The Fuse

U.S. Targets Venezuela’s Petro as Production Declines

by Nick Cunningham | March 21, 2018

President Trump issued a new executive order on March 19 that banned U.S. citizens from engaging in any transactions with Venezuela’s new cryptocurrency, the “petro.” The order is the latest action in an ongoing attempt by Washington to isolate the regime of Venezuelan President Nicolas Maduro.

Even as Maduro’s government tightens its grip on the country, it is also failing to address the economic meltdown and crude oil production declines underway.

Even as Maduro’s government tightens its grip on the country, it is also failing to address the economic meltdown and crude oil production declines underway. The petro was always expected to be inadequate at resolving Venezuela’s currency crisis or at bypassing U.S. financial sanctions. Instead, it is a short-term distraction intended to buy the regime time to deal with pressing issues. The latest prohibition from Washington could help close the door on this futile avenue for Caracas. However, more measures could be looming, which would further undermine the country’s production at a time the global market is tightening.

The petro

The petro is President Maduro’s latest and most desperate attempt to raise cash. He has stated that each petro coin would be backed up by a barrel of oil, although it is unclear what this means in practice. Presumably, faith in the country’s official currency, if there is any, is also based on the nation’s oil reserves. But runaway hyperinflation has rendered the bolivar worthless.

The petro is President Maduro’s latest and most desperate attempt to raise cash.

President Nicolas Maduro rolled out the petro to much fanfare. “Today, a cryptocurrency is being born that can take on Superman,” Maduro said in February, referring to the United States. He boasted that the petro raised $735 million on the first day of a pre-sale of the petro, and the government said the offering of 100 million tokens could amount to $6 billion in sales.

Maduro’s claims lack support and have been treated with a great deal of skepticism. “They’re setting up a stand on the front porch of Venezuela to sell snake oil that’s essentially backed by nothing,” Russ Dallen, a managing partner at the investment bank Caracas Capital Markets, told McClatchy. “People believe it’s backed by oil, but if you read the contract, it’s really not.”

The opposition-controlled Venezuelan national assembly has declared that the sale of the petro constitutes an illegal debt issuance. The assembly warned investors that the petro was unconstitutional and framed it as another attempt by the government to embezzle funds.

The executive order from the Trump administration should undercut the value of the petro by barring U.S. citizens from investing in the cryptocurrency.

The executive order from the Trump administration should undercut the value of the petro by barring U.S. citizens from investing in the cryptocurrency and also deterring others from similar transactions. “Since most cryptocurrencies are not actually backed by anything real, cryptocurrency speculation is based on the greater fool theory—I can buy this at $100 because there is someone who is a bigger idiot who is going to buy it at $200,” Russ Dallen of Caracas Capital said in a Bloomberg interview. “When you take the U.S. out of that equation, you reduce the interest and potential for that speculation.”

Venezuelan oil in crisis

The nation’s oil, upon which the petro supposedly derives its value, is also in a state of crisis. Venezuela’s oil production continues to fall sharply, with output at 1.55 million barrels per day (Mbd) in February, according to OPEC’s secondary sources, down another 52,000 barrels per day (b/d) from a month earlier. Production has dropped by more than half from levels seen in the early 2000s, and is down by more than 500,000 b/d in just the past year.

By the end of the year, Venezuela could lose another 250,000 to 350,000 b/d, or perhaps even more if PDVSA and the government default.

Causes of this crisis are well-documented, but a new report from the Atlantic Council identifies several key reasons for the long deterioration in oil production: The 2003 purge of state-owned PDVSA; the nationalization of oil projects a few years later; the looting of PDVSA by the state; the lack of investment in oil projects; and PDVSA’s joint venture partners’ frustration over lack of payment. The production losses accelerated throughout the past year, and will likely continue. By the end of the year, Venezuela could lose another 250,000 to 350,000 b/d, or perhaps even more if the company and the government default. The only way that Venezuela can stop the steep declines is through massive levels of investment, a scenario that is implausible under the current government.

The political situation could still worsen. Last year, the Trump administration imposed financial sanctions on Venezuela, preventing U.S. banks from restructuring Venezuela’s debt. The measures likely increased the rate of production losses, the Atlantic Council report argues. Another round of sanctions, perhaps in incremental fashion, appears likely. The U.S. has been reportedly drawing up stricter sanctions related to President Maduro’s upcoming sham election, with possible actions ranging from a ban on U.S. diluent heading to Venezuela or even a ban on U.S. crude oil imports from Venezuela. Such a move would likely lead to more significant production losses than already forecast.

Falling output in a tighter market

As the Atlantic Council report notes, “the deterioration of the Venezuelan oil industry is not occurring in a silo.” The oil market is tighter than at any point in the last few years as OPEC and its non-OPEC allies are reducing production. OECD oil inventories stood at 53 million barrels above the five-year average in January, down sharply from a 300-million-barrel surplus a year ago, according to the International Energy Agency. Refined product inventories are meanwhile showing a small deficit.

Meanwhile, besides OPEC’s actions and Venezuela’s declines, other geopolitical risks loom over the oil market. President Trump needs to recertify the Iran nuclear deal every few months, waiving sanctions, and the next deadline to do so is May 12. When the President last waived the sanctions in January, he warned it would be the last time he did so unless the deal could be “fixed.” If the U.S. re-imposes sanctions, Iran could lose 400,000 to 500,000 b/d in the first year, according to some estimates.

The deterioration of Venezuela’s oil sector is occurring against a backdrop of a tighter oil market.

The deterioration in U.S.-Iran relations is occurring alongside growing tension between Saudi Arabia and Iran. Saudi Crown Prince Mohammed bin Salman visited President Trump on March 20, with the Iran nuclear deal at the top of the agenda.

At this time, the deterioration of Venezuela’s oil sector is occurring against a backdrop of a tighter oil market. “With supply from Venezuela clearly vulnerable to an accelerated decline, without any compensatory change from other producers it is possible that the Latin American country could be the final element that tips the market decisively into deficit,” the IEA wrote in its March Oil Market Report.

ADD A COMMENT