Venezuela - Risks amid sanctions changes
Even as the US and others drop sanctions, Venezuela will remain a very challenging place for foreign businesses.
Negotiations between the Maduro regime and its opponents are restarting. The US has granted an oil production license to Chevron.
From here, the Biden administration is going to engage in a tit-for-tat reduction of sanctions in exchange for a gradual improvement in human rights and democracy conditions. This is likely to be a multi-year process, slow and gradual, with a target of the Venezuelan presidential elections in mid-2024 and regional and parliamentary elections the following year. Oil is first on the list. Then potentially bonds and debt. Individual sanctions against bad actors will remain, as will sanctions on the gold sector.
Venezuela is still an ugly place to do business. Even if sanctions begin to drop, there are serious constraints to doing business in Venezuela that every interested business must consider.
Sanctions evasion - which will still occur as sanctioned individuals, companies, and sectors try to move their money around the world - will be severely punished by the US Department of Treasury.
US Foreign Corrupt Practices Act (FCPA) and other anti-corruption regulations are still relevant, and many of the economic and political elite are tied to high level corruption networks.
Linked to the challenges of sanctions evasion, corruption, and criminal economies, the country is a serious money laundering hub. Any company moving money through Venezuela must do its due diligence to make sure that it isn’t engaging with individuals who are moving illicit money.
There are numerous companies targeting any assets related to Venezuela due to debt owed to them by the Maduro regime. So companies doing business and making money in Venezuela could become the target of a lawsuit or an asset seizure elsewhere.
The country also has a seriously screwed up economy. While the situation is more normal than it was five years ago, largely due to de facto dollarization, it’s still a complicated mess of currency exchange rules, high inflation, and day-to-day poverty by the population that is difficult to measure given the fact that local money is practically worthless.
Every business should be aware of the snapback risk. The Biden administration is serious about its willingness to engage in tit-for-tat sanctions reduction in exchange for goodwill efforts by the Maduro regime to improve democracy and human rights conditions. In an ideal world, this culminates in a not totally stolen election in 2024 where the opposition has somewhat of a chance to compete.
There are two ways in which snapback of sanctions happens.
The first is that the Maduro regime may pull back from their promises or engage in total theft of the 2024 election and renew harder oppression of its political opponents. In that case, the Biden administration might restore the sanctions that it is currently removing.
Second, if the Republicans take power in the US in 2024 and any element of the Maduro regime remains in power in Venezuela (even if they engage constructively and win a relatively contested election), the potential for snapback of old sanctions remains high. As occurred with the JCPOA for Iran under the Trump administration, this would mean that businesses that took advantage of the lifted sanctions would suddenly find themselves under new pressure to undo their connections and investments.
There is an oil production wall. The license for Chevron and the reduced risk of secondary sanctions for those who buy and trade in Venezuelan oil means that Venezuela can increase production. But by how much?
The Chevron piece of the oil production puzzle is minimal and there are many considerations related to outstanding debts owed by Venezuela that could hold back additional investment. But even assuming that the various sanctions holding back the oil sector are lifted and the judicial judgements on debt are delayed, the outlook for Venezuelan oil production is not great.
The optimistic view is that Venezuela can get close to the 1.7 million barrels per day by the end of next year if the conditions for oil investment improve and sanctions removal continues.
The pessimistic view is that Venezuela could not produce more than 1.1 million barrels per day even if everything goes correctly (and it won’t).
Either way, the pessimists and optimists agree there is a hard wall somewhere before the 2 million bpd mark and production growth will stop when it hits that wall for a long time. Significant new investment of both money and time is needed beyond that wall.
Nearly every analyst I have spoken to believes that the infrastructure has degraded in such a way that getting back to over 2 million barrels per day is incredibly unlikely in the next 24, 36 or even 48 months, even under the best conditions. The infrastructure is so degraded that it will take tens of billions of dollars in investment over many years to undo the damage and return Venezuela to the oil production levels it had in 2017.
That leads to the separate challenge for Venezuela, which is climate change and international efforts to decarbonize. Investing large amounts of time and money into Venezuela to remove heavy and high sulfur content crude will not deliver the returns in the 2030s that it delivered in the 2000s. The incentive to invest in the sector over the long term is not going to be high. This is going to be a challenge for Venezuela in the coming decade, no matter how the political situation shakes out. It will likely never return to the same booming oil economy that it was before.
All of the risks above reflect back into the political situation. Maduro has made some very limited concessions in terms of restarting negotiations and working towards 2024 elections based on the belief that the US will drop sanctions and foreign businesses will return to Venezuela, giving the economy and the regime’s budget a needed boost. But given the risks above, many companies will either avoid Venezuela completely or limit their exposure until the situation in 2024 is resolved. If Maduro doesn’t see the economic gains he expects, he will claim (and probably truly believe) that the US is secretly undermining its side of the agreement. He may use the lack of economic improvements to cut off political negotiations before they really begin to make progress. That’s a real risk for the Venezuelan opposition and for the Biden administration policy in the country.
Hello! Enjoyed and agreed with your piece especially on the strategic side. Other driving forces that have aligned to create this opportunity would be the fact that (1) Florida is now a clear Republican stronghold; with midterms over, gives Biden admin some impetus to move ahead, and (2) higher willingness from new wave of leftist LatAm leaders to negotiate with Maduro (e.g., Colombia).
When it comes to oil, I think your cases don't seem realistic. The optimistic case scenario sounds wildly optimistic in any 1-2-3 year outlook, and your pessimistic scenario sounds optimistic. I wonder how you arrived at this 2 mmb/d production wall?
As you said, Chevron's output (from its four joint-ventures, two of which are not operating at the moment) is minimal. And so is the scope for increases. Some of the news floating around are misleading as well, as Chevron is prohibited from expanding operations into any new areas (and JVs) besides those in which they were involved in as of early 2019. That's according to the new General License 41 issued by OFAC.
So even after assuming they can ramp up existing ventures to what they were producing before (around 200 kb/d), that would only be an additional 150 kb/d of output. Most estimates place Venezuelan production currently at around 700-800 kb/d. So with Chevron, they can potentially stabilize at 800-ish kb/d in the next 6-12 months. In the best case scenario, we are looking at around 900 kb/d in a few years. And this is assuming the US continues to renew the new license (which is valid for 6 months and must be renewed on a monthly basis thereafter). All in all, I struggle to see how production would get much higher than 1 mmb/d within the next 2-3 years.
One caveat is that Chevron can now import diluent, which needs to be blended in especially for some of their heavy and extra-heavy oil production. That could create some space for PDVSA to use imports of Iranian condensate/diluent for other joint ventures/fields (i.e., some synergies could exist!). When Venezuela's strategic partnership with Iran began in earnest in September 2021, that allowed them to ramp up production by some 100-150 kb/d. (Venezuela needs diluent, especially as production of lighter grades such as Santa Barbara as dwindled in recent years. These lighter grades are vital, as they can be mixed with heavier ones to make exportable grades, such as Merey.)
But the point remains: PDVSA cannot take profits from Chevron ventures and they still have huge investment needs, not to speak of very poorly maintained loading infrastructure. Even with help from Iran, they have struggled to increase exports significantly, which ends up placing a barrier on production as they have limited storage. They recently even had problems with Merey crude quality for their Asian buyers. The list of problems is long and varied.
TLDR: I think the cases you set out on the production levels are both very optimistic and do not reflect reality. There is no way out for Venezuelan production to get much higher than 1 mmb/d without serious investment, and this license won't do that for them. One would need to have other Biden admin concessions in mind to imagine production seriously ramping up in the next 2-3 years.