Global Economics

Ecuador's Risky Energy Grab


With oil prices so high, it's not surprising that Ecuador has joined fellow energy-rich Latin American countries Bolivia and Venezuela in booting foreign oil companies or drastically raising royalties and taxes. In all three countries, the majority of the population is poor and needs better schools, hospitals, and highways. Governments want to get their hands on more of those oil profits to pay for these popular programs.

But Ecuador's decision to expel U.S. oil company Occidental, the country's biggest foreign investor, is a risky move that not only could disrupt oil production but also hurt nonoil exports by scuttling trade agreements with its biggest trading partner, the U.S. "The blatantly illegal expropriation of Oxy's assets by the government of Ecuador is a clear violation of our contract, Ecuadorian and international law, and the U.S.-Ecuador Bilateral Investment Treaty," a company spokesman said. "This action will have a chilling effect on foreign investors for years to come."

Ecuador is just one more country that has been spurred by high oil prices to take more control over its natural resources. On May 1, Bolivia nationalized its oil and natural gas industry, telling foreign oil companies, including Brazil's Petrobras and Spain's Repsol-YPF, to fork over 82% in taxes or royalties, or leave the country. Venezuela has significantly boosted taxes on foreign oil ventures and forced companies to give the country's state-run oil company, PDVSA, majority stakes. In March, Ecuador, which is the eight-largest supplier of crude to the U.S., passed a law requiring foreign oil companies to split their profits 50-50 with the government when oil prices are high.

MAJOR TRANSITION. The stakes have gotten much higher since then. On May 15, PetroEcuador, the country's state-run oil company, moved to take over Oxy's operations. The reason for the takeover: The government had determined that the U.S. oil major had violated the law by failing to inform the authorities that it had transferred some of its fields to another oil company. Oxy, which had been producing about one-fifth of the country's daily output of 538,000 barrels, was Ecuador's biggest private company and largest taxpayer. Now the government has to decide whether to run the fields itself or transfer management to the highest bidder.

Ecuador's politically influential indigenous groups, which have long complained that foreign oil companies pollute the rainforest and don't do enough to raise the living standards of people living in drilling areas, had been urging the government to give Oxy the boot for some time. The question is, will PetroEcuador be capable of managing its oil and gas without the technical expertise and ample capital that oil majors like Oxy contributed?

"Efficiency is bound to be hurt because it's difficult to imagine that PetroEcuador could match the same level of efficiency that Oxy has had," says Roger Tissot, director of country risk analysis at PFC Energy in Washington, D.C. The big problem, he says, isn't necessarily technical expertise -- it's hard cash. "People tend to forget that in order to keep producing they need to invest heavily. Politicians don't win reelection by saying how many oil wells they've drilled; they win by saying how many hospitals and schools are being built."

CHINA STEPS IN? What's worrisome about Ecuador's move is that it simply gave Oxy the boot, without engaging in further negotiations to reach a settlement. In Bolivia and Venezuela, officials remain open to negotiating new terms with foreign oil companies. In Ecuador's case, President Alfredo Palacios, who took office just a year ago after his predecessor was ousted in the country's latest bout of political instability, was being threatened by some members of congress with possible treason charges if he allowed Oxy to stay.

"Once the ball of resource nationalism gets rolling, it is hard to stop," says David Victor, director of Stanford University's Program on Energy & Sustainable Development. "So a lot of countries don't just give the investor a haircut, they accidentally decapitate."

Ecuador may be gambling that high oil prices mean numerous suitors will line up to take Oxy's place. The Chinese have been investing heavily: In February, a joint venture of Chinese state companies paid $1.2 billion for a share in an oil pipeline and oil fields that had been operated by Canada's EnCana.

"RULE OF LAW." But even the Chinese may balk at the constantly changing rules and taxes that Latin America's oil nations are imposing. "The Chinese are the new boys in town and are seen as an alternative to the oil majors," Tissot says. "Right now they are focused on buying reserves, but their economic analysis of investments might change in the future."

Ecuador's decision to kick Oxy out has consequences beyond the oil fields: It has prompted the U.S. government to suspend free-trade negotiations with Ecuador. That could hurt the country's exports of shrimp, flowers, and other goods to the U.S., goods which currently enjoy a special duty-free status that expires at the end of this year.

"We are very disappointed at the decision of Ecuador, which appears to constitute a seizure of the assets of a U.S. company," says Neena Moorjani, spokeswoman for the U.S. Trade Representative's office. "For a country to attract investment, and certainly to be a prospective free-trade partner with the U.S., it must obey the rule of law with respect to foreign investors."

This Latin drama is far from over.


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