Photo: Baker Institute for Public Policy
The following interview between Global Americans’ Executive Director Guy Mentel and Francisco J. Monaldi took place this week as the Biden-Harris administration moves to combat climate change and as the COVID-19 pandemic continues to disrupt global oil markets.
About Francisco J. Monaldi
Francisco J. Monaldi, Ph.D., is the director of the Latin America Energy Program at the Center for Energy Studies at Rice University’s Baker Institute for Public Policy. A member of the Global Americans’ International Advisory Council, he is also a fellow at the Center for the United States and Mexico and a lecturer in energy economics at Rice University. Mr. Monaldi is a leading scholar on the politics and economics of the oil industry in Latin America.
1. Given that seven out of the 40 world leaders invited to President Biden’s global climate change summit came from Latin American and the Caribbean (LAC), what role does the region play in tackling the climate crisis? How does the region’s energy policies and dependencies complicate the ambitious goals laid out at the summit?
LAC is not a major generator of carbon emissions. With close to nine percent of the world population, it generates less than three percent of the emissions. For comparison, North America (excluding Mexico) concentrates five percent of the world population but produces close to 20 percent of the emissions. In addition, South America’s energy matrix is quite green, with more than half of the electricity generated from hydropower, the largest share in the world. Having said that, the region concentrates the second largest hydrocarbon reserves outside of the Middle East, so it has much to lose from the phasing out of fossil fuels.
The region also has some significant opportunities provided by the energy transition. Countries like Brazil, Chile, and Mexico can become major solar power producers. Argentina and Colombia have significant wind potential. Latin America is a major producer of minerals that are critical for electrification, like copper and lithium.
Of course, despite not being a major carbon emitter, the region can and should make important contributions to the energy transition in a variety of areas, including:
- abating fossil fuel subsidies (while compensating the poor)
- improving its solar and wind potential
- significantly reducing natural gas flaring
- developing natural gas as a transition fuel (and blue hydrogen using gas)
- planning carbon capture projects in the oil and gas industry; and
- eventually, developing green hydrogen, from renewables.
The biggest challenge is political. The region is witnessing significant political instability, partly because of the economic and social effects of COVID-19, and that makes governing exceedingly difficult, particularly for implementing long term policies that often produce some initial economic costs. International support would be crucial to give climate policy an impulse in the region, otherwise the commitments made would not translate into reality.
2. The COVID-19 pandemic put a major dent in global oil demand. The International Energy Agency estimated that average daily oil demand dropped by eight million barrels per day last year—a decline of around eight percent. How will this decline affect the Latin American economy in general and, more specifically, the countries that are most reliant on oil exports such as Venezuela, Mexico, and Colombia?
The more dependent countries like Venezuela, Ecuador, and Colombia suffered a big blow in 2020. The price collapse, combined with the investment and production fall, significantly reduced foreign exchange inflows and fiscal revenues, making the COVID-19 depression much worse. Even countries like Argentina, Brazil, and Mexico, which are considerably less dependent, but are major producers, suffered the impact. In the case of Mexico, the national oil company, Pemex is in awfully bad shape and has required significant financial assistance from the Treasury.
In 2021, things look much brighter for the industry as oil demand and prices have rapidly recovered. In fact, at the moment, the region is benefiting from a commodities mini boom. It is unclear how long this will last. Low investment during the downturn tends to produce price rebounds, but in the case of oil, there is still plenty of spare capacity in OPEC+. A more sustained oil price boom would shorten horizons on climate policy and may make governments temporarily complacent. In contrast, forecasted copper demand seems to support a durable boom amid the energy transition. Commodity price and investment volatility will probably increase with the transition, with negative effects on the regional economies.
3. President Andés Manuel López Obrador (AMLO) of Mexico has recently increased national investment in Pemex. What effect will his actions have on the U.S.-Mexico-Canada Agreement (USMCA)? Could AMLO’s energy policies strain regional relations?
AMLO’s energy policy, inspired by the 1970s, is going to result in challenging outcomes both from the economic and oil industry perspectives, but also from the climate policy perspective. Pemex is highly indebted and oil production has been declining for 17 years. Reversing production decline requires large investments in higher-risk projects in deep-waters, natural gas, and shale. Pemex does not have the capital, technology, or skills to operate such projects. AMLO’s predecessor, Enrique Peña Nieto embarked on energy reforms to bring-in private, mostly foreign, firms to operate those projects, and many contracts were signed. But AMLO overturned that policy, focusing instead on capitalizing Pemex and investing in an uneconomical large refinery. Even more dramatically, he reversed reforms in the electricity sector, favoring the state-owned Federal Electricity Commission (CFE) and limiting the development of private renewable generation. These policy reversals have resulted in a significant wave of litigation from private operators. I do not think AMLO’s reversals would put the USMCA at risk, but they would strain the agreement and have a significant negative impact on future energy investment in Mexico, particularly on renewables. Also, Mexico will probably miss the window of opportunity to develop most of its undeveloped oil potential, which perhaps represents a good climate outcome, but a massive wasted economic opportunity.
4. The impact of the COVID-19 pandemic and the possibility of a terminal demand decline in the industry raises serious questions regarding the future geopolitical power many petrostates exercise today. How will the decline of the industry affect the geopolitical standing of Venezuela and others on the world stage? What will be the future of national oil companies (such as Venezuela’s PDVSA, Mexico’s Pemex, and Brazil’s Petrobras) and how do you see their roles and structures changing over the coming years?
The effects of the energy transition would be felt first by the high-cost, high-emissions oil producers, later by the lower-cost oil producers, and eventually by the natural gas producers. So, paradoxically, in the next two or three decades, given the pressures to international oil companies like Shell and BP to rapidly reduce their carbon footprint, the share of oil produced by the Middle East low-cost producers would have to significantly increase, and that oil is largely operated by national oil companies (NOCs). In contrast, Latin America has medium- and high-cost oil fields, and its NOCs would be in worse shape to manage the transition. NOCs were generally created to capture oil rents, and when rents disappear, most will have to go the way dinosaurs did.
The decline in oil rents will severely affect Venezuela and its NOC, PDVSA. Given that the company has already been severely damaged by mismanagement, it is unlikely that it will ever recover in the window of opportunity given by the transition. There are oil and gas projects in Venezuela that can be put back into production, but that would require significant private investments, probably by Asian NOCs and some smaller independent producers. The moribund Venezuelan petrostate will never have the geopolitical clout that it once had, unlike Saudi Arabia and other low-cost producers that should remain relevant geopolitical players for at least two or three decades.
Pemex will suffer a slow but inevitable decline that will be costly for Mexican public finances. Petrobras is much better positioned to deal with the transition, because their already developed reserves have extremely low operational costs. Eventually, however, Petrobras would be unable to develop new deep-water projects, which have large initial fixed costs and offer long-term returns.
Colombia’s Ecopetrol has been quicker to develop a transition strategy, in part because it has limited oil reserves and higher cost fields, in part because it has better management and governance. But it is still early to tell if its strategy to invest in other countries’ oil fields, develop natural gas, and move into electricity transmission will pay off.
One caveat applies to the previous analysis. In the short term, as mentioned, we might have a high oil price cycle in which NOCs in the region would enjoy a windfall. Some firms, like Ecopetrol, could invest these funds in a transition plan, but others may allow their governments to use the influx for short-term spending priorities.
5. With the waters of Suriname and Guyana becoming the latest targets of big oil companies, how do you think the governments of these two nations will leverage their newfound natural resources as the industry as a whole begins to decline?
The case of Guyana (and eventually, perhaps, Suriname) is unique in that major oil companies discovered and are developing massive oil resources in what seems to be the twilight of the oil industry. Guyana is set to become the largest per-capita oil producer in the world, ahead of Kuwait and the United Arab Emirates. Exxon has heavily bet that in the next two to three decades it is going to make a large share of its global profits there, and the Guyanese government will become awash with dollars. The history of countries with limited government capacities managing such a huge windfall is not auspicious. The fact that they started just when the energy transition is unfolding can hopefully encourage them to build a national consensus to manage their newfound wealth with a longer-term perspective, but that is a hard task for an initially poor and ethnically divided country. I hope the political elite rises to the task.
6. The renewable energy market is exploding, with its compound annual growth rate reaching nearly nine percent by 2027. Which Latin American and Caribbean countries are best positioned to capitalize on this market opportunity and how should they manage the transition toward new sources of non-fossil fuels? Who will be the leaders of renewable energy in Latin America by 2030?
As mentioned, the region has a high reliance on renewable energy from hydropower, but that source has limited additional potential, so the future seems to be in natural gas, solar, wind, and eventually, hydrogen. Brazil, Chile, and Mexico have been pioneers in promoting the development of new renewables.
The region has some countries with massive solar and wind potential. The desertic north of Chile has some of the areas with the most solar potential in the world, and Chile was an early adopter in solar technology. Given that Chile is a fossil energy importer, it has large incentives to move fast. It also has a capable bureaucracy with long-term horizons, so my bet is that they will be the largest per capita producer in the region. They are also likely to be early leaders in the production of green hydrogen from solar energy. So far, Brazil has developed the largest solar generation capacity in the region and has significant additional potential, which, given its recent market-oriented energy reforms, it appears primed to tap.
In contrast, in Mexico, a country with massive potential because—like Chile—it has some of the top solar radiation areas in the world, the future of the sector is uncertain given AMLO’s pro-fossil fuel policies. Colombia and Argentina have some relevant potential in wind. Colombia is likely to develop its potential given the high quality of its long-term energy and regulatory policies. Uruguay, Panama, and Costa Rica are among the smaller economies that have moved to effectively increase their reliance on renewables.
7. European energy companies such as Ørstad in Denmark and Equinor in Norway have undertaken ambitious projects to decrease their carbon footprint and invest more seriously in renewable energy solutions. Do you think that Latin American oil producers are likely to make this transition as well? How likely are Latin American producers to invest in the Green Economy? How will oil-dependent economies manage the transition and how disruptive do you expect it to be for their economies? What is the scope for finding other economic livelihoods and industries, especially in highly inflexible economic systems such as Venezuela’s?
With those notable Scandinavian exceptions, in general NOCs have been laggards in the definition and adoption of energy transition strategies. As I argued, the Middle Eastern NOCs may have the luxury of moving slow, but Latin American NOCs would have to deal with it sooner.
In the region, only Ecopetrol seems to have a vision and targets for becoming an energy company with a lower carbon footprint. PDVSA, Pemex, and Petroecuador do not seem to have noticed that the earth is moving under their feet. In general NOCs are not very efficient and are unlikely to have advantages in generating renewable energy. Perhaps Ecopetrol can pull it off because Colombia has a tradition of well-run state-owned power companies. I think most governments in the region would be better off by downsizing their NOCs and letting the private sector take on the risk of leaving stranded assets in the hydrocarbons sector. Do not get me wrong, there are still plenty of opportunities to invest in oil and gas in the region, but those would be mostly in short-cycle projects in brownfields with existing infrastructure, or in natural gas, and these would require improved efficiency with costs and emissions reductions. NOCs are still a useful tool to capture the remaining rents on some of these existing low-risk projects. However, what NOCs should do and what they will actually do are two different things, because there are political and bureaucratic interests that will make the downsizing of NOCs a hard, painful, and protracted process.
8. Can you speak to the rise of lithium and minerals in the energy transition? Who are the winners and losers in terms of the energy transition in Latin America?
Some minerals like copper, nickel, lithium, and cobalt are essential for the electrification of the world. They are needed for batteries, wires, and other parts. Latin America has some of the major producers and reserve holders of copper and lithium. Chile is particularly positioned to benefit from the forecasted mining boom. It produces 28 percent of the copper and 22 percent of lithium in the world. For comparison, the largest producer of oil in the world, the US, produces about 18 percent. Peru is also a major copper producer. Argentina has some relevant production and reserves of lithium. Bolivia has, yet untapped, massive lithium reserves. These countries, and others in the region on a smaller scale (e.g., Brazil and Mexico) could attract massive investments and capture very substantial mineral rents.
In fact, the region must dramatically increase mining investments, in a way that is environmentally and socially sustainable, to make the energy transition possible. This constitutes a great policy challenge. There have often been environmental and social obstacles to mining development in the Andean region and those are unlikely to decline in the current politically contentious political environment. There are resource nationalist pressures to increase the government-take in Chile and Peru. It is possible to do that, tied to profitability, without hurting investment, but past episodes in the region show that it could go wrong, weakening property rights and investment climate, and ultimately hurting investment.