Argentina: What Stands in the Way of Energy Revival

5 MINS READJul 15, 2016 | 09:45 GMT
Argentina: What Stands in the Way of Energy Revival
Unpopular austerity measures undertaken in Argentina as part of economic reforms have drawn public protests like the one held June 29 by activists in Buenos Aires against subsidy cuts.
Forecast Highlights

  • Within the next few months, Argentina's Supreme Court will rule on whether the government's attempts to hike up natural gas prices are legal.
  • Some energy companies may choose not to invest in Argentina if the government is forced to stop increasing prices, though Buenos Aires could offer other incentives to encourage investment.
  • Even if the Macri administration successfully raises natural gas prices, doing so could cost the leadership congressional seats in the 2017 elections.

A dispute over natural gas prices could signal greater difficulties ahead for Argentina's government. An Argentine federal court ordered on July 7 that increases in the price of natural gas implemented by President Mauricio Macri be halted. Since the beginning of the year, the government has paid producers more for natural gas, pushing up costs for consumers. The hike is part of a plan to both reduce energy consumption in the country and spur more production by private firms. More broadly, the strategy is part of the administration's attempt to reverse Argentina's energy deficit, reduce energy subsidies, attract investors to the country's natural gas sector and eventually raise the government's share of energy revenue.

But before the court's intervention, natural gas bills had risen by as much as 1,000 percent in some provinces. The price hike also ratcheted up the cost of electricity for consumers. In response to the court ruling, Macri's administration capped all natural gas price hikes to consumers at 400 percent and scheduled public hearings for October to determine the scope of the increases. The government also appealed the court ruling, and a decision on the matter is expected from the Supreme Court within months.

The lower court's decision will be a significant hurdle for Macri's administration to overcome. Argentina is trying to get clear of the financial isolation and lingering political effects of the economic crisis that followed its 2001 foreign debt default. The magnitude of the economic crisis, and the pervasive political instability it led to, prompted the administrations of former President Nestor Kirchner and his wife, Cristina Fernandez de Kirchner, to prioritize social stability through utility subsidies, among other measures.

The government has kept the price of natural gas, which is largely used for electricity generation, relatively unchanged since 2003, making only minor adjustments to accelerate production. But Argentina's production of natural gas has declined steadily, from nearly 52 billion cubic meters in 2005 to 43 billion cubic meters in 2015, and the country has shifted from being an energy exporter to a net importer. Unsurprisingly, the renewal of Argentina's flagging upstream energy sector has been a priority for the Macri administration. Before the court's ruling, the government raised the average price of natural gas at the wellhead from about $5.20 to $7.50 per million British thermal units. Now, the price under the new cap would cover only about 70 percent of the cost of production, according to one estimate. The court ruling presents an immediate challenge to the effort to increase natural gas production because it leaves future price increases in legal limbo, even if temporarily.

Political Fallout

But even if the government successfully raises natural gas prices, the initiative could come at a political price. The two largest Peronist blocs in congress, the Renewal Front and the Front for Victory, have declared their opposition to the broadly unpopular price increases. By positioning themselves against such austerity measures, they hope to make some gains among disaffected voters in next year's legislative elections. The opposition coalitions are also pushing for a bill to rescind the price hikes.

Macri is still relatively popular among voters, holding the approval of about half the electorate. But the government's austerity measures, which will increase unemployment and inflation in the short term, could cost the ruling Cambiemos coalition seats in the midterm elections. If they do, it would complicate the administration's attempts to pass legislation, including any planned amendments to laws that would favor investors. This does not necessarily mean future legislation would be stalled but that Cambiemos might face tougher negotiations with the opposition.

The political wrangling could also discourage energy investors from committing to Argentina's energy sector until a more stable price scheme is instituted. But neither the court's intervention nor a potential reversal of fortune in the elections will for certain stop Macri's plans to raise prices, although they could complicate them.

What the Future Holds

Over the next few months, there will likely be some resolution to the natural gas dispute between the government and the courts. The current legal challenge shows that the administration's economic reform efforts are subject to political pressure. The October hearings are unlikely to conclusively stall the natural gas price increases, but they will limit them. While the legal battle could hurt some prospective energy investments, there are ways for the government to mitigate that harm. Bilateral negotiations between Argentine regulators and energy firms could lead to favorable concessions that might attract investment regardless of whether Macri faces further constraints in raising natural gas prices for producers.

The pricing dispute and the risk of losing seats in congress are likely to be temporary setbacks in Argentina's economic opening. The principal barriers to investment were overcome earlier in the year when Argentina settled its foreign debt dispute with bondholders. The pace of that opening, however, will be important to investors, making the Supreme Court's eventual ruling and the 2017 elections key events to monitor in the country's economic recovery.

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