Brazil’s economy: The devil in the deep-sea oil

[Malek]

Brazil’s economy
The devil in the deep-sea oil

Unless the government restrains itself, an oil boom risks feeding Brazil’s vices

Nov 5th 2011 | from the print edition

DEEP in the South Atlantic, a vast industrial operation is under way that Brazil’s leaders say will turn their country into an oil power by the end of this decade. If the ambitious plans of Petrobras, the national oil company, come to fruition, by 2020 Brazil will be producing 5m barrels per day, much of it from new offshore fields. That might make Brazil a top-five source of oil (see article).

Managed wisely, this boom has the potential to do great good. Brazil’s president, Dilma Rousseff, wants to use the oil money to pay for better education, health and infrastructure. She also wants to use the new fields to create a world-beating oil-services industry. But the bonanza also risks feeding some Brazilian vices: a spendthrift and corrupt political system; an over-mighty state and over-protected domestic market; and neglect of the virtues of saving, investment and training.

So it is worrying that there is far more debate in Brazil about how to spend the oil money than about how to develop the fields. If Brazil’s economy is to benefit from oil, rather than be dominated by it, a big chunk of the proceeds should be saved offshore and used to offset future recessions. But the more immediate risks lie in how the oil is extracted.

The government has established a complicated legal framework for the fields. It has vested their ownership in Pré-Sal Petróleo, a new state body whose job is merely to collect and spend the oil money. It has granted an operating monopoly to Petrobras (although the company can strike production-sharing agreements with private partners). The rationale was that, since everyone now knows where the oil is, the lion’s share of the profits should go to the nation. But this glides over the complexity in developing fields that lie up to 300km (190 miles) offshore, beneath 2km of water and up to 5km of salt and rock.

To develop the new fields, and build onshore facilities including refineries, Petrobras plans to invest $45 billion a year for the next five years, the largest investment programme of any oil firm in the world. That is too much, too soon, both for Petrobras and for Brazil—especially because the government has decreed that a large proportion of the necessary equipment and supplies be produced at home.

How to be Norway, not Venezuela

By demanding so much local content, the government may in fact be favouring some of the leading foreign oil-service companies. Many would have set up in Brazil anyway; now, with less price competition from abroad, they will find it easier to charge over the odds. Seeking to ramp up production so fast, and relying so heavily on local supplies, also risks starving non-oil businesses of capital and skilled labour (which is in desperately short supply). Oil money is already helping to drive up Brazil’s currency, the real, hurting manufacturers struggling with high taxes and poor infrastructure.

When it comes to oil, striking the right balance between the state and the private sector, and between national content and foreign expertise, is notoriously tricky. But it can be done. To kick-start an oil-services industry, Norway calibrated its national-content rules realistically in scope and duration, required foreign suppliers to work closely with local firms and forced Statoil, its national oil company, to bid against rivals to develop fields. Above all, it invested in training the workforce.

But Brazilians need only to look at Mexico’s Pemex to see the politicised bloat that can follow an oil boom—or at Venezuela to see how oil can corrupt a country. Petrobras is not Pemex. Thanks to a meritocratic culture, and the discipline of having some of its stock traded, Petrobras is a leader in deep-sea oil. But operating as a monopolist is a poor way to maintain that edge. Happily, too, Brazil is not Venezuela. Its leaders can prove it by changing the rules to be more Norwegian.

[Cyrus]

I don't know if Norway is the ideal candidate to look to. Norway saves a lot of the oil money, but it taxes people on income and consumption to absurd levels. A $20 000 Volkswagen Golf ends up costing over $50 000 with taxes. What the hell? Where does the money even go?

I much prefer Alberta's system where the industry is entirely private, and for various reasons Alberta is a world leader in the industry especially in the production of extra-heavy crudes. The royalties are relatively low, but income taxes, etc keep the balance right, and the government has a savings fund to keep revenues for the future. That said, in recent years, they haven't been investing very well nor contributing to their savings funds and this is something they should address.

When you look at the ineptitude of PEMEX or PDVSA or basically all of the nationalized oil companies and the wasted oil, the environmental disasters, the bad production techniques, the wasted money, the political influence, the corruption - it is just a terrifically bad way to do things. Petrobras is probably the best of a terrible lot.