A New World Order?

Hugo Chavez says Venezuela's way of doing things is the wave of the future. But is there a place for large international oil companies that are NOT government-controlled? This article appears in the September 2008 issue of Oilweek magazine.

By Peter McKenzie-Brown “Alberta became the Bolivarian province of Alberta when you decided to take more royalties from the oil companies,” Luis Vierma told a scowling crowd from Calgary’s petroleum community last June. “This made Venezuelans very happy.” The reference, of course, was to Simon Bolivar – the 19th century revolutionary whose leadership helped to liberate much of South America from the Spanish monarchy. The speaker was the E&P vice president of a national oil company – specifically, that of the Bolivarian Republic of Venezuela. Vierma’s cheeky comment garnered a few chuckles from his audience, but not many. This articulate man – he was educated and for some years worked in the United States – described a world order which at first blush doesn’t seem to suggest a happy future for western-style international oil companies. However, this commentary suggests that it may not be all that bad for private-sector oil companies, and that the changing world has huge implications for the oilsands. The United States is clearly worried about Venezuela. The CIA’s 2008 World Factbook, for example, offers a litany of indignant complaints about the South American nation. “Hugo Chavez, president since 1999, seeks to implement his ‘21st Century Socialism,’ which purports to alleviate social ills while at the same time attacking globalization and undermining regional stability. Current concerns include: a weakening of democratic institutions, political polarization, a politicized military, drug-related violence along the Colombian border, increasing internal drug consumption, overdependence on the petroleum industry with its price fluctuations, and irresponsible mining operations that are endangering the rain forest and indigenous peoples.” Vierma’s audience was also concerned, but their concerns were much narrower. They were well aware that Petróleos de Venezuela S.A. (PdVSA) was the beneficiary of Chavez’s large-scale nationalization of assets held by international oil companies. They were also aware that the company holds the keys to Venezuela’s Orinoco heavy oil belt. Named after the nearby Orinoco River, these deposits are roughly comparable in terms of in situ volumes to those in Alberta’s oilsands. On the global stage, they are the province’s only serious competitor. New World Order: This commentary explores Vierma’s suggestion that recent decades have seen the creation of a new world order that is now entrenched and becoming more pronounced. It is an idea that is getting ever-wider acceptance. “In the new international energy order, countries can be divided into energy surplus and energy-deficit nations,” writes Michael Klare, an American academic who specializes in the geopolitics of energy. “Deficit states like China, Japan and the United States are compelled to pay ever higher prices for imported fuels as they compete with one another for those materials the surplus states are prepared to supply. The surplus states, on the other hand, are sure to become richer as they parcel out their increasingly valuable commodities at whatever prices the markets will bear.” As Klare observes, national oil companies (NOCs) are increasingly dominating global oil supply. Of the 15 oil producers with the greatest reserves, only two are privately owned – Russia’s Lukoil (#9) and Chevron (#15.) Between them, they control 2% of the world’s proved conventional reserves – compared to 77% for the other 13 companies, combined. PdVSA’s Vierma – his company is the beneficiary of a highly contentious nationalization of the petroleum industry by the Venezuelan government – is a strong believer in the new world order. “The whole industry of the last century is completely different from the industry of today. In the 1970s, 85% of the (world’s) oil reserves were managed by international oil companies, the Seven Sisters. Today the situation is completely different. Most reserves are now managed by national oil companies, and everything now gravitates around (them). At the beginning of the 21st century, national oil companies turned into the principal actors in the petroleum sector.” Petroleum “is the backbone of the economy in Venezuela,” he added. And according to the vision of Venezuela’s socialist government, the country’s NOC has a responsibility “to ensure our shareholders get enough of our revenue, and we have 27 million shareholders, the Venezuelan people. We have a responsibility to develop our reserves to allow them to have a better life. This is the main difference between how the industry was managed in the past and how it will be managed in the future.” Being a national oil company brings a lot of responsibilities. Perhaps the most important of these are social responsibility and how we take care of the environment. Last year PdVSA invested $14 billion in social programs, and after paying taxes and royalties still made US$6.27 billion in profit. “This proves that we can be a profitable oil company with a lot of social responsibility.” This is the vision of the future, he said: “Oil companies around the world will do the same.” Competition and Cooperation: “We believe the work here will involve cooperation instead of competition,” he said. “Even though some competition will be there, but cooperation is an important issue to be considered.” By his analysis, national oil companies fall into three groupings. The first are those that can meet their own needs plus export – for example, Saudi Aramco, PdVSA and the National Iranian Oil Company. Another category includes national oil companies in consuming countries, like China’s CNPC and India’s ONGC. These companies can’t meet internal demand, and are looking for opportunities overseas. Finally, there are NOCs in countries that can satisfy internal demand and could, with development, become important exporters; these include Mexico’s Pemex and Brazil’s Petrobras. This latter group of countries, Vierma suggested, “are going to become important sources of primary energy” to the rest of the world. PdVSA has formed alliances with NOCs throughout the world, and owns a substantial American subsidiary – CITGO, an integrated oil company in its own right, and the vehicle through which PdVSA exports oil to the US. “All these companies are participating in projects with us either upstream or downstream,” said Vierma. “The magic word is how we can establish cooperation with their regimes so these companies can be successful and sustainable over time. We believe cooperation (not competition) is the key word to establish business relationships with these companies.” Oh, Canada: According to academic Michael Klare, PdVSA is number six among national oil companies, with control of 6.6% of the world’s proved reserves. However, that number does not take into account the vast potential of the Orinoco oil sands. When you factor in the oilsands, the numbers become staggering. Start adding the resource potential of bitumen and heavy oil from Canada and extra-heavy and heavy crudes from Venezuela and, Vierma said, “(between us,) Canada and Venezuela will have more than half of the oil reserves around the world.” How can Canada benefit by working in Venezuela? The country is looking for foreign partners to develop offshore properties that are prospective in terms of both oil and natural gas. In the oilsands, the two countries need to share oilsands technology. According to Vierma, “Venezuela now has 1.3 trillion barrels in situ. With 20% recovery we believe 235 billion barrels of heavy and extra-heavy crudes are now (technically) producible from (our oilsands area), and 17 NOCs are working with PdVSA in that area. By October 2009 we plan to certify those 235 billion barrels that are going to be recovered.” In a proposal that is unlikely to draw much interest from Canadian firms, PdVSA suggests using cooperation rather than competition to create global market efficiency. “In terms of heavy oil production and heavy oil markets we need to share our learning lessons, experiences and challenges with Canadian companies. Canada and Venezuela will share the same markets as well as the same challenges. Why not cooperate to make the markets more efficient?” He suggested, for example, that Canadians focus on developing markets in Asia, while Venezuela develops markets in the Atlantic basin. How else could Canada and Venezuela cooperate to develop those resources? PdVSA obviously wants access to Canada’s oilsands technologies. But the country’s conventional resources are also considerable – don’t forget that PdVSA controls 6.6% of the world’s oil reserves – and these resources also need to be developed in a hot global economy – hot, at least, in terms of petroleum exploration and development. Like other producers around the world, Venezuela needs infrastructure, including rigs for conventional oil and gas drilling, and that “provides tremendous business opportunities for Canadian companies.” The Human Factor: As he closed his presentation, Vierma made a plea for help in education and training. “We need human resources, skilled people, and we are here to tell you this is another area where there are opportunities for the people of Alberta,” he said. “We are aware that the level of education in this province is very good, and we want to retake the bridges that we have burned in the past.” The irony of this comment, of course, is that Venezuela’s 21st century socialism has helped reduce the talent available to Venezuela while increasing that in Canada. Last year both Exxon Mobil (the parent of Imperial Oil) and Petro-Canada fled Venezuela because of the shenanigans of Hugo Chavez. Both companies were investigating extra-heavy projects in Venezuela, and both transferred technical expertise and field workers to Alberta as a result. According to CEO Ron Brenneman of Petro-Canada, “We are finding that some pretty good technical people are coming available (directly) out of PDVSA as a consequence of what’s going on down there.” He adds, though, that “I don’t think this will affect (Alberta’s) labour pool to a large extent.” But what about the new world order? The argument that the world has fundamentally changed is very strong. NOCs are unquestionably dominant in the politically risky parts of the world, and that trend is unlikely to change. In addition, geopolitical considerations (including human rights issues, corruption and worries about Venezuelan-style nationalization of assets) are keeping international oil companies away from many of the regions that are left. Does this mean the future belongs to PdVSA and other NOCs, as Hugo Chavez and others have suggested? The answer is almost certainly no. Rather, international companies will increasingly focus on development in areas where risk is minimal and potential is large. Clearly, much of that activity will take place in Alberta’s oilsands. To use Shell as an example, its Canadian oilsands potential is in the 40-billion-barrel range – volumes that dwarf the rest of its oil assets world-wide. Remember that list of oil reserves of the world’s top 15 companies? Such a resource would place Shell in seventh place – ahead of the National Oil Company of Libya, behind PdVSA. This reality suggests another vision of the new world order. Increasingly, perhaps, international oil companies will need to retreat to low-risk, high-potential areas like Alberta in North America, Europe, Australia, India, parts of Southeast Asia and South America and other “safe” parts of the globe. In a future of declining conventional production, they will prosper by applying their considerable intellectual, technical and capital resources to oil sands and shale oil development, and to the production of gas from tight sands, shale and hydrates. The service sector could also do well in such a world order. Unconventional development requires a lot of support from service providers. Supplying expertise to inefficient national oil companies could offer (just as Vierma suggested) “tremendous business opportunities.” Indeed.

Pricing the Marginal Barrel of Oil

The large-scale exporting nations and regions that are increasing government take from oil – or have already nationalized their oil resources – include Russia, much of the Middle East, Venezuela and other countries. The five countries whose production is charted here are not particularly friendly to the West.

By Peter McKenzie-Brown Five of the world’s large oil exporters have two things besides big oil reserves in common. First, their economies are largely dependent on revenues from energy production – they don’t produce much else. Second, their people or their governments (or both) are hostile to the West.

The chart shows the relative positions of five of the world’s large producers – Venezuela, Russia, Iran, Nigeria and Saudi Arabia. Consider the context: the planet consumes about 85 million barrels a day. Together, these five countries produce more than one third of world supply. Except for post-Soviet Russia, which is new to the game, each of these countries long ago found ways to maximize government revenue from petroleum. Perversely, in the long run this will serve them well by making less production available. As prices rise, their economies will boom long after their production has gone into decline. As the world nears its petroleum peak, the economic reality of a seller’s market will have strange, unintended consequences.

Economic Dependency: Consider the first of the two points I raised. The countries named in the chart have little to keep their economies going except revenue from oil and gas. Here are the numbers. The info comes from many sources, but I’ve done my best to keep it consistent.
• Nigeria: Oil exports provide 20 per cent of GDP, 95 per cent of foreign exchange earnings, and about 65 per cent of budgetary revenues. No reliable export numbers available; Nigeria’s OPEC quota is 2.3 million barrels per day.
• Saudi Arabia: the petroleum sector accounts for roughly 75 per cent of budget revenues, 45 per cent of GDP, and 90 per cent of export earnings. Oil exports are 8.5 million barrels. Saudi’s official OPEC quota is 10.1 million barrels per day.
• Iran: Petroleum exports of 2.8 million barrels per day represent 80 per cent of exports. Exports: 2.8 million barrels per day; the country’s OPEC quota is 4.1 million barrels per day.
• Venezuela: Oil revenues account for roughly 90 per cent of export earnings, more than 50 per cent of federal revenue, and around 30 per cent of GDP. Oil exports are about 2.3 million barrels per day – well short of Venezuela’s OPEC quota of 3.2 million barrels per day.
• Russia: Oil, natural gas, metals, and timber account for more than 80 per cent of exports and 32 per cent of government revenues. Each day, Russia exports some 7 million barrels of oil. It is not a member of OPEC.

No matter how much they protest the importance of oil at “reasonable” levels, these countries are delighted when the price of the marginal barrel of oil – that is, the price of the last barrel sold – goes up. Higher marginal prices enable them to charge more for the barrels they load onto tankers. Nothing new here. However, at a recent energy conference in London, Sadad Al-Husseini – an oil consultant and former executive at Saudi Arabia’s national oil company - made an observation that puts the reality of this economic dependency in an interesting light. In effect, he quantified the price of the marginal barrel when he suggested that supply shortages will add $12 to the price for every million barrels a day of additional global demand.

As this chart of eight major oil-consuming nations illustrates, it isn’t hard to see where increases in world oil consumption will come from. Just watch China and India grow.

Of course, supply and demand are parts of the same equation. Let’s assume that $12 is the cost of adding another million barrels of demand. It would also be the price of subtracting a million barrels of supply. Cutting supply by one million barrels a day would jack prices up by $12 per barrel as effectively as would increasing demand by that amount. While the marginal price is increasing from a growing Asia, it could also increase because of reductions in supply.

If the five producing countries I have been discussing were to cut supply by a million barrels per day, we would likely see yet a price increase of the same magnitude. Consider the math: Today’s marginal barrel is worth about $90. If our five countries collectively reduced production by 5 per cent, their revenue per barrel would increase by 15 per cent, as oil rose to $102 per barrel. Their collective revenues would benefit quite nicely, thank you very much. How could such a reduction occur? These countries wouldn’t need an OPEC agreement to reduce production – you may have noticed that none of the OPEC members are producing their full quotas anyhow. They could effectively reduce production through failure to explore for and develop reserves, by shoddy production practices, by simple government fiat, or as a result of the natural depletion of their reservoirs. Supply could also drop as a consequence of war, insurgency or terrorism. Whatever the cause, the result would be that countries with little else to offer could increase government coffers and national wealth.


Hostility to the West: At the beginning of this post, I noted that each of these countries has a certain amount of hostility to the west, and each in its special way.
 • In the case of Nigeria, part of the issue is an insurgency in which local entrepreneurs have found that taking westerners hostage can be a good source of income. A major oil exporter, the country is also hobbled by political instability, corruption, lousy infrastructure and worse management. Oil is frequently stolen from production facilities, and whole fields shut down after rebel attacks.
 • Saudi Arabia? Officially, the princelings love the West and will do everything they can to maintain supply. Their subjects have other ideas, though. You may remember that fifteen of the September 11 hijackers were Saudi nationals. The land of the fanatical Wahhabist sect of Islam has some real issues with the decadence of the West.
 • Iran’s mullahs can’t understand why anyone would be concerned about their peaceful nuclear program, and would just love to nuke anyone who questions their nuclear rights. George Bush recently announced that if they get nuclear weapons, it will lead to World War Three.
 • Hugo Chavez is selling gasoline in Caracas for 3 cents a litre (part of his socialist reform), while running a country fuelled by crude oil exports. And he’s confiscating the assets of well-managed western oil companies in the interest of owning and operating those assets locally.
 • Then there is newly-belligerent Russia. Incredibly popular and riding the wave of high oil prices, Vladimir Putin wants Russia to become a superpower again. And his control of energy can help him achieve that goal. His country is already an energy superpower. Putin has briefly cut off the taps to both Ukraine and Georgia in recent years, using the energy weapon to settle political scores. He does much more than talk.


Greedy Government Redux: In a recent post, I discussed last week’s changes to Alberta’s royalty regime. As I pointed out, during periods of high oil prices, governments get greedy. In Canada we experienced the disastrous National Energy Program due to the greed of our federal government in the early 1980s. Now, the provincial government of Alberta is at the trough. My basic assumption is that the spectre of peak oil is imminent. As a result, and because of high prices, governments around the world are increasing their take from oil and gas. Alberta is by no means alone in this. Increased government take does not increase oil production – in practice, it decreases the incentive and ability for oil companies to bring more oil on stream. Less production, higher prices: it's a simple matter of supply and demand. In a response to my article, a correspondent told me that “The sooner we get away from the dirty polluting tar sands, the better it will be for the environment and the people of this planet.”

I think that if the 1,250,000 daily barrels of oil that now come from Canada's oil sands suddenly evaporated, you and I would both be dealing with oil well beyond $100 per barrel, right now. Most consumers in the West can pay the extra money for gasoline that such an increase in oil prices would generate, although most of us have had to tighten our belts to do so. However, rising prices are already causing a great deal of suffering around the world – especially in the poorer countries. The world is hooked on oil, which is not good. However, as long as we are hooked, we must find ways to keep those supplies of oil coming while we look for solutions. Increased government take makes it more difficult to develop supply. Increased take by countries whose governments or people are openly hostile to the West is a danger we cannot resolve, but it is also a danger we must not ignore.