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Impact of oil on Venezuela’s Domestic Development

HomeEssaysBusiness and EconomicsImpact of oil on Venezuela’s Domestic Development
18.05.2020
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Energy, as world commerce dictates, is a highly political commodity. The 70 percent fall in the prices of oil after the year 2004 raises many questions depicting the change in international markets. Whether oil is a curse or blessing is still debatable for its major exporters. Oil has molded the political, cultural, domestic, and international affairs of Venezuela. The slightest change in the global oil industry is directly reflected in the Venezuelan economy. Its economy is highly dependent on oil demand and access to future supply: a sudden fall of oil prices may cause a severe economic depression. Yet another threat is global currency fluctuations. Henceforth, the oil may be considered as a curse for Venezuela. It has focused its markets on oil export, aiming all future prospects at a single entity, risking the financial stability of other economic sectors. Thus, the presence of oil resources contributes to economic decline and is a curse for Venezuela.

Global Oil Market

Oil is the only natural resource that occurs in a liquid form. Also, it is widely known as black gold. This is mainly due to the wide range of products extracted from oil such as gasoline, heating oil, diesel fuel, and by-products including jet fuel, petrochemical feedstock, waxes, kerosene, and lubricating oils, and asphalt (EIA, 2015). Comparatively, its liquid form provides ease of development and transporting but only to a certain extent.

Venezuela is the fifth-largest oil-exporting country according to Venezuela’s own published statistics. Moreover, it also has the fifth-largest conventional oil reserves in the western hemisphere and the largest reserve of non-conventional oil in the world (HTMCI, 2013). Conventional oil is light and heavy crude oil, while non-conventional is extra-heavy crude oil. Both types of oil are supplied to mutually exclusive markets.

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The international oil market is in a crisis and being dependent on oil, to sustain the economy, can only worsen the already unsound economic environment. Oil is not a scarce resource anymore (Barysch, 2016). The reserves and supply of all liquid hydrocarbons, including crude oil spread around the globe, are sufficient enough to meet the entire world’s demand till 2040 (EIA, 2016). Depending mostly on the export of oil is highly perilous for Venezuela considering the rate of depression on global oil market.

No increase in the demand of oil from all sources is expected by most research institutes. This was proved by the EIA: reserve-to-production ratio is calculated by dividing the total proved reserves by the volume of current annual consumption. It was calculated to be high enough to meet all requirements of energy in the long term without any contribution from Venezuela’s supply. If Venezuela depends on a commodity whose supply is increasing and the demand is not expected to rise, Venezuela’s economy is on the line.

In the future, the market of oil is expected to shrink as no increase in oil prices is expected. The prices of oil may fall due to a considerable rise in supply. This fall in prices will cut revenues generated from sale drastically, specifically affecting high-cost suppliers such as Venezuela. Hence, full production now or reserved production for later would have little effect. On the other hand, it is a distressing move. All suppliers are indifferent to present demand and producing at maximum capacity to take advantage of relatively high existing value. Moreover, less spare capacity can lead to a price shock, which Venezuela is not prepared to cope with (Ferrier & Fursenko, 2016). All previously guaranteed income streams of Venezuela are now in jeopardy. Venezuela has what Jonathan Levin calls “export economies”.

Having access to oil resources is no longer important. The market share of the country is comparatively low, and the present situation on global oil market is a new geopolitical battle. (Barysch, 2016). Saudi Arabia, the United States of America, and Russia were the top three producers in 2015, occupying 13, 13, and 12.4 percent respectively on the global market as of 2015 (Statista, 2015). Russia is at third place after Saudi Arabia and the U.S. Each of these three competitors is strong, efficient in production and constantly improving their strategies to overcome the competitors. Saudi Arabia’s predatory pricing is to eliminate new and high-cost suppliers of oil, and, therefore, is a force to be reckoned with. The National Academies of Science, Engineering and Medicine states “As of 2015, total world consumption was approximately 94 million barrels per day, about 19 million of which were used by the United States” (Patterson, 2015). The U.S. started heavily investing in shale oil development to decrease oil dependency. However, it has not developed new improved ways of extraction, on the other side, it has drastically decreased the costs to generate greater profits and to become a strong competitor against its two main rivals. Hence, the former main importer of oil is no longer dependent on oil exchange (Kozloff, 2015).

Sanctions relief, gives Iran an opportunity to enter the global market once again. Demand is expected to fall while newcomers and improvements in technology are causing a boost in supply; leaving Venezuela with a small share of the foreign-controlled declining industry (Stockman, 2013). Moreover, big oil suppliers, who are also huge consumers, are acting correspondingly to capture the global market.

Venezuela’s Vulnerability

The present state of internal affairs of Venezuela, as described, does not allow any improvements in the area, and is further affected by strong competition on the market. The mass media has not been very merciful spreading its dire inner affairs. Ever since 1922, when the first reserve of oil was discovered in the lakeside town, oil has been the only key factor that shaped Venezuelan relations with most influential foreign nations. Its oil industry accounts for more than a half of the government’s revenue and 95% of its export revenue, noteworthy is the claim that this entire institution is run by the politicians ensuring their own interests in the first place (Stockman, 2013). Most of the expenses are covered through diverting profits from oil exports.

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Even after the nationalization of this industry in the 1970s, the government did little to stabilize the economy. When the oil prices took a downturn in the 1990s, a debt crisis was in place, economic shocks hit the financial market, and the rate of inflation was at 100 percent. This social and economic catastrophe rocked the country to its very core in 1989. Thousands died in fights between the authorities who were desperate to take control over the country, and the protestors were willing to drive change at any cost. Mass rioting, conflicts, and looting followed, and the country reached stalemate. The government eventually broke down. It is very probable that this can happen again given that the same signs are apparent.

A new leader, Chavez, came to power in 1998. He allegedly planned to ‘democratize’ the oil industry and promised to spend the proceeds to increase wealth of working-class citizens, who had never benefited from the industry; the other goal was to save the declining economy. There was no truth in those promises as the domestic economy relied heavily on oil sales and centralized control over the industry was established. “People who think the problems of Venezuela are due to Hugo Chavez don’t understand that he was a symptom of the collapse of… …a model that is based on the distribution of oil wealth,” said Arturo Valenzuela, a former senior official in the times of Clinton`s and Obama`s presidency (Stockman, 2013). This statement is a mere externalization of his failures, and was a means to influence public opinion and as proven by the countrywide crisis, it did not work. The oilocracy that kept his antecedents and him in power remained blooming and glowing.

In 2013 after Chavez’s demise, the widely detested socialist, Nicolas Maduro, replaced him. He proved to be a weak successor in terms of presidency and was not very popular with the public. Instead, he was Chavez’s successor. After his nomination as president, devastation displayed a new dimension. Venezuela did every bit of what was required to keep the oil flowing and profits sustaining, including working with strongmen from agencies such as the CIA, suppressed labor unions and communist at the expense of riots, massive protests, and invaluable lives lost in those developments. Its political constancy has been on the verge of cataclysm since then.

The standard of living had fallen ever since the government became unable to provide any subsidy to local manufacturers, which further repressed the economy signaling a desperate need to diversify away from oil. Even if the oil prices rise, which is an impossibility accounted for through research, Venezuela remains in ruins and needs efficient internal credit sources. High prices may save its credit relations temporarily; its oil production is on record lows. In 2013 Maduro’s government experienced a slump in prices where revenues were slimmed to one-thirds compared to previous gains (Ellner, 2015).

Any reforms on the national or international level whether of finance or foreign policy have received no revision (Wilpert, 2003). The tax reform had little effect as many simply evaded it. The conditions have pushed Venezuelan people into shortages of basic necessities of food, medicine, electricity, and water. The International Monetary Fund (IMF) estimates that the country’s economy will diminish by 8 percent in 2016 alone (Micarthy, 2016). The economy has come to pieces. The risks of debt defaults for the government have increased since the fall. Economists project that the country will undergo hyper-inflation. National policies are being deferred in the hopes of the return of oil industry which is least expected.

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OPEC and PDVSA

When the oil industry stifled through irregularities and quotas in 1950s, a low price of oil sustained. To fight this, Venezuela together with the other oil giants including Iran, Iraq, Kuwait and Saudi Arabia formed the Organization of Petroleum Exporting Countries or OPEC in Baghdad, 1960. Another corporation called the Venezuelan Oil Corporation was formed at the same time which later became the basis of its oil industry. The oil crisis of 1973 called for some reformation. In 1975, nationalization was implemented and the modified state oil corporation was called the Petroleos de Venezuela or P.D.V.S.A. Among OPEC members, PDVSA possesses by far the largest FDIs in the form of refinery assets. During this era Venezuela experienced huge boom in oil prices historically (Micarthy, 2016).

In retrospect, however, it is thought to be the implantation of the seed of chronic dependency. The economic policies were Chavez’s opinionated trajectories destined to divert profits to welfare benefits rather than investing them elsewhere or saving them for future intimidations. The profits were further infiltrated with corruption. A lack of investment and capital shortages started showing detrimental effects. Moreover, being the only state-owned player, certain conflicts in trade with privatized MNCs may occurr. Privatization would have expanded its economic base but it was naturally discouraged in the public policy making processes.

In the 2000s Chavez made an unprecedented move trying to reinforce OPEC. This was a relative success as oil prices rose and GDP and GNP grew and poverty levels declined. This was an ephemeral success as prices fell just a year after, leading to the infamous Dutch Diseases. Dutch disease is the considerable inflow of foreign currency which causes currency appreciation making other country’s products less competitive. Venezuelan production of oil has declined from 350,000 to 260,000 barrels per day since 2008. Exports had slumped more due to smuggling and domestic consumption leading to deterioration in exports. The sales are subsidized and loans need to be repaid to China. Conventional oil production is also falling. From 2013 to 2014, PDVSA got income stream from only about 1,5 million barrels per day (Monaldi, 2015).

PDVSA inherited a struggling financial structure before the oil crisis and has weakened ever since. The debt and extra liabilities of PDVSA have increased and now are “overburdening” the economy already levied by losses. PDVSA’s functioning manufacture is falling faster than the country’s total production, and any income has to be shared at the rate of 40 percent with foreign partners on all projects (Nagel, 2014).

Possibilities

The new government under Maduro tried creating opportunities to attract investment to improve cash flows. However, returns are still low and debts high as imports continue to rise. Most measures to stabilize the exchange rate were mostly unsuccessful. Gaining investment for oil is immensely difficult due to a lack of proper structure. In the short term, it is still unlikely that production will rise or either in the long term, but the oil producers remain positive.

Legislative elections, on one hand, provide optimism; on the other hand, it intensifies the risk of confrontation. Significant opportunities for investment inflow are lost due to the lack of confidence in oil enterprise and institutional incoherence. Its geological potential is declining as only poor quality of extra-heavy oil is left to be developed, which is not a competitive product of the advanced market. The costs associated with forming a refined blend of products from this type are very high are margins are extremely low. However, this oil can be realized through different markets if efficiently used. Sunken investments now amount to $7 billion for Venezuela with its oil industry relatively unrecoverable. Any effort to recover must be strategically positioned focusing on foreign investment and markets. The oil market can expand if the demand from third-world countries increases. Such processes are slow and the domestic industry of Venezuela has to wait. While waiting, it can choose to diversify its products.

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Conclusion

Oil is only a blessing until it flows. It may have sustained Venezuela’s domestic industry while the conditions were favorable, it has certainly entered a phase where it is hanging by a thread. National policing may have worked in the past; revised policies are now required for oil control and regulation. The change in world politics, the low demand and high supply of oil push Venezuela’s economy further towards depression. Unfulfilled hope towards the transformation in the oil industry only causes unrest in society. Patience and resilience are the pivots that once again need to be balanced while both short term and long term visions seem gloomy. Venezuela remains in obscuring waters due to its dependency on the oil industry. It still has a chance to improve through a change in policies as described. Oil exporting in the first place has thoroughly destroyed its economy while it pleaded for change. The crisis could have been avoided by considering the very basics of economics: supply should not be higher than demand. Low demand together with the tough competition is hard to address; poor management only contributes to that. We conclude that oil is a curse for Venezuela’s domestic development.

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