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Abu Dhabi, UAETuesday 19 June 2018

Venezuela's woes may give way to future Opec headache

Falling production a boon for output cut deal, but awkward questions lie ahead

PdVSA's Amuay refinery complex. The country's falling production has proved a boon - so far - for other producers participating in an output cut deal. Carlos Garcia Rawlins / Reuters
PdVSA's Amuay refinery complex. The country's falling production has proved a boon - so far - for other producers participating in an output cut deal. Carlos Garcia Rawlins / Reuters

It’s rare for governments to claim that things are going worse than outside observers think. But in the latest Opec report, released on Thursday, Venezuela does just that. And the Andean nation’s struggles present a conundrum for the oil market this year.

Opec reports each country’s official figures for its oil production, together with an average of independent parties’ assessment of that production, the so-called “secondary sources”. This is done to get around the problem of cheating on quotas, where historically some states would under-report their output. Conversely, other states have often tended to over-report production, typically when they were suffering political or financial crises whose impact they wanted to downplay.

Venezuela has for a long time played the same game: it usually claims its output is 150-200,000 barrels per day (bpd) above third-party assessments. But in the latest Opec report, while the secondary sources put production at 1.745 million bpd in December (down 4.5 per cent on November), Venezuela’s own report has it falling from 1.837 to 1.621 million bpd. This compares with the 2.154 million bpd the country averaged as recently as 2016.

Assuming the secondary sources are closer to the truth, why would Caracas be under-reporting its output? It does not need to show compliance with its Opec target of 1.972 million bpd, since it is already well below that figure. General Manuel Quevedo, appointed in November as both oil minister and head of state oil company PdVSA, said last week that production had recovered to 1.9 million bpd, suggesting December’s lowball figure was intended to allow the country to exceed expectations in 2018.

In reality though, no such rosy outlook is on the horizon. Rather, Venezuela faces a year of further oil production decline, economic collapse and default.

Higher oil prices are unlikely to bail out President Maduro’s faltering rule. After using about 500,000 bpd in domestic refineries, and sending some 400,000 bpd to Russia and China to pay back loans, only a minority of the country’s production actually earns money. Despite rhetoric of independence and control by the workers, Caracas has kept the lights on largely by handing over assets to the Russians.

US sanctions make it hard to refinance Venezuelan borrowing, and limit the involvement of American citizens in energy projects in the country. PdVSA has not paid the interest on its bonds for a month, and the number of rigs drilling in November fell to its lowest level since 2003. A lack of money for maintenance, for light oil imports to blend with its heavy crude, and for cleaning and inspecting tankers, further crimps exports. What production remains is increasingly of heavier, less valuable grades. Unless the country deals with its debts and returns much of the industry to private hands, it will not be able to fund investment to sustain even its current lower output levels.

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Yet Venezuela has every potential for a rapid recovery, under different, more pragmatic leadership. A post-Chavismo government would attract international goodwill and debt restructuring. Russia benefits from keeping Venezuela’s oil off the market, but also wants to get its money back. Plus, both Moscow and Beijing would like to preserve their influence in the US’s backyard, particularly when a less ideological government in Caracas might not view their support for presidents Chavez and Maduro very favourably.

Despite its poor current state, the country’s oil industry, with the right oversight, could see a relatively rapid return to its former glories, even in the midst of lower prices. Incompetence, corruption, lack of spare parts and the distortions caused by the exchange rate system have been far more damaging to the sector than the oil price slump. What’s more, the country’s talented petroleum workforce, mostly now relocated to countries such as Colombia, the US and Canada, could be lured back.

Venezuela’s Orinoco Belt contains some of the world’s largest reserves of extra-heavy crude oil, which would be commercially viable to extract if a better tax system and greater investor guarantees were in place. Output in the belt actually rose in 2015 alongside a decline in production from country’s conventional oil-fields.

The country’s offshore resources, where the giant Perla gas field started up in 2015, is another future bright spot. In March, Shell agreed a deal to pipe gas from the Gulf of Paria to Trinidad, to be exported from under-utilised liquefaction plants. Guyana, with whom Venezuela has a disputed maritime border, has been a recent hotspot for deepwater exploration.

Venezuelan volatility complicates matters for Opec. For now, the bloc’s other members will be quietly glad that Caracas is taking the pressure off them and boosting overall compliance with the deal on production cuts. But if the bottom really falls out of PdVSA, the producers group would have to decide whether to suspend their output reduction deal in order to hold on to market share and avoid a damaging, unsustainable price spike.

A new Venezuelan government however might be able to refloat the country’s petroleum sector rather quickly, and, within a year or two, take output well above where it is today. Caracas would make a claim for special treatment, as Iran, Libya and Nigeria have done after their own particular problems. Opec would then have to corral the possibly reluctant non-Opec adherents back into its pact to avoid renewed oversupply.

In 2018, Venezuela’s peers will be relieved to be bailed out by its dodgy numbers. After that, if and when Caracas get its books in order, it may once again be a serious force in Opec.

Robin M. Mills is CEO of Qamar Energy, and author of The Myth of the Oil Crisis