Theme
This ARI assesses the implications of the recent resurgence of oil nationalism on the international oil companies, the national oil corporations and energy security concerns.
Summary
The purpose of this paper is to assess the implications of the recent resurgence of oil nationalism on the international oil companies, the national oil corporations and energy security concerns. We begin with an analysis of the oil nationalism phenomenon, its nature and causes. A following section describes the structure of the oil industry and the behaviour, including weaknesses and strengths, of its constituent parts, the international and the national oil companies. This enables us to discuss in this context the impact of oil nationalism on the industry. A further section addresses the complex and often misunderstood issue of energy supply security. Is oil nationalism a further threat? Are they ways in which this threat can be mitigated or removed?
Analysis
Oil Nationalism
The first emergence of the oil nationalism phenomenon is usually ascribed to the nationalisation of foreign petroleum companies operating in Mexico in 1938. In fact, nationalisation occurred earlier on when the Soviet Union succeeded tsarist Russia. It also occurred in Bolivia in 1937 when the military government expropriated the local interests of Standard Oil (now Exxon). Government intervention in oil is not the exclusive prerogative of the producing countries of the third world. Just two months before the First World War, Winston Churchill, then First Lord of the Admiralty, managed at last to persuade His Majesty’s government and Parliament to acquire 51% of the Anglo-Persian shares. Not outright nationalisation but a way to ensure that control could be exercised from within in an emergency. Later, in the 1920s, three European countries –France, Spain and Italy– each established a national oil company: Compagnie Française des Pétroles, Campsa and AGIP.
After Mexico, the early 1950s saw the attempted nationalisation by Mossadegh, then Prime Minister of Iran, of the interests of the Anglo-Iranian Oil Company (now BP). The episode was dramatic but of short duration as it was brought to an end by massive political pressure from the UK and US.
Full or partial nationalisations in Iraq and Libya took place in the 1960s and in the other OPEC countries in the 1970s. The culmination of this trend relates to the Iranian revolution of 1979. However, there appears to have been some reversal in the trend in the 1990s with a number of OPEC Member Countries –Venezuela, Algeria most notably among them– opening up their upstream sectors to foreign oil companies.
The resurgence of oil nationalism in the 2000s is a new phenomenon similar in some respects to earlier episodes, and different in some other ways. The story in this instance is mainly about Venezuela, Bolivia and Russia but it also has ramifications in other places.
The Earlier Episodes
The Soviet story is a straightforward one of Marxist ideology. Means of production must be owned by the nation. The phenomenon was ideological and political. Interestingly, however, the nationalisation was delayed by the introduction of the New Economic Policy (NEP) by Lenin in 1921. Russia was in chaos and the economy was in a dire state. Lenin justified the NEP on the grounds that the economy needed ‘imperialist’ technology to recover. The expected benefits were so vitally critical as to justify a postponement of the application of fundamental Marxist principles. Stalin, not yet in power, was suspicious. Foreigners were bound to be spies. In the end he prevailed.
The Mexican case is different in some respects. It all started well before the 1938 nationalisation with the adoption of the Mexican constitution of 1917. A clause in Article 27 stated that the subsoil belonged to the Mexican state. This meant that those who owned property on the surface of the land had no ownership rights on the underground resources. They were simply concessionaires. The foreign oil companies operating in Mexico were not amused. We see here an important indication of a principle that has its origin in Napoleonic law and is now widely accepted (but not for private property in the US), although in many countries companies with long-term contracts can ‘book’ the reserves to which they have access. Some believe that this violates the ‘state sovereignty over resources’ principle; others take a more relaxed view since companies cannot alienate the claim over reserves and they certainly cannot take them away with them when they leave the country. The right to alienate is the acid test of full ownership.
There was, however, an uneasy peace with periods of calm and periods of tension between the foreign oil companies and the Mexican government in the years following 1917 until the early 1930s. As in Russia under Lenin, Mexico realised at that time that it needed the input of foreign investors both in oil and in other sectors of an ailing economy. Things changed with the election of Cárdenas to the presidency in 1934. According to Yergin (The Prize, p. 273) Cárdenas was ‘a fervent nationalist as well as a political radical’, and more importantly he felt that ‘the foreign oil industry in Mexico was a painful and sore presence’. There was disappointment about the companies’ performance as oil production declined by a striking 80% between the early 1920s and the early 1930s, and much resentment about perceived arrogance and colonial attitudes.
In March 1938, Cárdenas signed the expropriation order that took over the oil industry in Mexico. Pressures from the UK and the US failed to obtain a repeal of the law. WWII, which began only 18 months later, changed the strategic parameters and the Mexican nationalisation survived.
Mossadegh was not as lucky. The relations between Anglo-Iranian and the Iranians were never very happy. Long before Mossadegh, Reza Shah threatened to nationalise Anglo-Iranian in the 1930s. The Iranians mistrusted the British, who were seen as an oppressive colonial power whose mischievous policies affected Iran and by extension the whole Middle East. There was resentment at Anglo-Iranian posting much bigger profits from its Iranian operations than the oil revenues accruing to the country. The personality of Sir William Fraser, Anglo-Iranian’s Chairman did not help. He was a rigid, undiplomatic sort of 19th century old colonial type.
An Iranian Prime Minister, General Razmara –appointed in 1950–, decided after much deliberation and hesitation in March 1951 to come out against the nationalisation demanded by a large faction in Parliament and by significant popular forces in Iran. Four days after a speech in Parliament where he stated his decision he was assassinated. A number of political assassinations of ‘British stooges’ took place around this time. Mossadegh was chosen by the Parliament to become Prime Minister with the mandate of implementing an oil nationalisation law passed during the inter-regnum by a very nationalist Parliament. This was met with stiff resistance from Anglo-Iranian and the British government. Iran could not sell its oil deemed to be ‘stolen goods’ and subject to a litigation threat. Supplies on the international petroleum market were not tight. The US government, which had tried to mediate, began to lose patience with Mossadegh. It worried about his radicalism at a time of a ‘hot’ Cold War. A decision to cause a regime change was made and after some dramatic developments Mossadegh was ousted and arrested in August 1953.
In December 1961 Iraq revoked 99.55% of the concession held by IPC (a company jointly owned by all the Majors). This was the first unilateral action undertaken by an oil producing country since the Iranian events of 1951. But IPC was left with almost all of its producing areas. New exploration and developments were affected, however. Nationalisation was not completed until 1972. Libya expropriated BP assets after the 1969 revolution.
The ‘oil price revolution’ of 1973 was followed by a wave of nationalisations –either full (Kuwait, Venezuela, Algeria and Qatar) or partial (Nigeria, Abu Dhabi and Libya)–. The nationalisation process in Saudi Arabia was slow and was not completed until the 1980s. The Iranian revolution of 1979 led to the nationalisation of the oil sector in that country.
The 1970s nationalisation wave, as some earlier events mentioned above, was driven by a desire to gain national economic independence. The decolonisation that took place after WWII had achieved political independence. Yet the foreign dominance of the petroleum sector in oil producing countries of the third world meant that independence was incomplete. After all, oil was the only significant economic resource of these countries.
The history of these various episodes reveals that the relationship between host governments and foreign oil companies has often been fraught and unhappy and that issues relating to expropriation and unilateral changes of contractual agreements arose at different points since the early 20th Century. We have not listed here all the relevant events, only the most significant ones.
The history also put in some relief the many causes of the so-called ‘oil nationalism’, a catch-all label that conceals (because of its generality) more than it reveals. Three important factors deserve attention:
(1) The mistrust of foreign powers –considered to be past colonialists or new imperialists and of those who in one way or another are their agents– that was and still is widespread in developing countries. This was clearly the case in Mexico, Iran, the USSR, Libya, Iraq, etc.
(2) The importance of oil as the main, and sometimes the only, major resource available to an oil-exporting country of the Third World. Governments cannot afford to forgo control over this resource which generates most of the export and budgetary revenues.
(3) The dissatisfaction which sometimes arises about the performance of foreign oil companies or with contractual agreements that have become too unfavourable to the country because of changed circumstances.
Any of these factors, or a combination of some of them, will lead governments to attempt to change the terms of contracts or to expropriate (almost always with some financial compensation) part or all of an oil company’s assets.
It is important to stress the relationship between a foreign oil investor and the host country is always uneasy. Furthermore, the feeling that there is exploitation by foreign entities, and that the nation should have control over its own resources, is also always alive.[1] It does not follow, however, that foreign oil companies will not be allowed in, or that the relationship will always end in tears with litigation and expropriation. Countries that need financial, managerial or technological contributions from the oil companies to explore for oil, develop the resource, produce and market it will have recourse to the international oil companies and go along with them until such a day when (rightly or wrongly) they believe that a national oil corporation can do the job.
The Resurgence of Oil Nationalism
As mentioned earlier, the oil nationalism trend that had culminated at the end of the 1970s seemed to go into a reversal in some countries in the 1980s and1990s. Venezuela adopted an apertura policy and Algeria and Qatar invited IOCs in the upstream oil/gas sectors. Iran negotiated some tough deals with a number of major oil companies and even Iraq, then under international sanctions, was negotiating with companies draft memoranda of understanding that would enable them to invest in the country when sanctions were lifted. Kuwait launched Project Kuwait, whose objective was to involve IOCs in the development of oil fields situated in the north of the country close to the Iraqi borders. Opposition from the Kuwaiti Parliament has delayed until today the conclusion of this initiative. The collapse of the Soviet Union removed the ideological barrier that prevented private capital (be it local or foreign) from owning and investing in means of production.
The reversal of the trend had different reasons. The main one was a realisation that the national oil corporation of the country involved (Sonatrach in Algeria, QGPC –now QP– in Qatar and KPC in Kuwait) was unable –for lack of technology or managerial experience– to implement important projects in upstream oil. They pragmatically recognised that they needed the contribution of foreign companies. The apertura story is much more complex. It was driven by a number of factors: the need to develop heavy oil resources in the Orinoco belt (PDVSA could easily do the extraction but would have faced problems with the transformation of heavy crude into light products), and also the desire of the PDVSA management to increase the international exposure –hence the status of the company– and create a situation which would impede the government imposition of OPEC’s quotas on the national oil corporation. For Russia the policy change is simply the consequence of a regime collapse. As for Iraq and Iran, the opening up was due to dire internal circumstances resulting from international sanctions (Iraq) and the loss of skilled manpower after a revolution (Iran).
Things changed again at the beginning of this century. New governments had come to power –Chavez in Venezuela, Morales in Bolivia and Putin in Russia–. All of them, for different reasons, became increasingly unhappy with the oil policies adopted by previous political regimes. This was the common element in the actions of Chavez, Morales and Putin.
The Chavez Government was shocked by the very low royalty rate paid by foreign companies operating in the Orinoco belt. The Government’s per-barrel take also appeared to be low, not only because of the royalty rate: the whole fiscal regime applied to heavy crudes was unfavourable. There were also other issues. The development of orimulsion, which may have made sense in the past (although this is doubtful), increasingly appeared to constitute an economic ‘non-sense’, and a number of export contracts were revised or not renewed. Evidence was found that Venezuela was selling crude to its refineries in the US (and perforce to the outside market) at a discount. This led to a decision to disinvest in US refining, a decision that was not implemented with vigour because of the extraordinary rise in refining margins.
As regards foreign oil investors, what really mattered was the revision of the fiscal regime that increased their tax liabilities, and the decision to increase PDVSA’s share in joint ventures with the oil companies. This can be construed as a partial nationalisation. As always, the financial compensation offered by a government is considered to be inadequate to the former owner. Litigation threatened by ExxonMobil may follow.
In Bolivia, Evo Morales was elected President in December 2005 on a political agenda in which the issue of ‘sovereignty over oil and gas resources’ held a prominent place. Morales’ promise was that ‘nationalisation’ would increase government revenues and the increment would be used to relieve poverty. I have written nationalisation under quotation marks because this term widely used by the Bolivian Government and the media did not mean what it normally does. What was sought and what was achieved was a re-negotiation of export contracts with Brazil and Argentina. This was an inevitable outcome. The price of gas in the pre-Morales contracts was shockingly low. It had to be revised sooner or later. As importantly, the fact is that Bolivia needs to sell its gas and Brazil needs some of these supplies.
In Russia, Putin became aware of two important issues some time after he came to power. The first is that Russia is crucially dependent economically on oil and gas revenues for its balance of payments and the government budget. Russia is a hydrocarbon economy but not yet an advanced industrial one. In all hydrocarbon economies the government seeks as much control over the oil/gas sector as it can get. Control might be absolute (as in Mexico or in some Gulf countries) or might accommodate relationships with foreign investors (the majority of OPEC and non-OPEC countries). In either case, Government control is the name of the game.
For this reason, Putin could not tolerate Khodorowsky’s attempts to promote a policy that went against the concept of Government control. His policy involved liberalisation, expansion of private sector interests, welcome to huge investments from a super major such as ExxonMobil, rejection of Government intervention or regulation. Khodorowsky also had political ambitions in opposition to Putin, and this might have precipitated his demise.
Putin also wants to increase the size of the oil/gas public sector in Russia. To be sure, he has not closed the door to private investment, be it Russian or foreign. He has supported the expansion plans of Gasprom, a giant company which is largely under Government control. To have a major national or quasi-national oil/gas corporation is a typical feature of hydrocarbon economies. Gasprom is not a monster as suggested by an MEP from Poland at a dinner during a conference in Brussels a few months ago (he said that Gasprom’s expansionary moves in Europe are like the advance of the Nazi armies in the 1940s). One needs to take a more sober view about Gasprom and its objectives, and in all fairness one must ask why the ambition to expand internationally in these globalisation days should be considered irrational or threatening?
The second issue that attracted Putin’s attention relates to the shortcomings of the production-sharing agreements signed in Yeltsin’s day. The confrontation with Shell and its partners in Sakhalin 2 was partly due to an unsatisfactory PSA that no longer reflected current conditions. The cost recovery clause in the agreement had no cap (usually between 70% and 80% in every year). This means that the Government receives no revenues other than royalties after the start of production until the company has recovered all its costs. The arrangement became even more unfavourable to the Government when Shell declared that costs had doubled, which meant that the Government would receive no revenues (other than royalties) for a much longer period than initially expected. In such a situation the contract had to be revised.
As far as I know it was not. But Putin used his leverage to pursue instead his other objective: to increase the size of Gasprom.
Is Oil Nationalism Back on the World Scene?
Is oil nationalism back on the world scene? And if this is the case, what are the causes of the resurgence and what is the nature of this nationalism?
Three sets of events have led many observers of the world petroleum scene to argue that the phenomenon has now re-appeared; and they are generally blaming it on high oil prices. However, this is not the whole story. The events that took place in Venezuela, Bolivia and Russia (and are still evolving) have one main feature in common: dissatisfaction with the terms of contracts signed by previous governments with foreign oil companies. To be sure, the dissatisfaction has also emerged in other places –such as Algeria in relation to Repsol/Gas Natural and in Kazakhstan in relation to ENI and three partners, all of which are Super-Majors– and has led to Government demands to alter contracts or in some cases to terminate them at the risk of litigation.
The rise in oil prices that occurred after 2003 played a double role. It crystallised a realisation that the share of the oil rent accruing to Governments under existing contracts was too small. It also gave Governments the confidence to engage in a confrontation as they no longer needed as badly as before the financial input provided by the foreign investor. Underlying all that were two behavioural constants. As we have seen before, they played a major part in the history of oil nationalism as detailed above. These are: (1) the suspicion in which foreigners related to old and new ‘imperialism’ are held; and (2) the need of countries heavily dependent on oil and gas to exercise, whenever they are able to, control over the hydrocarbon sector.
It is also interesting to note that a Government call to revise a contract is rarely, if ever made, by the Government that signed it. A regime change seems necessary for the simple reason that the Government that signed the contract would not want to admit (explicitly or implicitly) that it had made a mistake. And in some cases it will not want the truth about possible malpractices to be revealed.
Is political radicalism playing a role? Yes in the case of Venezuela and Bolivia. However, I do not think that this applies to Russia.
Oil nationalism is not limited to the case of the countries discussed here that have taken recent action against foreign investors. It is an old and pervasive phenomenon in both producing and consuming countries. It is sometimes dormant, ready to raise its head in an emergency or when the balance of power shifts in favour of producers. It is sometimes frustrated in some producing countries when they do not have the skills and resources to manage the oil/gas sector by themselves.
In producing countries, at the root of it all, is the view that a valuable depletable resource that on top of it is the only major economic asset of the country should be left (whenever possible) in the hands of foreigners.
In consuming countries, oil is considered a strategic commodity and this justifies actions, policies and market interferences when the national interest is under real or imagined threat.
The Impact on the Oil Industry
It is important to distinguish between national and international (private oil companies), whether majors or independents. The private oil companies have access to a small share of the world’s hydrocarbon reserves. Yet their production relative to reserves is much higher than for national oil corporations. They exploit intensively, which implies that the natural decline of their fields will set in relatively early. Their small and rapidly declining reserves underline the urgency of their quest for access to new resources. They are, however, constrained in this drive by a number of factors, one of which is oil nationalism. Another factor is a quest for high rates of return on capital invested, which limits investment opportunities.
The national oil corporations differ from one another in resources and capabilities. One or two among them are able to undertake and manage large projects. Others suffer from either financial constraints or a lack of skilled workers and/or managerial deficiencies. Attitudes about the involvement of a foreign oil corporation in the upstream sector will vary depending on the scale of these deficiencies.
The trite truth is that oil nationalism, when it involves expropriations, will increase the assets held by NOCs and reduce those held by IOCs, other things being equal. The issue is more complicated than that, however.
The NOC that has acquired new assets may not be able to manage them with the same efficiency as the IOC. When this occurs, both production and investments (needed to counteract the natural decline of oil fields or to create net additional capacity) will suffer. Thus production may suffer in Venezuela because PDVSA has been drastically weakened by the dismissal of about half of its employees. This was not the result of oil nationalism but of an extraordinary situation where the national company was involved in a variety of ways in an attempt to overthrow President Chavez’s Government. The simple fact is that PDVSA was weakened. The Venezuelan Government’s decision to increase its share in joint ventures operating in the Orinoco belt –which might lead to the departure of ExxonMobil and Conoco– raises a question about PDVSA’s ability to do the job in place of these companies. The answer is yes as regards the extraction of the heavy crude; and it is a qualified no as regards the treatment of this crude for the production of light petroleum products. The IOCs are likely to go slow on investments because of uncertainty about the future direction of Venezuela’s oil policies.
In Bolivia, the same type of uncertainties may also inhibit foreign investors. In both cases, however, this inhibition cannot go very far for those who have signed contracts, as these usually involve stipulations about the levels of activity that the investor is supposed to undertake.
My personal view is that neither production nor investment will be seriously affected in Russia by the Government’s recent actions .The only caveat relates to the loss of dynamism that Yukos had displayed. Gasprom is able to manage the assets it acquired, and foreign companies, given the opportunity, are happy to work in Russia as illustrated by the recent TOTAL deal for the development of the Shtokman gas field. Interestingly, TOTAL’s strong interest in being in Russia induced it to accept a services-type contract, something that IOCs have traditionally considered to be anathema.
The oil nationalism issue, however defined, is not limited to these three countries. As mentioned before, oil nationalism is old and fairly universal. It restricts the involvement of foreign companies in upstream oil in different ways in various countries.
(a) The upstream sector is closed to private investors in Mexico (oil and gas) and in Saudi Arabia (oil). It is also closed at present in Kuwait, although the Government is prepared to open it for the development of the northern fields. But its objectives have been defeated up to now by Kuwait’s National Assembly.
(b) The upstream sector is in principle open in most other oil-exporting countries, but always under restrictive conditions. Sometimes, the conditions, as in Iran, are so tough as to be unattractive to the big companies.
A further problem relates to the dissatisfaction of Governments with PSA or other agreements signed in the 1990s. This leads to conflicts between Governments and companies. This issue is not limited to Venezuela, Bolivia and Russia. It arose in Ecuador, Algeria (with Anadarko and Repsol/Gas Natural) and now in Khazastan (with ENI and partners). Oil companies do not like to revise contracts that are in their favour. In some cases their attitude is not helpful (recourse to the strange concept of the sanctity of contracts or threat of litigation where re-negotiations could lead to good results). If the conflict leads to the termination of a contract the IOC access is thereby limited. We note here that this problem should not be attributed to oil nationalism. All bilateral relations involving long-term contracts may lead to disputes, revisions or re-negotiations when there is a drastic change in circumstances. This is essentially a commercial or economic issue. The trouble is a dispute may cause a government to over-react and adopt radical political measures. This may be due to public opinion or media pressures because the dispute will reveal to the public that the foreign company was in some sense ‘exploiting’ the country.
As a result of all this (and of other factors such as the Iraqi chaos, Nigeria’s civil unrest and UN or US sanctions on a number of oil-exporting countries), the world where IOCs can operate in the beloved upstream has been restricted. Investment opportunities appear more limited than they would be in an open world.
The IOCs have responded to this challenge, first by increasing their investments in natural gas and developing the LNG industry; then by moving into the technological frontier particularly in extra-deep offshore oil; and finally in new fields such as unconventional oil, renewables, biofuels, gas to liquids and coal to liquids. On the financial side they have increased the volume of funds ‘returned’ to their shareholders. In short, their adjustment has been in the form of a migration from easy oil to more expensive endeavours, and a switch from investment to the purchase of their own stocks.
The IOCs had succeeded to adjust in a significant manner in an earlier episode –the end of the concession system in many OPEC countries in the 1970s–. The shock was severe. And there was one casualty: Gulf, one of the original Seven Sisters disappeared. The others survived by doing a magnificent job developing non-OPEC sources in the North Sea, Alaska and a number of other places.
The Security of Supplies
The issue here is about significant disruption or contraction of supplies that result in price rises or physical shortages not eliminated for one reason or another by the price mechanism. Supply disruptions can be due to a host of factors, events or policies. These include hurricanes, earthquakes, major technical accidents, wars, civil unrest, sanctions, nationalisations, etc. Only the latter relates to oil nationalism.
One might argue that in the absence of oil nationalism, oil production capacity would be greater than it is today. This might have led to lower prices and higher demand for oil. Would this mean that the volume of extant surplus capacity, an essential market stabiliser, would have been higher than it is today? Perhaps not. I say perhaps not because IOCs in that world would have a much greater share of the industry and IOCs do not willingly hold surplus capacity.
Security of oil supplies requires a capacity cushion in both the upstream and the downstream. It is the existence of such a cushion in crude oil in Saudi Arabia (and sometime in Kuwait and Abu Dhabi) that saved the day in 1990 when Iraq invaded Kuwait and in 2003 when the US and its allies intervened militarily in Iraq.
Conclusion
The security of supplies is threatened by more factors and often in a more significant way than by oil nationalism. Nothing much can be done about natural phenomena other than protecting plants and installations against such occurrences in regions prone to hurricanes and earthquakes. Technical accidents may be preventable by good maintenance and robust designs. All that might cost a lot of money. Wars, revolutions and civil unrest have political and social causes. Have IOCs unwittingly contributed in some ways to these phenomena? They may have done so in the old colonial days. Oil sanctions imposed unilaterally or multilaterally –as against Libya, Iran, Iraq and the Sudan– have restricted supplies by hindering investments. There is a contradiction here between the security of supplies concerns of OECD countries and the propensity to impose oil sanctions. It is up to them to work out the trade-off, however. In the long term, peak oil might prove to be a problem unless demand peaks before supplies. We shall try to cross this bridge when we get there.
Robert Mabro
Fellow of St Antony’s College, Oxford, and former Director of the Oxford Institute for Energy Studies
[1] The late Professor Edith Penrose wrote in a book review in The Economic Journal in June 1963 (p. 322): ‘In the first place… the companies are truly international in outlook only to a limited extent; they are Western and their interests are firmly linked to those of Western Powers. Secondly, the people of the crude-oil producing countries do not believe that the companies act independently of governments and will not in fact absolve the “imperialist” powers from responsibility for company actions’.