A new deal between the Argentina and Repsol, a Spanish multinational oil and gas company, will mark a new era for Argentinian state finances. It also introduces an important question: will Repsol’s Argentinian counterpart, Repsol YPF, as a nationalized company, benefit or plague state finances?
If the state does not curb inflation and promote a stable investment environment in the coming months, the Argentine government may not be able to fund YPF sufficiently, and the oil company may become a heavy burden on the state.
The Argentinian government has faced an 18-month standoff with Repsol to determine compensation for the seizure of Repsol YPF. The negotiation process behind the upcoming compensation agreement has been nothing short of fatiguing for both parties. Following the Argentine president’s decision to re-nationalize Repsol YPF in April 2012, there has been little agreement about how to effectively transition the oil company into a partly nationalized corporation.
The peak of the tension between the Spanish oil company and the Argentine government was in June 2013, when Repsol rejected a $5 billion USD compensation offer for the expropriation of a 51% stake in the company. After continued bargaining since June 2013, it has been confirmed that, finally, Repsol will be given a satisfactory offer by the end of the year.
The break with Repsol marks the beginning of a new era in Argentinian state finances. The success of YPF in the coming years will have a significant impact on state spending. If successful it might be able to sustain the Peronists’ and Kirchnerists’ expensive social welfare policies and win them yet another election in 2015.
On the other hand, Argentinian leftist parties could face a nightmare scenario. YPF could follow the path of PEMEX, its Mexican counterpart. PEMEX has a long history of profitable oil production and has survived several economic downturns, including the grave 1994 peso crisis. Today, however, PEMEX is producing far below global standards and worryingly is receiving decreasing profits. The situation has visibly deteriorated and the governing party—the PRI—introduced widespread energy reforms earlier this year.
Repsol was expropriated because of diminishing output despite proven reserves. The political lifeline of the ruling party is largely dependent on YPF’s ability to increase output. Expropriation is seen as a big gamble on behalf of the Kirchnerists because their rejection of Repsol was based on productivity clashes against a basic premise—private companies are more cost-effective and thus produce at higher levels than nationalized companies.
There is a possibility that YPF might not just produce at the same levels as Repsol, but that it will become less productive and shift the burden of constantly decreasing profits on the Argentinian state instead of shareholders. Instead of becoming a source of revenue for the state, it might become a liability.
This is not implausible because unlike Mexico, Brazil, and Venezuela, Argentina does not have easily extractable oil. It is rich in non-conventional hydrocarbons and shale gas, which require new technologies for extraction that can only be afforded with research and development budgets of private multinational corporations.
The government is now desperately looking to create investment strategies to finance YPF’s much-needed increase in oil production with little success. In February 2013, the IMF censured Argentina for failing to provide accurate economic data on inflation. If Argentina is going to finance YPF, it will need to get in better standing with international organizations and tackle rising inflation and state spending.
The current president, Cristina Fernandez de Kirchner, pushed for nationalization because Repsol YPF was not performing effectively and output was not increasing despite substantial gas reserves found in 2010. She now has to engineer a way to make YPF profitable for the state as a public company, much like Petrobras. There is one problem that might hinder this possibility—oil is easier to find, extract, refine, and sell than non-conventional hydrocarbons. Although the demand for non-conventional hydrocarbons has increased dramatically, it is a relatively new niche within the energy sector.
Furthermore, the United States, which consumes most of the world’s oil, may be self-sufficient in terms of natural gas. Demand for non-conventional hydrocarbons is not as inelastic as oil and has more price volatility. These reasons should give Kirchnerists a reason to be alarmed in the years to come. At this point, there is no looking back—Argentina needs YPF to succeed to keep the economy afloat.
If YPF is going to succeed as a nationalized entity, the state will need to stabilize current accounts and significantly curb the rate of inflation to fund oil exploration. If the state injects more capital into YPF than Repsol and invest heavily in exploration and technological improvements, then it has a fighting chance to become an attractive market for investors in the natural resource sector.
