U.S. President Donald Trump’s plan to parlay Washington’s de facto control of Venezuela’s economy into an oil industry renaissance has now melded with his notion to use Venezuelan crude to wean India off Russian oil. Neither is likely to come about in the near future.
The good news, from the United States’ point of view, is that the pliant government in Venezuela just overhauled a decades-old oil production law, a move meant to make the country (the holder of the world’s largest oil reserves) an appealing investment destination for energy companies after years of decline and deterioration. The reform, which passed last week, is, on paper, a fairly radical revision to the resource socialism that prevailed under former Venezuelan strongman Hugo Chávez and which ushered in the country’s economic decline.
U.S. President Donald Trump’s plan to parlay Washington’s de facto control of Venezuela’s economy into an oil industry renaissance has now melded with his notion to use Venezuelan crude to wean India off Russian oil. Neither is likely to come about in the near future.
The good news, from the United States’ point of view, is that the pliant government in Venezuela just overhauled a decades-old oil production law, a move meant to make the country (the holder of the world’s largest oil reserves) an appealing investment destination for energy companies after years of decline and deterioration. The reform, which passed last week, is, on paper, a fairly radical revision to the resource socialism that prevailed under former Venezuelan strongman Hugo Chávez and which ushered in the country’s economic decline.
The problem is that it is all just on paper for now—and hurriedly drafted, at that. It’s not clear if the changes to rules for joint ventures, private investment, royalty rates, and more will be enough to assuage the concerns of major oil companies that have been repeatedly burned in Venezuela since the 1970s.
“On the one hand, it is remarkable progress,” said Graham Kellas, senior vice president for global fiscal research at energy consultancy Wood Mackenzie, recalling that the overhaul of Nigeria’s oil sector took more than 15 years. “It is a significant first step, but there are a lot of miles to go before you have a contract that is signable by the private companies, and then the investment could start to flow after that.”
The Venezuelan oil reform has been attracting plenty of attention in recent days because the legal and contractual framework that governs the investment of billions of dollars over decades was one of the biggest hurdles to rekindled interest by international oil firms, especially U.S. majors. Venezuela embarked upon large expropriations of international oil assets in the mid-1970s and again in 2007.
During a meeting at the White House in early January, before the oil law reform, ExxonMobil chief executive Darren Woods called Venezuela “uninvestable,” underscoring the need for “durable investment protections” and a “change to the hydrocarbon laws in the country.” But even after the passage of Venezuela’s oil reform, Exxon doesn’t seem convinced about the long-term stability and predictability of a rump regime run by remote control, and Woods stressed the importance of a transition to democracy to restore big investors’ faith in the country’s long-term future.
One outfit that has seized upon the legal reforms in Caracas is the U.S. Treasury, which has already issued a pair of limited sanctions exceptions related to Venezuelan crude and may soon issue a third. The two general licenses issued so far offer a way for U.S. firms—and only U.S. firms—to sell Venezuelan oil on the market and to sell to Venezuela the light, easy-flowing diluents needed to turn its heavy oil into something resembling crude. Another license reportedly on the way could open the door to limited oil production activities in Venezuela for U.S. firms.
It is ironic that just as Venezuela’s big hydrocarbon reform law seeks to lessen the role that the Venezuelan state plays in managing the oil industry, the U.S. government has filled the breach and is now acting as arbiter of which firms can operate in the Venezuelan oil patch and under which conditions.
One of the biggest elements of the new oil law is that it promises to break the stranglehold that the state-owned oil firm Petróleos de Venezuela, or PdVSA, has over the industry. Before, every joint venture with a foreign firm had to be majority-owned and largely operated by PdVSA, which is riven by corruption and decades of brain drain.
The new law provides a way for foreign private firms to sign what is essentially a production-sharing contract with the government, akin to the way in which U.S. oil firm Chevron has been operating in Venezuela in recent years. That’s not a full privatization of the sector, but it is an important step toward attracting more foreign capital and expertise to an oil industry that needs both to restore production from the dismal current levels (around 900,000 barrels of oil a day) to something on the order of 1.2 million barrels a day.
Another crucial element of the hydrocarbon reform is a modified royalty and tax structure for foreign oil companies—although this remains perhaps the biggest question mark of the new law. Caracas has known for years that its punitive royalty rates (and random expropriations) discouraged foreign investment, but the sclerotic Venezuelan economy under Chavez and then Nicolás Maduro left little recourse but to squeeze ever more oil out of the rock.
The problem is that it is not clear how much the Venezuelan government intends to squeeze under the new law: It says that it could impose base royalty rates of “up to” 30 percent, plus another tax-cum-royalty of “up to” 15 percent, not counting income taxes, which come later. The law also suggests that it could tweak royalty and tax rates on a sliding scale to reflect risk for different types of oil production projects. But a government take of 45 percent would put even the reformed Venezuelan oil economy at the very top of the takers’ table, Kellas said, with effective royalty rates higher than in Iraq, Argentina, Kazakhstan, or the United Arab Emirates.
“The heavy lifting in all of this is that ‘up to,’ and that is what is going to be the focus of a lot of discussion: How low can they go, for how long, and can they differentiate between different projects and different levels of risk?” Kellas said.
As a whole, as Luis Pacheco, a nonresident fellow at Rice University’s Baker Center, and a colleague have gamed out, the tentative first steps toward reform of the Venezuelan oil sector would most likely entice smaller companies that could be tempted by opportunities to exploit a large and well-mapped resource base. But that doesn’t necessarily mean that the big international firms will bring their tens or hundreds of billions of dollars to Venezuela on the back of one month of limited political change and partial reforms to existing oil laws.
“If companies are to invest billions of dollars over the years, they will surely need something more than a hurried reform carried out under duress from Washington,” wrote Pacheco, who was formerly an executive with PdVSA.
That makes it even less likely that Venezuela will be able to replace Russia as India’s main source of oil, as Trump floated on social media on Monday. It is true that Venezuela, like Russia, produces a heavy, sour grade of oil that would be great for Indian refineries. But the bigger problem is math.
India now imports around 1.3 million barrels a day of Russian oil, give or take, up from around zero at the start of the latest Ukraine war. India can do so because few other countries will: Europe and the United States quickly swore off imports of Russian oil (for the most part), leaving India and China to rummage in the bargain bin and snap up millions of barrels a day of discounted oil.
Venezuela, after two decades of mismanagement, corruption, lack of investment, and a dearth of expertise, has seen its production of crude plummet from around 2.5 million barrels a day to under 900,000. Even the most optimistic scenarios for Venezuela’s short-term recovery under the new oil law wouldn’t come close to substituting for India’s dependence on Russian crude, even if India were willing to pay the market prices that the Trump administration is now demanding for the Venezuelan oil it doesn’t actually own.
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