Clive Thomas, Stabroek

More on the efficacy of a local oil refinery

By  August 27, 2017 stabroek news

Introduction – Re-cap

As posited last week, it is my view that the true essence of an oil refinery that is deemed local, lies in its type (form) of ownership, management, and operationalized control. In this regard, I had identified three broad existing types, namely 1) a refinery, wholly owned/managed/operated by foreign investors (for example, an international oil major; a foreign National Oil Company (NOC); or, some type of joint arrangement among the two; 2) a refinery that is similarly, wholly owned/managed/operated by domestic private investors, with or without a joint arrangement involving foreign private investors or a NOC. In these two instances, Guyanese taxpayers and consumers carry no financial responsibility whatsoever for the success or otherwise of the project. Crude oil sold to the refinery by the government out of its profit share would therefore, take place at arm’s length.

To ensure the latter effectively applies, government support for the project should not exceed that which is currently allowed for such investments. In other words, no special subsidies, tax expenditures, or price protection, outside prevailing levels would be afforded to the local refinery. In the two instances indicated here, I would have no reservation over the establishment of a local oil refinery. Indeed I would go further and claim, it would be presumptuous of me (or any outsider), to object to it in a capitalist free market-based economy like Guyana.

It is only in instances of the third type; that is, where either 1) Guyana oil resources, 2) taxpayers’ funds or 3) consumers are forced to carry financial responsibility for the success of the project that outsiders would have a legitimate case for passing judgement on its efficacy. And, it is that circumstance, which will be the exclusive focus of my comments on the wisdom or otherwise for Guyana establishing its own oil refinery.

This judgement, however, needs to be framed in the context of the five strategic considerations, which were enumerated in last week’s column, namely: 1) the state/government role in the economy; 2) the state/government’s role in the energy sector; 3) the state/government’s role in promoting local content requirements to generate greater domestic value added; 4) whether organizationally, Guyana should establish an associated NOC; and 5) the petroleum sector outlook in the coming decade. The remainder of today’s column offers some reflections on these strategic concerns.

 

Oil refinery and NOC

Oil refineries in developing countries are often linked to the establishment of NOCs. As the petroleum Minister of Trinidad and Tobago had advocated recently, such NOCs are promoted to secure 1) a country’s control over its resources; 2) the promotion of midstream and upstream value added along the petroleum industry’s value chain; 3) supporting the oil sector’s role in national economic achievement, and therefore, the creation of jobs, skills, social protection, enhancement of technical capacity, infrastructure development, and, export-led value added growth.

History has revealed that, initially, the global oil industry (especially in the United States), has been led by private oil companies (POCs). It was not until just after the turn of the 20th century that the first NOC was established in Europe (1908). Several waves of NOC formation followed thereafter: Europe in the 1910s and 1920s, Latin America in the late 1920s and 1930s, the Middle East in the 1930s and after World War II. The literature reveals that, outside North America and the centrally planned economies, in the decade mid-1960s to mid-1970s, public control in the oil industry rose from about ten per cent to about two-thirds. In the refining and marketing sectors the respective increases were from one-seventh to one-quarter, and just over one-tenth to just over one-fifth.

Unmistakably, the influence of NOCs peaked with the formation of OPEC and the two major oil price shocks in 1973-74 and 1978-80. Readers should note that the former price shock cost Organisation for Economic Cooperation and Development members about 2.6 per cent of their GDP and for the latter, 3.7 per cent.

For and against

Arguments advanced in favour of NOCs have been many, but these can be synthesized into three broad groups. First, the historical context. This emphasizes protest against colonial and big power exploitation of the natural resources of Guyana-type economies. Second, the size and importance which oil and gas attain in economies with large discoveries. Third, the political benefits derived from expanded state resources afford control of jobs, social benefits, education, training, infrastructure and investable funds.

Despite these advantages, the record of NOCs has been disappointing in practice. Research and analysis suggest that in most instances their performances have been poor; inefficiencies have become endemic; and corrupt practices by state officials and the political ruling class have been marked. Additionally, most NOCs face market failures, weak externalities, dis-incentivizing and rent-seeking behaviours, all of which conflict with competitive incentivizing.

 

Trends

Such negatives have been amplified by two broad trends. First, the global collapse (retreat) of the USSR and the socialist bloc of countries. Second, this collapse has facilitated the rapid rise of globalism and neo-liberal philosophies, which developments undermine public confidence in the state as a development promoting agency.

This experience is well demonstrated in the dramatic turnaround of the World Bank from a NOC-promoting agency, to the opposite. Thus, in its June 1996 issue of ‘Finance and Development’, the World Bank had stated unapologetically that in 1995 it had re-examined its petroleum industry strategy in light of developments over the previous decade and had shifted in favour of 1) helping developing countries mitigate project risks; 2) promoting government as a regulator and not producer of petroleum products and services; 3) creating open and competitive markets; 4) serving as a magnet for private capital; 5) promoting privatization; 6) promoting private trade (pipelines); 7) developing private sector capacity; 7) helping to restructure NOCs; 8) supplementing the private sector capacity of developing countries; 9) promoting more benign fuels (like gas for coal and oil); and 10) providing risk guarantees for the domestic private sector.

 Conclusion

Next week I shall pronounce on my attitude to the establishment of a state-owned/subsidized national oil refinery for Guyana, whether created directly as a public corporation or in any other arrangement, in which the state shares substantially in the provision of 1) less than full cost crude oil, 2) investment funds, or 3) facilitates the venture beyond the prevailing level of state support, whether through fiscal, price or crude oil guarantees, or any other public benefits.

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