Legal and institutional reforms alone are not sufficient to attract investors to Venezuela. An array of political, economic and security risks need to be addressed, while also navigating the energy transition.
Formal changes to the institutional and legal framework in Venezuela do not guarantee success in attracting investments and oil and gas sector recovery. Beyond the ever-present political risks, the country will face several challenges in advancing any reform agenda.
First, there is uncertainty about the type of political resolution that will arise from the current political crisis, or how stable a future government will be. The reform proposed in the Hydrocarbons Bill relies on the assumption of a transition to a democratic government. But Nicolás Maduro remains in control of the country and it is unclear how (or if) a political transition will occur. Foreign companies have expressed concern that a military regime would increase political risk and create further uncertainty.
In the short term, economic sanctions will continue to put pressure on PDVSA. Sanctions imposed by Washington have progressively cut PDVSA’s access to US financial markets, suppliers, contractors and export markets. Large companies will require a lifting of, or changes to, sanctions to invest in the country. Lingering sanctions, even after a transition occurs, as well as potential reputational or compliance risks can keep potential investors away from the country.
Rebuilding Venezuela’s economy will place tremendous fiscal demands on the country. Combined with underlying energy nationalism, this can lead to political pressure on future policymakers to extract more revenues from the oil and gas sector, which would affect the success of reforms. Additionally, wary investors may delay their operating or investment decisions until conditions for future contracts and provisions are fully specified.
Operational limitations can also hinder the success of any legal reforms. The degraded state of oilfields, equipment and basic services like power, water and transportation will create bottlenecks to increasing oil production, lengthening the amount of time needed to recover output. Additionally, some fields may have suffered damage due to production shutdowns, which will either require additional investments or affect the availability of extractable resources. Service providers and contractors may not be willing to engage with Venezuela while the country and PDVSA owes billions of dollars to creditors. Emigration waves have also reduced the availability of skilled local human capital that investors and the government will need. International investors may rely on expatriates to fill technical gaps, but the government may struggle to develop the skills that policymaking and regulating agencies will need to implement the reforms.
Even if the government creates a more investor-friendly environment, many IOCs may not be willing to invest in Venezuela’s oil and gas industry. In the short term, the impact of COVID-19 cannot be overstated. According to the US Energy Information Administration, most oil and gas companies, facing cash shortages and demand uncertainty, slashed capital investments in 2020. As IOCs adjust their investment portfolios across the globe, Venezuela may struggle to generate significant interest.
In the long term, the energy transition and further uncertainty about oil demand may affect investments in the global oil and gas industry. IOCs have increasingly pledged to minimize their greenhouse gas emissions, which may imply lower appetite for new oil and gas projects, and signalled a new focus on cleaner energy projects. Several studies suggest that companies are demanding higher hurdle rates – i.e. the minimum rates of return on investments – to participate in long-cycle oil projects. A recent study estimates that between 66 per cent and 81 per cent of oil reserves across Latin America and the Caribbean will remain unused by 2035, threatening countries like Venezuela that rely heavily on oil and gas revenues. Another study estimates that PDVSA has the fourth-largest average post-tax break-even level – close to $40 per barrel – out of 49 NOCs. Companies increasingly focusing on low cost and short-cycle projects will demand flexible contractual and fiscal systems.
A global transition to a carbon-neutral economy may raise two risks for Venezuela: lower fiscal revenues from oil and gas exports and fewer FDI flows for the hydrocarbons sector. While oil and gas demand are not expected to vanish overnight, a long-term decline will reduce the economic rents that have underpinned the economy for decades. Additionally, as producer countries move to exploit their oil and gas resources, there is a risk of a global ‘race to the bottom’ by cutting taxes and obligations for oil and gas projects as they compete to attract a shrinking number of investors. Venezuelan policymakers must keep in mind that these issues can affect the success of energy reforms in the country.