Portfolio: Challenges Facing Venezuela's Oil Industry

5 MINS READJun 30, 2011 | 13:49 GMT
Vice President of Analysis Peter Zeihan examines the challenges faced by the Venezuelan oil industry regardless of who holds political power in Caracas.

Editor’s Note: Transcripts are generated using speech-recognition technology. Therefore, STRATFOR cannot guarantee their complete accuracy.

Oil production is typically an extraordinarily capital intensive industry. It uses a high amount of skilled labor, very specialized infrastructure and the type of facilities that are required are extremely expensive. This is triply so in the case of Venezuela. The Venezuelan oil patch is one of the most difficult in the world: the crude is low-quality, the deposits are complex, and the sort of infrastructure that is required is just lengthy. Very few of the oil fields are very close to the coast, so you also have an additional disconnect between getting the crude to market that requires even more infrastructure. They have to use a lot of steam injections sometimes just to melt the deposits and a lot of the crude comes up such low quality that they actually have to add higher quality crude to it, mixing it, sort of partially refining it before they even put it into the refineries and then take it to the coast. Even then most of Venezuela's crude production is of such low quality that only very specific refineries that have been explicitly modified or built to handle the crude can handle it. One of the great misconceptions in the global oil industry is that oil is oil. There is actually considerable variety between the various crude oil grades and most refineries prefer to get their crude from a single source, year after year after year, and typically there are only a couple dozen sources that might be able to meet their specific needs. Oil is not a fungible commodity and Venezuelan crude is one of the more exceptional grades in terms of just being unique. As such, PDVSA [Petroleos de Venezuela], the state oil company of Venezuela, has had to be a very sophisticated firm in order to manage all of these capital, infrastructure, staffing, technological and economic challenges. The problem that the Chavez government had in the early years is when you have this large of a nucleus of skilled labor — these are intelligent people who are used to thinking through problems, they have opinions, they have political opinions — PDVSA became the hotbed of opposition to Chavez, culminating ultimately in the coup attempt in April 2002. Chavez, regardless of what you think of his politics, had a very simple choice to make: he could leave these people ensconced in their economic fortress of PDVSA, allowing them to plot against them at will, or he could gut the company of its political activists. He chose the latter option and that has solidified his rule but has come at the cost as a slow degradation of PDVSA's energy capacity. As a result, ten years on, output is probably at a third below where it was at its peak. With Chavez in Cuba recovering from surgery, the question naturally is, is he on his death bed, is he about to go out, is there about to be a transition to a different sort of government? From an energy point of view this is all way too preliminary because of the nature of the Venezuelan oil company. Let's assume for a moment that Chavez dies tomorrow and that the next government is even worse than him: horrible managers that don't understand the energy industry — a lot of the charges that have been brought against the Chavez government. You'd have no real change for the next six months. There is only so much that you can do differently in the oil industry if you want to keep it operational, and whoever the new government is has a vested interest in keeping the money flowing. So the slow, steady degradation of capacity that we've seen for the last 10 years? No reason to expect that that would change at all. On the flip side, let's assume for the moment that after Chavez's death we have a new government that is remarkably pro-American and remarkably pro-energy. Again, for the first six months you'd probably not see much change. The capital investment to operate the Venezuelan industry is so huge that you'd probably need tens of billions of dollars applied simply to handle the deferred maintenance issues that have built up over the last ten years. Ultimately you're going to be looking at years of efforts and tens of billions of dollars of new capital investment if you're going to reverse the production decline. That's something that you shouldn't expect any meaningful progress in anything less than a two-year time frame. Suffice it to say, Venezuelan oil is going to be a factor of life in global politics and American politics for the foreseeable future. But because of the sheer scope of the problems that face the Venezuelan oil industry, independently of anything that is related to Chavez's political needs, the market is up against a problem of inertia. It takes years — honestly, a decade — if you want to make a meaningful change in the way that Venezuela works. The oil patch is just that difficult.

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