The Collapse of the Venezuelan Oil Industry: The Role of Above-Ground Risks Limiting FDI
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Venezuela offers a striking case-study on the resource curse. The country with one of the largest hydrocarbon endowments in the world has suffered an unprecedented economic collapse, with GDP falling by more than half in five years and inflation topping one million percent. Oil production declined for more than a decade, and more recently, since 2016, it collapsed; this being one of the key drivers of the economic catastrophe facing the country. Production peaked at 3.4 million barrels per day in 1998 and by the end of 2018 it was 1.3 million barrels per day; before US oil sanctions further contributed to additional declines. Shockingly, this happened after receiving the largest resource windfall in the history of Latin America.
There are many elements to this story, but one has to do with the failure to attract foreign investment to the oil industry during the boom times. In the 1990s Venezuela successfully opened up the oil sector to foreign investment, using joint-ventures and service contracts. These investments added more than a million barrels of production capacity and initially compensated the decline in the national oil company’s production. But after the investment cycle ended and the oil price boomed, President Hugo Chávez forcefully renegotiated contracts, partly nationalized some oil projects and significantly worsened the investment climate. Instead of an investment boom, as should have occurred with the combination of large reserves and high oil prices; and despite the government actively trying to attract investors and signing multiple deals with companies like Chevron, Eni, CNPC, Rosneft, and Repsol; investment largely did not materialize.
This paper aims to answer two interrelated questions: 1) why did the government expropriate foreign investors, reversing the success of the Apertura (oil opening) of the 1990s, and more importantly: 2) why did it fail to attract new investment, despite the favorable geological and price conditions and the many deals it signed with major oil companies? A mix of ideology, weak institutions and structural factors such as high oil prices and the end of a successful investment cycle, help to explain the massive failure to develop the resource endowment of the country, and offer some general lessons for foreign investors and governments.
The paper is organized as follows. Section 2 offers a theoretical framework to understand the relationship between governments and foreign investors, explaining why contract renegotiation and expropriation are so pervasive in developing regions like Latin America. Section 3 briefly discusses the successful Apertura of the 1990s. Section 4 analyzes the expropriation that occurred under Hugo Chávez. Section 5 the core of the paper analyzes Chávez’s attempts to attract massive new investments in oil and gas, and the failure to do so. Section 6 concludes.