Economist Intelligence Unit: Venezuela gas: Injection of energy?

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Politics has inhibited natural-gas production in Venezuela, but hope is building that the sector is about to take off. Price controls and a poor investment climate could yet endanger progress, however.

Venezuela, though known for its oil, runs largely on natural gas. Petróleos de Venezuela, SA (PDVSA), the state oil company, devours two-thirds of all the gas that Venezuela consumes, forcing most of it into oilfields to stimulate production. It also loosens up old fields with steam, produced over gas flames, and uses gas furnaces to refine crude. The country has a chemicals industry and is building several gigawatts of natural-gas-burning electricity generators—not to mention steel, cement and aluminium, all of which need gas. As it turns on new power plants, increases gas injection and fulfils development plans in the oil-rich Orinoco Belt, Venezuela will almost double natural-gas consumption by 2030, according to some projections. Unfortunately, it is already running short of gas.

The Economist Intelligence Unit (EIU) estimates that Venezuelan natural-gas output dipped slightly in 2011 to 20.3m tonnes of oil equivalent (mtoe) from 20.5 mtoe in 2010. At the same time, the gap between Venezuelan production and consumption widened (see chart). In recent years, plans to build much-needed power plants have gone unfulfilled due to a lack of available gas. The Anaco district, PDVSA’s principal gasfield, produced 22% less of the fuel than it did in 2010. Venezuela had to lean more on its dozens of joint ventures with private partners and import more gas from Colombia.

Without more of the fuel, not only will Venezuela struggle to fulfil its power and oil plans. A failure to increase natural-gas production could also be felt beyond the country’s borders through its secondary effects on chemical and power production.

Resource rich, production poor

At first sight, this is puzzling. Venezuela has enough natural gas underground to keep its power plants, chemical factories and oil refineries humming for decades. Oil companies have proved 195trn cu ft of gas reserves in Venezuela. Its soil quite literally bursts with natural gas: two centuries ago, explorer Alexander von Humboldt wrote of “flames which had been seen to issue from the earth” in north-eastern Venezuela. But nowadays the prime attraction is vast, untapped gas resources off Venezuela’s coast, where the biggest recent discoveries have come.

Most notably, in 2010 Italy’s Eni and Spain’s Repsol successfully drilled wells in the Perla field in the Gulf of Venezuela; they say the field holds 16trn cu ft of gas and are committed to producing half of that. State oil-company PDVSA reckons that the field is smaller, at 9.51trn cu ft, although to put this in perspective, nearby Trinidad & Tobago, the biggest gas exporter in the region, has 14trn cu ft of proved reserves. PDVSA believes that future discoveries will add about 180trn cu ft to Venezuela’s tally. That would make its reserves the fifth-largest worldwide, far ahead of any other country in the Americas.

Yet getting gas out of the ground has proven problematic. A populist political ploy by President Hugo Chávez’s administration to supply the domestic market at steeply discounted prices has inhibited gas exploration. Such price controls are a favourite government tool to reduce poverty and tackle inflation. Economists nonetheless view these schemes as ultimately counterproductive: the annualised rate of inflation remained close to 20% in July. Industrial consumers in Caracas will pay less than 55 US cents per thousand cubic feet of gas; domestic consumers pay US$1.54 for the same amount, according to the gas regulator, Enagas. This is cheap. The price to Venezuela’s electricity plants is a quarter of that paid by their counterparts in Texas in April, even after the US’s shale-gas boom had driven gas prices to their lowest in a decade.

Another problem is stifling state control of production. Fields that produce gas along with oil are all operated by PDVSA, and private companies can hope for at most a 40% stake in joint ventures. Foreign companies including France’s Total are permitted to operate fields that produce gas without oil (“non-associated” gas). In all cases, however, PDVSA buys the output.

Usually not for very much, though. Admittedly, the state titan has long recognised that it needed to pay gas producers more than the 55 US cents per thousand cubic feet for which it sells gas to industrial customers. PDVSA awards US$1.54 per thousand cubic feet to the Petrodelta joint venture, according to securities filings by US partner Harvest Natural Resources (which announced in June that it would sell its 32% stake in Petrodelta). An industry consultant says that at least one joint venture has been paid more than US$2 per million British thermal units (mBtu). (1mBtu is roughly equal to 1,000 cu ft.) Such prices have been enough to stimulate some development onshore, although PDVSA has had to swallow the resulting losses. But companies looking to develop offshore have demanded US$3 per thousand cubic feet, a price that PDVSA has declined to pay.

All at sea

Late last decade, when natural-gas prices exceeded US$10 per thousand cubic feet, Venezuela offered a solution: let producers export part of the output as liquefied natural gas (LNG). Profits from selling LNG overseas would cross-subsidise their bargain-basement sales of gas to PDVSA. As oil rose to above US$100/barrel in 2008, PDVSA was swamped with cash, and it looked like this scheme might work. The government cleared ground for an LNG plant in the eastern port of Guiria. To jump-start offshore production, PDVSA took on development of the Mariscal Sucre offshore fields and hired drill ships. Then the bubble burst.

When oil prices crashed by two-thirds in the latter half of 2008, PDVSA fell behind on payments to drillers. The company halted work on offshore platforms and both onshore and offshore pipelines. Work on the LNG plant also stopped. As oil prices have recovered, the company has restarted drilling and offshore pipeline construction. But last year, with LNG prices in a prolonged slump, it said the export terminal project was frozen indefinitely.

Fiscal pressures

This left one option if PDVSA was to radically raise gas production: paying producers more for their gas. In limited circumstances, PDVSA had in fact started to open its wallet in 2007. That year, a pipeline from Colombia entered operation, along which Ecopetrol, Colombia’s state oil company, and the US’s Chevron send as much as 200m cu ft/day to Venezuela. Ecopetrol at first received US$2.64/mBtu, according to securities filings, but last year the rate shot up to US$4.97/mBtu. Then, in December 2011, PDVSA agreed to a long-term supply contract with Repsol and Eni for gas from the Perla field at US$3.69/mBtu. This offers hope to international companies hoping to pump Venezuela’s gas and for firms looking to use gas to produce oil, electricity and chemicals.

Meanwhile, PDVSA’s own output of offshore gas, while years behind schedule, may be about to take off. A pipeline linking Mariscal Sucre to shore should finally be finished next year and the oil company is preparing to open its first four wells, each of which is projected to churn out 75m cu ft/day. The EIU forecasts that Venezuelan natural-gas production will rise to 32.1 mtoe by 2020, or 60% greater than last year. The country would be largely able to support its own appetite for gas, curbing the need to buy more imports.

Terrestrial pipelines to carry gas to consumers once it reaches shore may take a while to build. But there are bigger blots on the horizon. Venezuela has not raised tariffs for end-users of gas since 2006. There is no chance that unpopular price increases will be implemented before the presidential election on October 7th. After that, though, the pressure to do so will begin to mount. Continuing to hold down consumer gas-prices would open an ever-growing hole in the public accounts and raise the all-too-familiar spectre of delayed payments and yet more nationalisations.

If Mr Chávez remains in power after the October poll, such a scenario is more likely to occur. Lasting high inflation coupled with widespread price controls under a renewed Chávez government would further undermine the public finances, and Venezuela’s rotten investment climate would continue to deter private businesses. If, on the other hand, Mr Chávez leaves office, in the coming years opportunities for private investors to enter the energy sector are likely to multiply. For foreign firms ogling the gas wealth that lies off Venezuela’s shores, much still depends on what happens in Caracas.

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About Steven Bodzin

Steven Bodzin is a reporter. He blogged when he was a freelancer.

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