Inside the Economics of Venezuela’s Elusive Oil Reserves

Yves here. This high-level post usefully debunks the Trump hucksterism about Venezuela’s crude. It also contains a chart documenting a point made here earlier, that many oil-producing nations, including Venezuala, have suddenly increased their claimed level of proven reserves in the absence of new discoveries.

By Kurt Cobb, a freelance writer and communications consultant who writes frequently about energy and environment. His work has also appeared in The Christian Science Monitor, Resilience, Le Monde Diplomatique, TalkMarkets, Investing.com, Business Insider and many other venues. Originally published at OilPrice

Venezuela’s reported oil reserves are largely unaudited government claims that ignore economic viability.
Most of the country’s oil is extra-heavy crude that requires costly upgrading, diluents, and sustained high prices to produce profitably.
Political instability and long-term investment risks make a major near-term increase in Venezuelan oil production improbable.

In the wake of the Trump administration’s prosecution of a war and blockade against Venezuela and the administration’s promise to vastly increase oil production in the country, it’s worth knowing why claims about Venezuela’s oil “reserves” being the largest in the world are problematic. It’s also important to understand what this implies for the future of oil production in Venezuela.

Consider the following:

1. Official oil reserves are just that. They are numbers reported by official government sources. Where these numbers come from large state-owned oil companies—as is the case with Venezuela—they are rarely verified through independent audits. And, those numbers tell you nothing about the economic viability of the claimed reserves.

2. There is a pattern among several OPEC countries, including Venezuela, of suddenly claiming vast increases in oil reserves without evidence of additional economically viable discoveries. Just to be clear, reserves are known deposits of minerals demonstrated to be extractable using current technology and profitable at current prices. The term “reserves” does not appear to apply to most of Venezuela’s extra-heavy crude at current prices, which is believed to be 90 percent of its supposed reserves. This is true especially if upgrading facilities have to be built from scratch—Venezuela has only one extra-heavy crude facility that began production in 1947. Such an expensive long-term investment requires a belief that prices will reach and maintain much higher levels than today and that political and social conditions will remain calm and favorable over long periods. (For a comparison of Venezuelan crude oil with others in the world, seethis infographic.)

In several Middle Eastern countries, the sudden reserve increases mentioned above happened in the mid-1980s. In Venezuela, it happened over a three-year period from 2007 to 2010. The following chart is based on the Statistical Review of World Energy (formerly sponsored by oil giant BP and now published by an independent organization):

3. The vast majority of Venezuela’s so-called reserves are in the form of extra-heavy crude in an area called the Orinoco Belt, which lies in eastern Venezuela along the Orinoco River. The U.S. Energy Information Administration reported that Venezuela’s state oil company claimed that there are 270 billion barrels of extra-heavy crude oil reserves in this area in 1998. Venezuela today reports 303 billion barrels of reserves of all types, including heavy crude, which it currently processes and sells. But nobody knows the real numbers because there is no outside independent audit.

4. Extra heavy crude oil is a very viscous liquid—about the consistency of “cold peanut butter”—that is suitable for use in asphalt, but little else. To be useful as oil, it must be upgraded using complex and costly processing that requires vast amounts of natural gas and also diluents such as naphtha, which are mixed with the oil to make it feasible to transport through a pipeline. Just to get the heavy oil out of the ground requires steam or water injection. And during refining, the high sulfur content—sulfur is an air pollutant that has to be removed—makes it more expensive to refine. In other words, it takes a lot of energy to extract and process extra-heavy crude oil to make it into something we call oil. And, all of that is quite expensive.

5. Which brings us to the price of oil and the economics of producing Venezuela’s extra-heavy crude. The world benchmark for crude is Brent Crude, currently trading at around $64 per barrel. But because Venezuela’s extra-heavy crude is so difficult to refine, it sells for a substantial discount to the world benchmark price, somewhere between $12 and $20. The cost of diluents adds another $15 to the costs of getting this extra-heavy crude through a pipeline.

So the seller is already taking a financial haircut of between $27 to $35 compared to the world benchmark crude. For massive investment to take place in Venezuela, world oil prices would probably have to be and remain around $100 per barrel for years in order to convince oil companies to risk making the kind of investments that only provide a return over 20 to 30 years—the kind that extraction and upgrading of extra heavy oil requires.

6. All this suggests that oil production in Venezuela is probably not going to rise much in the coming years. And, the idea that increased Venezuelan oil production could bring down current oil prices is nothing short of ridiculous since producing the vast majority of the country’s oil resources will require much higher prices.

Of course, I haven’t even factored in the political and social instability that is plaguing Venezuela in the wake of the U.S. attacks and blockade. Nor have I considered the fact that, despite the removal of Venezuelan President Nicolas Maduro, his vice president (now elevated to acting president) and administration are still in charge. These are the same people who expropriated U.S. oil company assets in the country previously and who levy high taxes on the remaining oil operations. Given this backdrop, it’s hard to imagine much investment going into the Venezuelan oil industry from foreign countries anytime soon.

The smash-and-grab diplomacy in which the United States is now engaged in Venezuela may seem like it will somehow liberate Venezuela’s supposed oil riches. But all it is likely to do is demonstrate that those riches are as elusive as ever.