The Power and the Money

U.S. oil exports to Mexico are not that big a deal

 The U.S. is about to export up to 100,000 barrels per day of light crude to Mexico. Some correspondents have asked me what this means. Something to do with Mexico’s energy reform? A collapse in Mexican output? A huge change in American policy?

No.

From the Mexican side, the news is not as earthshaking as it sounds. Mexico has a bunch of refineries that can’t process its heaviest crudes. What it does it export the heavy stuff to the U.S. and refine the light stuff at home, which leaves a bunch of its refineries below capacity. It imports gasoline and refined products from the U.S. to fill the gap. Now its decided that it will buy light oil from the United States and turn it into gasoline at home rather than buy gasoline directly from the United States.

The plan has been under consideration for quite a while. (Pemex thought hard about the cheapest place to get the crudes: America was not the only option.) It is not a response to falling crude prices: as you can see from the below chart, wholesale gasoline prices have been falling a little bit faster than crude prices. Rather, it is part of a long-standing plan to maximize the use that Pemex gets out of its existing refineries.

I should also point out that the U.S. has exported crude to Mexico before, albeit on a much much smaller scale. In 1996, Mexico imported 267,000 barrels of U.S. crude, followed by smaller imports through 2006.

So this is less than earthshaking for Mexico.

I’m not sure that the shipments are a big deal on the U.S. side either. The U.S. already exports crude to various countries. This year, exports to Canada have been running at 302,400 barrels per day, three times what Mexico is going to receive. For sixteen months in 1999 and the early part of 2000, the U.S. exported 40,400 barrels per day to Japan. Between 1996 and 2000, the U.S. exported 43,400 barrels per day to South Korea.  

The American oil export ban, in short, is a little leaky. That is deliberate. Under U.S. law, Canada enjoys various blanket exemptions from the export bans. The laws also give the President the power to permit exports elsewhere. In 1992, President Bush the Elder allowed oil companies to export up to 25,000 bpd of California heavy crude; President Clinton gave such permission to Alaska in 1996. Their orders are still in effect. (The above links go directly to the relevant legislation and presidential authorizations.) A historical precis can be found here, including additional copies of the relevant legislation and presidential findings.

So I’m not seeing this as a major precedent. The President can authorize exports already, although future administrations could reverse that. And Congress can abolish the export ban permanently if it wants. I’m not opposed to that, although it will raise domestic oil prices, simply because cheap domestic oil is not in our national interest. (Not least of which is that American oil producers face high costs, so their revenues get plunged into new spending rather than accumulate in their shareholders’ pockets.) And

If the Republicans really want to do something this term, then repealing the oil export ban is something they could do. I suspect that President Obama would sign such a bill.

Of course, maybe they prefer the current world where the president has control over exports, even if they don’t approve of the current occupant of the office. After all, when the U.S. really does become oil independent, then the president really will be able to reduce oil prices at the stroke of a pen ...

A brief recap of the politics of energy (read: hydrocarbon) reform in Mexico

Mexico’s three parties split three ways on constitutional reform.

1. The PRI wants a modest reform that will let Pemex sign joint ventures to develop offshore fields and possibly expand gas and tight oil production on land.
2. The PRD wants no constitutional reform, but wants to cut taxes on Pemex and turn it into a fully autonomous profit-driven corporation. (Or so they say.)
3. The PAN wants to throw open the Mexican hydrocarbon sector, making it look more like Brazil or Colombia. It also wants to reform the way the federal government profits from the sector, imposing a scheme that looks almost exactly like the Alaska Permanent Fund, only with the profits going to the government rather than to individuals.

Interestingly, the PAN introduced its reform before the President, moving on July 31, 2013. President Peña sent his proposal to the Senate on August 12. (The PRD published its relatively vague statement a week after the President, on August 19.) 

Public opinion is at best unclear.  In September, polls showed 52% of the population in favor of the President’s proposal, but only 15% “strongly” favored the reforms. Moreover, 61% opposed allowing Pemex to sign profit-sharing contracts with private companies. 

So how is the battle shaking out? First, the PRI and PAN wound up at loggerheads over a new tax bill. The PAN walked out over last-minute provisions raising the top income tax bracket from 30% to 35%, a hike in the border state VAT to 16% from 11%, and a 5% tax on junk food. (The maquiladora industry also screamed that they would now have to apply for a VAT rebate rather than simply not paying it.) The final bill had to be passed with PRD support.

Now the PAN insists that it will only support energy reform if the PRI agrees to a series of political reforms. (You can find the detailed constitutional proposal at this link. Among much else, it includes the re-election of senators (once) and deputies (3x) and a run-off presidential election should nobody garner 40%+ of the vote. President Peña got 39% last year.)

With PRD support off the table, there are two possibilities. The first is that the PRI holds firm against political reform, but swings right on energy. We wind up with more radical reform akin to the one in the previous paragraph. The second is that the PRI relents on political reform, figuring that it still will (a) have a good shot at the presidency; and (b) be able to maintain control over its congressional delegation even with term-limited re-election. 

My prediction is the second. The PAN reform is still a large bone for public opinion to swallow. It could easily trigger mass demonstrations, or worse. Moreover, the benefits would be limited, at least in petroleum. Foreign companies will still likely want to form joint-ventures with Pemex in the deepwater, and onshore development is likely to move slowly even under a new PAN regime.

Moreover, from the point of view of your average Mexican, it does not matter if the PAN is correct! Let’s assume that its reforms trigger a massive tight oil boom in northern Mexico, a veritable explosion of hydrocarbons. After all, the northern range is an extension of the Eagle Ford shale. Well, estimated breakevens in the Eagle Ford are $75-$85 per barrel. Many of the big companies have failed to make it work in South Texas. The implication is that even if production explodes, there will not be huge windfalls to tax away. Now, gas production could be a different story. Mexico needs natural gas. But the faster and easier way to decrease gas prices in Mexico is to import more from the United States.

That means that the PAN reform will be, in the short-term, all political cost and no benefit. It is hard to see the PRI signing on to that, especially since it is not clear that the PRI shares the long-term vision.

The most probable outcome is something like the PRI reform, tied to political reform. The less likely outcome is that the PRI tacks right to give us a radical Panista reform. It is also possible that nothing will happen, and we will get something like the PRD reform.

Call me in a few months, tell me how I did.

The Alaskan way in Venezuela?

 The great state of Alaska has a fairly unique way of handling hydrocarbon revenues. According to Article 9, Section 15 of the constitution of Alaska, “at least 25 percent of all mineral lease rentals, royalties, royalty sales proceeds, federal mineral revenue-sharing payments and bonuses received by the state be placed in a permanent fund, the principal of which may only be used for income-producing investments.” In 1980, the legislature set the actual pay-in requirement at 50% of the above revenues.

The Alaska Permanent Fund Corporation (APFC) then invests the proceeds. For reference, in 2012 the Fund received $915 million from the state, up $28 million from 2011. (APFC annual reports can be found here.) The APFC is more-or-less free to do what it wants; it is fairly conservative but not as much as some other sovereign wealth funds.

Roughly 53% of the investment income earned by the APFC is then paid out in dividends (calculated here) to citizens of Alaska, i.e., any U.S. citizen resident for at least six months. (Alaskan law previously favored longstanding residents, but the U.S. Supreme Court threw that out in 1982.) Dividends are based on a five-year rolling average, so it is unlikely that a crash (like, say, 2008) would axe dividends although. That said, it is possible. Last year the APFC transferred over $605 million; in 2011 it transferred $801 million. (The link will take you to the web page of the organization that distributes the dividends, called the Permanent Fund Dividend Division; that is different from the APFC.) Historical data on dividends can be found here.  

You got it: every man, woman, and child in the State of Alaska gets a check ($1,174 in 2011) cut to them by the state government from the proceeds derived from the state’s titular ownership of all subsoil resources. Which is why, obviously, Alaskans hate socialism. 

Could this system work in Venezuela? Pedro Rodríguez, José Morales, and Francisco Monaldi suggest that the answer is yes. Oil has been a net benefit to Venezuela, but the country has clearly wasted most of the income; giving cash to citizens could solve that issue. Still, there are a couple of rubs. They address all of them in their paper, but not in sufficient detail:

1. How much is needed to keep the Venezuelan state running? Alaska set up the Permanent Fund fairly close to the beginning of the oil boom. Venezuela, on the other hand, will be doing so after a decade of high oil rents and almost a century of oil dependence. The authors are probably correct to argue that a new government could shut down most of the “misiones” without too much trouble. The authors are certainly correct to argue that the country would be better off getting rid of its idiotic fuel subsidies. It is less clear to me, however, that starving the rest of the bureaucracy would be wise, regardless of how bloated it may be. Venezuela right now suffers from too little governance in some very big fields (police, courts, schools and infrastructure, just for a start) and fixing the mess left over from President Chávez and his feckless Punto Fijo predecessors could easily require more money, not less;
2. How do you deal with disincentive effects? The amounts that would be distributed under the Venezuelan plan are a much larger share of income for the median (let alone poor) Venezuelan than for the median Alaskan. Alaska in 2011 had a median income of $67,825 per household, against an average APF check of ($1,174 × 2.65 people per household) $3,111. Call it 5% of per capita income. In Venezuela, though, similar numbers would have in 2008 represented “31% of per capita income for those at the bottom 25% of the income distribution, 15% for the next quartile and 8% and 3% for the top two quartiles respectively” at official exchange rates. Unofficial exchange rates could as much as triple those figures;
3. The volatility problem follows. Alaskans just have 5% of their income tied to swings in oil prices plus financial markets. (To be frank, the Alaskans have not solved that problem despite using the mechanisms proposed by the authors to do so.) In Venezuela, it will be much higher; 
4. How do you get past the unpopularity of the plan? The Venezuelan opposition proposed such a thing in 2006. The authors have evidence that a lot depends on how the proposal is phrased, but those results do not take into account the inevitable opposition campaign;
5. If you solve problems (1) and (2) by allocating only a relatively small percentage of the oil money, what exactly is it that you have solved? I am honestly unclear. Is it the management of the hydrocarbon sector? Well, lots of countries have more-or-less solved at problem in various ways: Brazil and Algeria come to mind. Is it to weaken political machines? OK, but populists could still play with payouts, no? Is it to insure that benefits flow to the poorest? I am with them on that one, but it might be hard to sell.

In short, the authors make a compelling case, but I think the devil really is in the details. I would like to see a more detailed proposal.

Don’t export energy!

The United States should not export hydrocarbons. Right now, there is a big wedge between the U.S. price of gas and the world price. That is a great thing for American consumers, especially industrial consumers, and it insures that the coal industry will die even more quickly than it would otherwise. The price is lower export revenues, but the benefit from those exports will be almost entirely captured by the producers of the hydrocarbons. Why not transfer that bounty to the American people? As an added bonus, without exports the U.S. market will remain disengaged from the world market, insulating us from foreign demand and supply shocks.

I have been saying this for a while. And now T. Boone Pickens agrees with me! And when North America achieves independence in crude oil, we should prevent exports of that too.

Bernard Guerrero asks the question: can we prevent exports? The answer: ¡Sí, se puede! And yes, it is constitutional.

At least four different statutes give the President the authority to restrict hydrocarbon exports. The first is the  Energy Policy and Conservation Act of 1975, which just flat-out says that the President may restrict exports of all hydrocarbons “under such conditions as he determines to be appropriate and necessary.”

The Export Administration Act of 1979 adds some details. (Ah, for the days when Congress gave laws nice simple titles.) Section 3, Article 2, of the Export Administration Act declares that the U.S. can “restrict the export of goods where necessary to protect the domestic economy from the excessive drain of scarce materials.”

Section 7 gives the details of how the power in Section 3 would be implemented. It gives the President the power to require export licenses within 15 days of the publication of the restrictions in the Federal Register by the Commerce Secretary. The President is required to “allocate a portion of export licenses on the basis of factors other than a prior history of exportation,” and is allowed to impose license fees. (I suspect that the Supreme Court would strike down the license fee bit, but even if they did, it would not affect the power to require the licenses and limit them to, well, zero.)

The Export Administration Act also automatically bans the export of oil and gas from Alaska without a presidential waiver, unless it goes to Canada or Mexico to be refined in exchange for an equal amount of their crude. (The Act does allow the U.S. to export an additional 50,000 bpd to Canada for its own consumption.) 

The Outer Continental Shelf Lands Act of 1978 bans the export of offshore oil and gas unless the President grants a waiver.

Finally, the long-forgotten but-not-repealed Mineral Leasing Act of 1920 effectively bans oil exports without a presidential finding, as long as such oil passes through an interstate pipeline. (Strangely, oil moved by rail cars is not subject to the Act, although the President can of course use the Export Administration Act to restrict its exports.)

Finally, FERC has to approve all export terminals.

Add it up, and all the United States needs to do to keep natural gas prices low is make the decision that we want to do it.

Oil, however, is different, even though all the above laws apply to crude as well as natural gas. 

What is the problem with oil? Well, one word: Canada. Another post forthcoming.

Canadian oil taxes: too high, too low, or just right?

  Even if the occasional bout of Canadian sanctimoniousness can make me want to try to bloody some noses, I am a huge admirer of the Great White North.  Which is why, among other reasons, I am trying to figure out whether said country’s tax policy towards its oil and gas industry is too lenient, too onerous, or just right. 

Statistics Canada publishes some very good statistics on the “conventional oil” industry, which, confusingly, includes natural gas but excludes the Albertan oil sands.  Their numbers include operating costs, capital expenditures, and exploration costs.  They also include taxes and royalty payments to provincial governments.  (The Canadian constitution reserves authority over natural resources to the provinces.)  You have to do some digging to get the equivalent numbers from the oil sands, including some figures from the Albertan Ministry of Energy that might not be entirely equivalent, but it can be done.

And the results?  Well, Alberta produced C$79 billion worth of hydrocarbons in 2007, C$22,687 for every man, woman, and child in the province.  Of that, conventional hydrocarbons made up C$55 billion.  The companies that produced those hydrocarbons spent C$4 billion on exploration, C$17 billion on development, and C$10 billion on operation.  That left them C$24 billion in net income, of which the government of Alberta took C$9 billion in taxes and royalties.  Add in another estimated C$2 billion in income tax payments, and you have a total take around 65% of the industry’s net cash flow before financing, which is what the measure really is.  Crushing socialism!  Or, put another way, a sensibly high tax rate, since the royalties are structured in such a way as to essentially exempt new investments until the initial costs are recovered.

That fact, however, suggests that maybe net cash flow isn’t the right denominator.  After all, income taxes are generally applied before investment expenditures.  Alberta is trying to subsidize them.  In that case, isn’t operating income the right measure?  Okay ... using operating income as the denominator, the effective tax rate on conventional hydrocarbons in Alberta drops to 22%.  That seems pretty low.  And, of course, if you just use the government take as a percent of revenues for your calculation, then you get a rate of only 18%.  That is almost tax-free compared to such left-wing hotbeds as Alaska.

The numbers for the oil sands are even stranger.  On the one hand, taxes and royalties as a percentage of operating income was only 28%, and as a percentage of gross revenues were only 19%.  On the other hand, if Statistics Canada is to be believed, the industry reinvested all of its operating profits and then some in 2007.  Royalties came to 150% of net cash flows before financing.  If the idea is to encourage investment despite low profits, then maybe the system is about as high tax as it can get.

So what’s the “right” number?  Are taxes high or low?  For what it is worth, other provinces, like Saskatchewan and Newfoundland, turn out to be even lower tax than Alberta ... but don’t have anything like the amount of investment.  Companies there are taking the money and running. 

Thoughts?

The expropriation that wasn't

  Kevin Drum and Dan Drezner wonder why the oil companies would get back into Venezuela after the way Hugo Chávez treated them the first time around.  The answer is simple:  Chávez didn’t treat them badly.  When oil prices head back up, they’ll do fine even if he plays the same movie all over again. 

“What???” you say?  How can that be?  Simple.  Between 2004 and 2006, the Bolivarian Republic of Venezuela expropriated the marginal surplus generated by the run-up in oil prices.  It did not, however, reduce the revenues of the oil companies.  They took home about $10 a barrel when the contracts were signed in the late 1990s, and they took home about $10 a barrel in 2008.  In fact, some of the companies that had signed service contracts under the old regime received more money under the Bolivarian regime than they would have under the original rules.

So why not get back in?  It isn’t like there are a whole lot of places around the world for the oil companies to invest in, especially not on-shore.  Most oil reserves are closed to the majors, and political risk is everywhere, including Alaska under its radical socialist governor.   The companies have little chance of enjoying the upside from a return to high prices, but with estimated costs of $6-$7 a barrel, Venezuela is still a good bet. 

Details and money graph below.

In the 1990s, Venezuela opened its oil industry to foreign investment.  The first contracts in 1991 and 1992 were “operational service agreements” signed to take advantage of marginal fields that PDVSA didn’t want to develop itself.  In essence, the 1991-92 agreements pledged PDVSA to purchase the output from the marginal fields for a fixed price of $12-$14.  The oil cost between $4 and $7 per barrel to extract, and the concessionaires faced an income tax of 34%.

In 1997, PDVSA signed a second wave of operational service agreements.  These were a little more complicated.  Basically, the concessionaire kept everything (subject to income taxes) until it broke even, after which PDVSA’s share would slowly rise to 70 percent. 

At the same time, Venezuela signed a different set of contracts to open up the Orinoco oil belt.  Under these “association agreements,” PDVSA took an equity stake between 40% and 47% in the projects.  The resulting joint venture would then pay the 34% income tax and a royalty of 1% on production.  The royalty rate, however, would rise to 16.7% in either ten years or after the project reached a pre-set level of profitability, whichever came first.  

Chávez changed the rules in 2004, when he upped the royalties to 16.7%.  That change, however, affected only one of the four Orinoco association agreements.  In 2005, the income tax rate on all foreign ventures went up to 50%, and the Orinoco royalty jumped to 30%.  In 2006, the government abolished the operational service agreements, replacing them with joint ventures in which the government charged a 33.3% royalty and in which PDVSA took a 60% stake, in addition to income taxes.  The Orinoco agreements were placed under the same framework, only PDVSA took even higher stakes, averaging 78%.  (PDVSA paid some compensation for its upped stake in the projects.)  This last change was what the Bolivarian government called “nationalization.”

Chevron, B.P., Total, and Statoil accepted the change; Chevron and Exxon left and took Venezuela to arbitration.  Chevron later backed down.  Exxon did not, and continues to threaten Venezuela at ICSID.

The above sounds very bad for the oil companies, but when you calculate the net effect on their revenues, Chávez’s changes had the net effect of expropriating the marginal revenues that the Orinoco companies would have received from the big run-up in oil prices.  Their net revenue per barrel remained basically unchanged.

The effects of the new rules on the companies governed by operational service agreements are a little more complicated.  Projects initiated under the 1991-92 rules benefitted from the changes, at least as long as oil stayed above $80 a barrel:  they moved from an effective marginal tax rate of 100% to an effective rate of 87%.  Some of operational service agreements initiated under the 1997 rules didn’t do as well, depending on how much money they had already made for their owners.  Perversely, the more money they had already made, the more likely they were to benefit from the Bolivarian revolution.  The reason for that perversity is simple:  under the old system, marginal tax rates rose along with cumulative profitability, and the new rules cut the maximum marginal rate.

In short, Chávez’s great oil expropriations weren’t.  Expropriations.  They were tax hikes, and in this, they were not at all unlike Bolivia’s putative gas nationalization.

It surely would have been better for everyone to have specified a set of progressive taxes and royalties to cover the unforeseen contingency of super-high oil prices, but the net effect would not have been different.  So why not get back in now that the oil price is low?  The oil companies won’t enjoy any future boom, but they are also unlikely to find themselves truly nationalized.

The big mystery is neither why Chávez changed the concession agreements, nor why the oil companies appear willing to re-enter the Venezuelan market now that he appears to be changing them back.  Nor is it a mystery why most of the majors decided not to pursue the options available to them against Venezuela. 

Rather, the big mystery is why Exxon went to the mattress against the Bolivarian Republic.  It isn’t clear to me that they will be able to win.

Thoughts?  Greater knowledge? 

Northern exposure

Here is your daily mental health break.  For lasting effects, avoid any news involving numbers for at least a day.

A friend sent me these photos.  It's a rally in Anchorage, Alaska.  The funny thing is that the organizers of the rally intended it to be a tiny little thing on the steps of the main library.  But then right-wing radio got into the act.  Eddie Burke announced the rally, called the people who planned to attend “a bunch of socialist baby-killing maggots,” and read the home phone numbers of the organizers.

Result:

and

But the best is below the fold ...

El Hugo del extremo norte

In a previous post, I wrote that total taxes as percentage of revenues on hydrocarbon extraction in Alaska were 25 percent.  Well, I've just had a chance to play with the data, and it turns out that my estimate was flawed.  (It failed to take into account that profit margins in Alaska are substantially higher than the overall profit margins in hydrocarbon extraction across the United States.)  Direct taxes on Alaskan oil & gas actually turn out to be 32 percent of gross revenues ... 33 after Governor Palin's tax hikes. 

One-third of revenues is a nice round number that you can use to put hydrocarbon tax burdens in other countries into perspective.  Bolivian taxes, for example, had fallen impressively low by the time Evo Morales assumed office, and some revision was almost certainly in order.  Time will tell whether he found the right level, and the means by which he raised taxes caused unnecessary uncertainty, but a substantial tax hike on the industry was the right thing to do by the people of Bolivia.  Regardless of whether you're a Bolivarian.

Alaska is American!

I just want to say, unequivocally, that I oppose the independence of Alaska, and should a minority of that state impose secession, I will rejoin the Army and risk my life, fortune, and sacred honor to keep it part of the United States.

There really was a revolution

My previous post on the Bolivian hydrocarbon nationalization of 2006 made it seem like nothing changed.  And in terms of the security of supply (in price or quantity), not much did.  Ditto, the industry wasn't really nationalized.  Rather, the decree gave Bolivia's state hydrocarbon company, YPFB, a mandated 32% share of the output of the San Alberto and San Antonio fields, on top of a 2005 law that cancelled the preferential tax treatment the previous law had granted new gasfields.  Thus, Brazil's equanimity in the face of “nationalization.”

In other words, the nationalization was in fact a tax hike, and a rather large one.  According to work by Luis Carlos Jemio, the state's take of gross revenues jumped from 28% in 2004 to 41% in 2005 and 65% in 2006. 

How high is that?  Well, I just spent more time than I should have estimating the total value of taxes (including corporate income taxes) paid to the federal and state governments by oil and gas companies operating in Alaska.  The result?  In 2006, they paid 25% of their gross revenues (or 50% of their declared profits) in taxes and royalties.  Now, these estimates do not include gasoline taxes, or any other taxes on refined products ... because the Bolivian figures don't either.  They also do not include the tax hikes that the Palin administration just pushed through, but those hikes will only up the figure on gross revenues to 26%.

In other words, Bolivian tax revenues went from around the level found in Alaska to almost 2½ times that level.  There really was a revolution.  (And now you understand why the gas-producing provinces in the east are so damn upset.)

Was it a good idea?  I'm undecided.  Investment in exploration boomed in 1996, with the passage of the law favoring new fields, but started declining in 1999 and was down two-thirds by the time 2005 rolled around.  If one makes the assumption that geology drove that decline, then Morales hiked taxes at just about the right time.  If no more investment is coming anyway, why worry about discouraging it?

To be fair, foreign direct investment in exploitation (not exploration) did collapse in 2006.  That said, Bolivia could potentially make up for that via service contracts and the like.

The reason that I'm undecided is that I don't know how much of the exploration decline was due to geology, and how much was due to the increasing political instability in Bolivia.

But I'm not that undecided.  In this case, I think a massive tax hike on the industry was fully justified, and probably the best thing for the people of Bolivia.  Now if only they can figure out how to divvy up the new revenues without blockading roads or shooting at each other ...