Could A Comeback In Venezuelan Oil Crash The Markets?

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By Matthew Smith

Crude oil prices had a rocky start to 2021. There are plenty of wildcards which will continue to fuel price volatility for the foreseeable future, the most notable being supply threats with global oil production expected to expand despite sharply diminished demand growth. One such event is whether Venezuela, after suffering one of the worst economic collapses witnessed outside of war, can rebuild its shattered energy sector and return to pre-2017 production levels to pump more than two million barrels per day. Venezuela’s autocratic president Nicolas Maduro believes this is achievable and has been steadily implementing a range of radical measures designed to trigger an oil industry recovery. The strife-torn founding OPEC member’s petroleum potential is tremendous. Aside from having the world’s largest crude oil reserves of over 303 billion barrels, in the space of little over three years Venezuela’s crude oil output collapsed, plunging from over 2.1 million barrels per day in 2016 to a mere 500,000 barrels daily during 2020. Once Hugo Chavez assumed the presidency in 1999, initiating his socialist Bolivarian revolution, Venezuela’s petroleum production started steadily declining. Crude oil output plummeted from a record 3.1 million barrels daily in 1998 to less than 2.4 million barrels when Maduro took power in 2013. That decline was accelerated by Washington steadily ratcheting up sanctions against the autocratic Maduro regime, eventually cutting Caracas off from global energy and financial markets. This the Trump administration believed would spark regime change in the crisis-rife petrostate and see internationally recognized interim president Juan Guaido assume power. Whereas it only strengthened Maduro’s grip on power despite severely constraining the volume of crude oil Venezuela could export to generate export earnings hastening the strife-torn Latin American country’s economic collapse. As the economy rapidly shrank, Caracas was unable to muster the capital necessary to perform vital maintenance and development activities on energy infrastructure and oilfields. That was responsible for accelerating the deterioration of crucial operational assets causing production to decline at an ever-greater clip. As critical oil infrastructure corroded further because of a lack of investment and vital maintenance spending crude oil output cascaded ever lower causing Venezuela’s economy to collapse.

Based on OPEC data, Venezuela’s collapse has taken almost 1.9 million barrels daily off global supply since 2013, yet that did little to prevent the global crude oil supply glut which emerged in late-2014 caused prices to collapse. It is speculated that if Maduro can attract the much-needed investment required to rebuild Venezuela’s petroleum infrastructure he could quite quickly, lift oil production to over one million barrels daily. That could potentially rile oversupplied global crude oil markets causing prices to plummet. Global crude oil supply is being artificially reduced by the OPEC Plus production caps and Saudi Arabia’s unilateral one million barrels per day production cut. This is occurring in an environment where energy demand remains weak, with the International Energy Agency stating earlier this year that crude oil consumption is incapable of recovering to pre-pandemic levels. That does not bode well for long-term oil prices in a world where an existing supply glut is being suppressed by artificial means.

In late 2016 the first OPEC Plus production deal was reached cutting 1.8 million barrels of crude from global supplies. Since then, the consortium has gradually increased the output caps to drain global oil storage and reduce the supply glut. After the pandemic and a looming price war hit energy markets hard causing oil prices to crash, OPEC Plus agreed to cut almost 10 million barrels of crude oil from global supply. While those cuts were gradually eased over the course of 2020 the consortium is still holding back around eight million barrels of crude oil production per day, when including Saudi Arabia’s unilateral one million barrels, from global supply. At the March 2021 OPEC Plus meeting it was agreed to progressively unwind those cuts, adding 350,000 barrels per day in May 2021, another 350,000 during June and 450,000 barrels in July. That will apply pressure to global oil prices, particularly if a range of non-OPEC producers, including the U.S. and Brazil, keep growing production. The deep cuts already made by OPEC Plus, including Riyadh’s one million barrels per day which triggered a spat with key customer India, makes it unlikely that the consortium can absorb the additional oil production a resurgent Venezuela will add.

Nevertheless, there are a range of issues indicating that unlike Iran, where U.S. sanctions may shortly be eased, Venezuela will be unable to significantly bolster oil production. Strict U.S. sanctions aimed at controlling Venezuela’s access to global energy markets, which aimed to penalize companies breaking them, will remain in place for the foreseeable future. That is despite President Joe Biden having flagged that he recognizes the humanitarian crisis unfolding in the strife-torn Latin American country and is reconsidering how sanctions are applied to Venezuela to ease the disaster that is unfolding. A key sticking point for Washington to remove sanctions is Maduro must accede power to U.S. recognized interim president Juan Guaido. There is every indication that Maduro will not comply with this requirement.

Against the perceived odds, Venezuela’s autocratic leader has firmly cemented his grip on power. In the December 2020 elections he won control of Venezuela’s National Assembly and removed Juan Guaido from his seat and role as speaker. The cost for Maduro to leave power far outweighs any attempts to retain power. The U.S. Department of Justice has charged Maduro as well as current and former senior members of his regime along with two Colombian dissident FARC guerilla commanders with a variety of criminal offences. Among the most serious are indictments for narco-terrorism, corruption and drug trafficking, which could see him, and his co-accused, spend decades or longer in U.S. custody. That is a particularly strong deterrent for stepping down. There are signs that since Guaido lost his seat in Venezuela’s National Assembly his legitimacy as interim president and leader of the opposition has declined significantly while further fracturing the opposition to Maduro. That further decreases the likelihood of Venezuela’s disparate groups opposed to the autocratic regime in Caracas being able to solidify the required popular mass to topple the regime, particularly with many Venezuelans having fled the country or focused solely on survival.

Aside from the inability to remove Maduro from power, even the measures being taken by Caracas aimed at allowing private control of petroleum projects and assets will fail to attract the required investment. Venezuela’s shattered energy sector needs massive amounts of investment to bring crude oil production back to over two million barrels per day. Estimates vary but there is an emerging consensus that it would take $200 billion or more invested over a decade to ramp production up to 2.6 million barrels per day, which is where it was in 2005. No private energy company will invest the vast amounts required because of U.S. sanctions, a history of nationalization and serious security issues in many regional areas in Venezuela. Caracas is struggling to control its national territory with a wide variety of Venezuela and Colombian illegal armed groups operating in the rural areas where much of the country’s oilfields are located.

For these reasons, any sustained recovery of Venezuela’s petroleum industry appears a long way off. In fact, analysts are predicting that production will continue to decline. Some, including those at S&P Platts, estimate it will fall below 300,000 barrels daily during 2021 regardless of the assistance provided by Russia and Iran. OPEC production data for the first two months of 2021 shows that Venezuela pumped on average 488,000 barrels daily during January and 521,000 for February or less than a quarter of the 2.4 million barrels daily produced in 2013 when Maduro came to power. While the decline may not be as severe as forecast, Venezuela’s 2021 oil output will continue to deteriorate until Caracas can attract the capital required to rebuild shattered energy infrastructure and oilfields. That means Venezuela’s efforts to boost petroleum production will not bolster global supply nor force OPEC Plus to adjust production caps or threaten crude oil prices.

The Biden administration, while recently showing a reticence to fully enforce sanctions by allowing three Iranian tankers loaded with gasoline to dock in Venezuela, is unlikely to lift sanctions in their entirety.

Crude Oil

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