petroleum products and light oil, called condensates, is still a possibility. Venezuela imports oil products from the U.S. because its refineries are operating at less than 20 percent of capacity, and it needs condensates to blend with its extra heavy oil. A ban on American oil and petroleum products would likely cause widespread shortages at gasoline stations in Venezuela and a short-term drop in production as the country scrambled to find alternative suppliers of light oil. For its part, the Trump administration says all options are on the table.
The potential political and economic fallout of a steeper drop in Venezuelan oil production remains unclear. As the country’s crisis worsens, Maduro could fall to an opposition-led government that would probably be forced to seek a bailout from the International Monetary Fund. Or he could cling to power with more support from Russia and China. Beijing has made billions of dollars in loans that have helped keep Venezuela afloat, though last year it did not make a single loan to Venezuela for the first time in almost a decade. Russia has substantially expanded its assets in Venezuela’s oil industry, but Moscow alone could not make the massive investments that would be needed even to maintain Venezuelan oil production at current levels. So if one of these three scenarios—the mass seizure of assets, an exodus of workers or more sanctions—plays out, it will undoubtedly sink Venezuela’s oil production and revenues. Only oil market bulls will celebrate.
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