When the price of oil drops over 50 percent – as it did between mid-2014 and early 2015 – assumptions about the future of energy and the world economy can change pretty dramatically.

In the short term, plummeting oil prices can take down companies and even governments. But amid any market dislocation, it is important to remember that energy investment and development is a long-term proposition, measured in years and decades.

It is with this reality in mind that the United States should view developments in Latin American energy markets. Though the region’s energy sector is facing short-term challenges – ranging from market volatility and political instability to mismanagement at some of its leading companies – its future remains bright.

When I wrote about Latin America in this book three years ago, I saw a region on the rise, with energy fueling its ascent.

In Brazil, the country was beginning to develop the biggest oil find in the Americas since the 1970s: an offshore area the size of New York that was estimated to hold anywhere from 50 to 200 billion barrels of oil.

In Mexico, a new president had assumed office promising the most ambitious energy reforms in history, pledging to open up its oil and gas industry to foreign investment for the first time in 80 years.

And in Colombia, successive governments had spurred a rapid increase in energy production with a market-friendly legal and regulatory framework; offering a compelling alternative to the state-controlled model that has often dominated the region.

Throughout Latin America, the growing energy sector had helped reduce poverty and inequality and doubled the ranks of the middle class in just 15 years.[1]

Yes, there were reasons for concern: a deteriorating political situation and declining energy production in Venezuela and more assertive – and frequently counterproductive –government energy policies in Argentina, Bolivia and Ecuador.

But I was confident that Latin America’s immense natural resources, growing technological sophistication and openness to regional integration had it poised for continued growth and positioned to deliver more energy security to the Western Hemisphere and the world.

I still have that conviction today. So should U.S. policymakers.

Still, for those who are optimistic about Latin America – and I am most assuredly among them –   events of the past few years have offered a stark reminder that a promising future cannot mask the serious problems in the present.

The collapse in global oil prices has caused or exacerbated a number of challenges throughout Latin America. Although the International Monetary Fund estimated that the oil price decline would have a largely neutral macroeconomic impact on the region[2] – with energy consumers benefiting and producers suffering – it has magnified problems in Brazil and Venezuela and created hurdles in the implementation of energy reform measures in Mexico.

In this chapter update, I’ll examine the most significant recent energy developments in these countries and elsewhere in Latin America and their implication for U.S. policymakers.

Brazil

In 2014, Brazil was rocked by a scandal that reached the highest levels of its government, with allegations that executives from the state oil giant Petrobras paid politicians for contracts using funds taken from company profits.

By March of 2015, the Brazilian Supreme Court had authorized corruption investigations into 49 politicians. Although Brazilian President Dilma Rousseff wasn’t directly implicated in any wrongdoing, she was Chairman of Petrobras’ board from 2003 to 2011, leading to fevered speculation about what she may have known about the alleged bribery. That same month, a former Petrobras executive told the Brazilian Congress that as much as $200 million in oil bribes were funneled to President Rousseff’s Workers’ Party. [3]

President Rousseff has denied any involvement in or knowledge of the bribery, but this crisis has imperiled her presidency and shone an unwelcome light on problems at Petrobras that go well beyond bribery.

Petrobras is the single most consequential company in Brazil, as it produces 90 percent of the country’s petroleum and owns all the nation’s refineries, and most of its pipelines and energy distribution and service infrastructure.[4]

Over the last decade, Petrobras earned a reputation as one of the best managed and most efficient state oil companies in Latin America if not the world, enabling Brazil to almost triple its oil production between 1997 and 2011.[5]

But in retrospect, it appears that a long period of elevated oil prices may have masked deeper problems with the company.

Petrobras has been hobbled by serious management mistakes such as ill-advised acquisitions and investments that delivered too little return.

The company has also struggled with a problem common to most state oil companies: meeting the expectations of the market and the demands of its government.

During President Rousseff’s recent election campaign, the Brazilian government prevented Petrobras from raising fuel prices in response to the rising cost of imported fuel. The government also implemented policies requiring Petrobras to buy equipment domestically, forcing the company to prop up often inefficient industries.

As a consequence of these many missteps and the recent oil market volatility, Petrobras is now the most indebted company in the entire world.[6]

And in late 2014, the bribery scandal – which prevented the company from producing an audited earnings release – temporarily shut down Petrobras’ access to global debt markets. In fact, because Petrobras is often used as a benchmark for all debt offerings by Brazilian companies, the country’s entire bond market seized up. There wasn’t a single corporate bond issue in Brazil between November 2014 and early 2015,[7] a shocking development when you consider that Brazilian companies issued $37 billion in bonds in 2014.

Petrobras’ missteps have been a key contributor to a broader malaise in the Brazilian economy, where economic growth is slower than it’s been in two decades.[8]

Despite Petrobras’ significant short-term challenges, there is good reason to believe the company and Brazil can recover. Petrobras still sits atop massive oil and gas reserves and managed to deliver over two million barrels per day of petroleum in 2014, a record high.[9]

Meanwhile, a growing share of that production is coming from the much touted presalt fields in the offshore Santos basin, which is a promising harbinger for the future. According to the U.S. Energy Information Agency, crude oil production from the presalt fields represented 15 percent of total production in 2013, a significant increase from 0.4 percent in 2008.[10]

Petrobras management also maintains that offshore production in Brazil can be profitable for the company and for its partners even in a low oil price environment, insisting that exploration in the presalt fields has a break-even price of $45 per barrel.[11] But the Petrobras bribery scandal and energy market uncertainty have at the very least put a pause on Brazil’s more ambitious energy plans. Petrobras is trimming capital spending and the Brazilian government delayed the auction of exploration and productions concessions in the presalt fields in 2015, choosing to wait for a more favorable environment in the oil markets.[12]

Close observers of Brazil can only do the same and wait to see how the country and its leading company navigate this uncertain period ahead.

Venezuela and Argentina

When I wrote my original Energy and Security chapter, I lamented that Venezuela’s new President Nicolás Maduro was unlikely to rethink the failed economic and energy policies of his predecessor Hugo Chavez. President Chavez had used the state energy company, Petróleos de Venezuela (PdVSA), as a virtual extension of his office, leading to chronic mismanagement, misal­location of resources and steep declines in energy production.

As a committed chavista, Maduro seemed poised to follow in his mentor’s footsteps, which has unfortunately proven to be the case. In fact, the situation in Venezuela has gotten even worse.

Inflation is running above 60 percent annually in Venezuela and the currency has lost over 80 percent of its value on the black market since Maduro took over. Oil production, at 2.9 million barrels per day, is 300,000 barrels per day lower than it was in 2008.[13] Meanwhile, political repression in the country has worsened, with the U.S. State Department saying that the Venezuelan government routinely and arbitrarily uses its “prosecutorial power to silence and punish government critics.”[14]

The precipitous decline in oil prices has hit Venezuela harder than any country in Latin America, as it depends on oil for 96 percent of its exports and 40 percent of all its fiscal receipts. Yet Venezuela’s energy sector is so inefficient and its fiscal situation so poor, that analysts estimate the country needs oil prices to reach $120 per barrel to keep its budget in balance. [15]

The Venezuelan government’s response to oil market volatility has been nothing short of disastrous, including the implementation of a complicated currency exchange system which officially values the local currency at a multiple of some 30 times what it’s actually worth on the black market.[16] This has the effect of instantly devaluing oil earnings when they are converted into local currency.

Venezuelans are facing poor employment prospects and shortages of food and medicine. Civic unrest is on the rise, with mass protests in 2014 that resulted in the death of 40 people.[17]

Despite these problems – and an approval rate that sunk to 22 percent in December 2014[18] – President Maduro has remained defiant. He blames the country’s problems on “U.S. imperialism” and "a strategically planned war…to try and destroy our revolution and cause an economic collapse."[19]

Although Maduro’s government is unpopular, it is resilient, as it controls all the institutions that matter in the national government, including the military, the state oil company and the Supreme Court.

Meanwhile, the political opposition is fragmented, frequently under attack and has yet to offer the Venezuelan people a compelling alternative vision for the country. Although Venezuela’s clout may be diminished on the world stage, its ample energy resources are allowing it to limp along and to continue attracting foreign loans and investment. In January 2015, China pledged $20 billion in new investment in Venezuela.[20]

Absent a change in leadership, there looks to be little constructive change coming to Venezuela anytime soon.

In Argentina, the country is challenged by the current oil market volatility and haunted by the heavy handed government policies of its past. But its future suddenly looks brighter with the surprising election in November 2015 of Mauricio Macri, a center-right candidate who has pledged to introduce more market-friendly economic reforms and to make a strategic tilt away from Argentia’s traditional leftist allies in Venezuela and Cuba.

Like Venezuela, Argentina is blessed with significant oil and gas reserves, including a recent find called the Vaca Muerta – or “dead cow” – a shale formation the size of Belgium that holds over 16 billion barrels of shale oil and 308 trillion cubic feet (TCF) of shale gas.[21]

However, also like Venezuela, Argentina has a long history of fiscal problems and interventionist energy policies that make investors skittish.

The Vaca Muerta alone requires up to $200 billion in capital to fund exploration and development.[22] That much potential will always attract suitors, and companies such as Chevron, Petronas and Gazprom have signed on as investors. But these companies, and others, are moving slowly and withholding more expansive commitments until they feel greater confidence in the market and the Argentinian government.

Argentina has a poor track record with international investors, having defaulted on its debts twice since 2001, including in July 2014.[23] And in 2012, Presi­dent Cristina Fernández de Kirchner seized a majority stake in the state energy company, Yacimientos Petrolíferos Fiscales (YPF), from the Spanish company Repsol. It is little surprise that Argentina is the most sued country in the entire world.[24]

Argentina has recently taken some promising steps to encourage energy investments and make their country more appealing to investors, such as easing some restrictions on capital movements and pledging to decentralize the government’s control of energy exploitation and production. The election of Macri has raised hopes that these incremental reforms will give way to a more fundamental reshaping of the Argentinian economy as well as its foreign policy.

During his campaign, Macri pledged to eliminate Argentina’s inflation stimulating currency controls and to work assiduously to lure back international investors. He also wants to distance Argentina from leftist governments throughout the region, describing his “21^st century development” approach as the opposite of Venezuela’s “21^st century socialism.” He has even called for Venezuela to be removed from the region’s Mercosur trade bloc over its human rights abuses and slide towards authoritarianism.[25]

As one might expect, Macri faces plenty of obstacles to his reform agenda both at home and abroad. For the last century, Argentina has been ruled by what Foreign Policy described as “parties from the left and center-left, as well as military governments and seemingly endless varietals of Peronism.” Such entrenched interests don’t vanish after a single election and Macri’s Cambiemos party is still a minority in both houses of Argentina’s Congress. Argentina’s traditional leftist allies in the region have also made it clear they don’t share Macri’s vision for Argentina or for the region, with Bolivia’s president Evo Morales warning that if Macri were elected, “there would be conflicts.”[26]

Still, Macri’s election offers a promising opening for reforms that can greatly benefit the Argentinian economy and the Western Hemisphere’s energy security. The U.S. should do everything it can to ensure he succeeds.

Mexico and Colombia

If Brazil, Venezuela and Argentina all offer varying reasons for concern, Mexico offers the best reason for hope that Latin America and its people can capitalize on its energy bounty.

In December 2013, Mexican approved a historic liberalization of its oil and gas industry, opening the door to foreign investment for the first time since 1938. This was one of many ambitious reforms that Mexican President Enrique Peña Nieto undertook during his first year in office, including new laws governing telecommunications, education, banking and taxes. But the energy reform is perhaps the most far reaching, as it allows profit-sharing partnerships between Mexico and private companies for exploration and production and permits companies to secure licenses and contracts to explore and produce on their own. The reform also brings significant opening to Mexico’s struggling electricity sector and opens up investment in oil and gas pipelines.

Coinciding with the oil and gas revolution in the U.S. and Canada, Mexico’s energy reforms raise the possibility, impossible to foresee a decade ago, of a stable and self-sufficient regional energy market throughout North America.

It’s hard to overstate the boldness of President Peña Nieto’s energy reform. Opposition stemming from intense nationalism and powerful vested interests made success uncertain until the moment of passage. But President Peña Nieto’s persistent argument that Mexico must modernize its energy sector to increase energy production and economic growth won over the Mexican people and the Mexican Congress.

The oil industry is central to Mexico’s fortunes, supplying one-third of the government’s income. Yet oil production has been in precipitous decline, falling by 20 percent over the last decade as the state oil company, Petróleos Mexicanos (PEMEX) struggled with decrepit infrastructure, high costs and gross inefficiency.

President Peña Nieto’s energy reform can reverse this decline by opening the Mexican energy sector to international capital and partnerships, and by strengthening the robust bond between Mexico and the United States.

As someone who has followed Mexico closely for more than 20 years, first as a White House official and since in private business, I’ve seen up close how the United States and Mexico have gone from distant neighbors to natural partners.

Over the last two decades, annual trade between the United States and Mexico has grown six-fold, from $81 billion to more than $500 billion.[27] The U.S. and Mexico have also strengthened diplomatic ties considerably, as evidenced by the fact that President Obama has taken more official visits to Mexico than any other country.

The United States and Mexico already have a vital energy relationship. Mexico is the third largest source of U.S. oil imports (Canada is first) and the leading U.S. export item to Mexico is refined oil.

President Peña Nieto’s energy reforms have the potential to transform not just the country’s oil and gas sector but its entire economy; providing more foreign capital, expertise and abundant and affordable fuel that can improve the overall competitiveness of Mexican industries. Already, Mexico has announced more than $10 billion in planned or completed gas pipeline investments from foreign companies.[28]

As with any controversial reform, there are hurdles ahead. It is still unclear how contracts between companies and the government will be written, and the oil price decline has already forced the government to offer more favorable investment terms to attract capital for exploration.[29] The energy reforms also necessitate the creation of new Mexican government entities to oversee safety and environmental rules and exploration and production. But the country is moving ahead incrementally to provide more certainty and clarity for investors. In early 2015, Mexico published its electricity market rules and as well as the requirements for acquiring clean energy certificates. Establishing these types of “rules of the road,” are a critical first step for attracting foreign investment.

But transforming Mexico’s energy sector will require more than new laws and regulations. It will entail cultural changes as well. PEMEX has some 150,000 employees,[30] who will be expected to embrace more of the competitive and operational practices of private industry. And though these energy reforms are undoubtedly a long-term winner for Mexico and its people, any short-term hiccups – such as corruption allegations, worker displacement or disappointing oil production – could arouse nationalist passions and empower reform critics.

Still, I believe President Peña Nieto and the Mexican government are determined to see these reforms through, as the president’s legacy and more importantly, the prosperity and well-being of the Mexican people, hang in the balance.

In opening up its energy sector, Mexico is following the successful playbook of Colombia. Although the country is relatively oil and gas poor, it managed to almost double oil production between 2008 and 2014[31] thanks in large part to its creation of one of the most open and competitive energy markets in Latin America.

But Colombia and its state owned energy company Ecopetrol have been battered by the oil price decline as well as the depletion of the nation’s onshore reserves.

To reverse the tide, Ecopetrol is significantly expanding its exploration of offshore areas, which are estimated to contain anywhere between 10 billion to 55 billion of recoverable oil reserves.[32] The Colombian government is also considering additional measures to entice investors to invest in the sector including reducing the government’s ownership stake on oil-company projects and speedier environmental approvals.[33]

Robust oil production is a critical enabler of Colombia’s security, accounting for 20% of the government’s revenue and providing necessary taxes to fund a multibillion dollar peace agreement between the country’s rebel factions that entails retraining and victim compensation. With so much of the country’s health hinging on the health of its energy sector, I would expect the Colombian government to do what is necessary to increase investment and increase fuel production.

Renewable Energy in Latin America

Renewable energy has long been an integral part of Latin America’s energy mix, especially when it comes to electricity, where hydropower provides about 65 percent of the region’s power.[34] And some analysts believe renewables could play an even larger role. A 2013 study from the Inter-American Development Bank said that Latin America had the potential to meet 100 percent of its electricity needs with renewable energy.[35]

Of course, as the Bank report makes clear, there is a significant gap between the potential of renewables in Latin America and the likelihood of rapid increases in production. While Latin America does have significant renewable resources – including plenty of dams and rivers to provide hydropower, the sun drenched Atacama Desert in Chile for solar and the windy Patagonia region of Argentina – the industry remains relatively underdeveloped.

Renewable energy in Latin America continues to be challenged by a lack of available capital and robust supply chains, as well as prohibitive import barriers. The region is also well behind its North American neighbors in building out the supporting infrastructure – such as smart grid and advanced battery technology – that would enable more widespread use of renewables.

However, some countries in the region are beginning to invest aggressively in renewables, which could allow sources like wind and solar to claim a greater share of Latin America’s energy market faster than some expect. For example, Chile just recently built its largest ever wind farm, and is rapidly increasing its investment in solar power. In fact, in some areas of Chile, electricity from solar power is now significantly cheaper than electricity from coal or natural gas.[36]

As is the case with most energy investment in Latin America, the future of renewables in the region is every bit as dependent on investment incentives and regulatory frameworks as it is on the availability of natural resources. But Latin America is a region with more renewable resources than most. While oil and gas are likely to dominate the region’s energy conversation in the near term, it may not be long before renewables gain a greater share of investment and energy production.

A Wind at the United States Back in Latin America

Oil market volatility may be challenging Latin America in the short-term but I believe the long-term future of the region remains unchanged, with Latin America emerging as a true partner for the United States and an anchor for regional energy security.

But I also believe that it is more important than ever for the United States to be actively engaged in the region for reasons cultural, political and economic.

As the Economist magazine pointed out in early 2015, nearly one million Latinos reach voting age in the United States each year.[37] Their integration into American society is part of our common heritage, and our future.

Although the U.S. has a fraught historical relationship with many countries in Latin America, we have recently generated plaudits throughout the region for President Obama’s decision to pursue normalized relations with Cuba and his executive order on immigration, which protected millions of Latinos from deportation. Even though the president’s executive order still faces challenges in federal court, his gestures on immigration and his opening to Cuba have helped to salve longstanding grievances of the Latin American people and their governments.

These diplomatic wins provide a constructive backdrop for progress in other areas, energy integration and cooperation chief among them.

U.S. policymakers must be cognizant that Latin America’s rise has given its leaders new confidence to chart their own course and pursue new political and economic alliances. China and Russia in particular are aggressively jockeying for influence throughout the region and seeking investment in and access to energy resources.

Traditionally, two frequent laments about Washington in Latin America are that it is either dangerously disengaged or overly meddlesome – sometimes simultaneously.

In the months and years ahead, the U.S. will have to strike a delicate balance: supporting more openness and integration in places like Mexico – where our relationship is stronger than it’s been at any time in recent memory – and effectively countering populist leaders in Venezuela, Ecuador, and Bolivia that have pushed for regional institutions that exclude the United States and embrace a broader (and weaker) definition of democracy.

It will take strong leadership and sustained focus, but the reward for the U.S. and the people of Latin America is substantial, with more cooperation, more integration and more energy security for the entire Western Hemisphere.

Thomas F. “Mack” McLarty is President of McLarty Associates, Chairman of McLarty Companies, and past Chairman of Arkla.  He was Chief of Staff and Special Envoy for the Americas under President Bill Clinton and a member of the National Petroleum Council and the National Council on Environmental Quality under President George H.W. Bush.

[1] Nancy Birdsall, “A Note on the Middle Class in Latin America,” Center for Global Development, Washington, DC, September 20, 2012. 

[2]“The Price of Oil’s Impact on Latin America and the Caribbean,” Americas Society and Council of the Americas, Washington, DC, 2015.

[3] Mac Margolis, “Petrobras and Politics Sandbag Brazil's Rousseff,” Bloomberg, March 12, 2015.

[4] Dan Horch, “Corruption Scandal at Petrobras Threatens Brazil’s Economy,” New York Times, February 11, 2015.

[5] US Energy Information Agency (EIA), “Brazil Crude Oil Production By Year,” IndexMundi, http://www.indexmundi.com/energy.aspx?country=br&product=oil&graph%20=production.

[6]Simon Rimero and Landon Thomas, “Brazil’s Star, Petrobras, Is Hobbled by Scandal and Stagnation,” New York Times, April 15, 2014.

[7]Horch, “Corruption Scandal at Petrobras Threatens Brazil’s Economy.”

[8]Adriana Arai and Raymond Colitt, “How Brazil's President Plans to Get the Country and Herself Out of This Mess,” Bloomberg, April 1, 2015.

[9]“Petrobras Scandal Could Be Opec's Best Friend,” Petroleum Intelligence Weekly, January 19, 2015.

[10]Michael Yo, “Presalt oil and natural gas provide an increasing share of Brazil’s production,” U.S. Energy Information Administration (EIA), Washington, DC, January 9, 2015.

[11]“ Petrobras Scandal Could Be Opec's Best Friend.”

[12] “Brazil pushes next oil auction to late 2015,” Fox News Latino, March 27, 2015.

[13]Pietro Pitts and Andrew Rosati, “Venezuela’s Oil Industry Exodus Slowing Crude Production: Energy,” Bloomberg, December 3, 2014.

[14]Brianna Lee, “Tensions Rise Over Venezuela's Shortages, As President Seeks Foreign Investments,” International Business Times, January 17, 2015.

[15]Lee, “Tensions Rise Over Venezuela's Shortages, As President Seeks Foreign Investments.”

[16]William Neuman, “Venezuela Announces Plan to Relax Currency Controls,” New York Times, February 10, 2015.  

[17]Thabata Molina, “Who Died in Venezuela’s 2014 Protests?” Panama Post, February 11, 2015.

[18]Lee, “Tensions Rise Over Venezuela's Shortages, As President Seeks Foreign Investments.”

[19]Andrew Cawthorne, “Maduro blames plunging oil prices on U.S. 'war' vs Russia, Venezuela,” Reuters, December 29, 2014.

[20]Mercedes Alvaro and Ezequiel Minaya, “China Boosts Support for Latin Leftists,” The Wall Street Journal, January 8, 2015.  

[21]“Shale Gas in Argentina: Dead Cow Bounce,” Economist, August 23, 2014.

[22]Keith Johnson, “Argentina’s Brilliant, Terrible, Very Unclear Energy Future,” Foreign Policy, October 13, 2014.

[23]Johnson, “Argentina’s Brilliant, Terrible, Very Unclear Energy Future.”

[24]Johnson, “Argentina’s Brilliant, Terrible, Very Unclear Energy Future.”

[25] Charlie Devereux, “Argentina Elects Pro-Business President; Big Change Expected, Bloomberg Business, November 22, 2015.

[26] Richard G. Miles, “After a Century, the Center Right Returns to Argentina,” Foreign Policy, November 23, 2015.

[27]Office of the United States Trade Representative, “Mexico,” Country Brief, USTR, Washington, DC, May 1, 2014.

[28] Adam Williams and Andrea Navarro, “Mexico’s Pipeline Boom Fueled By Texas Drillers Moving Natural Gas,” Bloomberg Business, August 4, 2015.

[29]Elizabeth Malkin, “In Mexico Oil Market, Mood Moves From Excited to Anxious,” New York Times, March 13, 2015.

[30]“Unfixable Pemex,” The Economist, August 8, 2013.

[31]Alexis Arthur, “This Nation Could Host The Next Latin American Offshore Boom,” Oil Price, April 6, 2014.

[32]Arthur, “This Nation Could Host The Next Latin American Offshore Boom.”

[33]Sara Schaefer Munoz, “Colombia Considers Measures to Aid Its Battered Oil Sector,” The Wall Street Journal, January 30, 2015.

[34]Brian Wheeler, Hydro Powers Latin America,” Renewable Energy World, June 21, 2012.

[35]Lisa Friedman, “Latin America Enjoys Abundant Renewable Energy but Lacks Policies for Use,” Scientific American, June 18, 2013.

[36]Stanley Reed, “Outlook for Solar Gets a Bit Brighter,” New York Times, March 18, 2015. 

[37]“How to Fire Up America,” The Economist, March 14, 2015.