Tierra sin fuego – nationalizing Argentina’s energy

I have yet to address Argentina directly in any of my entries, but fear has brought the nation’s business climate to the front of my mind. The deluge of press on President Kirchner’s nationalization of oil producer YPF has resurrected old demons. The act looms like the self-inflicted wounds that caused the currency crisis in 1999 and the loss of Central Bank independence in 2010. However, the nationalization of YPF is different from these prior examples, which I believe are instances of fiscal policy gone bad. An examination of what the Argentine government has done with YPF, and who is involved, show that symbolic politics has truly been implemented within the nation’s commercial and energy public policy.

First, a basic review of what occurred. During the week of April 16, the Argentine government announced the expropriation of 51% of YPF, an Argentina-based developer and producer of crude oil, natural gas, and liquefied petroleum gas (LPG). The maneuver specifically took the 51% stake from controlling shareholder Repsol YPF, YPF’s Spanish corporate parent. As of April 20, YPF’s market value was around $10.6 billion. In economic terms Repsol YPF lost a stake valued at $5.4 billion, but in the bigger picture the Spanish firm lost control of YPF. YPF represented about 25% of Repsol YPF’s operating income, and over half of its hydrocarbon output. For Repsol, the eighth-largest energy company in terms of oil and liquid reserves, this is a loss of scarce assets that make up 47% of its reserves in barrels of oil equivalent.[1]

While the assets of one company were expropriated, the act has purse-pinching implications for a much broader audience: Latin-America focused investors, the Argentine business class, and the Argentine energy sector. Professor Mark Jones of Rice University proclaims “This sends a real negative signal to pretty much the entire world in terms of the rules of the game and investing in Argentina.” This raises the possibility that in our 21^st century global commercial world, a large, multi-faceted national economy could be choked off from foreign investment. Argentina is the 22nd largest economy in the world, at GDP of $709.7 billion. I would argue that it is more culturally and politically prevalent than Bolivia and Venezuela, who are also known for state asset grabs. Policies that foster inflation (9.8% in 2011 according to IMF, but estimated to be closer to 20-25% by private economists) and discourage exports have already made it something of an economic pariah. However, the nationalization could reach the level of Argentina’s infamous crises if it stamps out foreign investment that the nation’s 42 million people need on their road to recovery from prior economic mishaps.

An ironic possibility is that the first economic driver to feel effects may be the energy sector – YPF owns large reserves of natural gas trapped in shale rock, but will be unable to extract this gas without investment from foreign partners. This will both hinder the domestic economy and cut off a potential source of energy exports. According to a 2011 study by the Energy Information Administration, Argentina ranked third in the world in potentially recoverable reserves of shale gas, with 774 trillion cubic feet (behind China and the U.S.). This gas could be used to feed hungry energy markets abroad – according to ExxonMobil, natural gas will generate 30% of the world’s electricity by 2040, versus about 20% today.[2] On the domestic side, Argentina’s car dealers have reason to fret – Argentina has the third-most natural gas vehicles in the world with 2.1 million, and neighboring Brazil is 4th, with 1.7 million (Natural Gas Vehicles for America).

So, how does the government of Argentina rationalize an action so out-of-touch with international norms, and so seemingly divergent with its economic interest? The answer lies with “La Campora,” an ideological clique centered on President Kirchner’s son Maximo. La Campora reportedly advocates nationalist policies in a manner that goes beyond the showboating, jingoistic politics that pervaded commemorations of the 30^th anniversary of the Falklands War last month.[3] Rather, La Campora believes in marrying nationalism with management of the state’s affairs. Therefore, taking Repsol’s asset is justified as a safeguarding of Argentina’s energy supply and the Argentine oilfield worker. La Campora is personified by Deputy Economy Minister Axel Kicillof. A 40-year-old with a pretty-boy image, Kicillof scoffed at Repsol’s request for $10 billion in compensation: “The idiots think the state must be so stupid that it will do what the company says.”[4]

It remains to be seen how Kicillof and Maximo Kirchner plan to keep their movement politically sustainable. While there is public moral support for the nationalization, Argentina’s consumers can only be distracted so long from an inflation-ridden economy. Any claim that the government can develop oil and natural gas fields better than Repsol will probably soon be exposed as well – the government has stifled the energy sector with price caps and taxes. Argentina’s energy trade balance swung to negative last year. Investors have already weighed in on La Campora through the currency market. The “blue-chip swap rate” is a market exchange rate set up by businesses and investors who regularly buy dollars. Last Friday, this rate reached 5.47 Argentine pesos per dollar. Argentina’s official exchange rate was 4.42 pesos per dollar – valuing the peso about 19% higher.[5]