The underdevelopment of Venezuela’s massive oil resource has been a puzzle to some commentators for many years. Luis A Pacheco PhD, a nonresident fellow at the Baker Institute Center for Energy Studies, gives a deeper perspective on why the country has so far failed to tap its oil potential.
But why is it that Venezuela – or its political class – ignores lessons from its own history, as well as that of other countries, and mismanages its natural resources? There is no single or simple answer to that question, but part of the explanation lies hidden in the fabric of society and its myths.
From a very young age, Venezuelans are taught that their country possesses immense natural wealth. It is literally made of oil, gas, gold, diamonds and sandy beaches and is spread across diverse geographies. It is, in short, a Latin American paradise. When this is taught in the historical context of Venezuela being one of the world’s most successful economies between the 1920s and the 1970s, the sense of entitlement – even hubris – that the society has acquired is easy to understand.
This economic expansion was not without hiccups. During the first half of the 20th century, Venezuela was ruled by a series of dictatorial military regimes that used the new wealth not only to develop the country but also to keep their political opponents in check – and sometimes through violence. It is, therefore, no surprise that oil – and specifically the foreign oil companies – became associated in the public mind with military regimes and synonymous with foreign exploitation and cronyism among the elites. This mythic structure runs deep and still colors how Venezuelans look at their country’s most important industry. Because of this, or because for the major part of the 20th century Venezuelans believed that oil reserves would run out quickly, successive governments have looked at oil not as an industry but as a provider of funding for the development of other industries. This approach also fostered in some the belief that the oil industry was a fast-money scheme that somehow perverted an otherwise virtuous society.
In the mid-1970's, when the nationalization of the oil industry coincided with a steep rise in oil prices, one could see the myths at work. The oil industry was owned and operated by Venezuelans but was still viewed with suspicion by society – and mainly by politicians. In return, the oil industry isolated itself from the mainstream, in the belief that it was protecting its operational efficiency from contamination. The government, awash in oil money that reinforced the myth of Venezuela being a rich country, invested in large and mainly inefficient projects while financing popular social programs and amassing a large foreign debt to balance the budget deficits that ensued as the oil bonanza came to a halt, leaving production capacity neglected.
Paradoxically, in the hands of PDVSA, the oil industry not only survived but thrived, becoming a big player in the global market. In the 1990's, PDVSA – with the reluctant support of the government – implemented a strategy to attract foreign companies back to invest across the oil value chain. The reasoning behind this was that the combination of demand growth in Asia and Latin America and the size of the Venezuelan resource base presented a unique opportunity to use the oil industry as a growth generator for the whole economy. This strategy and its success fed into the old myths about the industry, further increasing tensions between the ‘petroleros’ and broader society. PDVSA was ill-equipped to identify this tension, let alone ease it.
The end of the 20th century brought back with it the old ghosts – the oil price tumbled, creating yet another crisis for the Venezuelan economy at a time when it was still reeling from a run on its banking system. In the wake of the crisis, the 1998 general election put in place a new administration led by Lt Col Hugo Chavez, a former paratrooper who had led a failed government coup in 1992.
The Chavez administration, being a combination of the old left and nationalist elements, soon came into conflict with an oil industry that was regarded as being too autonomous and not adequately aligned with political objectives. Following a series of skirmishes during the first two years of the new administration, the tension finally exploded in 2002-2003 amid a general strike that dragged PDVSA into the political arena and the country into economic crisis.
Such a decision would severely affect the operational capacity of any company, let alone PDVSA, but the blow was softened by two external factors. On the one hand – and paradoxically – the presence of the foreign oil companies allowed for a rapid recovery of production levels. On the other side, oil prices set off on a sustained rally that papered over most of the cracks and hid the gradual loss of production capacity and general mismanagement.
The government, emboldened by high oil prices, repeated the mistakes of the 1970s with a vengeance between 2004 and 2014. It forcefully renegotiated most of the existing contracts with foreign oil companies, expropriating the assets of those that failed to acquiesce to the changes, and removed oil contractors that were deemed to be political adversaries. These activities transformed PDVSA into a political wing of the government, which in turn used the company to leverage its geopolitical strategy for the region and to provide extra-budget funds for its social programs. The government allowed currency overvaluation under strict exchange controls, turning Venezuela into a port economy while building a mountain of foreign debt.
When we look at the Chavez government’s record over the mentioned period of high oil prices, we notice that no new oil projects were developed, and that old fields were left alone to decline because of a lack of investment and technical know-how. Venezuela failed to invest anywhere near enough in its upstream or downstream oil industries at a time when other oil-producing countries were reinvesting profit from the price bonanza.
PDVSA came undone as oil prices started to crumble in November 2014. There were catastrophic accidents at refineries and on drilling rigs, oil spills and a sharp loss of production capacity without the apparent ability or will to recover it. To make things worse, a loss of refining capacity created the need to import refined products for the highly subsidized domestic market. In parallel, and in what appears to have been a political purge, there were rapid management turnarounds at PDVSA. The company worked its way through three presidents in less than six months and saw to the prosecution of three former PDVSA presidents and at least 80 managers on corruption charges.
Where are we now?
The story is not over. Venezuela, caught in hyperinflation and a deep political crisis, continues to spiral down with its oil sector. The socialist paradise has turned out to be a Potemkin Village where the facades were painted with oil rent, and there is almost no substance behind them.