The 28 January decision by the Trump administration to impose sanctions against Venezuelan state-owned oil company Petroleos de Venezuela (PdVSA) will have only a small impact on crude oil prices. The sanctions do not have the same effect as those recently imposed on Iran. The most likely path for Venezuelan oil production over the next year is still one of a steady decline, rather than an abrupt breakpoint, which would hold true whether or not President Nicolas Maduro is able to cling to power. Regime change in Venezuela will not immediately turnaround the country’s oil production outlook.
US sanctions do not target exports to non-US buyers
While the sanctions announced are broad, they do not have a secondary impact beyond the US, unlike US sanctions on Iran which threatened to punish buyers of Iranian crude oil who did not have waivers approved by the US. In this case, all US companies are prevented from doing business with PdVSA, which includes both purchases of crude oil and sales of diluents such as light crude or naphtha, which are used to make the extremely heavy and viscous Venezuelan crude more able to flow. Both of these disruptions to normal patterns of trade with the US will impose major costs on PdVSA, but neither presents a problem which they are unable to solve. There are only a limited number of destinations for Venezuelan heavy crude, due to the need for refiners to have heavy coker units capable of handling this grade – most do not. Most of the non-US coking capacity is located in China and India, both of which have already been purchasing substantial volumes of Venezuelan crude oil already. Venezuelan crude in both of those markets competes against the heaviest Middle Eastern grades, particularly Basra Heavy from southern Iraq.
For the US refiners affected, there will be a modest reduction in profitability, but they can adapt, and the process had already begun. With the continuing declines in Venezuelan production in recent years, volumes exported to the US had already fallen from around 500,000 as an average last year to around 350,000 in January, based on preliminary figures. Now, the impacted refiners are scrambling to find alternate supplies. Valero already has announced increased purchases of heavy crude from Canada, though that is still limited on the Gulf Coast due to the logistical hurdle of limited pipeline capacity in the absence of the long-delayed Keystone XL pipeline. Much of that volume will have to come from the Middle East. With Saudi shipments to the US curtailed by the OPEC+ cuts, it is probable that imports from Iraq will surge.
Chinese and Indian refiners now have the opportunity to pick up distressed Venezuelan crude at a heavy discount, and will do so at the right price, diverting some of their usual Middle Eastern heavy supply to the US. Venezuela also will be forced to buy diluents from further afield, and light crudes in the Atlantic Basin, possibly from Nigeria, could begin moving West in small volumes.
The net short-term impact is a significant loss of revenue for PdVSA and the Maduro government, and a relatively modest but measurable cost impact on a few US refiners.
Venezuela is not another Libya
A few analysts have raised the analogy between the current situation in Venezuela and the chaos in Libya since the beginning of the civil war in 2011, which has resulted in wild swings in production in both directions. That analogy is a very strained one.
While there is certainly the possibility of violence and even limited civil war in Venezuela, the most probable scenario is that the Maduro government is able to cling to power in the immediate future before an eventual collapse. Venezuelan oil production is already falling steadily based on natural declines and the near-halt to upstream development and most maintenance activity. That has already taken place and the impact is accumulating, but is already accounted for in market expectations and forecasts of near-term supply balances.
It is difficult to envision a scenario in which Venezuela’s remaining oil production falls off more precipitously. The opposition is seeking to lure the military away from supporting Maduro, but thus far it is getting little apparent traction. Even if it did, there is no indication that anyone is planning to try to intentionally damage oil infrastructure or use it as leverage. Another difference from Libya is that PdVSA’s management is thoroughly pro-Maduro, which would preclude a situation like Libya, where the Libyan NOC has acted as a neutral steward of resources and has been supported by the international community in that neutral role, even as the conflict has continued.
Conversely, an upside surprise in Venezuelan production based on a change in government is almost impossible. Removal of sanctions would allow an opposition-led government to begin limited upstream maintenance activities in short order, but there is no “shut-in” capacity to bring back online, as there was in great quantity during some periods in the Libyan conflict. It would take 2-3 years to set up a new legal regime for foreign investment and start to hold bid rounds, and the long lead times for development mean that major production increases would be 5+ years off. The initial impact would be halting the decline and very modest and gradual increases at best.
This article is written by Greg Priddy is a DaMina Senior Fellow, Oil Geopolitics; Co-Head, Research. DaMina Advisors is an Africa-Asia focused independent frontier markets political risk research, due diligence, M&A transactions consulting, and strategic geopolitical risks advisory firm.