Oil & Politics in Latin America

Except for Venezuela, which for years has been the world's leading oil exporter, Latin America has been a minor factor in world production. Nonetheless, oil is produced in a number of Latin countries and during 1969 their unremitting attempts to increase their returns from it or their control over the industry flared into sharp conflicts between oil companies and host governments in Peru and Bolivia. The conflict has assumed different forms from place to place, depending on the situation of the country and its internal politics, but the eternal jockeying for advantage goes on. Since the Latin experience encompasses a very wide range of possible adjustments, an account of it is instructive for other areas as well.

Oil provides for over 70% of all energy consumed in Latin America—more than 90% if associated natural gas is included. Growth in Latin American oil consumption lagged far behind the world pace over the years 1958-68, climbing only 55.3% while on a world basis the rise was 107.2%. Production also has shown a sluggish trend. Oil output was 7.6% of the world total in 1968, but this represented a growth of only 53.4% over the 10-year period, while world output more than doubled. The Caribbean area's share of world oil exports dropped from 34.1% in 1958 to only 16.8% in 1968. Many Latin countries are importers of some or all of their supplies and have faced burdensome foreign exchange costs as consumption has outpaced domestic production. It is not easy to say whether geology or policy accounts for these trends, but on the whole Latin America has been one of the less inviting areas for the operation of the international oil companies which have been so successful elsewhere.

Policy problems vary greatly from country to country. Uruguay, which has no domestic production and little prospect of any, has the simplest problem—it must seek to minimize the per-barrel cost of imports. In this case the refineries are state owned so there is no ambiguity over price arising from the transfer of oil between associates of the same international company. By bargaining in the world market, the state firm is able to purchase oil well below the posted price.

In Brazil state-owned refineries are granted an increasing share of the market. There, the state oil firm also assumes responsibility for the purchase of crude for private refineries, thereby breaking their supply link with international parents and the intracompany price accompanying it. An interesting by-product of this practice is that Brazil's source of supply has shifted strongly from Venezuela to various other areas.

Like other Latin countries, Brazil seeks to minimize foreign exchange cost by producing oil domestically. About 40% of the country's needs come from local sources. However, a state monopoly has precluded foreign investment in crude production and has shifted government funds and energies to the development of an oil industry. Some feel these resources might better have gone into other fields, leaving the oil sector to cheap imports and foreign enterprise. A strong sense of nationalism has foreclosed this possibility and the state firm has gradually built up its production.

Argentina, which allowed foreign investors in the oil fields in early years, attempted over a long period to reserve new developments for the state entity. The restrictions on private companies and the deficiencies of the state firm, together with other government oil policies, brought a growing deficit in the 1950s.

By 1958, with over two-thirds of the country's needs being met by imports, President Frondizi sought the help of international companies to develop the nation's oil resources. In the face of a long-standing ban on concession agreements, this arrangement took the form of contracts for development and exploration. The quick success of the policy eliminated imports within five years but did not allay criticism of the new role accorded foreign producers. Recriminations followed Frondizi's removal from office and the contracts were annulled. With production again falling behind demand, the Ongania government provided for the reentry of foreign firms and production has resumed its favorable trend.

Subsequent developments elsewhere, however, suggest that the Argentine pattern will prove no model. In Peru, likewise a deficit country, with domestic production inadequate to meet demand, a long-standing dispute between the government and the American-owned International Petroleum Co. (IPC) came to a head abruptly a year ago. Although Peru still allows concessions to oil operators, the IPC holding was based on an ancient title long antedating the nation's petroleum law. The issue was complicated by a dispute over tax liabilities which also has a long and involved history. Despite the problems, the dispute was nearly resolved in August 1968, but the agreement was swept away by a military coup in October of that year. The military seized on the issue as a vehicle for gaining popular support. With the dispute escalating, the government took over the company's assets and held them against payment of a newly computed tax claim far above the book value of the properties. In this manner they sought to escape the charge of an uncompensated expropriation.

Since the U.S. government is required by the Hickenlooper amendment to the foreign aid law to suspend assistance to any country which expropriates without compensation, the dispute has clouded relations between the two governments. So far there has been no resolution and the case resides in the Peruvian courts where its lack of finality saves the U.S. government embarrassment. A face-saving compromise remains possible.

The IPC case has enough unique features that it can hardly be expected to set the pattern elsewhere in Latin America. However, one effect may have been to embolden other countries to assert more control over foreign oil interests. Thus, in Bolivia a newly installed military government followed the Peruvian example and nationalized its principal foreign-owned oil producer (Gulf) in a rather obvious bid to legitimize a coup. There had been no long history of dispute between the parties and Gulf had not by any means recovered its investment in the country.

Unlike Peru, where production is consumed locally, Bolivia relies on the export market to dispose of three-fourths of Gulf's production. The oil has been transported in Gulf tankers primarily to U.S. West Coast customers. Neither alternative transport nor buyers seem available to Bolivia, and the result of nationalization may be a drastic reduction in output. One of the poorest countries in Latin America, Bolivia can ill-afford to compensate Gulf for its reported $150 million investment. The government has disclaimed intention to pay for exploration and development expenses of the company and terms the matter of indemnification a "semantic" question. Again the issue of the Hickenlooper amendment appears destined to arise after the statutory time has elapsed.

State oil-producing companies have been fostered in many Latin countries. They have had middling success in most instances and have been unable to supply domestic needs (Brazil, Chile) or have required substantial outside assistance (Argentina). The most successful has been Pemex, the Mexican state firm. Growing out of the seizure of foreign-owned properties in 1938, Pemex encountered numerous technical and administrative problems when foreign experts were withdrawn. However, they still were able to meet local demand because one-half of production previously exported found no market and became available for domestic expansion.

The Mexicans reorganized their industry's logistics to meet domestic needs, eventually settled the claims of foreign firms, made use of outside technical help in raising reserves and production, and finally established a domestic pricing policy that provides self-generated funds for investment. Although many faults can be found with their performance, they have succeeded in meeting the country's needs at reasonable prices.

Venezuela, with 72% of Latin America's crude production and a still higher proportion of its exports, is the heavyweight of Latin oil producers. This position has been achieved almost entirely by foreign-owned firms which have invested massively in developing the nation's oil resources. The Venezuelan economy is highly dependent on oil both as a source of foreign exchange and government revenues. This situation, even more than most, leads to the insistence on domestic control over the nation's principal resource. However, the dependence on foreign markets largely in the hands of the international companies, the favored position of Venezuelan oil in the U.S. market, and the relatively high cost of producing it compared to Middle East costs, all limit the options open to the country.

Venezuela, too, has a state oil firm, but so far it remains a relatively minor factor. Rather, tax policy has been used effectively to secure for the state a high share of the profits from oil production while leaving it in private hands. Government revenues per barrel exported in 1968 amounted to 104.70¢, highest in the world. Meanwhile, the government has been most active in organizing other oil-producing countries to press similar demands and to bolster the world oil price, thereby protecting Venezuela against lower-cost producers.

Domestic politics require a militant posture towards the industry. The government refuses to grant new concessions to the oil companies, and the latter, faced with the expiration of existing concessions beginning in 1983, have begun to taper off on new investments. Government strategy is to provide a growing role for the state entity while still availing themselves of foreign technical skills and marketing connections.

Service contracts, a device so profusely and profitably used in Argentina, is the chosen path in Venezuela. The bases on which firms can bid for such contracts have been in preparation for a decade and supposedly the process is near an end. It remains to be seen how successful this device will be in raising Venezuela's net receipts per barrel or bringing aggressive expansion of production. Venezuela is already estimated to get 72% of net oil receipts and may hope to increase this to 80-90% by means of the contracts.

Unlike Argentina, which used contracts to increase output for sale in a protected domestic market, Venezuela must compete in the world market where declining prices and its own high costs place it at a disadvantage. In these circumstances Venezuela may prove to be the first country to discover the limits of the host country's return on oil. The switch to service contracts may compel the government to face directly the results of decisions on price and output heretofore left to the companies. Some disquiet about these prospects is suggested by recent hints that the government would view future U.S. oil investments in the country with greater favor if the United States improved the access of Venezuelan oil to the U.S. market.

Throughout Latin America the trend is clearly toward assertion of more direct control over oil resources. This aim comes up against the need to have what the oil companies offer—technical skills, investment funds, and marketing connections. Exporting countries find it difficult to escape links with the international companies. Those that set to produce only for the domestic market can obtain technical help and even investment funds, as Argentina has shown, if they are willing employ incentive contracts. But to shun all relations with the international companies implies a long and arduous path of building a capable organization, freeing it from excessive political constraints, and allowing it to generate funds through realistic product pricing. There are many possible arrangements for getting oil out of the ground and quite a few for leaving it in. Latin American countries may try them all.