Is Chavez Taking Too Many Oil Risks?

By Tim Padgett, Jens Erik Gould/Paraguana Peninsula

The world's largest oil-refinery complex sits on an arid peninsula off the western coast of Venezuela. The Paraguana facility processes more than 700,000 bbl. of crude each day for the state-owned oil monopoly, Petroleos de Venezuela, S.A. (PDVSA), while tankers line up on the Caribbean horizon to ship it around the world. Towering burn-off pipes, as loud as jet engines, shoot flames above giant posters of President Hugo Chavez. His fist raised, he roars, "Of course we can!"

The question is, Does he really want to? Last year the government announced a $280 million plan to upgrade Paraguana and increase its capacity to process Venezuela's abundant heavy crude from 50,000 bbl. to 130,000 bbl. per day. But workers say they have yet to see the project move ahead, and some complain the refineries are underperforming. "It's precarious," says a veteran supervisor. "The plant isn't living up to its original design because [PDVSA doesn't] want to cover the costs."

So is this good or bad for Venezuela and the U.S.? The answer is yes. As oil nears a once unthinkable $100 a bbl., Chavez can afford to delay costly drilling and refining expansions like Paraguana's and spend that money on socialist programs and other political pursuits. In a bravado performance at a Nov. 18 meeting of the Organization of Petroleum Exporting Countries (OPEC), Chavez and his new best friend, Iranian President Mahmoud Ahmadinejad, mocked the U.S. and blamed the weak dollar, not Venezuelan production capacity, for the high price of oil. "The fall of the dollar is not the fall of the dollar," Chavez crowed. "It's the fall of the American empire."

Oil experts say Venezuelan production is slipping and Chavez's industry policy for the long term is risky. Venezuela, like Mexico and Iran, needs reinvestment and foreign investment to keep its $100 billion industry in prime condition. But with China's and India's demand for crude inspiring projections for exponential growth and the U.S.'s determination to remain a slave to oil, the oil industry may well have hit a point when the short term is the long term--every barrel not pumped today will be worth more tomorrow. "The Venezuelans are investing as much as they want to," says economist Mark Weisbrot, a co-director of the Center for Economic Policy and Research in Washington. "That is, they're not in a hurry at all to expand production."

Venezuela B.C.--before Chavez--could usually be relied on to do that, especially when things got dicey in the Middle East. In the 1990s, a more U.S.-friendly PDVSA ambitiously raised output (even defying its OPEC quota) to earn revenue for new drilling projects. But when Chavez and his anti-U.S. agenda took office in February 1999, prices were languishing at about $10 a bbl.--so the former paratroop commander campaigned to revive OPEC, persuading the cartel to rein in production to boost prices. The effort paid off when the 2003 U.S. invasion of Iraq shook oil markets and prices began their awesome ascent. The spike also helped Chavez recover from a reckless and devastating 2002 strike by his opponents inside PDVSA.

It's less certain that PDVSA really recovered. Before the strike, Venezuela pumped more than 3 million bbl. of oil a day (m.b.d.). Chavez and his loyal Energy Minister, Rafael Ramirez, who is also PDVSA's president, say they're back to 3.2 m.b.d., but even OPEC says Venezuela's output is 2.4 m.b.d. PDVSA's exploration and production vice president, Luis Vierma, warned last July of an "operational emergency" because of a lack of drilling rigs. In recent years, there has been a troubling string of accidents; and oil corruption, the blight that Chavez vowed to eradicate, became an issue this year when Vierma was investigated--but not charged--for handing lucrative contracts to rig operators who had no experience.

Venezuela may be sitting atop one of the world's largest oil deposits--Chavez claims there are more than 200 billion bbl. in the Orinoco Belt, which, if true, is nearly 10 times as many proven reserves as the U.S. has. But most of the stuff is extra-heavy crude. Tapping and processing that tarlike oil require billions in investment. Analysts say PDVSA has been slow to start those projects, including joint stakes with China's CNPC, Brazil's Petrobras and Iran's Petropars in southeastern Venezuela.

Then, to complicate matters, Chavez mandated this year that the state own a majority stake in heavy-oil developments. Two major investors, ExxonMobil and ConocoPhillips, walked away, taking critical technology with them. Abandoning its Petrozuata and Hamaca heavy-oil ventures, plus an offshore project, cost Conoco $4.5 billion in impairment charges. The French oil corporation Total signed a deal earlier this month to help fill the void. Still, Venezuela's output "is declining," says Rafael Quiroz, an oil economist at Venezuela's Central University. "If it dips below 2.1 m.b.d. ... it could bankrupt the industry."

The risk to Chavez is that his brand of socialism runs on oil. PDVSA sends more than a third of its revenue to the government, which spent more than $30 billion last year for a vast social-welfare crusade that has helped reduce official poverty and jobless rates appreciably. PDVSA runs many of the programs, and while that might sound more like Marx than Rockefeller, it "reflects our right to set globalization's terms in our people's favor for once," Ramirez has told TIME. Critics say it also means a hyperpoliticized PDVSA, in which Ramirez demands employee allegiance to Chavez and his Bolivarian revolution.

The irony is that Chavez and Ramirez are adamant that Venezuela can keep delivering to the U.S.--about 1.3 m.b.d., or 12% of U.S. imports. They also insist that in the next few years, investment and output will climb. In 2005 PDVSA launched a seven-year plan, but analysts consider its goals--5.5 m.b.d. by 2012 and $11 billion a year in total investment--a pipe dream. Investment reached half that last year.

Venezuela is counting on the state-run oil companies of allies like China to replace Western oil outfits--a prospect that pains Washington, especially since Chavez is ratcheting up oil exports to China to reduce dependence on the U.S. market. Chavistas argue that if the U.S. is so concerned about global oil supply, it should lean on its own petro-allies--like Mexico and Saudi Arabia--which ban the foreign participation in oil ventures that Venezuela at least still allows. (Oil production in Mexico is also in serious decline.)

Venezuela's 26 million people have seen four straight years of near record economic growth, and they are driving up domestic oil demand: almost 500,000 new cars are expected to be sold this year. (Why not, with gas at 12-c- a gal.?) But the bolivar is sharply overvalued, inflation is the highest in Latin America, and even Chavez fears that his "21st century socialists" are living like capitalist nouveaux riches, the so-called boli-bourgeoisie.

For now, "Chavez can keep raking in tons of cash without expanding production--even with production declining," says David Mares, an oil-politics expert at the University of California at San Diego. "He's taking advantage of the situation we consumers dropped in his lap." Mares says Chavez has to invest more in his oil industry in the future. Although it also wouldn't hurt if Americans learned to consume less oil.